Monday, December 13, 2010

2010 Exit/Financing DOTY Nominee: Incline Therapeutics

It's time for the IN VIVO Blog's Third Annual Deal of the Year! competition. This year we're presenting awards in three categories to highlight the most interesting and creative deal making solutions of the year. The categories are: M&A Deal of the Year, Alliance Deal of the Year, and Exit/Financing Deal of the Year. We'll supply the nominations (four or five in each category throughout December) and you, the voting public, will decide the winners (by voting early and often, commencing once we've announced all the nominees). Strap yourselves in, it's The Race for the Roger™.

The story of Incline Therapeutics’ $43.5 million Series A funding is, to use a word, one of various inclinations. Johnson & Johnson, for example, was inclined to shutter Alza and sell for a pittance the rights to an electronic fentanyl patch it had spent hundreds of millions of dollars to bring to market, but pulled due to a safety concern. Cadence Pharmaceuticals was inclined to buy the patch from J&J, but was short on cash and otherwise inclined to focus on getting its intravenous acetaminophen, Ofirmev, approved. And a group of VCs was especially inclined to set up a new startup company with an exit strategy built into the company’s launch, charging Cadence $3.5 million for each of two consecutive options to buy the startup – if it should be so inclined.

The fascinating tale of Incline’s birth, emblematic of recent trends and extraordinary in its complexity, therefore merits your vote for DOTY in the Exit/Financing category.

Like several other large first-round fundings, the financing is tranched, with a detailed product roadmap that correlates with future capital infusions. Furthermore, it represents a bet on a mature product, a slightly modified version of a drug/device combination that has already been marketed outside the U.S., rather than murky, exploratory research VCs sometimes deride as “science projects.”

But the June deal is also uniquely structured with a built-in exit opportunity, a pair of options for minority stakeholder Cadence to acquire Incline outright by the end of 2013. Thus, Incline's financing is a sign of the times, demonstrating that when VCs commit large amounts of capital, they’re willing to negotiate upfront for a speedy, healthy return.

Incline's Series A arose as J&J put its Ionsys technology on the block. Briefly marketed in Europe to treat acute post-operative pain, Ionsys is an electronic pain relief patch that delivers the approved drug fentanyl through the skin via a small electronic charge. (“Acute,” by the way, also refers to a type of angle which describes an incline.) J&J halted sales in 2008 due to a potential electronic failure that could lead to accidental overdoses. As J&J wound down Alza’s operations, Cadence seemed a likely buyer, but faced a cash crunch while preparing Ofirmev for approval. (After multiple delays, that drug won the official regulatory nod in November.)

Enter a syndicate of VCs organized by Frazier Healthcare Ventures, which hatched a unique strategy: create and fund a new company led in part by Cadence insiders to buy Ionsys, address its safety issues, refurbish the device, and bring it back to market, while offering Cadence the opportunity to acquire Incline for an incrementally increasing amount as the product attains regulatory milestones and has been further derisked. The first option allows it to buy Incline for $135 million within a year or before the second tranche of VC money kicks in. If Cadence exercises the second option, it can pay $228 million plus a $57 million earn-out by the end of 2013, or before Incline files for an NDA.

In this way, the VCs , which besides Frazier include 5AM Ventures, Technology Partners, Adams Street Partners, Saints Capital Partners, and Emergent Medical Partners, have forged a deal that includes up to $7 million in non-dilutive cash, and could bring back two to four times the capital they invested within a relatively short time. Cadence, meanwhile, offloads some risk while maintaining an exclusive opportunity to acquire a potential $300 million product.

It’s one of the most detailed VC deal agreements we’ve seen yet: as long as investors are committing capital in tranched deals with detailed milestones, why not race to include a flexible exit opportunity as well?

by Paul Bonanos

Image courtesy of flickrer gogoninja courtesy of a creative commons license.

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