In medtech there is a funding crunch at the earliest stages, with university spin-outs and other start-ups struggling to raise cash. In biotech the crunch comes later (see analyses below), and this has prompted venture group Sofinnova Partners to set up its first crossover fund to guide life science groups onto the public markets and support them thereafter.
“It’s much easier now in Europe to raise early-stage funds, series As, that are €30 or €40m sometimes – higher in the US. There is a clear drought in Europe in the later stages,” Sofinnova’s Chairman, Antoine Papiernik, tells EP Vantage. Sofinnova intends to disburse the €275m ($329m) Europe-focused fund roughly 80/20 between drug and device makers – but it is looking for different things in its biotech and medtech investment targets.
An analysis by EP Vantage at the end of last year found that in the medtech industry, the proportion of venture investment going into series A rounds is falling, with just 6% of the capital raised by private medtechs going to these early-stage companies (Medtech VC enters a gilded age – but with even less cash for series As, December 21, 2017).
In biotech, the opposite seems to be true. Of the $12.5bn in venture capital raised by biotechs last year, $4.5bn – 36% – went into series A rounds. And, as the graph below shows, this proportion has been increasing since 2014.
It is a different story for mid-size biotechs. The proportion of cash going to series C and D rounds has trended downwards over the past few years. Sofinnova has noticed this – and the opportunity that comes with it.
“The bulk of our activity is early stage investing. We have €1.5bn under management just on seed and series A – that’s what we’ve been doing for the last god knows how many years,” says Mr Papiernik. But that is about to change with the establishment of Sofinnova Crossover Fund 1.
“There are hundreds of companies in Europe that could benefit from help and resources dedicated to the later stages,” says Mr Papiernik. He explains that European companies approaching IPO stage do not have any dedicated funding resources, and as a consequence some groups have had to go public earlier than they should have.
Lower risk, lower return
Sofinnova set out to raise €250m for the crossover fund, but such was the appeal to limited partners (LPs) that it overshot that target. The new fund shares the same strategy as Sofinnova’s capital funds in terms of sector and geographic focus, “but with an underlying risk profile that is lower and with an exit horizon which is shorter, by sheer virtue of the fact that this is pre-IPO or even microcap public companies that the fund invests in,” Mr Papiernik says. Unlike prior funds, the new one has attracted family offices and, for the first time, Chinese investors, thanks to the chances of an earlier exit.
“The typical investment horizon would be three to five years,” Mr Papiernik says. “If they’re private they will likely go public within 12-18 months after we invest. Three years to IPO, that’s not going to play out for us.” That is much more rapid than the timings for Sofinnova’s early-stage capital fund, which can take eight years to take a company from series A to liquidity.
The trade-off is that LPs can expect a lower return on their stake. Sofinnova is looking for a rate of return of 15-20% with the new fund, which Mr Papiernik calls a slightly lower multiple in a shorter period.
The fund is intended to usher mid-stage private biotechs and medtechs onto the public markets – or companies already listed in Europe onto US exchanges where they can raise far more money. But it will not cash out at that point: in common with many venture investors, Mr Papiernik believes an IPO is “rarely or never” an exit.
The plan is as follows: Sofinnova finds a company of around $80m in value and, with other crossover investors such as Bain Capital or Orbimed, stumps up another $40m or so. The target company will then ideally be floated on Nasdaq and end up with a market cap of “several hundred million dollars”.
When it comes to choosing that company, however, the fund will use different criteria to assess the potential of a device company as opposed to a drug maker.
Different sectors, different stages
A medtech company would already have to have an approved product, at least in Europe, and be at the beginning of commercialisation, to attract the fund’s interest. The technology could be in late-stage US clinical trials, with full approval in the offing. A device group would have to have revenues of $20-30m, Mr Papiernik says, if it is to have a chance of a decent Nasdaq or Euronext float.
“That’s different from what we’re looking for in a biopharma company. We’re not talking about approval here,” Mr Papiernik says. “You need clinical proof of concept, you’re into phase II, and you’re trying to run another phase II to be the critical milestone that the company needs to have in order to either be acquired or potentially go public.”
The fact is that biotech companies can find a buyer even if their products are not yet approved, whereas “you cannot transact a medtech company on proof-of-concept data.” Instead medtechs increasingly need to have bagged not just approval but reimbursement, and must have put a commercial plan in place right from their inception.
Another hard truth for medtech start-ups is that there are fewer potential acquirers. “For a medtech company you have five, six, seven buyers – it’s the maximum you’ll ever have. If you’re in biotech you’ll have an order of magnitude more – 20, 30 buyers for any given company,” Mr Papiernik says.
Sofinnova’s move into the crossover space will doubtless be a great help to biotechs: it is in that sector where mid-stage funding is falling short, and they will receive 80% of Sofinnova’s new fund’s bounty. On its own this fund cannot reverse the apparent dearth of series C and D rounds, but perhaps it will blaze a trail – the formation of more crossover funds could be a trend to watch for in future.