Anyone who is not thinking about building new financing models for biotech is not thinking at all. The meager $1.2 billion raised in public equity offerings by biotech companies in the U.S. and Europe thus far in 1998 is only a symptom of a more fundamental problem: the public equity markets, particularly in the U.S., are not currently willing to fund companies that are really venture plays in terms of their stage of development.

"You have to ask why you need a new model," said Sandra Panem of the Vector Later-Stage Equity Fund. "The obvious reason is that people aren't making money with the old model, in which people built enterprises that were vehicles to do research and project financing.

"In addition, the world has changed. The reason in the old days you could get away with building part of a business, not a whole business, was because the capital structure was different. But the classic sources of public capital can no longer invest in companies because of size and illiquidity. Unless a company can tell an earnings story and have a market cap north of half a billion dollars with growth potential to $1-$2 billion, I don't think you'll see a lot of interest in the public markets."

In addition, at least for the moment, public investors don't want to pay the kinds of valuations the traditional venture community has asked given the amount of risk that remains in these companies.

"I just don't know that you'll be able to take companies public with $75-$100 million valuations when most of the risk still lies ahead," said Hal Broderson of Rock Hill Ventures. "The question is, have you created that much value? I don't think you can chew up $100 million just to get to Phase II, which is typically what has happened, because you've chewed up more value than you've created.

"There are companies out there with $30 million in cash, they've spent $200 million and they're worth $50 million. What's wrong with that picture? Every once in awhile you get an Amgen, but you can't have 40 failures for one success and I don't see how you can handicap them before Phase II."

This means that companies must find new ways of financing their activities. The irony is that there's no shortage of money, either in the private or public equity markets. "There's enough venture money to take companies further than in the past - enough for companies to take their lead product through the end of Phase II," said Paul Haycock of Apax Partners.

Thus the problem is finding ways of accessing those funds, which means devising mechanisms to reward that money in a meaningful timeframe.

BioCentury's discussions with financiers in the U.S. and Europe suggest that funding models now fall into two categories: those that emphasize building larger companies that go public when they are more mature, and those that focus on spending less and building less infrastructure. Most of the models are not mutually exclusive and the two broad themes intersect at the point that the low-infrastructure companies are likely to provide the fodder to help the large-infrastructure companies grow. The key for investors and management is to know which type of company they are dealing with and to plan accordingly.

The Godzilla model

In the new world, one argument goes, size counts. Companies that will survive and reward investors will be those with critical mass.

"If you want to be an investor, you need to make sure you're investing in something that can withstand the vagaries of the public market, withstand setbacks," said Panem. "The only way to do that is in a business with depth and breadth.

"I think of the Godzilla advertisement: size counts. Critical mass is tremendously important. Companies likely to survive have the capability of implementing a product development plan, and attracting and maintaining capital - i.e., enterprises with more than a single product."

The way to build such a company, in Panem's view, is to identify a core within a particular therapeutic or area of expertise and add first class management, significant capital resources, and a product pipeline with depth and breadth.

"This may mean products already on the market, even if they are small products, and some products close to a decision," she said. "I think those companies which can act as a core will be in a position to aggregate from others in the industry and create enterprises with critical mass."

Getting to criticality will take a combination of two things: more venture money and the "c" word (consolidation), which are themselves the basis for financing models.