Alex Philippidis Senior News Editor Genetic Engineering & Biotechnology News

It remains to be seen whether these partnerships will succeed in advancing more medicines.

Biopharma giants eager to cut R&D costs but also to recover depleted pipelines are trying to fill the gap left by retreating VC firms. They are launching new funds designed to invest in promising startups. Corporate venture funds played a role in 25% of early-stage U.S. biotechnology financing deals during the first half of 2011, up from 15% for all of 2010, reports PricewaterhouseCoopers (PwC) and the National Venture Capital Association (NVCA).

For example, Merck Research Ventures Fund, the $250 million fund created by Merck & Co. last year, will collaborate with Flagship Ventures to create then fund firms developing new drugs for unmet medical needs. A month earlier, in March, GlaxoSmithKline and the VC affiliate of Johnson & Johnson, Janssen, announced a €150 million (about $200 million) fund focused on companies with first-in-class or best-in-class drugs. Also in March, Russia’s $10 billion state-owned technology fund Rusnano and U.S. VC firm Domain Associates committed $760 million. The money will go toward U.S. pharmaceutical, diagnostics, and medical device companies, creating a manufacturing plant, and increasing Russian drug development.

These funds hold promise for reversing the retreat of VC and equity firms from biopharma that began with the Great Recession and continues. “It doesn’t fill the gap entirely, but it may fill 20% or 30% of the gap,” Michael Greeley, general partner at Flybridge Capital Partners, told GEN. “It potentially is a very meaningful contributor.”

Reasons for VC Retreat

During Q1, just $780 million was invested in 99 biopharma companies, down 18% from the $949 million in 97 deals during Q1 2011, according to the quarterly MoneyTree Report by PwC and NVCA based on Thomson Reuters data.

The dip reflects migration by VC and equity funds: Some 40% of 150 life-sci VC firms lowered their life-sci investment in the past three years. A similar percentage expects to do likewise over the next three years, PwC and NVCA reported.

“The regulatory cycle has become so onerous that it leads to longer timelines, which leads to more capital, which leads to fewer investors who are willing to take that on,” Greeley noted. Biopharma development and review timeframes are longer than the six- to eight-year windows under which venture firms typically operate.

“Corporate funds, it can be argued, have a very different horizon,” Greeley added. “There are long-term investors at venture capital firms, but corporates may actually have an even a longer-term horizon. In this environment, you need deep pockets and very, very patient money. Corporates may, ironically, be the best source of that.”

How the New Funds Work

The newer biopharma-venture partnerships are designed to offer something for everyone: For biopharma giants, it’s access to new technologies through startups that offer potential licensing or acquisition opportunities. For those startups, it’s the expertise and capital of big pharma, not to mention investment from other partners. And for venture firms, it’s connection to the expertise from the life science partners as well as potential buyers or licensors for the startups they back.

“The gain is greater than the losses, especially in the environment where raising capital is very difficult, so pharma companies have become a very good source of fundraising for venture funds,” Ron Laufer, M.D., senior managing director of MedImmune Ventures, told GEN. “While theoretically the venture funds are supposed to be the ones that offer expertise, they always like to fill in their gaps and strengthen their weaknesses by having those relationships and access to consultants within the pharma industry.”

Nonetheless, for VC and pharma firms, these partnerships are a departure from what they’re used to. VC firms have generally focused on a narrower set of diseases that allow for shorter trials and/or have more certainty. Big pharma, though, will likely invest in a broader range of drugs that may require more extensive clinical trials. Also, venture investors invest through syndicates seeking to maximize their returns as opposed to maintaining relationships.

That said, pharma companies too will feel a pinch. A significant aspect of the new partnerships is the degree of investment control that pharma partners have ceded to venture firms in return for a greater say in innovation development. In the GSK-JnJ-Index arrangement, investment decisions will be made by Index Ventures.

In the Merck-Flagship agreement, Merck Research Ventures Fund made an undisclosed investment and became a limited partner in the $270 million Flagship Ventures Fund IV. That investment will allow Merck Research Labs to offer scientific consulting to the startups, but neither the Merck fund nor its namesake pharma company will be able to control Flagship’s investment decisions. And Merck will have an opportunity but no formal option or special rights to acquire any startups being created through the Flagship-led fund.

Merck approached Flagship Ventures to create the partnership, which Flagship’s managing partner and CEO Noubar Afeyan told GEN is less about investment than innovation. He noted that Merck will provide insights and ideas on where the big opportunities lie in terms of therapeutic areas including those with unmet needs and types of drugs. “The most actionable way to act on those insights is to start new companies,” Afeyan said. “If we know there’s a growing giant need for XYZ, then if we see it, we’ll just invest.”

For Merck, competitive advantage comes from the proximity and the relationship with the portfolio companies, Reid J. Leonard, Ph.D., managing director of Merck Research Ventures Fund, told GEN. “We feel that having our scientists engage with these companies at a stage when we previously would not have been able to have the scientific engagement, that creates a greater familiarity and understanding on our part, so that we may therefore see an earlier-stage deal with one of these companies that is less risky than we might have coming in blind from the outside,” said Dr. Leonard. “We will be helping to de-risk and improve those programs, so that in fact they are more likely to meet our high standards for the sort of opportunity that we would pursue.”

Merck cut internal R&D spending 14% in the first quarter to $1.862 billion from $2.158 billion. That’s on top of its 23% overall reduction last year to $8.5 billion from $11.1 billion in 2010. The company has announced plans to close research labs and lay off R&D staff among 13,000 set to lose jobs by 2015.

Future of R&D?

Dr. Leonard said Merck’s partnership with Flagship envisions investments in biopharma startups prior to clinical proof of concept, increasing its proportion of preclinical deals over time. Flagship begins with initial investments that can range from a $500,000 seed funding up to $10 million in a syndicated Series A investment. More typically, however, Flagship invests between $7 million to $15 million during the life of its companies. The firm targets 20% to 30% equity ownership, slightly more in companies in which it is a founder, and slightly less in later-stage companies.

In the partnership involving GSK and J&J, the drugmakers will each contribute “roughly 25% of the final fund,” Francesco De Rubertis, Ph.D., partner at Index Ventures, told GEN. The remainder of the €150 million fund is expected to come from several of Index’ largest existing limited partners. Five Index partners will sit on the board versus two executives each from GSK and J&J.

Dr. De Rubertis said the partners expect to make investments in 10 to 20 companies developing a total 15 to 30 first-in-class or best-in-class molecules for various diseases. While the fund has a European focus, he said, it will also consider potential assets in the U.S. and Israel. “Investments will be based on the quality of the assets found and whether they meet a medical unmet need in terms of being first-in-class or best-in-class, rather than the geography.”

Rusnano and Domain Associates will each invest $330 million in their partnership, which promises to go beyond the 20 planned investments in U.S. pharmaceutical and diagnostics startups. Plans include managing advanced-stage clinical trials and building a Russian plant that will hold exclusive rights in the Commonwealth of Independent States to make therapeutics for viral infections, cardiovascular diseases, and cancer.

Two new U.K. biopharma funds, announced in March, do not involve corporate giants. The Wellcome Trust announced a £200 million (approximately $316.5 million) fund to support early-stage life-sci and healthcare companies in the U.K. and Europe. Cancer Research Technology (CRT), the commercial arm of Cancer Research UK, and the European Investment Fund (EIF) launched the £25 million ($40.3 million) CRT Pioneer Fund to take potential cancer drugs from discovery through start of Phase II trials. The fund is expected to increase over time to £50 million ($80.7 million).

The new funds reflect the future of R&D for big biopharma—less spending and less control of innovations in return for a role in guiding new startups that corporate giants can eventually license technologies from or acquire outright. What remains to be seen is whether the new funds will fare any better at pumping out new medicines.

Alex Philippidis is senior news editor at Genetic Engineering & Biotechnology News.

Previous articleFrance’s Biotech Industry Faces Financing Challenge but Partnership Growth
Next articleFirefly Bags $500K from Massachusetts Life Science Center for miRNA Biomarker Platform