2:36 PM
Feb 09, 2018
 |  BioCentury  |  Finance

Elites always welcome

How VCs think about the IPO process in a windowless world

The fact that 69 biotechs have raised $6.1 billion via IPO financings on NASDAQ since the start of 2016 might suggest the IPO window has remained wide open in the U.S. A closer look at the data reveals that, instead, a dual-class system has emerged in which elite biotechs backed by deep-pocketed VCs and crossover investors can tap the public market at will.

Companies without such support remain shut out, particularly as generalist capital has remained scarce. For the privileged class, the decision to go public is therefore a question of when, not whether.

According to VCs polled by BioCentury, this thinking still applies even in the face of the current spate of market volatility.

The investors said a host of factors influence their decision on when to take a company public.

The primary reason remains access to a much larger pool of capital. While VC funds are flusher than ever, the money needed to build biopharma companies from the lab through commercialization is still beyond their means.

The efficiency and typically lower cost of capital on the public markets also mean IPOs are still very much part of the long-term financing strategy for portfolio companies. The majority of VCs aim to get their companies public as soon as they’re ready.

What’s changed is that VCs feel less constrained by past dogma around what stage of development a company needs to reach to pursue an IPO.

Public specialist investors also are more willing to fund companies based on their intrinsic value, rather than pigeon-holing them into a defined range of postmoney valuations. This flexibility allows VCs to take a wider variety of biotechs public, expanding the definition of “IPO ready.”

Must-haves for an IPO include a development pathway that features a cadence of clearly defined milestones, and the ability to raise enough capital to see them through. VCs are even willing to finance IPOs at lower valuations to ensure the second condition is met.

Biotechs that don’t meet these key criteria are best kept private. Other factors, such as lacking the corporate controls necessary to meet public listing requirements or having a management team not yet ready to interface with the Street can be reasons to keep even promising IPO candidates out of the public domain.

And while nearly all VCs agree there’s no cleaner exit than the straight cash payout from a trade sale, many still prefer an IPO for two reasons: Having a healthy balance sheet gives their companies negotiating leverage in an M&A process. Public market takeouts also tend to come at significantly higher valuations, juicing absolute returns.

Bifurcated market

A cursory inspection of the NASDAQ biotech IPO data since the beginning of 2016 could easily lead one to believe the window has remained wide open, but deeper structural changes are at work.

In 2016, 27 biotechs raised $2 billion in cash on NASDAQ, and the following year 35 companies secured $3.5 billion. These were the fifth and third highest dollar totals in the industry’s history, respectively.

Over the same period, biotech stocks have been battered by political rhetoric, generalist capital has fled the sector, and the space still isn’t in vogue relative to sectors such as technology. In 2016, biotech-focused funds saw $5.3 billion in net outflows, and 2017 saw the exodus of $1.5 billion more, according to data from EPFR Global (see “No Flow Needed”).

A critical mass of capital from VCs and specialist investors has rendered these adverse conditions moot, allowing a select group of biotechs to issue public equity.

According to BioCentury’s analysis, 74% of the 69 biotechs that went public on NASDAQ since 2016 were backed by at least one top tier VC, accounting for 82% of the total dollars raised.

Top tier VCs were defined as firms that have invested in total syndications of more than $500 million in aggregate or made more than 20 investments into private biotechs between 2010-17, as recorded in BioCentury’s BCIQ online database. Corporate venture arms were excluded.

Excluding the $459.2 million in combined IPO financings by Myovant Sciences Ltd. (now Myovant Sciences GmbH), Avenue Therapeutics Inc., Akcea Therapeutics Inc. and Evolus Inc. -- all of which were majority owned by corporates -- the percentage of IPOs backed by top tier VCs increases to 78%,...

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