Health Care IPOs: Is that A Breeze?

Just one day after Cumberland Pharmaceuticals priced its shares, Emdeon followed suit, setting industry watchers abuzz. Could it be it's time to resurrect the acronym IPO? (Just in case you need a reminder, it's pronounced 'eye-pee-oh' and stands for initial public offering and yes, we'll use it in a sentence.)

There was clearly more investor enthusiasm for Emdeon's New York Stock exchange offering than Cumberland's NASDAQ listing. Cumberland priced it's shares $2 below the estimated range, and opened flat in its first day of trading, resulting in an $85 million raise. In contrast, the health care IT company, which processes half of all electronic medical bills in the U.S., debuted at the top of the estimated $13.50 -$15.50 range, and increased by 10% the number of shares sold to meet investor demand. The upshot? The company (founded only in 2006) and its PE backers sold 23.7 million shares--just under 11 million and 13 million respectively--and raised a total of nearly $370 million in the process.

Did someone just open a window? Was that an IPO breeze we felt?

Michael Brinkman, managing director of healthcare investing at Piper Jaffray & Co. thinks so. In an article in BioWorld Today, he proclaimed "the market is open." Based on interviews with roughtly a dozen buy-side investors, Brinkman thinks there are buyers for good biotech IPOs right now, but cautioned said financiers might not say the same thing 90 days from now given the fragility of the market.

How 'bout that for confidence? As we said in this post we're hard-pressed to proclaim a renaissance of biotech IPOs based on Cumberland offering. And Emdeon's IPO doesn't change our opinion one bit. Neither company, after all, shares many traits with the majority of cash-hungry discovery and development firms in venture capitalists' stables.

Take Cumberland, not so much a biotech as a specialty pharmaceutical play, founded back in 1999 with little internal research capability. The outfit currently markets three approved but largely undifferentiated products, including an antidote to acetaminophen poisoning. Acetadote, and an intravenous version of ibuprofen called Caldolor. Sound like a biotech to you? (If you said yes, we have another factoid worth consideration: Cumberland is profitable.)

Then there is Emdeon, another company with products and revenues--$444.4 million in the six months ending June 30, up 5% from the same period one year earlier. With its focus on linking health care providers like hospitals, pharmacies, and docs to private and public insurers, the start-up appears to provide a much needed solution to the overabundance of paperwork contributing to skyrocketing healthcare costs. And whatever health care plan is ultimately adopted by Congress, technical solutions like Emdeon's are a no-brainer and can count on bipartisan support from legislators. But Emdeon ain't biotech; it's information technology applied to health care.

It's not too surprising that the first US IPOs we've seen since ARYx raised money in 2007 are fully baked companies with products and revenues. Their less risky business plans fit the appetite of investors who are keen to avoid the gambles associated with drug discovery, especially after the financial jitters of the past year. Moreover, the offerings continue a trend started in February, when Bristol-Myers Squibb spun off its nutritional and infant formula maker, Mead Johnson, in an oversubscribed IPO worth $720 million.

For VCs, who've been saying for the past year (at least!) that they are building companies for acquisition not IPO, neither the Cumberland or Emdeon IPO is likely to spark a wholesale change in strategy. Let's be honest: neither company fits the profile. It took ten years to bake Cumberland, hardly a time frame that would capture VC interest. Emdeon may have only incorporated three years ago, but the technology has been around for far longer since it was cooked up by Healtheon, one of the grand-daddies of e-medicine.

And neither outfit listed venture backers as principal shareholders in their SEC filings (yes, we do read them). Aside from individuals, Cumberland's largest shareholder was S.C.O.U.T. Healthcare Fund, which is managed by Lawrence Greer, a Cumberland executive director. Emdeon's principal shareholders include private equity plays General Atlantic Partners and Hellman & Friedman.

Still, VCs are likely to welcome the news as a sign that the public markets, which have been frozen since well before the financial collapse of 2008, are finally thawing. Both offerings are a necessary first step if investors are ever going to return to funding more traditional biotech start-ups and are in-line with the increase in secondary offerings and traditional venture commitments we've been seeing recently (see our regularly Financings of the Fortnight edition for more on those deals).

Indeed, that's the reaction of many VCs we canvassed in a highly informal email blast after Cumberland announced its offering Monday night. One source replied:

"The venture industry is back to producing some high quality companies and public investors will realize they can buy these at relatively low prices, hold, and sell later at a higher price. The market is moving that direction again. IPOs will return, starting with the later-stage, lower-risk, lower-return companies, and moving towards earlier-stage, higher-risk, higher-return companies."

Who else is likely to test the IPO waters near-term? NycoMed, which earlier this week inked a deal with Forest Labs for its Phase III COPD drug Daxas, and also counts private-equity among its backers, is one possibility. Talecris, the blood plasma products developer that filed to go public last year and then shelved its offering because of a proposed merger with the Australian hemostasis player CSL, is another obvious candidate. Recall that planned tie-up fell through earlier this summer after the Federal Trade Commission opposed the deal. It's no secret the company's backers, Cerberus Capital Management and Ampersand Ventures, are eager for an exit. Need more prooof? In late July, Talecris filed updated registration statements with the SEC.

Notice some themes here? PE is looking for exits. Neither company is exactly a start-up biotech.

We'll likely know in a few months if the gentle breeze strengthens to a mighty IPO wind. Here's hoping.

(Image by flickrer rachelcreative used with permission via a creative commons license.)

Cumberland's IPO: Is It the Day After the Day After Tomorrow?

Well, well, Mr. IPO. It has certainly been a while. You don't call, you don't write ...

Cumberland Pharmaceuticals said late last night that it priced 5 million shares at $17 apiece for a gross haul of $85 million (the company will net closer to $75 million after expenses and "discounts" and could bring in more money with a 750,000 share greenshoe--ah, the IPO lingo returneth too). The IPO is the first "biotech" new issue in a couple years.

Cumberland isn't exactly a biotech, of course, it's a specialty pharma. It markets a laxative and an antidote to acetaminophen overdose, and recently gained approval for an IV formulation of ibuprofen. It licenses in drugs that are either already marketed or near-market, and isn't burning through wads of cash on drug discovery. In short, Cumberland is exactly the kind of small pharma that you'd think would be able to IPO after such a long break in the action.

We have been noticing the uptick in follow-on offerings (something we'll talk more about in our financings of the fortnight column later this week) and had wondered whether we'd see an uptick in IPO filings. Cumberland's success has been a long time coming--more than two years ago it estimated it would price the offering at $14-16/share, and a lot has happened since then, not least the approval of Caldolor (that's the injectable ibuprofen) in June 2009. Still, today's price is $2 less than the low end of the range the company was hoping for. But just maybe it will also contribute to this emerging thaw. (Emdeon, an IT services play--they do roughly half the electronic medical billing in the U.S.---which also plans to price it IPO this week, can only hope.)

Just don't expect a Spring flood.

image by flickr user slack12 used under a creative commons license.

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!

Is it Getting Breezy in Here?

No, seriously. Did somebody open a window?
Don't get us wrong, we still believe that both venture capitalists and biotech management teams deep down think that M&A is their best exit opportunity. But biotech IPOs seem to be gathering steam, as evidenced by the chart above, created from data we pulled from Windhover's Strategic Transactions Database.

We discuss the phenomenon in a little more depth in the upcoming September START-UP magazine. What caught our eye is the frequency with which we're seeing S-1 filings: just in the past week or so Archemix, Precision Therapeutics, and Biolex have filed to go public. There are a few big boys in the queue too, like Reliant Pharmaceuticals and Talecris Biotherapeutics.

In fact in the past year there have been significantly more IPOs filed than in the previous 12-month period, though quite a few have yet to price their offerings. Those IPOs that have priced in the past year have cumulatively raised 50% more cash from public investors. The averages shown above illustrate where that money is coming from: IPO hauls have been getting better.

Things aren't completely rosey. The pricing environment is still difficult, even for top-tier companies (see Jazz Pharmaceuticals). But we've suggested before that IPO values will increase, thanks at least in part to competition from Big Pharma acquirers and an influx of crossover private/public investors. It seems like that shift is already happening.

Aim Low?

Another IPO, another bad haircut.

Yesterday Pharmasset, a virology-focused biotech with several clinical assets and a strategic alliance with Roche, priced five million shares on the Nasdaq at $9 apiece, well below its original $12-14 price range, and one million fewer shares than it had originally hoped to sell.

That the biotech IPO market is pretty miserable and has VCs running toward the steely embrace of Pfizer et al. is hardly news. But what grabs us is how just about every company--and just about every underwriter--manages to be so poor at predicting its value on the open market.

So few biotechs price within their stated IPO ranges that it's practically comical. Even the Pharmassets of the industry (companies that supposedly tick all the boxes for public investors: strategic alliance? check. proof-of-concept data? check.) get a poor reception, and pricing above the range is almost unheard of (the exception to that rule being Affymax, last year).

One factor may be the scarcity of significant biotech IPO investors, and the relative pricing power of the handful of specialists, a phenomenon we're looking at in the next issue of START-UP.