Back to School 2001: Integration
Back to School Issue
Every year, at the end of Summer, BioCentury publishes its "Back-to-School" Commentary, which focuses on themes that we think have major strategic importance to the biotech industry.
This year's 9th annual report focuses on value chain management, and asks whether a sufficient number of individual companies, or the biotech industry in general, are yet focused on building business structures capable of accomplishing the imperatives of bio-industry.
In fact, we would argue that the first principles for biotech industry development are few and simply articulated:
- The goal of the biotech industry is to create actual treatments for unmet medical needs.
- The value captured by the biotech industry must at least match the value it creates.
In the first case, it is not the business or responsibility of the biotech industry and its investors to actualize scientists' pet projects. It is to create products. The genomics-driven investment in front-loaded science and discovery technology has been a necessary investment, but not the only one required to accomplish this goal.
In the second case, despite the compelling amount of science, technology and deal flow announced by biotech companies each week, top-tier valuations remain almost the exclusive perquisite of a handful of companies that have brought therapeutic products to market. Of the 22 top-tier names in the BioCentury universe - companies with market caps above $3 billion - 19 are product plays and 3 are high-end suppliers of equipment and consumables.
Indeed, one cannot help but notice that there are only two genomics-based names in the top tier - Millennium Pharmaceuticals Inc. (MLNM) and Human Genome Sciences Inc. (HGSI) - which are now fully integrated PRODUCT companies. And one of the most striking trends of the past few months has been the increasing number of discovery service and tool companies announcing plans to move downstream toward more fully integrated drug development business models.
This latter move has been mirrored by the financial markets, which have let the air out of the discovery bubble (see "The Market Speaks", A8).
While the equity markets are prone to irrational enthusiasms in the short run, in the long run we think there is enough experience and data to demonstrate the limitations of business models that capture relatively small pieces of the value chain.
Investors have poured increasing amounts of money into the front end of the value chain, seeking a quick payoff from the technology while avoiding the perils of the lengthy drug development process. And in the short run, many of these "risk-adjusted" investors enjoyed profitable early exits by investing in discovery and tool companies during the genomics frenzy (see "The Value Chain", A2, and "R&D Money Flows", A9).
But the path forward for these companies still must be resolved, as chart after chart reveals no clear trajectory compared to the value trajectory demonstrated by companies with therapeutic products on the market.
In particular, it has been very hard for service and tool companies to grow substantially beyond $1 billion or so in market cap. Thus, going forward, the challenge is to create a long-term upward trajectory for companies making real advances in the discovery space.
Product companies not immune
At the same time, as the perils of one-horse product companies continue to be amply demonstrated, the odds continue to weigh against portfolios containing a handful of compounds. The old model of biotech drug development, in which the failure of a Phase III compound reduces a company to preclinical status and a market cap to match, demands to be replaced by an industrialized process capable of the repetitive introduction of products into clinical development (see Back-to-School #8, Sept. 5, 2000).
Even some highly successful product companies such as Agouron Pharmaceuticals Inc., which developed what is arguably the best