Peter Kolchinsky, portfolio manager at RA Capital Management, a Boston-based healthcare-focused hedge fund
“For companies that have high burn rates relative to their recently reduced valuations, the question investors grapple with is whether the drugs and pending news these companies offer will be enough to overcome the downward pull of such high burn rates. If these companies can raise significant non-dilutive capital and reduce their burn by partnering with big pharma, then their metric become more favorable and allows investors to feel more comfortable owning these stocks for the longer run. If they can’t do a deal, then investors may sell on expectations of a pending dilutive financing or, failing that, bankruptcy.
Our strategy is to identify companies whose business models are not impaired by the current markets. These include companies that have plenty of cash or at least have low enough burn that any financing won’t be very dilutive. They also must have products that investors recognize as highly differentiated and non-discretionary. For example, Sequenom (NASDAQ: [[ticker:SQNM]]) has over three years of cash at their current burn rate, which is only 5 percent of their market cap, and will be profitable by the end of 2009 shortly after they launch their non-invasive Down Syndrome test.”
“Some companies have clearly indicated a willingness to cut their costs as aggressively as needed to reach value inflection points without having to do a dilutive financing. If these companies can afford to make deep cuts without impairing the value of their development-stage products, they may be able to improve their risk metrics (i.e. reduce their burn-to-cap ratio) while still offering investors a reason to invest. A good example is Curis (NASDAQ: [[ticker:CRIS]]), which gets an attractive royalty on Genentech’s hedgehog antagonist cancer drug and is willing to cut costs as much as it will take to allow its shareholders to benefit from the cancer drug’s launch without threat of a financing in bad markets. So if you are a Curis shareholder and have bet on the hedgehog antagonist, then you will see that bet play out. In these markets, companies that can’t offer investors a major value inflection point such as Phase 3 trial results or the launch of a drug before the next dilutive financing will have a very hard time maintaining their share price or raising capital.”
Stephen Graham, partner, Fenwick & West in Seattle
“We are navigating uncharted territory. Capital is hard to find and it’s only going to get harder for the rank and file. Sources of capital are tightening standards and holding on to cash. To survive, companies are going to have be more and more innovative with their approaches, looking, for example, to support from Asia, or in some cases Europe. At least near term, there will be a paradigm shift. A premium will be placed on thinking out of the box. Of course, the very compelling companies will continue to find capital, but they might not like the valuations.”
David Kabakoff, executive in residence, Sofinnova Ventures, San Diego
“Companies will have to make hard choices and focus on fewer programs with fewer resources. Focus on product differentiation and meeting true unnamed needs will be paramount to raising cash. There will be much less room for incrementalism. Some companies will be acquired at bargain prices and some will fail.”
David Auth, director of Kirkland, WA-based Pathway Medical Technologies
“The 40 percent drop in the stock market necessarily has an effect on the willingness of prospective investors to invest in early or late stage rounds of med device startups unless the companies are similarly devalued. I am involved with several companies in various rounds of fundraising, all facing difficult times.
One VC, after looking at a series A in a promising but early stage young company, said he felt he was better off investing in another company’s series C or D at series A prices. Venture funds are reluctant to invest in new companies because they want to conserve cash for their extant portfolio companies who will need it down the line. The current shortage of investment capital coincides with rising costs associated with ever more costly clinical trials mandated by the FDA. Down rounds will be common if companies want to stay in business.”
