Navigating Transaction Value at the Early Stage – a Process for Internal and External Preclinical Transaction Analyses
By Susan Thompson, PhD, Stephan Gauldie, PhD, and Yechan Kang
Determining preclinical-stage candidate value can be challenging, but when the principal developer is also an early-stage “platform company” (ESPC), with a complex value proposition, that valuation can become even more difficult. While the multifaceted approach of ESPCs—and their willingness to try novel business strategies—might seem to make estimating their value a near impossible task, Back Bay Life Science Advisors has identified several key parameters that can make estimation based on historical transactions more accurate, as well as several key activities that the principals involved can undertake to create value.The ever-present challenges of estimating pre-clinical state candidate value are familiar: (1) the diverse and perilous timelines inherent in drug development, (2) the relatively low likelihood of approval well recognized in the path from target to drug, and (3) the complexity of the healthcare system. Defining value is therefore dependent on many factors, some of which are within the control of the principal developer and some of which are dependent on external factors. ESPC valuations are affected by all these factors, to which they add additional layers of complexity.ESPCs are set off from more traditional drug development companies in a few distinctive ways: they often deploy a hybrid business strategy that provides a certain amount of de-risking for investors but presents a challenge for establishing benchmark asset values, appropriate collaboration structures, or whole-company comparables. These companies are often diversified in their focus, incorporating internal drug development alongside active out-licensing or collaboration activities, and they sometimes even derive revenue from fee-for-service agreements—all parts of an overall strategy of maximizing their “shots on goal” while minimizing use of internal resources.Given the high risk and uncertainty surrounding early-stage discovery biotech business models, Back Bay expects historical transaction trends of other ESPCs will continue to be the benchmark by which platform companies and their strategic partners set goals and expectations depending on asset / project characteristics. However, as with any comparables analysis, it is critically important to understand the specific circumstances relevant to the company at the time of the deal (e.g., cash needs, investor dynamics, corporate strategy) as well as the macroeconomic factors that can alter the relevance of even near-at-hand historical precedents. Over the past few years, Back Bay has seen the concept of intrinsic value of the platform to be something that can be assessed or articulated using a temporally relevant framework to quantify the impact of:
Value creation and platform validation prior to the deal (PAST)
Market trends and competitive landscape at the time of the deal (PRESENT)
The expected share of value captured by each party in the out years (FUTURE)
Back Bay has worked closely with several ESPCs to prioritize development focus for their technology and to maximize the value of their existing assets in development. In addition, we work extensively with active consolidators to open up access to early-stage novel technologies either within their existing footprint or exploring company “white spaces.” Based on this experience and an evaluation of the transaction landscape across this sector, we have identified several key areas that inform questions of intrinsic value for these programs and companies.
Pre-Negotiation Activities that Impact Value:
1. DEVELOPMENT STAGE - ARE THERE INFLECTION POINTS IN DEAL VALUE OR FREQUENCY BASED ON STAGE OF ASSET WITH PRECLINICAL DEVELOPMENT? (E.G. - DISCOVERY, LEAD-IDENTIFIED, IND-READY, PHASE 1 INITIATED)
As expected, value correlated loosely with asset stage; however, the frequency of transactions was spread evenly across the four key stages. This points to the fact that while taking an asset further is generally rewarded with slightly higher value, there was no definitive preclinical value inflection point. Indeed, for distinctive, novel assets, especially those with potential impact in several clinical verticals, there remains a robust market regardless of distance from the clinic. This is likely due to the fact large pharma partners are willing to make early-stage bets as well as wanting to be involved early in the drug development process to ensure it is consistent with internal development thresholds.
2. RELATIONSHIP TYPE - HOW DOES THE RELATIONSHIP TYPE BETWEEN PRECLINICAL COMPANY AND STRATEGIC PARTNER INFLUENCE TRANSACTION VALUE AND FREQUENCY? IT IS IMPORTANT TO FOCUS ON THE FOLLOWING RELATIONSHIP DIVISIONS:
Services to assist in asset development
Partner-directed collaboration agreements to co-develop assets
Platform-directed collaboration agreements to co-develop assets
Transfer of assets with lead indications
In evaluating the transaction landscape for ESPCs it was clear that value was significantly higher for platform-directed relationships compared to narrower or more asset-directed relationships. These deals were generally larger in scope and made with larger partners who sought to exploit the technology in their demonstrated areas of expertise. Overall, collaboration transactions were more frequent than service agreements or asset transfers, implying that companies accessing early-stage technology are willing to pay a premium to retain the company’s expertise and input rather than simply bring the projects in-house. Similarly, the need for companies to access these novel technologies has allowed EPSCs to move away from the more traditional FFS model and instead structure deals with significant milestones and backend revenue.
3. PLATFORM VALIDATION TO DATE - HOW DO EXISTING PLATFORM PARTNERSHIPS AND INTERNAL DEVELOPMENT PROGRESS IMPACT DEAL VALUE AND FREQUENCY?
Platform validation matters significantly. Validated platforms with both existing partnerships and internal development programs engaged in more frequent deals at higher values. In addition, for companies that were able to complete multiple deals with a single partner, subsequent deals were typically executed at a higher aggregate value, with more of that value coming upfront or in early milestones.
External Market Forces That May Impact Deal Value:
1. THERAPEUTIC AREA – WHICH THERAPEUTICS AREAS DRIVE THE HIGHEST VALUE? CAN VALUE BE LINKED TO MARKET SIZE OR GROWTH EXPECTATIONS?
Large, high-growth markets generated higher aggregate and upfront value for companies (e.g., neurology, novel oncology, GI) than smaller, lower-growth markets (e.g., metabolic, immune). This is likely a function of competitive interest and intensity as the companies involved are generally larger and these deals have a global or major-market focus. Lower-growth areas have a high prevalence of small- to mid-size players and an increase of region-specific deals.
2.TECHNOLOGY IMPACT - WHICH TECHNOLOGIES DRIVE THE HIGHEST VALUE? CAN TECHNOLOGY BE LINKED TO MARKET SIZE OR GROWTH EXPECTATIONS?
Validated and differentiated technologies (e.g., antibodies, next-gen protein therapeutics) as well as high-growth novel approaches (e.g., gene therapy) generated higher values and were focused on collaborative structures where both sides participated in the potential upside. As with therapeutic area, there is likely to be a strong competitive element to these transactions and this is reflected in the partner characteristics and the significant proportion of overall value the platform companies can retain. At the other end of the spectrum, established, undifferentiated, or incremental reformulation approaches (e.g., small molecules, proteins) typically had less aggregate value and deals were skewed to a larger back-end representing a requirement for demonstrated clinical or commercial differentiation. Similarly, unvalidated or “unproven” technologies (e.g. cell therapy, RNA, microbiome), tended to have more back-ended deals and options, and the agreements involved were narrower in scope as consolidators sought to push risk back on the developers.
3. BREATH OF DEAL NEGOTIATED - HOW DOES THE NUMBER OF TARGETS/ASSETS IMPACT DEAL VALUE?
Building off the competitive landscape trends in therapeutic areas and technologies, high-demand areas typically generated more collaborative deals, and those deals generally involved more than two assets, which in turn was associated with greater aggregate deal values. As mentioned above, deals for more speculative or “unproven” technologies were generally narrower in nature and involved only one or two assets or programs, resulting in lower aggregate value.
4. PARTNER TYPE - DOES PARTNER TYPE (I.E., LARGE MARKET CAP COMPANIES VS. SMALL-MID CAP COMPANIES) IMPACT DEAL STRUCTURE AND VALUE?
As is typical in the broader industry, there is a certain element of herd mentality when it comes to deal making, and this is also true of deals with ESPCs. Highly attractive areas generate significant competitive dynamics and it is often the deeper pocket that wins out. As a result, it is not unexpected to find that a company with a desirable technology in a desirable area is able to attract Large Pharma / Large Biotech partners for collaborations, as these companies seek to gain access to “hot” opportunities. For the ESPCs in more attractive areas as outlined above, agreements involving large cap companies were more frequent and associated with larger deal values than those involving small- to mid-cap companies across all relationship types.Furthermore, when we looked back at ESPCs that were able to strike a deal with a “marquee” partner early on, this provided a certain amount of platform validation and allowed those companies to enter higher value deals with subsequent partners.
“In the Moment” Negotiation Activities that Impact Value:
1. DIVISION OF LABOR – HOW DOES VALUE CHANGE BY THE OWNERSHIP OF NEAR-TERM DEVELOPMENT RISK AND RESPONSIBILITY (I.E., PARTNER VS. PLATFORM CONTINUING DEVELOPMENT TO NEXT INFLECTION)?
ESPCs were generally rewarded (with higher upfront values and more frequent deal agreements) for maintaining development control and risk as part of collaboration deals or through options (see below). A demonstrated ability to share early risk and efficiently move programs forward as part of the collaboration was also rewarded by making the company more likely to undertake subsequent deals, which as we have said, was typically associated with increasing aggregate deal values and higher upfront percentages.
2. OPTION STRUCTURE – HOW DOES VALUE CHANGE BY INCLUSION OF AN OPTION VS IMMEDIATE LICENSE OR PURCHASE?
While typically viewed as a less desirable partnering outcome for a licensee, option deals in our data set typically garnered higher upfront payments than more traditional license deals and were common in the higher value and broader collaborative relationships. Furthermore, for an ESPC, typically less reliant on any one asset given their hybrid business models, options can provide greater flexibility and potential opportunity, even in cases where the option is not exercised. However, ESPCs should be cognizant that negative perceptions may accompany unexercised options. However, ESPCs should be cognizant that negative perception may accompany an unrealized option.In working with ESPCs over the last few years we have identified a significant number of occasions where co-development to a clinical option point has meant the company:
can advance the asset effectively “off-book”,
benefits from the input of the collaborative partner to inform its other programs, and
achieves greater clarity with respect to future revenues.
However, even in cases where the option was not exercised by the partner, because the company has continued to drive revenue from other early-stage deals, in some cases the return of the asset has acted as a catalyst for the company to refine its business strategy. This can allow the company to make the sometimes-difficult pivot from “platform company with a desirable technology” to “development company with a lead clinical asset and a pipeline” which is generally viewed to be a higher value positioning for the company.The following graphic, based on data from Coretellis and covering deals from January 2016 to April 2018, summarizes the relative impact impact that the individual parameters mentioned above have on deal value. Each ball represents a deal parameter that occurred prior to the negotiation or during the negotiation and plots the % difference for the individual parameter average (n=6-8 depending on parameter) in comparison to the total deal group analyzed (n=20).As always, a comparables analysis is a relative exercise, so in evaluating the key questions outlined above, both ESPCs and their potential partners need to understand the specific merits of the platform and the specific needs of the partner.Back Bay continues to work with ESPCs across therapeutic areas and is often asked to evaluate and diligence early stage technologies on the Buyside. Given our own hybrid structure with strategy consulting and investment banking, we are also often asked to comment upon the types of deals we have outlined above. In summary, we outline below strategic considerations that have arisen out of our prior work and represent areas that Back Bay is well positioned to advise upon as companies look to maximize value from these early-stage deals.
Strategic Considerations for ESPCs
How do you prioritize programs to optimize early-stage transaction potential based on technology, therapeutic expertise and available resources?
How do you maximize platform validation, and therefore value, through strategic partnering and capital efficient progression of internal programs? What are the implications to overall corporate growth strategy?
How do you balance targeting areas of high clinical and commercial need to facilitate partnering, with the need to focus on areas that are developmentally feasible and validate the platform’s unique value proposition?
What are relevant strategies and timelines to generate discussions with partners across multiple R&D opportunities in order to understand the probability of an early stage partnership?
How can assets and /or R&D projects be bundled together to optimize platform value from a partner’s perspective?
Strategic Considerations for Partners
What metrics and analyses can be leveraged to cross compare early-stage platforms within a therapeutic area or technology area of interest?
What strategies and precedent data can be applied to help define a fair market value for technology access or asset license agreement for early-stage technology?
How can ESPC collaborations be leveraged to investigate corporate “white spaces” or relevant adjacencies?
What therapeutic or technology areas are ideal for expansion once access is garnered from an ESPC?