Notes from BIO: Toast of the Coast--Incubator vs. Pfincubator

While an earlier session on raising capital in trying times was cancelled--as if to say "yes, it really is that bad!"--it was standing room only at yesterday morning's last-day session titled “Early Stage Investment Strategies: If Not Us, Who? If Not Now, When?"

Afterward, we overheard it called by several people in the audience the best of many sessions at this year’s BIO meeting devoted to getting technologies past the infamous valley of death and into the waiting arms of big pharma.

Of course these panelists didn’t exactly solve everyone's dilemmas, but attendees left feeling better after listening to Melinda Richter, Executive Director of the San Jose BioCenter, trade jibes with Mark Benedyk, who heads Pfizer’s La Jolla Pfincubator.

Richter good-naturedly claimed that Benedyk’s incubator companies are indentured while she shops for the best deals for her companies. Benedyk says his companies are grown in a hot house with no worries, while others have to make a go in wild fields.

Richter’s project was initially funded through San Jose’s economic development efforts, initially receiving $5-10 million from the city's redevelopment agency. In three years its fledgling companies from the BioCenter have brought around $3 billion to the area economy, she claimed.

The problem?"Our companies have been very successful at growing very quickly, but then they tend to leave the area," Richter said. "From an incubation perspective, very successful," but from the point of view of the incubator's investor, San Jose, not as successful.

So where are they going? San Jose's biotechs are forced to establish facilities further up the peninsula in the Bay Area – taking jobs and business with them - because the incubator has the only lab space in the San Jose area. --Shirley Haley

image from flickr user caveman 92223 used under a creative commons license

The Downsizing Opportunity: Pipeline on the Cheap?

The IN VIVO Blog was in Michigan last week, attending a profiting-from-downsizing symposium.

Would Pfizer—we wondered at the Michigan Growth Capital Symposium--use its pull-out from the state (and the near-term freedom of some 2350 full-time Michigan-based Pfizer employees) as a way of pursuing an alternative research strategy—an experiment in externalization?

The venture world is all over Pfizer right now, looking for preclinical and clinical programs. And they’d particularly love ones that come wrapped with some of their key scientific supporters. Theoretically, we reasoned, the Michigan shut down could allow Pfizer to at least keep some of these researchers tied to the mother ship by letting them – on the VCs’ dime – take ownership of programs Pfizer will be shelving. Meanwhile, Pfizer would get equity and some kind of option on the programs, should they prove interesting to its marketers. If uninteresting to them, the program still might prove commercially worthwhile, giving Pfizer a nice equity upside.

But from the discussions in Michigan, and subsequent chats with VCs, it’s increasingly clear that Pfizer—despite an ongoing program to study how it should go about out-licensing or spinning off internal assets—isn’t moving fast enough. Its best Michigan-based researchers will soon be working for other companies, including Pfizer competitors. And when they're gone so will be the best conduits to, and conductors of, Pfizer's unwanted research programs.

Not that Pfizer is uninterested in venture opportunities that provide it relatively low-cost access to interesting programs. But if our Pfincubator post is to be believed, Pfizer would prefer to win cheap access to programs it didn’t create. That seems to be the intention behind its San Diego venture idea, in which Pfizer swaps infrastructure and capital for a start-up’s equity and options on its research output.

Success of that program seems just a bit more likely than an experiment at Novartis. Its pharma division’s option fund aims to co-invest with other venture funds but get, along with its equity, an option on its investee’s product. Since most VCs we know aren’t in the habit of giving co-investors in a round a better deal than they get (in this case, Novartis would get equity at the VC price plus the option), we don’t think this arrangement will get much traction. We’re likewise skeptical that VCs backing the start-ups Pfizer hopes to woo to its San Diego facilities will be particularly happy about ceding product rights for cheap space and some cash. We’ll be happy to be proven wrong.

Indeed, neither the Pfizer nor the Novartis venture adventure leverages its parent’s real differentiable assets—de-prioritized research programs. And it is only with that kind of unique asset (money and space are commodities) that a drug company can create the opportunity to get both equity appreciation and pipeline help. Novartis in particular should understand the value here: its only major recent primary care launch, Tekturna, came about because a small, privately held company, Speedel, created a product out of a de-prioritized Novartis program—on which Novartis had kept an option.

Pfizer and Novartis aren’t alone in their unwillingness to let start-ups take over assets on their shelves. Most companies won’t. Pulling together all the relevant information is expensive, invasive, and potentially competitive. It actually took the shutdown of all of its early-stage research efforts for Procter & Gamble Pharmaceuticals to try to monetize some of its unrealized value. It’s getting equity in a new Cincinnati-based spin-out, Akebia Therapeutics, which is developing two ex-P&G programs: an angiogenesis promoter (initial target: peripheral artery disease) and a Fibrogen-like EPO inducer. P&G also out-licensed two other programs—one for heart failure and one for atrial fibrillation, but these went to established companies, one large, one small.

But that doesn’t mean pharma shouldn’t do it – at least as an experiment in an alternative research strategy. Roche is the leader here—in deals, for example, with new companies, like Synosia and Amira, based around Roche IP. Lilly has certainly done plenty of out-licensing to already existing companies, like Vicuron and Cubist, but its recent deal with Versant Ventures to exploit its Chorus development division is a big step in the start-up direction.

The real question is whether more pharmas will begin to take advantage of the enormous opportunity to experiment with virtualized R&D – at very little cost to themselves. With the retirement of Pfizer's R&D chief and its most senior opponent of out-licensing, John LaMattina, it's likely that Pfizer will reassess the strategy it's so far pursued. In that reassessment, they'll soon realize that if they don’t provide some of the key research assets, they can’t hope to get low-cost options on what the start-ups do with them.

Dalton Joins Pfizer

The make over of the corporate VC world continues.

IN VIVO Blog has recently learned that Pfizer Inc. brought aboard Barbara Dalton, formerly of SR One and EuclidSR, to lead its Pfizer Strategic Investment Group. In hiring Dalton, Pfizer is sticking with the decision to be represented by professionals with experience on the front lines of venture capital investing rather than shuffling people out from the corporate side of the business.

Dalton joins Debra Yu, formerly of Delphi Ventures and Bay City Capital, who helped start the group three years ago. She replaces Ilya Oshman. She’ll report directly to Ed Harrigan, senior vice president of worldwide licensing and business development. “We are certainly pleased to have Barbara join us – she brings a great deal of experience, is very well-respected in the field, and will surely put her stamp on Pfizer’s venture investment group,” Harrigan told IN VIVO Blog in an email.

Pfizer is taking a unique approach with this venture effort. First, as we stated earlier, it’s bringing in outside people with venture investing experience and, more important, connections. To be sure, any VC or chief executive will return a phone call from Pfizer. But the program clearly benefits from having familiar faces represent in the field at conferences and other venture gathering places.

Second, from the very first day the venture group steered clear of Pfizer’s internal research and development wheelhouse—pharmaceuticals—as well as some external efforts (remember the Pfincubator and our other posts?). Instead, the group sought to invest in companies that might influence how pharmaceuticals are used, marketed or paid for.

The group has built a significant portfolio in diagnostics and, no doubt as part of this effort, the corporate side of the house has stood up and taken notice, becoming an aggressive and progressive player in diagnostics. “She brings the needed talent and personality to the job that is important as our venture activity evolves to its new place in the organization," Yu told us in an email.

Prior to moving over to EuclidSR in 2003, Dalton had been president of SR One, one of the grand daddies of corporate venture programs in the pharmaceutical world, for two years. Founded by Peter Sears in 1985, SR One first invested on behalf of Smithkline Beckman. It has survived all these years as its corporate sponsor went through mergers.

Dalton became president in 2001 when Brenda Gavin, who took over for Sears in 1999, moved on to co-found Quaker BioVentures in 2001.

Dalton left SR One in 2003 with two other principals to become full-time investors at EuclidSR, a New York venture capital firm. This group grew out of a partnership between Euclid Partners, a venture capital firm, and SR One. The firm that sought to invest in companies that benefited from the “convergence” of health care and information technology.

EuclidSR raised at least one fund in 2000, the first year of the partnership. Dalton and other SR One principals invested on behalf of both GSK and EuclidSR until their departure in 2003. It’s unclear what Dalton’s departure means for EuclidSR. She couldn’t be reached for comment.

Welcome to the Pfincubator

Should VCs be just a teensy bit worried about what’s going on at Torrey Pines?

For those who missed it, The San Diego Union-Tribune reported that Pfizer is opening up 26,600 square feet of lab, office and meeting space on its Torrey Pines campus to researchers and entrepreneurs looking to explore business ideas. Moreover, the pharma company will commit $10 million per year to roughly six to eight companies to help them grow up big and strong.

In short, Pfizer is offering entrepreneurs: capital, resources and access to its best and brightest—the folks who know how to make and sell drugs.

Sounds a little bit like the job of a VC, no?

Well, at least the job VCs used to have. Pfizer says they’re looking at projects today's VCs wouldn’t touch with a 10-foot-term sheet—early, pre-clinical ideas that just need a little TLC and nurturing to see if they amount to anything. Indeed, the two major hometown VCs in the area—Enterprise Partners and Forward Ventures—say they see this incubator as a positive thing for the area.



Who would you rather have as your landlord?




And maybe it is. But really what does this say about the pharma-VC relationship? By offering budding entrepreneurs capital, resources and the benefit of many years of experience in the pharmaceutical industry, Pfizer isn’t merely taking on the role of landlord. It’s acting like a VC.

We’re not talking about the kind of corporate VC, the liaison between corporate and outside venture capitalists who relies upon working through the latter to find young companies that might fit the former’s long-term strategy. No, Pfizer already does that and does that quite well.

Even the recent steps by Novartis outlined in our recent post "At Novartis, competing venture funds aim to avoid the high cost of biotech innovation," as unorthodox as they might be, pretty much stuck to the script of pharma finding innovation with some help of venture funds.

But Pfizer is writing itself a new role by moving to cut out the middle man. Why partner with VCs to identify promising new technologies when you can deal with the entrepreneurs themselves?

Indeed why. As laid out in the article, Pfizer would appear to have these entrepreneurs over a barrel. In exchange for the space and resources tenants will have to agree to an “up-front equity-share agreement” with Pfizer.

When research is done, Pfizer will have an option to acquire rights at a fair market price. Or the incubator could spin out the company as an independent business.

Hmmm. Either scenario sounds great for Pfizer, not so good for the entrepreneur. Who will determine what a “fair market price” is for a venture that hasn’t obtained term sheets and bids from outside investors. Pfizer, most likely. What possible leverage could these companies have in negotiations? Will they threaten to have a huge party and trash the place before moving out?

What if Pfizer declines and pursues the spin out? Sounds fair, but again, I wonder how much leverage a start-up will have in negotiating terms with outside investors when Pfizer already told you, “No thanks.” VCs generally prefer to invest in companies that pharmaceutical companies might actually want to buy. Any spin outs will be branded as “unwanted by Pfizer.”

Finally, Pfizer isn’t simply willing to let companies move in and go unwatched. According to the article:

Tenants will receive space and funding for two years, provided they meet milestones along the way. Funding won't necessarily be cut off after two years, because Pfizer realizes scientific discovery can have unexpected twists and turns.

So basically, Pfizer will have some degree of access to their tenants’ progress. It must if it’s going to ensure they’re meeting the milestones necessary to continue to use the labs. This is intriguing but curious. CEOs and VCs aren’t always comfortable with their pharma partners attending board meetings or having access to private information. Now, these partners will have keys to the filing cabinet. (Heck, they’ll own the filing cabinet.)

Look, we know we’re skeptical by nature but we’re not alone. (See comments from Pharmalot blog.) Clearly, these are smart folks. There is no doubt these issues will be addressed, and there is a strong likelihood that this program will be a success, which means Pfizer would open other centers across the country giving researchers and entrepreneurs someplace to go other than local VCs.

So what’s all this mean? For Pfizer, the idea sounds like a good one. They’ll identify extremely early stage enterprises that might bolster internal innovation. For VCs, probably won’t mean much at first but if the idea catches fire they’ll have more competition for the top-tier technology plays.

Finally, what’s this mean for the entrepreneurs? Well, Pfizer is billing this space as a “Ritz-Carlton” for start-ups. Entrepreneurs, however, need to be careful with the terms of the agreements if they don’t want to get stuck in a roach motel.