How Do You Clone A Greenback?

The blessing and the curse of the biotech business is that investors either love it or hate it. Companies with "bio" or "gene" in their names seem to divide their time between holding a hat under a spigot that spews money--or taking cover as every stock in the industry indiscriminately sells off.

The latest of these unhealthy cycles started with a lovefest back in 1991 in which investors forked over a record $5 billion. As biotech companies have eaten into those funds, they have struggled with increasing desperation to replace the money they have spent. This is the battle that will preoccupy most of the industry in 1994.

In some ways, biotech companies are entering this year in surprisingly strong condition. A sell-off of stocks in last year's first half, occasioned by product setbacks at highfliers Centocor, Synergen, and MedImmune, temporarily cost investors $10 billion on paper. But the industry ended up raising $3 billion in 1993, its second-best year ever. The chill seems to be off Wall Street for now: Many analysts are bullish, biotech stocks are rising again, and more than a dozen initial and secondary public offerings are in registration. And last year, venture capitalists forked over $700 million to fund 92 startups.

Those signs of health tend to mask an increasingly serious problem, however: overpopulation. The market has "sired a lot of offspring," says Vaughn M. Kailian, CEO of Cor Therapeutics Inc. in South San Francisco. "Now, it has to feed them." Industry leaders Genentech, Amgen, Chiron, and Biogen are in the black and can fund much of their own research and development. But profits are still a dream at most outfits. The rest of the 200-odd public biotech companies are still trying to come up with the $100 million-plus needed to launch a drug. In fact, analysts think that about half of those companies are within 12 months of running dry at the rate they're spending money. "There are way too many companies" for the capital available, asserts venture capitalist A. Grant Heidrich of Mayfield Fund in Menlo Park, Calif.

In the resulting free-for-all over capital, companies find it almost impossible to get funding at the terms they want, says Jeremy Curnock-Cook, who runs the $210 million London-based Biotechnology Investments Ltd. fund. Ask Lisa A. Conte about that. In January, 1993, the CEO of Shaman Pharmaceuticals Inc. took her company public in a $45 million offering at $15 per share. But as the year wore on, Conte lost faith that she would be able to raise more money when she needed it. She became so convinced that 1994 would "separate the living from the dead" that she shored up Shaman's accounts with an $18 million effering in December at $8.50 a share. For effectively watering down stock held by other investors, one New York fund manager now calls the company "Shame On You Pharmaceuticals."

A stealthier version of the same approach is what Wall Street bankers call "creative financings." More than $400 million of what the industry raised last year came from PIPE financings--"private investments in public entities." Analysts say about 40 public companies privately placed stock last year--at a discount of up to 10% below the market price. "That's not creative," laughs one investment banker. "Sell stock at a premium--that's creative."

PRICE CONTROLS? Most industry executives prefer to blame Washington for the capital crunch. BIO, the biotech lobbying group, lambastes a proposal in the Clinton Administration's health-care plan for an advisory committee to evaluate the pricing of breakthrough drugs. BIO even blames the idea for recent cutbacks in AIDS research. "It's price controls. It's a disaster," fumes Biogen Inc. CEO James L. Vincent. Genentech CEO G. Kirk Raab, BIO's chairman, insists that the notion of a price-setting committee will discourage pension and mutual funds from investing in biotech. That, he adds, will force startups to seek financing from larger drug companies, including foreign ones, which, he says, could threaten the U.S.' edge in this key technology.

Trouble is, plenty of investors--and even some of Raab's peers--think he's off base. For one thing, Raab himself sold 60% of Genentech Inc. to Swiss-owned Roche Holdings Ltd. when he faced a cash crunch in 1990, a deal he calls a success. Beyond that, private insurers and the stock market, too, are already forcing biotech companies to prove the cost-effectiveness of their drugs. Cor, for instance, raised $91 million last year largely because its premier drug, Integrilin, shows promise in preventing complications after heart surgery--including heart attacks. While CEO Kailian doesn't want a price committee either, he points out that "the market is rationing health-care dollars at the research stage."

"WHINING." Others, such as Edward E. Penhoet, chief executive of Chiron Corp., see health reform as an opportunity. "We make $75 million a year on a [blood screening] test for Hepatitis C," he says. "That's so far saved society about $500 million and kept 1 million people worldwide from getting the disease." Instead of "whining" about reform, Penhoet thinks the industry should reassure investors by talking up its potential products. Besides, he says, "It's unrealistic to assume...that [every] biotech company has a God-given right to capital."

Even a shortage of funds won't kill off very many biotech babies. Their valuable technology has enabled dozens of them to merge, sell out, or switch strategies, leaving less than a half dozen total failures in biotech's 15-year history. Still, G. Steven Burrill, an analyst at Ernst & Young, thinks many companies should team up to avoid the quest for investment capital that can divert them from their research goals. He cites a Jan. 10 deal between Chiron and Cephalon Inc. The partners will pursue neurological drugs for which Chiron has patents and manufacturing capacity and Cephalon has proprietary technology and clinical expertise. Chiron invested $15 million in equity in Cephalon, and the partners will share development costs and profits. Small fry can also link up with large drugmakers, which, Burrill notes, increasingly need cutting-edge technology and, in return, can provide capital, manufacturing, and marketing muscle.

Paring down or pairing up--those seem to be the two best options now that biotech money is being spread thinner. And that may be true for the fore-

seeable future. Venture capitalists are still creating startups at a furious pace. So competition for funds will heat up even more, predicts Mark Edward, president of financial consulting firm Recombinant Capital. Unless the market binges on biotech once again, companies could continue to face unfavorable financing terms. By those measures, Edward adds, "the industry's going to get weaker before it gets stronger."

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