Lemons into Lemonade

Before 2001, the company now known as Biovitrum was a group of workers with roots in Pharmacia Corp.'s Swedish research division, which was deemed redundant after Pharmacia merged with Upjohn in 1995.

Susan Warner(swarner@the-scientist.com)
Sep 11, 2005
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Before 2001, the company now known as Biovitrum was a group of workers with roots in Pharmacia Corp.'s Swedish research division, which was deemed redundant after Pharmacia merged with Upjohn in 1995. But there was intellectual property and promising research on metabolic disease laying dormant, so in 2001 a management group, along with venture capital investors, used $130 million in new funding to spin the company out of Pharmacia.

Since its start with 1,000 employees and major research facilities in Sweden, Biovitrum has scaled down to 500 workers and sold off real estate and business units to finance its own research. It now has several products in clinical trials, partnership agreements with large companies including GlaxoSmithKline and Amgen, and is one of Europe's largest biotechs. "The fact that we did the spin-out allowed the assets of the new company to become core, not just marginal," says Mats Pettersson, Biovitrum's chief executive. Pfizer, which merged with Pharmacia after the spin-out, still owns 19% of the company.

Biovitrum is one of a number of such spin-outs: Tercica, a public company focused on endocrinology, and Rinat Neuroscience are both spin-outs from Genentech. Last year Allergan spun out its nuclear receptor portfolio, in which it had invested $100 million over the past decade, to Vitae Pharmaceuticals. Allergan retains an undisclosed equity stake in Vitae.

With increasing demand for late-stage products among biotech companies, spin-outs are becoming increasingly popular, says G. Steven Burrill, chief executive of Burrill & Co., the San Francisco-based life sciences merchant banking firm. Over the last four years, the top 12 pharmaceutical companies have spun out $6 billion in assets. Many of those sales were of products still in development. According to Burrill's data, 40% of the transactions, or 50 deals, involved preclinical or clinical-stage products. And that trend is going to grow. "You're going to see a lot more interest in spin-outs," he says. "They meet the needs of both the large pharma companies and biotechs."

Such deals can vary in size from a single compound to an entire research division with hundreds of employees. The buyer may be a small startup, or a new company created by venture capitalists specifically to develop others' underappreciated assets. The company spinning off its surplus goods typically maintains an equity stake in the new venture or product rights. That helps close initial funding gaps in the deal and protect the original owner from missing out completely if its trash turns to treasure in the hands of another company.

OFF-THE-SHELF R&D

For a new or small biotech firm, the unwanted assets of another company can form the foundation of their enterprise without the time, money, and risk needed to carry a target through the discovery process. Avera Pharmaceuticals, Inc., in San Diego, was created in 2002 specifically to develop neurological and psychiatric products from discovery research generated at other firms. Its first target was a series of neurological blocking agents acquired from GlaxoSmithKline.

<p>Selected <break/>Spin-Outs, <break/>2002–2004</p>

Source: Burrill & Co.

Large pharmaceutical and biotech companies also win because they may have hundreds of potential compounds – many of them generated by the genomics revolution of the late 1990s – but no time or resources to explore them all. Spinning out the development process to a fledgling company allows the established firm to focus on its most promising therapeutic candidates, while maintaining some potential upside, since most companies hold significant stakes in the companies they've spun out, if the compound becomes a hit.

"In an R&D organization the size of ours, we create certain assets that ultimately are found not to fit with our strategy going forward. Rather than leave these assets on the shelf, we are now applying more effort to making them available to others," says Richard Koenig, a spokesman for GlaxoSmithKline. "The objective is to get value for investment in everything we create, and to deliver more medicines to patients through our partners like Avera as well as ourselves."

Spin-outs are attractive to big companies because undeveloped assets are often difficult to value and would make little impact on the bottom line if they were sold for cash, says Nicholas Galakatos, a partner in Clarus Ventures and MPM Capital, the venture firm that structured the Biovitrum spin-out. A spin-out can also prevent corporate embarrassment. "Pharmaceutical companies simply do not have enough cash to pursue every lead that is in front of them," he says. "If someone else wants to dedicate a career and the career of colleagues in taking that one asset forward and has a success, you would look a little silly for giving it up. But if you share in the upside you look pretty smart – and most people would rather look smart than silly."

HOW TO SPIN

For the entrepreneurial company, the hardest part of a spin-out is making sure the asset up for grabs has potential. "One has to do their homework very, very carefully to understand the pros and cons of each compound with the data available, and the data available is typically not sufficient to make a definitive decision. That's where experience in the pharmaceutical industry becomes critical," says Galakatos. Burrill says spin-outs are difficult because the assets coming out of a company are often complicated by patent issues and clinical concerns.

Cultural issues can also be a problem, says Julie Eskay-Eagle, managing director of September Ventures, a life-sciences investment firm based in Connecticut. "You want to be careful of bringing a group of people together into a company who want to spin-out, but don't have the knowledge or drive to be entrepreneurs because they're used to being in Big Pharma," she says. Another potential pitfall: the possibility that a compound has been licensed out for royalties in different indications that could diminish its value, says Eskay-Eagle.

Michael Lack, chief operating officer of Avera, says to make a hand-me-down asset into a star requires a detailed plan before the deal is signed. "You have to know how you expect to proceed and what you will do differently to succeed," he says. In many cases, an unwanted compound is not a dog, but simply homeless in a large operation, often because its original champions have moved on to other parts of the organization or another company. "Usually the case is that it's just not a priority," says Lack. "They might have made some mistakes or chosen an incorrect path in the development process and they understand that now, but it's too late to change and the company as a whole is no longer interested."

Lack says that, during negotiations, his company forms a strategy for developing the cast-off asset with the original innovator, "but you don't necessarily share that with them." What can a small, startup company do to salvage a research project that failed in the hands of a massive, experienced pharmaceutical company? Some products need to be reformulated, or positioned for a different indication, Lack explains.

Avera also looks at manufacturing processes to improve the prospects of bringing an abandoned project to market. Avera out-sources all of its clinical development work, but has experienced managers with backgrounds in manufacturing and toxicology to find new ways to pump life into discarded research. "The idea is not to be very deep in all those areas," says Lack, "but to have very senior people in all of them so internally we can evaluate new compounds and set the right strategies for them."