Financing options for life sciences industry

Timely and sufficient funds, is an essential factor for the growth of companies, irrespective of the industry or growth stage of companies. The life science companies in India have been challenged in the past due to insufficient financing, especially the SME segment companies, but this is now changing and according to research, availability of finance for the industry is steadily improving.

A company's funding requirements and capabilities of raising sufficient funds are markedly varied in its different life-cycle stages. It is imperative for a company looking to achieve its maximum growth potential, to carefully consider the advantages and disadvantages of each option and to select one which will optimally help them achieve their growth objectives.

YES BANK has helped companies in the past across all the life cycle stages, from incubation to maturity, to raise the required funding in the most effective and appropriate way. For instance, YES BANK has been the financial advisor for companies like Parabolic Drugs, Sai Advantium, Unimark Remedies and Siro Clinpharm to support their financing and strategic needs; assisted companies like Intas, Alembic and Advanta India Ltd. with debt capital market financing; and provided structured project financing for Ranbaxy Fine Chemicals Ltd, Piramal Healthcare and Inogent Laboratories, to name a few.

Venture Capital and Angel Investors
Venture Capital (VC) and Angel Funding is usually in the form of seed-funding, primarily for early-stage, high-growth potential companies, which usually have a high risk profile. The funding is relatively small in size, usually US$ 5 million and below.

VC provides long-term, committed share capital, to help unlisted companies grow and succeed. An Angel investor is usually an affluent individual or a small group of individuals, who provide capital for a business start-up, usually in exchange for convertible debt or ownership equity. In India, the typical VC investment size is around US$ 5 million, whereas Angel funding is usually in the range of US$ 1 to 3 million.

For an industry like Life Sciences, VC and angel investors are essential for their growth as very few retail investors have the risk appetite and understanding required to fund these companies.

Due to the recent economic upheavals, cuts by governments and limited availability of funds from corporates created a risk-averse environment in which the funding of life science that is not of immediate commercial value was considered unviable.

Despite this, in the calendar years 2009 and 2010, venture capital funding of around US$ 20 million has been done in the Indian pharmaceutical and biotech sectors.

Even at the current relatively high levels of VC funding in India, the country is far behind developed countries like the US in terms of the scale of such financing. In the developed markets, the number of VC and Angel investing deals far exceeds PE funding deals and IPOs. But in India, the trend is reversed. This indicates the low risk appetite of investors in India, who are wary of investing in high-technology and knowledge intensive sectors.

The Government of India has been trying to bridge this gap through several initiatives. But higher participation from the private investors is required to help the industry achieve its potential. A public-private partnership model for funding Life Sciences start-ups is one option which could prove to be very beneficial for the industry.

Private equity
Private equity (PE) consists of investors and funds that make investments directly into a company for a certain stake. PE capital is raised from retail and institutional investors, and can be used to fund new developments, technologies, expand through acquisitions or to strengthen a company's balance sheet. PE investments are usually for a longer time period than other investment forms, so as to enable the company to expand, turnaround or add value to its business lines and make it possible for the investors to earn high returns.

There are several advantages and disadvantages, from a company's point of view, associated with funding from PE players.

There are certain parameters that a PE fund investor would generally look for in a Life Sciences company before investing in it, so as to gain confidence. Some of these are listed below:

• Domestic formulation companies with a
• product basket in the niche therapeutic segments like cardiology, neurology, oncology, gastroenterology etc. as these command higher-margins.
• Large companies, with distinct business or product lines, that can either be sold piece meal or as a basket to larger domestic and global players.
• Rationalized prevailing valuations for small and medium sized niche companies.
• Strong business model which is scalable in the near future.
• Strong scientific/technical background of key executives.
• Key differentiating points and strengths which sets a company apart from its competitors.
• Visibility regarding future revenue generation and plans for building the required capabilities.

Since 2006, the life sciences industry in India has attracted around USD 1 billion in investments from global PE funds. This represents only 2.6 per cent of overall investments made in the country over the same time period. Now, new opportunities in under-penetrated sectors like pharmaceuticals, healthcare and manufacturing are generating increased interest. Further, lack of a conducive environment for IPO's is blocking the exits of primary investor funds and is resulting in a higher number of deals between various fund houses in the form of secondary deals.

The financial meltdown of 2008-2009 and the resulting global recession dealt a big blow to private equity investing, and the industry is still recovering. However, the booming economies of Asia and other emerging markets now offer a wide array of investment opportunities, ranging from health care to other technology related areas. Hence, PE and VC investments in emerging markets increased by 30 per cent to cross US$ 28 billion in 2010.

In India, PE investments were also impacted due to the recession and showed a significant decline in FY09. But this trend has reversed and deal values have been increasing for consecutive quarters since FY10. Private equity investment in India grew an impressive 57 per cent in the first six months of 2011, rising from US$ 3.7 billion in the corresponding period in 2010. The numbers are very significant when compared to the US$ 1.9 billion invested by foreign investors in the stock markets in the same period. Further, according to VCCEdge, the average PE deal value has risen from US$ 6 million in 2009, to almost US$ 140 million at the end of FY11.

In the past, pharmaceutical manufacturers and hospitals have attracted more than 60 per cent of the total investment in the industry. But going forward, deal values for CRO's, medical device and diagnostic companies are set to grow. A typical PE fund is looking for mid-size deals in the range of US$ 15 -25 million, but are also willing to go up to US$ 100 million for some cases.

The PE investment trend in life sciences is backed by increasing M&A activity in the industry, especially from global players who are keen to increase their footprint in the Indian market.

Initial Public Offering
Usually an Initial Public Offering is part of a business' financing strategy. The typical pattern followed by start-up companies is to start the business with an initial investment from their own pocket, friends and family. Then, when an actual product exists, try for funding from an angel or venture capital firm, which will get the company growing at a rate that will justify an IPO. For a company to be IPO ready, it needs to be growing, have a definite need for larger funding, have a good business-plan and vision, and finally, the market should be accepting of the particular type of company and business line.

India saw a dramatic recovery in its IPO markets in 2010 following the recession. The primary driver for this has been the increasing domestic consumption and capital influx from the developed markets.

The number of IPO's in 2010 in India grew by over 200 per cent in comparison to 2009.

The number of IPOs from the life sciences industry is likely to spike up in the next few years as the industry matures. Although, a majority of the IPOs will be from the Pharmaceutical sector, as most companies in the biotech and medical Devices sectors in India are still early stage in nature. However, in 2011, the number of IPOs is likely to be fewer in number than expected at the beginning of the year, as the current weak market conditions and global economic cues have led to a huge gap between the companies' expected valuations and those arrived at by the investor community. Thus, for the near-term, PE and VC funds invested in the industry will opt for exits through sales to other PE firms or mergers and acquisitions.

According to research, there are certain factors needed, from a retail investors' point of view, to make a Life Sciences IPO successful. These are:

• Low proportion of high risk business. For example, companies investing high amounts in R&D are likely to be judged poorly by retail investors.
• Operational efficiency and financial returns (profits) accrued by the company.
• High demand for the products and services of the company and their likely outlook.
• Understanding of the industry and a set of stable rules and regulations governing it.
• Company's position in the competitive landscape and the near term outlook.

Markets reaction to I POs
By tracking the post IPO stock performance of Life Sciences companies which got listed in the last four  years, we see that all companies declined in the first 12 months and closed their first year at a price lower than that at which they were listed.

This could be due to the challenging market conditions in the last few years or it might indicate that life science companies are setting valuations that are too high.

These prevailing trends in the life sciences industry are likely to make retail investors wary of investing in the IPOs of these companies and hence act as deterrents for life sciences companies looking to foray into the capital markets.   
Public funding
The Government has also been encouraging research and new product development in the industry through its various departments, like Department of Science and Technology, Department of Pharmaceuticals and Department of Biotechnology, under the ongoing initiatives. Several of these are aimed at encouraging the growth of new companies and entrepreneurs. Some of the most prominent ones are:

Department of Biotechnology
Small Business Innovation Research Initiative
(SBIRI): The scheme's distinctive feature is that it supports the high-risk pre-proof-of-concept research and late stage development in small and medium companies. The programme is an early stage support scheme which encourages biotech entrepreneurs to try out a wide-range of growth plans, supports their R&D efforts and stimulates technological innovation. The scheme usually provides soft loans of up to Rs 20 crore.

Biotechnology Industry Research Assistance Programme (BIRAP): To stimulate and enhance innovation capabilities of the biotech sector and to promote and sustain academia-industry interaction, the Government created BIRAP, in partnership with Association of Biotechnology Led Enterprises (ABLE) and Biotech Consortium India Limited (BCIL), to assist the industry through a range of services. These include providing testing and validation facilities, access to key resources and new technologies, timely financial assistance, technology transfer and intellectual property management, technology acquisition and technology forecasting, and addressing training needs and capacity building of SMEs.

Department of Science and Technology:

• Technology Development Board (TDB): The scheme aims at providing financial assistance to the industrial concerns for the development and commercialization of indigenous technology. The TDB invests in equity capital and gives soft loan to such entities.

Department of Scientific and Industrial Research:

• The Technopreneur Promotion Programme (TePP): The scheme is in four phases in the form of grants for creating laboratory /model, create a working prototype, carrying out value-added work for enhancing product features and design, and for IP protection and test marketing.

Department of Pharmaceuticals: The DoP has several initiatives in the implementation and proposal stage for supporting innovator companies and start-ups. These aim at strengthening R&D capabilities by providing GLP complied chemical labs, large animal facility, incubation centers, capacity building programmes and venture finance.

Multilateral agencies
International agencies like International Finance Corp (IFC) and Asian Development Bank (ADB) also often give funds to spur entrepreneurial growth and support medical research.

The IFC, the private investment arm of the World Bank, called India the "centerpiece of IFC's global biotech strategy." The IFC is planning to invest around US$ 15 million in Vivimed Labs and has previously invested over US$ 6 million in Hyderabad-based Ocimum Biosolutions (2006) and US$ 15 million in Mumbai-based Hikal (2008). Till 2005, of the total US$ 110 million invested in 14 biotech projects globally, the IFC has invested

US$ 43 million in four projects in India.