Financing Biobusiness: from Idea to IPO & Beyond

Financing Biobusiness: from Idea to IPO & Beyond
“Suppose you have a working product prototype or a technology that you have developed in a university by working with inventors. Now you want to start a biotech company with that experience behind you. But you require a lot of capital to complete R&D to pre-clinical, and clinical stages, in order to develop this business. What would be your financing strategy?”

To that question, you need to know what financing is in biotechnology and how to build an effective strategy for to arrange it. It is necessary to know things clearly so that you don’t encounter undue difficulty while planning for your forthcoming venture.

Financing is the second item in a biobusiness planning process. Once biopreneurs have recognized a new invention that is widely producible and has useful application for human/animal well-being and health, biopreneurs must seek-out the second key ingredient—capital—for the biobusiness. Biobusinesses generally evolve in stages from seed to incubation, to start-up, to early-stage, to emerging, and so on. A biobusiness requirement for capital also evolves in synchronization with these same stages. Capital needed for the different stages vary and are normally supported by different groups of investors. In this chapter we will review the life-cycle of a biobusiness and the nutrient capital required, for each phase of that life-cycle.

While drafting this not we have encountered these stages years ago. It is now easy, in hindsight, for us to share what we had to face during those early periods—how we overcame the difficulties, and the planning aspects we have learned from our past experiences and our mistakes. We have constructed a working roadmap here, used for our own biobusinesss over the past years with significant success. You may reference our roadmap, used it as a baseline, and in time develop your own roadmap as required. It is easy to read about these things in theory, but you have to understand firsthand that it is very competitive and brutal out in the financing arena. One of our mentors, Mr. Koichi Motegi, once told us “capital is very timid and does not like any ambiguity.” I keep his words close to my heart and I ask fellow biopreneurs to keep the following statement in mind as much as possible:

…First roadblock biopreneurs face these days starting a biobusiness is “finance”…

Most biobusinesses get their technological license from universities and research institutes. And it is very difficult to calculate the value of a biotech firm as the value is measured by many intangibles, such as a patent portfolio, and the integrity of their scientific team. With biopreneurs, friends and family fund most of bio-businesses at the earliest stages. That is because finding and using financial support from outsiders at the beginning is nearly out of question.

Risk in starting a business is not extremely high but it is high enough that it is a waste of time to try to measure that risk. As statistics say 50% of all start ups died in first two years, and 90% of the remaining 50% will close their business in five years. Starting new businesses is not a day job, but a job for around the clock. Building a biobusiness is very difficult and risk is rather high. As some people have put it – one has to be crazy to be a biopreneur—a good kind of craziness really.

Find a really good technology; sink your life savings into fitting out a garage, or a start-up business, with any equipment you can afford. Of course, you have an option of utilizing money from other sources. Then develop the technology with certainty, conceptualize the best product, and make efforts toward borrowing from a bank, your parents, neighbors, and friends. In the end you should try to patent everything you can.

Afterward comes time for earning money. Make approaches to the “big corporate;” suffer through interminable corporate inspections. And sell the business as a “going concern” for only a modest profit. You pay off your creditors, then bank the profits, and get to pay the taxman. Now you can look around and start all over again. This is okay if it happens! You can repeat the same process? Yes, your patents are sold; someone is making fortune on them. But ask—are you making profitable business from your point of view?

Once more preparation is the key here. The more we learn and educate ourselves the less we fall into making money for others. Yet, we must prepare ourselves for this kind of outcome. As statistics show 10% of the biobusinesss eventually make it to the end of the road. One important point I must make—even though the biobusiness did not go all the way to the end game, you may have gathered great experience and wisdom—which will land new opportunities. A closed door will surely teach you the art of opening more doors. So while building a new biobusiness, always build good relationships with the other fellow biopreneurs. Those relationships become very useful during the down-times. You might remember: ‘fight begets fight, hatred begets hatred and love begets love’. If you think of everyone positively they will not forget you in a positive light.

Financing Biobusiness:
Biobusinesses face the difficult challenge of finding the necessary funding. At the same time fund providers understand the risk of a biobusiness, and therefore are often reluctant to provide funding. Seed funding is often required to complete proof of concept, even development of a prototype and it generally comes in the form of “friendly money” and government grants. Once the business is operational, the need for larger sums of money often requires that the biopreneurs bring in capital from outside sources, such as “angel investors” and venture capitalists (VCs).
VCs invest in one of 10,000 businesses. This number could be misleading because in the 10,000 low-tech businesses such as service companies, retail stores, and small family owned businesses are included. Funding for the high-tech and biotech businesses are more within the range of 1 or 2 percent. One of the unique issues related to biobusiness is the extraordinarily long research and development time—about 7 to 9 years for a new drug, up to 5 years for a medical device. This means that a biobusiness team is constantly in the fund-raising mode, which can detract from its other research efforts.

Biopreneurs considering starting a business automatically may think what they need is initial venture capital. While that is true in some high technology ventures, especially with breakthrough innovations and secure professional venture capital within the first round, these ventures represent less than one percent of all new ventures. It is important to realize this fact in advance. Once we are comfortable with the fact that only 1% of new companies get VC funding, then we can plan and strategize biobusiness financing by thinking creatively about what it really takes to fund a “start-up” and where those funds realistically come from.

Financing Strategy—from Idea to IPO:
The amount of money needed and the capital costs at any point in time is a function of the stage of development of the biobusiness. During R&D, the risks are generally related to the technical feasibility a molecular invention and its efficacy, and the competitive advantage of the product over existing products, if any, or competitor technologies. At this stage, friends, private investors, and government grants typically fund your company.

Once the biobusiness is launched as a structured business, ready for further R&D, pre-clinical, animal toxicity, and pharmacology studies, the private investors and venture capitalists will come into play, as well as strategic partners. Clinical and post clinical marketing are generally done through strategic partnering, with pharmaceuticals and/or medium size biotech companies. The following are the stages that a biopreneur may go through the entire life cycle of a biobusiness:

STAGE—GROUND ZERO – THE IDEA:
An idea is conceived and born. The idea is then researched and assessed for commercial viability—the market research stage—including whether a patented technology can be licensed from your inventors. The outcome of this brainstorming phase is to draft a business plan. Here a biopreneur will require $25,000 to $50,000 approximately. The life of this stage should be about 3-6 months.

STAGE – I (THE LAUNCH):
Biopreneurs attracts key participants for the project, the technology is licensed and it received blessings from friends and family, with helping capital. The outlines of the company now become clearer; a corporation formed, either KK or another format. The money required at this stage is estimated at $100,000 to $300,000 and the approximate lifespan of this stage is 3-6 months.

STAGE – II (START-UP):
Biopreneurs now begin to work day and night with a tight shoestring budget. Biopreneurs will primarily work with universities or research labs for further product development of technologies. From now on the clock is ticking. Speed is the key. If biopreneurs desire success, they should avoid moon-lighters or wind-shoppers. Here a biopreneur takes his or her journey past a point of no return. Capital of $500,000 to $5,000,000 is necessary for a 2-3 year life cycle.

STAGE – III (EMERGING PHASE):
Biobusiness has survived three years, and grows to an operational company with 25-50 employees. The company has a well-defined mission, goals and corporate structure. Biopreneurs have matured with better understanding of the business world and the rough edges associated with it. It is a good place to be, however danger is still present. Funding should come from VCs, strategic partners, and product revenue. Capital requirement: $15-50M with a life cycle of 3-5 years. Financing may come in the form of strategic partnering and/or follow-up investment from a VCs. A liquidity event such as merger acquisition (M&A) or a sell-out is also possible at this stage.

STAGE – IV (GROWTH):
The Company has demonstrated that it is competitive—often having reached the break-even point—it is ready for further development. For example, this can involve capacity expansion, new product development, or penetration of new markets. The company is seldom self-financing.
Large funds over $50M normally comes from revenue through products sale, licensing fees, and royalties. The biobusiness now has become an emerging biotechnology company, with significant professional involvement to support the biopreneurs who now acquired more gray hair than when they started the venture. Financing strategy may consist of one or more of the following events: initial public offering (IPO), strategic partnerships, and M&A.

STAGE – V (BIOPHARMACEUTICAL):
The biobusiness is no longer a venture. It is a biopharmaceutical—not yet pharmaceutical. Traditional pharmaceutical drugs are small chemicals molecules that treat the symptoms of a disease or illness—one molecule directed at a single target. Biopharmaceuticals are large biological molecules known as proteins. If your company has products in the market, a strong pipeline of products for several different diseases, partners, maybe one or two wholly owned subsidiaries, and a strong revenue stream, some biopreneurs may retire, to spend more time with the family and do philanthropic and philosophical work, while some biopreneurs may continue to build the company to the pharmaceutical stage—like Morita-san of Sony Corporation.

There are two major ways to raise capital for biobusinesses from its inception to the growth stage (i) equity capital and (ii) debt capital.

Equity capital:
There are three main sources of equity capital: first, a biobusiness can sell their company’s equity to themselves, their friends, and family, second, high net-worth individuals with substantial knowledge about the business, angel investors, and third being the institutional investors that include venture capital (VC) and corporations.

Angel Investments:
Angel investors are normally high net-worth individuals who wish to provide early stage companies with capital and bring different kinds of competence to the companies. Angel Investors usually are successful entrepreneurs, business-persons, who have accumulated substantial amounts of money to invest. Quite often angel investors help companies in early phases with experience and insights that they have acquired from their past endeavors in bio or another business area. They like to invest in industries with which they are familiar, and they place a lot of importance on the management team.

Sometime they bring good people to fill the management gaps. Also like any other investors, they need a way to exit the business, though they often stay with a business much longer than a VC would. Angel investors generally fill the gap between friendly money and venture capital up to about five million dollar ($5M).

Venture Investments:
Venture capitalists (VCs) manage professional pools of funds generally much larger than the angel investor. VCs typically make large investments, usually in the second rounds when the biobusiness is well formed and the technologies and/or products have proven their value. VCs normally flock to names brands. A company with a unique technology, and a liquidity event such as an IPO or acquisition in its future, may easily attract VC funds if the biopreneur has prior name recognition and fame. VCs require higher rates of growth and return on their investment in short periods of time.

There are three distinct types of VC funding: VC funding can take many forms and while many venture funds often focus on start-ups, others concentrate on companies at much later stages in the life cycles. VCs may invest from $0.5 to $5.0M in the early stage and $15-25M as a syndicate at the growth stage.

Seed Level VC Funding - A venture capitalist may invest before there is a tangible product or before the company has developed an organization. At this stage VC funds are between $500,000-1,000,000. For a Biopreneur it is very costly money, since the VC at this stage requires a big chunk of equity in the company.
Early Stage Funding – A VC may provide capital to start up a biobusiness in its primary or secondary stages of development. Normally the VC invests $2-5M at this stage
Emerging VC funding – A the VC may provide the finance required for helping a biobusiness to grow beyond the critical mass, on its way to becoming wholly successful. Biobusinesses at this stage may need funds for pre-clinical or corporate development, so that they can attract corporate partners. At this stage several VCs collectively invest $10-25M.

Each VC fund has its own investment strategies; hence not all venture capitalists invest in all of stages. Some funds may invest in biobusinesses at various later stages of the business life cycle, and in some cases throughout a biobusiness’s life. So throughout the life stages of a biobusiness the value of shares, as well as the returns on the shares will change. You may look at the graphical presentation of the potential change of share value and the associated growth of the venture in graph—“Investors Expectations of Share Price Growth.”

We now know that VCs who focus on later-stage investing, provides finance to help the biobusiness grow at a critical stage, which attracts public participation through stock offerings (IPOs). VCs may help the biobusiness attract an M&A proposition, by a mature biotechnology company or pharmaceutical firm, thus providing liquidity and an exit for the biobusiness’s initial equity holders.

Debt capital:
There are four different type of debt financing: (1) mezzanine financing, (2) bank loan, (3) convertible loan and (4) corporate bond. These types of financing are most suitable for the emerging and growth stage biobusinesss. Biobusinesss normally at this stage will have a very prudent chief financial officer (CFO) who is well-qualified and extremely knowledgeable about the financial instruments. Success of a biobusiness definitely depends on well thought out debt financing strategy.

Mezzanine Finance:
Mezzanine capital is a temporary type of financing, put into place to help already up-and-running ventures. Biobusinesses that require growth capital and in such situations, where they may not be able to obtain conventional debt, or equity financing, due to a shortage of equity, unusual and rapid growth, or for other constraints, may use mezzanine financing. In the recent years biobusinesss have used mezzanine funding to take the company public—and initial public offering (IPO).

Bank Loans:
Conventional business bank loans are the most typical type of financing, especially during periods when the stock market is under pressure. The drawback of this type of financing is the possibility of high cost of capital. The bank normally provides lease financing, equipment financing, and real estate financing, where the bank can have some-tangible assets as collateral. Some banks provide loans against purchase orders from customers.

Convertible Loans:
Convertible loans are the type of financing that offers lenders the option to convert the loan into a predetermined number of shares at a future date. A convertible loan is a combination of an ordinary bank loan and an option to purchase biobusiness shares. This type of financing can be used to bridge a short-term financial gap.

Corporate Bonds:
Corporate Bond is a substitute for traditional bank financing. The company offers bonds either to a closed consortium of investors or to the general public. To compensate for the relatively higher credit risk when investing in a company, these bonds are characterized by having a higher dividend rate, compared to a government bond. Corporate bonds, as opposed to bank loans, are a marketable type of financing and therefore they provide companies with the possibility of receiving a continuous pricing of its debt. Biobusinesss at the expansion stage may offer corporate bonds for building manufacturing facilities, acquiring new technologies and products and other purposes.

Biobusiness is beneficial in every way. The investor gets a return, and that makes him or her happy, a biopreneur gets cash to run the business, that makes the biopreneur happy, and finally the general population having nothing to do with biobusinesss directly gets a form of medication, or another biotechnological product, that leads the better living. So indirectly people in general are also happier. All this happiness is due to anticipated success in biobusiness. If in this scenario a biobusiness is successful, then who would like to join the current trend in some meaningful and plausible role!