Investment Climate for US Biopharmaceuticals

The biopharma industry has been experiencing a significant surge in mergers and acquisitions (M&A) activity, ranging from major consolidations among Big Pharma companies to smaller acquisitions of emerging startups. Over the past decade, the life sciences sector has been witnessing a continuous influx of deal-making, with 2019 alone witnessing several high-profile transactions such as the BMS-Celgene and AbbVie-Allergan mega-deals, as well as notable biotech acquisitions like Loxo-Lily and ArQule-Merck. According to data from BMO Capital Markets, M&A deal activity in the biopharma space amounted to nearly $260 billion in 2019, contributing to a total aggregate value of $1 trillion over the past eight years.

While prominent biotech acquisitions often receive praise, larger mergers are frequently met with skepticism. Critics argue that these big M&A deals can result in value destruction, distract research and development (R&D) groups, consolidate market power, eliminate emerging competitors, and negatively impact drug pricing. Two members of the Federal Trade Commission expressed dissenting opinions on the BMS-Celgene merger, citing concerns about its potential negative effects on competition.

However, these critical perspectives often overlook the overall ecosystem benefits associated with M&A activity. It is crucial for policymakers and politicians in Washington to recognize the significant role played by M&A deals in driving a more efficient allocation of limited resources across the sector, particularly in the long term.

According to Arda Ural, a partner and life sciences sector strategy and transactions leader at Ernst & Young, the belief that mergers do not add value is a myth. Research conducted by EY demonstrates that both mega-mergers and bolt-on acquisitions create value. In terms of generating shareholder value, EY’s findings reveal that mega-mergers can take up to five years to be reflected in stock appreciation, while bolt-ons can achieve this within one year. Companies that engage in more acquisitions and divestitures generally exhibit better capital efficiency and return on capital.

Compared to other research and development-intensive industries, the pharmaceutical sector is remarkably fragmented, with no single player holding more than a 10% market share in most broad market categories. Additionally, there is a substantial disparity in the cost of capital among different players in the sector. This discrepancy significantly affects their ability to fund the entire journey from idea to full market commercialization. Profitable biopharma companies with robust cash flows and large balance sheets can easily access low-interest-rate debt. In contrast, loss-making biotech companies face ongoing challenges in securing new funding. Even within the biotech space, there is a wide range of capital costs, from high-cost startups to pre-profit small and mid-cap biotech firms that enjoy more favorable conditions. Efficient capital allocation, along with the allocation of talent and scientific resources, is of critical importance in the sector, as it creates new opportunities for investors.

In summary, M&A activity helps address redundant and bureaucratic inefficiencies within the ecosystem by facilitating a more effective allocation of scarce resources in the long term.

Another vital function of M&A deals is their role in replenishing the pipelines of big pharmaceutical companies. According to EY, there are patent expirations valued at $180 billion expected in the next four years, which could lead to a permanent decline in revenue if new assets are not acquired. Consequently, big pharma needs to actively pursue deals to compensate for the revenue lost due to impending patent cliffs.

While the uncertainties surrounding COVID-19 and the upcoming presidential election have introduced valuation uncertainties in the first quarter of 2020, it remains unclear how the rest of the year will unfold in terms of deal-making. Nevertheless, regardless of these dynamics, the fundamental aspects of the biopharma industry remain intact, and big pharma will continue to deploy cash  for external innovation.

While some argue that the decline in valuations during Q1 presents favorable opportunities for big pharma, Christiana Goh Bardon, managing director of UBS Oncology Impact Fund, holds a slightly different view. She suggests that big pharma’s focus lies not so much on the price but rather on the certainty of success of the assets they acquire. Rather than buying assets solely based on reduced prices, they await critical proof of concept indicating the potential success of a drug through the clinical and regulatory process, ultimately leading to commercial success. Economic fluctuations may provide big pharma with slightly better negotiating terms should capital markets become more challenging.

In contrast to the rhetoric from the government, the prevailing view within the industry is that M&A transactions are an essential part of a healthy ecosystem, and deals will continue, albeit at a more subdued pace due to the uncertainties posed by COVID-19 and the upcoming presidential election.


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