For IPO and M&A Exits, One Hand Washes the Other

At VC meetings like Atlas’s St. Tropez shindig (about which you can read more here and here), the heroes are the guys who have most recently sold their companies for big bucks. In St. Tropez, that guy was John Mendlein, of Adnexus.

Scientist/Lawyer Mendlein had followed the now well-worn path of filing for an IPO while simultaneously pursuing the opportunity that ultimately led him to embrace Bristol-Myers Squibb’s $415 million-plus marriage proposal.

No real difficulty to that decision—an IPO at maybe $200-250 million pre-money; an acquisition for twice that amount.

We’re told there was plenty of appetite for the IPO—Mendlein had done what every biotech CEO should do, but doesn’t, in spending plenty of time telling the Adnexus story to the usual crew of IPO buyers (for more, see here and, more in-depthly, here), giving them the reverse valuation argument they like (here’s terminal value X and why you, Mr. Investor, should be willing to pay NPV value of Y at our IPO).

But since there was such interest in the IPO, shouldn’t Mendlein’s choice between going public and selling out have been a little bit more difficult: given the possibility of that kind of purchase price, shouldn’t investors competing for those shares – not just with each other, but with Pharma -- have been willing to pay a higher price at the IPO?

At the Atlas meeting, your blogger showed a slide (available in this presentation) indicating the gap between how IPO buyers value private companies and how Big Pharma does, thus defining the arbitrage opportunity for investors. But according to an investor panel at the meeting, there is a fundamental-as-gravity law that dictates the minimum size of that gap, underpinned by at least four basic facts.

First, Big Pharma has a much lower cost of capital than any investment fund—practically a zero cost of capital given their cash flow and virtually unleveraged balance sheet, noted one investor. Second, any biotech will need its investors to pony up additional cash to get the job done—which means, uggh, dilution. Third, drug companies can recoup cost synergies because they can fire redundant workers; investors can’t because, theoretically, the only workers in the company are those necessary to get the job done. And finally, drug companies can sign CDAs with biotechs they’re interested in acquiring, collecting a ton of crucial investment information unavailable to fund managers.

We can’t find much wrong with the first three reasons, though we’d contend that pharma’s cost of capital is rising as it sends more of its cash back to investors in the form of share repurchases and dividends. But yes, it’s still lots lower.

But the biggest issue is the information asymmetry between a strategic buyer and a financial one. And that, we’d contend, is often less significant than it appears. Certain acquisitions are simply predictable—like Adnexus’s--based on the obvious needs of the buyers (very little large-molecule discovery) and the advantages of the seller (large-molecule discovery; the ability to move into desirable IP space with improved fast-follower products).

We won’t speculate here on who we think might be equally likely purchases…

…OK, yes we will. Maybe Ablynx, which just filed for an IPO on Eurolist—one of the usual messages signaling a for-sale sign. And its deal with Boehringer Ingelheim, which has plenty of bioprocessing but precious little discovery certainly offers an idea of who might be in on the auction (GlaxoSmithKline also has a stake in the company, via its VC arm SR One, and might want to pin its biologics hopes on more than simply the Domantis platform). And then on the public side, ImClone, which has a couple of underutilized manufacturing plants, a pipeline beyond Erbitux, for which natural acquirer Bristol is paying 39% royalties. The fact that Jeremy Levin just jumped from his senior biz dev job at Novartis to an even more senior and more-than-biz-dev job at Bristol indicates at least to us that Bristol, already one of the more innovative strategic thinkers in the industry, might be thinking more aggressively about its large-molecule options.

Granted we could easily be wrong on both of these – but the logic is reasonable and more importantly based on completely public information.

And similarly we’re willing to stand out on a limb and say what we think won’t happen – again based on public info. We stand in as much awe of Carl Icahn’s money-making ability as anyone, but we just don’t see how Biogen Idec—in which he took a stake earlier this year, sending the stock price spiraling upwards—can be affordably acquired at anything like the price it’s trading at. We’ve heard the rumor that it’s engaged Goldman Sachs to investigate “strategic alternatives,” but since any acquirer would have to share Rituxan with Genentech and since Elan has a change-in-control right to buy Tysabri, it’s not likely a drug company looking for biologics would long consider Biogen, particularly at a likely takeover price of $30 billion.

So…yes, there should be a difference between IPO valuations and average acquisition prices of private biotechs (or more generally, between what investors might see as the intrinsic value of biotech shares and their strategic value to buyers). But the difference has been shrinking: IPO pre-money market caps are up this year because investors are finally understanding the arbitrage opportunity. That’s good news for biotechs—because as IPO valuations increase, M&A prices – the competition for IPOs – creep up, too, giving more headroom for IPO prices, which pushes up M&A prices….

Vive la difference!

$80 million upfront? About Average

So Synta’s PR firm were pushing today’s deal with GlaxoSmithKline at us as “one of the biggest product deals this year” and indeed “among the largest in the industry”…and it’s true, the $80 million cash up front deal for an anti-cancer compound that’s entering Phase III isn’t at all bad.

But $80 million up front isn’t off the scale, either. In fact, it’s looking about average these days for an asset on the cusp of Phase III—Merck in July paid Ariad $75 million up front for its cancer compound, Novartis put the same on the table for Antisoma’s similar-stage oncology asset in April, and outside of cancer, GSK paid $75 million for XenoPort's Phase III RLS compound in February, Shire that same magic figure for Renovo’s late Phase II wound care treatment in June.

Indeed, $80 million even begins to look measly alongside the $102 million that GSK forked out for Genmab’s Phase III antibody, or the $165 million that Johnson & Johnson coughed up for ex-US rights only to Vertex’s then-Phase IIa Hepatitis C gem.

Ok, so these were outliers. Genmab’s contained the antibody premium; Vertex’s was special, too. But the point is, three-digit up front payments for late-stage assets will soon be common, so don’t waste the hyperbole.

And don’t forget to look behind the curtain, either. Milestones: “Up to $1.01 billion in potential payments," our PR friends say. We all know this trick, though. That’s the if-everything-goes-to-plan-across-all-indications-and-the-moon-goes-blue (or biodollar) figure. Think $135 million in pre-approval milestones.

This, according to Synta’s CEO Safi Bahcall, is more than enough to cover the costs of the compound’s Phase III trials and US submission, which Synta stays in charge of.

And that—control—is the bit that’s interesting in this deal; more interesting than the amount of cash that’s changing hands (most of which GSK can capitalize, incidentally--so it doesn't immediately hit the P&L and thus crimp any R&D budgets). Synta will pay for and finish Phase III, and take the compound past the US regulators for metastatic melanoma. That allows the biotech to boast about the “confidence GSK has in our ability to conduct a pivotal trial and register the drug,” as Bahcall explained. But it also allows GSK to hedge risk and be absolutely sure the compound gets past regulators in the first indication before committing any of the $300 million of potential commercial milestones, or much of the $450 million in potential development and regulatory milestones in other cancers.

Still, Bahcall’s right in saying that “it’s unusual, given GSK’s experience, that they allow us to take the lead” in development and regulatory. Typically Big Pharma would want to take the reins, re-do the Phase III trial design and start talking to regulators. (Especially, you might think, given recent biotech casualties at FDA like the one that hit GPC Biotech when it tried to get satraplatin past.) Not this time—no doubt the compound’s fairly straightforward clinical trial design, with an objective end-point of progression-free survival, helped.

And if Synta gets the drug past regulators, it gains credibility in the next stage of the relationship: co-commercialization. That feature’s about average, too, for deals these days—many biotechs want to have their own sales forces, despite all the future problems and complexities and costs those forces bring.

In reality, pharma-biotech co-promotes are usually a nightmare, as we discussed in this IN VIVO feature. But Bahcall’s confident that the partners have learnt from what’s gone before, with specific prescriptions and conditions for how the co-promote would work, plus measures to ensure that Synta doesn’t lose out on the tiered profit share, thought to start at 40% and rise to 50%, based on annual net sales. (Profit shares can bite small partners if pharma ramp up their cost of sales to reduce what’s left to distribute.)

There are also provisions in the deal, according to Bahcall, allowing for Synta to assume more responsibility for commercialization in the future—once the drug has been out there for a couple of years, for instance (IN VIVO Blog speculation, not his comment). In other indications, the partners will share development in and outside US, with Synta eligible for double-digit royalties on ex-US sales.

Don't get us wrong: for all our talk of 'average', Synta’s got a good deal, all the more so given it’s the company’s first. Shareholders started celebrating earlier this week on deal speculation. They needed a party; Synta’s shares have done very little since its February IPO.

Forsight Scores Big

With the Red Sox and Indians facing off in the American League Championship Series, IN VIVO Blog would like nothing more than to toss in an old baseball metaphor to describe how well investors in Forsight Labs second company did with their investment, but even the ever popular grand salami falls a bit short.

So with the shameless favorite sports team plug firmly inserted, we can go on to tell you that Forsight Newco II, founded just 10 months ago, raised approximately $5 million from investors to cover costs of product development and some early clinical testing of the company’s drug-eluting ocular punctual plug, a technology that can deliver drugs through the eyes’ own tears. For a video showing the product go here.

Now, just 10 months after the company’s inception, QLT stepped forward to pay $42 million upfront for the company. But the potential returns don't stop there. QLT also agreed to pay $5 million payment upon the initiation of phase III clinical trial for the first product; $20 million for the first commercialization of a product; $20 million for the commercialization of a second product; and $15 million on first commercialization of each subsequent product.

For those keeping score at home, that’s $67 million if QLT succeeds in getting one of these products on the market; $87 million if it gets two; $102 million for three and so on. To be sure, all of these potential payments are years off. QLT will need a few years to run the plugs through clinical study and isn't likely to get a product to market until 2011 or 2012.

QLT management is being criticized for overpaying, but Bob Butchofsky, president and chief executive officer of QLT, says the company’s punctual plug, which is inserted in one of the two ducts that drains tears from the eye, will put QLT in position to challenge the $6 billion eye drop market.

Unlike standard punctual plugs, which only slow the drainage of tears from the eye as a means of treating dry eye, QLT’s new plug contains a drug core. As the tear film flows against the plug, the drug is released delivering a steady stream of drug. The Newco identified glaucoma as a first application for the device, but the plug could be used to deliver any drugs currently delivered as eye drops. “I believe this is a start of a major change on how we treat ocular disease,” Butchofsky told analysts in a conference call this morning.

Others aren’t as impressed. QLT shares hit a 52-week low today after the deal was announced. An item on the Globe and Mail web site reported:

National Bank Financial analyst Prakash Gowd calls the deal pricey, citing “very limited data supporting the theoretical benefits of [ForSight’s] punctal plug technology. Moreover, he figures the technology is likely to be a “very competitive area and patents have not yet been clarified.”

QLT must be high on the technology as it made the only real bid for the company. Forsight CEO K. Angela Macfarlane says while Forsight had talks with other companies about its various programs, Newco II wasn’t being shopped around. (Curious about Forsight's first product? Go here.)

Robin Bellas, general partner at Morgenthaler Ventures, one of the investors, called the acquisition, "quite a surprise. We always expected to raise another round. It was unusual that QLT came to us and expressed strong interest in the program. We had no plans to sell it.”

For more about Forsight Labs go here.

Spec Pharma: Wrong Bandwagon, Guys

Ok, so we’ve commented before on the definitional problems around ‘specialty pharma’—the topic came up at our PSA conference, and in this IN VIVO feature.

But we feel compelled to say some more. Yesterday during an industry conference in London, yours truly came across two further 'interesting' uses of this label, which is fast becoming totally meaningless as a result.

The first was a UK drug delivery firm that has developed a technology to push tiny, splinter-shaped solid doses of biologics, vaccines or any other drug through the skin where they apparently dissolve and distribute just as fast as a subcutaneous injection. Fine. (Read more here, if you want.) But why call the firm ‘specialty pharma’, as its CEO Charles Potter insisted on doing (and insisted that I do, too)?

“We don’t want to be seen as just drug delivery,” Potter explained, “since that implies we don’t have our own products.” Yet, he continued, we don’t want to be pharma or biotech either, because then people might think we do discovery, and that’s risky. “So we decided to call it specialty pharma,” he concludes.

Ah. So ‘specialty pharma’ means ‘reformulation and delivery’. But then why is Spain’s mid-sized pharma firm Almirall also calling itself specialty pharma? In a press release announcing Almirall's acquisition of some drugs cast out by Shire, CEO Dr. Jorge Gallardo declared that the deal "..reinforces our position as one of the key European specialty pharmaceutical companies.”

Ok, so newly-listed Almirall wants to be a bit more like Shire and get into specialist niches (though it’s unclear at first glance how the $213 million worth of assets, which include peppermint oil, help further that cause). And ok, drug delivery wants to shed its service-associated image, and highlight the lower-risk nature of its game.

But jumping onto the spec pharma bandwagon in order to do that is not a good idea. First, it’s confusing, embracing, as the term now does, so many diverse strategies (and yes, biotechs are in there too). Second, the original spec pharma model is broken anyway, so why go near it?

The traditional acquire-and-market strategy, minus R&D risk, may have created substantial value in the US. But the party’s over. The winners can’t rely on in-licensed, low risk assets to sustain the growth they need. Rumors are that MGI Pharma is up for sale. Endo is looking at strategic options, including moving upstream into risky innovation. Shire and Cephalon have both long shed their specialty pharma clothes, and now prefer to be known as ‘biopharmaceutical firms’ (another popular new label, including among Big Pharma—the ‘bio’ bit supposedly adds a valuation premium).

Despite the challenges of spec pharma version 1.0, new players are emerging. But as Bryan Morton, the CEO of Europe-based newcomer EUSA Pharma, declares, we're not really spec pharma, “we’re start-up Big Pharma.” That, he reckons, captures the idea of possessing full commercial capabilities, adjusted for size.

So the industry re-branding is official, then. Big Pharma and the old spec pharma are now biopharma, new spec pharma are 'start-up Big Pharma', and pretty much everything else, from drug delivery, through mid-caps and even biotechs-with-commercial-ambition, is now spec pharma. Got it?

Shire’s Clean-Out: Dynepo Next?

Hats off to Shire for cleaning out its cupboards and out-licensing $213 million worth of non-core drugs to Spain's newly-listed Almirall. The industry’s notoriously bad at passing unwanted assets down the food-chain, for reasons we know well—too much hassle, no glory, potential egg-on-face.

Egg-on-face isn’t an issue here: Almirall’s unlikely to turn peppermint oil Mintec, one of their eight prizes, into a blockbuster. Anyway, if anyone’s going to find a new use for an old drug, Shire is--this is the group that turned amphetamine salts marketed in Germany for obesity into a multi-billion dollar CNS franchise.

As for hassle: $213 million isn’t a bad bit of money for a company Shire’s size. That’s enough for, say, another couple of Juvistas. (Shire recently paid $75 million up front and made a $50 million equity investment in Renovo for scar treatment Juvista, around which it may build a new franchise, as we reported here.)

$213 million is also enough to plug a gap left by another non-core asset that may yet be the next to emerge from Shire: Dynepo.

Remember Dynepo? It's basically EPO, a follow-on biologic that Shire bought through its $1.57 billion acquisition of TKT in 2005. Dynepo was in fact the core focus of the deal--so much so that Shire had a back-up plan to license the product for $450 million in case the acquisition fell through.

Lucky for Shire it didn’t. Dynepo sells a miserable $2 million per quarter, a far cry from the estimated $150-200 million annual peak sales that Shire, and analysts, were forecasting. Meanwhile two other TKT drugs, Hunter Syndrome treatment Elaprase and Replagal for Fabry disease, are doing very nicely thank you—the $80 million or so combined second quarter 2007 sales of both products exceeded analyst expectations.

There’s a lesson somewhere here about the value of acquiring the restaurant over selecting from the licensing menu, if the industry needed one (which it doesn’t, it seems.) But what about Dynepo?

Its trouble is that it’s neither here nor there. Dynepo offers no advantages over existing EPO drugs—it’s just plain vanilla EPO, and the short-acting version at that. Shire has no hope of competing in the mainstream with the likes of Amgen or J&J. Yet Dynepo isn’t a full-on generic copy of EPO, either, like Sandoz’s recently-approved epoetin alfa.

The Sandoz drug may have some chance, one day, of being substituted in cost-conscious markets for the reference innovator drug, in this case J&J's Eprex (though admittedly, biosimilar substitution will be a long journey, as we reported in a previous blog post.) Not so for Dynepo.

Small wonder, then, that Shire’s management doesn’t want to invest in a new manufacturing plant for Dynepo, and admits the drug “is fighting for space” in the portfolio. We know that, unlike most pharmaceutical firms, Shire’s not allergic to selling. But will anyone buy?

Chomp! Wyeth Snaps Up Haptogen

The names are different but the premise seems the same: a struggling big pharma snaps up a promising biologics player to add bite to its large molecule divsion. Less than two weeks after BMS announced its buy-out of next-generation protein player Adnexus, Wyeth broadcast its decision to buy the Scottish biotech Haptogen.

This is the twelfth acquisition by either a big pharma or big biotech in the biologics space since September 1 2006 according to Windhover's Strategic Transactions Database. Does IN VIVO blog see a trend? Hint: Do fish swim?

It's no secret that pharmas have lately had a tough go getting drugs approved. The FDA has approved just 10 new molecular entities through September, representing a 17% drop year-over-year and matching a 10-year nadir, according to a report today by Jim Kumpel, an analyst with Friedman Billings Ramsey. (Kudos to Pharmalot for its posting.)

Desperate to get access to new therapeutic modalities, cash-rish pharmas have spent the last several years trawling for biologics players. Recall these recent deals: Roche's acquisitions of GlycArt Biotechnology and THP; Merck's take-outs of GlycoFi, Abmaxis, and Sirna; GSK's purchase of Domantis; and AZ's $15.6 billion stunner for MedImmune. (Yeah, we're still talking about that deal. If you haven't read our take, click here and here. FYI, there will be even more in the October IN VIVO.)

It's not hard to see why a company like MedImmune would make a pharma salivate--the company's pipeline was full; and they had soup-to-nuts capabilities--from discovery through marketing--in biologics. But why the interest in Adnexus or Haptogen--companies with interesting platforms but no late stage products?

It's easy: Access. Most companies just launching large molecules programs are shut out of the most desirable targets because licenses to them--at least through "gold standard" antibody providers such as Medarex and Genmab--have already been given away.

“If you want to develop a product to one of those really important targets—say the CD-20 antibody—you’re blacked out,” notes Donald Drakeman, former CEO of Medarex and now with the VC firm Advent Ventures.

Better, it seems, to spend some dough and acquire new platform technologies that provide freedom to operate—for example, GlycoFi’s yeast engineering capabilities or Adnexus’s protein program--than engage in licensing deals that may blow up when a next-generation player gets acquired by a competitor.

The Wyeth/Haptogen deal fits nicely in this paradigm. Wyeth, though comparatively biologics-rich thanks to its acquisition of Genetics Institute about a decade ago and its focus on large molecule Alzheimer's Disease therapies, has had it's own share of pipeline troubles.

According to Cavan Redmond, EVP and general manager of Wyeth's biopharmaceuticals division, the pharma has been on the look-out for "technology driven companies that help us take it [biologics] up a notch, so that we can customize antibodies even more than in the past."

That was certainly the thinking behind the pharma's 2006 deal with Trubion, which included a $40 million up-front payment for access to the biotech's CD-20 therapy for rheumatoid arthritis, Tru-15.

Seems like the same philosophy applies to Haptogen. The Scottish biotech promises it can generate antibodies against targets normally too small to elicit an immune response. In addition, the company has developed novel drug discovery techniques based on the shark immune system. (And you thought it was just a great shark picture. Ha!)

Haptogen's shark platform "has a lot of potential to generate smaller therapuetic proteins that can be taken as oral drugs," Steven Projan, VP and head of biological technologies at Wyeth, told BioWorld Today (subscription required).

Wyeth and Haptogen didn't disclose deal terms, but its doubtful there was big money on the table. Wyeth, after all, is notoriously frugal in the business development department. And, in the biologics space, the pharma tends to pursue one-off opportunities, where it can leverage its own biologics infrastructure to lower the total cost of the deal.

There's no sign that pharma's biologics feeding frenzy will abate anytime soon. Who's next? The IN VIVO Blog's crystal ball is cloudy, so it's hard to say for certain. But companies worthy of keeping an eye on include: Ablynx, which makes camelid antibodies; Biolex, which recently registered for its IPO, and uses the plant Lemna to manufacture its proteins; and Xencor, which produces souped-up antibodies using its proprietary protein engineering platform.

While You Were Watching the Upsets

This weekend we were in Cardiff for the Rugby World Cup quarterfinal between France and New Zealand, which saw France upsetting the favorites. Earlier in the day defending champs England upset heavily-favored Australia, setting up a very surprising all-Europe semifinal next weekend. Suckers for a lost cause, we managed to keep tabs on the Phils into the wee hours, and showed our support on the streets of Cardiff amongst the hordes of Kiwi and French fans (see below--it's a jungle out there).

So what'd we miss?

• The repercussions of the failure of Merck's HIV vaccine are being felt across the entire field, points out the Philadelphia Inquirer.
  
• Roche isn't raising its offer for Ventana, the company said this weekend, but it remains convinced Ventana shareholders will see the light.
  
• And the winner is ... Andrew Witty. GSK's head of Europe appointed CEO-designate, will replace JP Garnier in May 2008.

gotta support the team

Venture Round: Ascension Raises Second Fund

One of the most active venture capital investors in health care companies—both in number of investments and opportunities for exits—isn’t a venture capital firm at all. It’s Ascension Health Ventures, and the group is about to get more active.

Founded in 2001, Ascension Health Ventures operated as an experiment of sorts, a venture capital group backed with $125 million from the largest not-for-profit health care system in the U.S.

Unlike other hospital-affiliated investment groups, Ascension Health Ventures didn’t look inside its own hospitals’ walls to find investments. Rather, it swam with other VCs, identifying both early and late-stage health care companies with products that might someday be used by its own hospitals and doctors.

After managing a successful debut fund, the St. Louis-based group announced today that it secured a second fund that counts two other hospital systems as limited partners. Catholic Health Initiatives and Catholic Health East agreed to participate in CHV II, L.P., a $200 million fund that will be invested along the same parameters as Ascension’s first $125 million fund.

Ascension Health remains the largest investor in the fund, which will be managed by Ascension Health Ventures II, LLC, the general partner of the fund. Each of the systems will have a representative on the six-person management committee that’s required to approve all new investments. The group also invests directly in venture funds. With its last fund it took part in funds raised by CB Health Ventures, Essex Woodlands Health Ventures and Sanderling Ventures. Now, with its new fund, it already made a commitment to the recent fund raised by SV Life Sciences.

Ascension’s portfolio company count from its first fund is at 19, including 10 medical device companies. Three of those companies staged strong IPOs—Emageon Inc., Stereotaxis Inc. and TomoTherapy Inc.—while a fourth, Confluent Surgical Inc., produced an exit through an acquisition by Covidien Ltd.

For more on the fund raising check out our October Start-Up.

If Hamlet Were a VC

To tranche or not to tranche, that is the paraphrasing of a tired cliché.

Cliché or not, it’s an important question venture capitalists often ask themselves when financing a start-up that potentially could require significant capital. (We ask it here.) The obvious benefits are clear. Venture investors can commit large bits of capital to these companies—enough perhaps to carry a company to commercialization—without actually having to hand all the money over at once. (As an added benefit, they boost their IRR by shortening the time between their distribution of capital and their realized--they hope--returns.)

This morning’s panel at our In3 East conference in Boston examined two specific cases of companies running on tranched financings: atrial fibrillation company Endosense SA and spinal implant maker Innovative Spinal Technologies Inc. (IST) In the spirit of obtaining both sides of the argument, the panel included an investor perspective—delivered by Thomas Pollare investment director at 3i and lead investor in Endosense—and management—represented by Scott Schorer, president and CEO of IST.

The discussion—led by colleagues David Cassak and Stephen Levin—didn’t come to any definitive conclusion, pro or con. Pollare and Schorer obviously endorse the concept since each agreed to tranched financings in 2005. Pollare negotiated a $20 million Series A financing with Endosense, which is developing a catheter capable of delivering radiofrequency energy that scars heart tissue and disrupts the irregular electrical flow that leads to atrial fibrillation.

Schorer, meanwhile, signed a $39 million Series B with Orbimed, MPM and JPMorgan Partners taking equal parts. The company is currently selling and developing several new spinal implants.

Both suggested the tranched financing structure gives companies the capital necessary to make serious headway on a business plan. Pollare suggested the inclusion of milestones aligns the interests of management and investors as both will be rewarded by the execution of the business plan. “As an investor it’s important to have the capital working for you so it can be used efficiently,” Pollare said. “Obviously, it’s important for a second reason because if they don’t hit milestones something is wrong. You have to rethink the plan and the valuations.”

Schorer agreed but warned that the milestones could easily become a problem if management and investors don’t share the same interpretation of milestones and results. “I generally don’t like milestones and, as I was telling myself that, I looked back at the last few deals I’ve done and I realized that they all have contained milestones,” Schorer said.

IST, according to Schorer, drew down $20 million in July 2005 when it first closed on the $39 million Series B. The second $19 million came later, after the company and investors renegotiated the terms of the second tranche when the company missed some of its milestones. “We did that in reasonable terms,” Schorer says, concluding that the key to the success of tranched financings is high level of trust and respect between investors and management. The biggest risk is that investors and executives don’t share similar interpretation of results, so disagreements can arise over whether or not milestones have been met.

“There is nothing you can build into the deal structure to make it smoother,” he added. “You have to trust the people you’re working with to be fair.” IST is raising a $30 million to $35 million Series C round. It hopes to close on the financing early next year.

An audience member challenged the structure, saying it was unhealthy because it automatically put management and investors at odds. Experienced investors should be capable of judging management, evaluating performance and rewarding results without dangling the carrot and stick of a tranche investment.

Pollare, however, defended tranching, saying it gave investors an additional level of control over how their capital is used. “You can’t just give the check and say, `Call me in three years,'” he said.

“That, would be ideal,” Schorer joked.

How Much Does Pfizer Want to Succeed?

Yesterday, Pfizer’s Jeff Kindler ended the speculation around what we think is his most important appointment, elevating development chief Martin Mackay to the top R&D job (an appointment, by the way, which we predicted--here).

As the WSJ’s health blog pointed out, Kindler has chosen managerial continuity. If Mackay does some of the requisite R&D reforming, it will at least come from within the Pfizer context – and theoretically won’t generate the antibody response an outsider’s initiative would (like Peter Corr’s attempts when the former Warner-Lambert chief was briefly R&D boss).

Second, Mackay is not John LaMattina. He clearly recognizes the need to change Pfizer—as he’s noted to IN VIVO and as he’ll explain at Windhover’s FDA/CMS Summit on December 6.

But two big issues will determine how successful Mackay can be—one more or less in his control; the other out of it.

The first: just how far is he willing to go in reforming Pfizer R&D? A $7.5 billion annual cost, it is vastly too expensive for what it produces. And it’s got too many people working on too many projects to manage effectively.

To succeed—our view, of course--Mackay will have to reduce headcount; start and objectively judge experiments in development (like its Project Fisher, a parallel to Lilly’s Chorus division); figure a way to push biologics into the mainstream of Pfizer’s discovery and development and create systems for monitoring the likely but as yet unknown safety challenges they’ll present; push for independent (and probably independently traded) R&D organizations, on the models of Genentech or Theravance, to whose output Pfizer will have post-Phase II options; and figure out ways of partnering Pfizer’s own de-prioritized drug candidates.

Among other things. But that’s enough for right now.

Problem is: Pfizer’s commercial and financial sides (including its CEO) will have to accept and adapt to the kind of output a revitalized Pfizer R&D must generate—high-value specialty drugs, including biologics. That will mean a smaller, more focused commercial Pfizer--or even Pfizers (we’re all for disaggregation and spinouts—therapeutically focused mini-Pfizers, for example). When Pfizer has followed its instincts, taking a mass-market approach to specialty drugs, it’s failed: witness the disappointing performance of Rebif in multiple sclerosis or the disaster of its inhaled insulin, Exubera.

We know and respect Martin Mackay. And we know he has his work cut out for him. But if he does his bit, Pfizer then needs to let him succeed.