I sure do get lucky sometimes. Last week JP Morgan held its famed health care conference in San Francisco. I didn't get invited to that one but I scored something just as valuable. I got to sit through several sessions of the 3rd Annual New Paradigms to Fund Life Science Innovation Conference at the Marines Memorial Club. I didn't have time to attend the entire conference due to my meeting schedule but I enjoyed the funding panels. My synopsis is below, with my own special insights in italics.
The panel on "Government Investing Opportunities to Fund Life Science Innovation" had experts from the National Institutes of Health and National Cancer Institute. They put real teeth in the old saying, "I'm from the government and I'm here to help." The NIH maintains a free biobank for research and uses its grant program to leverage other government resources in gene therapy, cell therapy, and production assistance. The NCI manages an active portfolio of about 50 SBIR (Small Business Innovation Research) grants and also offers bridge financing and regulatory assistance. The advantage of government agency SBIR grants is that they are non-dilutive funding that doesn't take IP away from a developer. NCI even sponsors an investor forum matching successful Phase 1-2 startups with investors who will fast-track their product. Hey, last year they held it in Santa Clara, so I ought to see if I can attend this year.
The panelists had a consensus on how biotechs execute successful fundraising. Startups should have a good team, IP amenable to protection, and an explanation of how the proposed product meets an unmet market need. My own interpretation of "good team" encompasses someone who is scientifically qualified to invent a device or discover a drug, plus a capable executive with serial entrepreneur experience. Several years ago when I first started studying startups, I noticed the successful ones had teams with both scientific and managerial skills. That insight comes in handy when making investments, and one panelist observed that academic researchers have little understanding of commercialization or manufacturing. This is why the best business schools create partnerships between their MBA candidates and their own university research labs. These partnerships create business models for commercializing the lab researchers' tech and are favorites to win business plan competitions.
NIH gives startups guidance prior to submitting their SBIR grant request. I'm thrilled to see government agencies focus their grant funding on the successful commercialization of a product rather than just keeping startups alive. Heaven help us if the SBIR process turns into a make-work program for unemployed scientists. The panel mentioned the "numbers game" aspect of successful grant funding, with only 15% of grant applications getting funded, so startups need to work hard on their grant applications. One panelist mentioned that DOD grant makers are risk-averse, so having a strong relationship with DOD is the key to getting their research grants.
I learned a new acronym from this panel: STTR, i.e. Small Business Technology Transfer, a program for fast-tracking the commercialization of federally funded research. I also learned that many biotech startups are "virtual" but many grants require much work to be done internally. Hmmm, that places virtuals at a disadvantage because they outsource things like clinical trials. The government's workaround is to have the startup directly expense on their budget some functions outsourced to contract research organizations. Startups who outsource functions must write deliverables into those contracts and enforce non-payment for lack of progress.
One panelist mentioned HHS's Biomedical Advanced Research and Development authority (BARDA) as a funding source with the caveat that its mindset favors the military's "quad chart" briefing system. That makes sense to me if BARDA's mission is to fast-track biological warfare countermeasures that must support interagency efforts with DOD. The takeaway is that startups must learn to summarize their value proposition in one slide with a picture of their drug or device, its costs, and their deliverables.
The panel noted that SBDC-funded consultants can help walk startups through grant writing. Startups must frame their investment pitch in a way that non-expert angels and family offices understand, and SBIR grant success gives credibility as a form of peer-reviewed validation. The NIH panelist noted the impact of leaner federal budgets, with the expectation that a sequester would reduce its budget by 8.2%. NIH would likely cut current grants, reduce actual contract awards to 90% of their authorized level, and reduce the number of years for a contract to run. The panel also said that startups can increase their chance of successful grant funding by having more preliminary data.
The next panel had an interesting title: "Patient Advocacy Group and Passion Capital." I had this mental image of hot nurses making out passionately with their patients, but alas that wasn't discussed today. The panelists did mention what their organizations do: The Thiel Foundation funds innovation capital for radical early-stage startups; the Cystic Fibrosis Foundation does venture philanthropy to de-risk new treatment methods for their typical patients; FasterCures is a think tank that coordinates venture philanthropy funders and develops new financial instruments.
This panel agreed that venture philanthropy is now part of Big Pharma's ecology because it helps de-risk innovation. Some venture-philanthropists run clinical trial networks, patient registries, and other projects that help de-risk startups beyond just funding. VP is not for the faint of heart because investments do fail. Great risk remains in rare and orphan diseases. Investors must see a developmental pathway to a viable drug. VPs can fill the gap left as VCs retreat from early stage pharma funding. VPs can take the tech they funded to corporate partners who can fund further development pathways. Big Pharma has stepped in to the venture space to cherry-pick promising drug ideas, partly because they are reducing their own in-house development infrastructure.
The next panel was "Crowd Funding Options: How to Raise One Million." Ooh, goody, one of my favorite subjects. The panelists all have startup backgrounds themselves, seeing niches in home equity finance and donor-advised funding that they could fill. One of the CEOs argued that crowdfunding enables private equity investors to adopt a diversification approach to a portfolio. IMHO this is a sea-change mentality from traditional pure play approaches in PE/VC. The advantages that VCs bring to a startup besides money include mentoring and connection with other centers of influence. It's good that entrepreneurs can access diverse sources of capital, but they need to know that the advice they get from nickel-and-dime investors will be nearly non-existent. The JOBS Act updates Title III general solicitation rules and opens venture investing to non-accredited investors. Entrepreneurs must use digital media to package their pitch attractively. There is a fraud deterrent mechanism to answer critics alleging the JOBS Act generates a criminogenic business climate: Funds raised on a crowdfunding platform are escrowed until the startup meets its funding target, and funds are returned to donors/investors if the target goes unmet by a deadline.
There's a rule in crowdfunding: "Expect to lose your money," because it's risk capital. One panelist mentioned that fraud is more prevalent now in regulated finance, as per Bernard Madoff and home mortgage lending. I wonder whether the panelists read my article on the JOBS Act from last year, because they echoed some of the themes I raised. Crowdfunding forces transparency by enabling public chatter in social media.
Startups can prove their valuation by generating social media buzz from their prospective market, thus proving the existence of demand that will drive sales. One suggestion was to attract heavy Twitter users to a high-profile event and get them Tweeting about your idea. Another panelist theorized that Millennials turned off by the stock market will instead invest in crowdfunded portfolios of projects. Entrepreneurs can "build a wave" by offering freebies to early adopters who can spark passion in a product. Perks, rewards, and bonuses attract people. IMHO a crowdfunding platform that enables gamefication will attract startups and investors by the truckload.
I asked my only question of the conference at this panel: "There's talk of large brokerages looking to acquire crowdfunding portals. What qualities will make crowdfunding portals attractive to an acquirer?" The panel answered that big banks don't yet see the intersection of social media and finance. Portals will prove their value by attracting capital and deal participants. I'm hereby summarizing this value proposition: An attractive portal turns cash flow (funding from non-accredited investors) into deal flow (IPO and acquisition candidates for investment banks). You heard it here first at Alfidi Capital.
The final panel I was able to attend was "Biotech's Migration Outside the USA: Where are the Emerging Opportunities?" I don't invest much outside the U.S. but some of the cultural insights from this panel are useful to international investors. Returning Chinese expatriates who were educated in the West bring life science expertise back home. "Venture tourists" can visit startups outside the U.S. but the difficulty in doing deals varies by country. Innovation as an ecosystem is attuned to local culture and takes a long time to create. IMHO the rule of law is indispensable, so I wouldn't go looking for innovation in junta-ruled places like Myanmar; instead show me a locale that's at least one decade removed from authoritarian governance. The U.S.'s NIH investments in R&D infrastructure really do matter. Once again, show me a country that has such a nationally-sponsored laboratory system in place. Several panelists mentioned the risk aversion of many traditional Asian cultures as a deterrent to startup investing, and that educated Chinese professionals make unlikely entrepreneurs because failure is considered shameful.
I had to split for another meeting but this conference was a great deal. I wish I could have stayed for the Biotech Idol pitches because I love hearing directly from entrepreneurs. See you next year, biotech all-stars!
