Private equity The chemistry of Private equity has transformed the chemicals industry, but can it play the same role in high-risk R&D driven companies? Nuala Moran reports

Here’s a curiosity: the private to buy more and more expensive and well- equity industry controls deep and In short houses, private equity firms have established US significant pools of capital and the ● The risk involved in completed greater numbers of biotech Biogen biotech industry is notoriously short R&D has led private bigger deals. Among other sectors, Idec, when at the end of last year of finance. So how is it the two are equity firms to avoid the chemicals industry has been the the company was forced by activist hardly acquainted? the biopharmaceutical subject of many of these acquisitions. shareholder Carl Icahn to put itself Even more puzzling, biotech’s industry But, in its rampant prime, on the market. Icahn’s actions had mature, profitable and fiscally ● Some small deals have private equity has steered clear prompted the sale of MedImmune conservative older sibling, the linked private equity with of pharmaceutical and biotech to Anglo-Swedish drug firm , has barely biotechnology despite the fact that the sector is AstraZeneca for $15.6 billion attracted the attention of private ● By investing in a experiencing intense merger and (£7.8 billion) – a 21 per cent premium equity either. number of diverse acquisition (M&A), licensing and – in June 2007. But in the case of Private equity firms raise their projects, based on other deal-making activity. In the Biogen, no suitors, either from funds from investors such as pension different technologies, first 11 months of 2007 there were private equity or the biopharma funds and insurance companies. private equity firms can 130 M&A transactions in the sector, industry, passed muster. As such the ‘private’ in private manage the risk of their according to BioWorld Financial One biotech to have admitted equity distinguishes money that investment Watch – on track to match the 152 attracting the interest of private comes from these individual funds ● Although the completed in 2006. equity is Sydney-based Peptech. from money raised on public stock increasing price of credit Private equity firms are known Profitable for the past four years, markets. will obstruct a private to have shown an interest in some its coffers were swollen with Much like a house-buyer taking equity-based purchase of of these deals. A notable example is Aus$186 million (£83 million) cash out a mortgage, a private equity a large pharmaceutical the sale by Germany’s Merck KGaA from the sale of its interest in UK firm invests a portion of these funds company wholesale, of its generic medicines division, in antibody specialist Domantis to and borrows the rest from banks. smaller deals continue to which US drug company Mylan saw GlaxoSmithKline. But in February Since 2003 low interest rates have be profitable off a number of other bidders, which 2007, as the company pondered made the bank loans to fund private were reported to include the private strategic alternatives, its market equity deals very cheap, and in the equity firms Cinven, Permira and capitalisation on the Australian same way as house buyers have been Texas Pacific Group. Stock Exchange stood at a miserly able to borrow a higher and higher Then private equity had the Aus$250 million. Chairman Mel percentage of the purchase price perfect opportunity to buy the large Bridges said the ‘unsolicited 48 | Chemistry World | February 2008 www.chemistryworld.org Ineos has used private equity to acquire and consolidate a number of commodity chemicals businesses since its approaches’ had come from formation in 1998, through ‘top tier, global and industry the management buyout of specialised firms’. Inspec’s ethylene oxide plant In the event, after exploring the in Antwerp, Belgium. Since then private equity option, Peptech opted founding CEO Jim Ratcliffe has to acquire fellow Australian biotech built the company into the world’s EvoGenix for just Aus$128 million, fifth largest by sales, according to and subsequently changed its name Chemical Week’s industry league to Arana Pharmaceuticals. Evidence table, the Billion-Dollar Club. perhaps that private equity is no Private equity may have become more likely than the market to put synonymous with buying companies, a fair value on development-stage stripping the assets and slashing biotechs. the workforce, before selling up at a fat profit and moving on. No doubt ISTOCKPHOTOS Fighting shy The exemplar here is the German there is a darker side to the business. The position in pharmaceuticals company Brenntag, which, after But it is also fair to say that private contrasts sharply with the chemicals it was acquired by the US private equity has been very supportive of industry, where although the equity firm Bain Capital in 2004, much-needed consolidation, and majority of M&A activity is driven by embarked on a series of mergers has contributed to the increase in trade buyers, investments by private and acquisitions across Europe and efficiency – and profitability – of the equity have transformed parts of the North America, emerging as the chemicals industry over the last few sector. An example is the chemicals world’s largest chemicals distributor. years. distribution business in Europe, In 2006 it was sold on by Bain to So why is private equity avoiding which has been completely reshaped a new private equity owner – BC biopharmaceuticals? The answer to by private equity buyers over the Partners. the conundrum is risk. The process past five years. Similarly, UK chemical company of drug discovery, development and www.chemistryworld.org Chemistry World | February 2008 | 49 Private equity

commercialisation spans at least Private equity firm Celtic In the shallows 10 years, is fraught with regulatory Pharma has invested While private equity firms have hurdles and features a massive in a number of biotech avoided biopharmaceuticals because failure rate. No amount of financial companies and products of the risk associated with drug engineering can accommodate discovery and development, there this fact, even if poor share price have been forays into the less risky performance and unhappy parts of the life sciences sector, as shareholders give the impression in the attempt to acquire Merck that big pharma is prime private KGaA’s generics unit. Another equity territory. recent example is the $11.4 billion And the difficulties do not end acquisition of the US medical devices here. Once a drug makes it to the company Biomet by a consortium of market there is significant product three private equity firms in October liability risk, as the case of Merck 2007. and its COX-2 inhibitor Vioxx Then there was the sale of Axcan richly illustrates (Chemistry World, Pharma of Toronto, Canada to TPG December 2007, p 56). Capital for $1.3 billion in December. In short, cash-strapped biotech Also in December, the contract has a risk profile that makes it research organisation Quintiles was unattractive to private equity. acquired by a group of private equity Pharma may have reliable cash serial levels of management and investors, at a price that was not flow, markets that are immune to huge sales forces. But denuded disclosed. The company was owned economic downturn and balance pipelines and impending patent by private equity interests already, sheets that are wide open for re- expiries have left it, too, exposed to having been bought for $1.7 billion gearing – not to mention the cost the discovery and development risk in 2003 by One Equity, the private -cutting opportunities offered by that plagues biotech. equity arm of JPMorgan Chase, aided What is Private Equity? Private equity involves the companies. acquisition of an existing The 10 per cent rate is due to company, or part of a company. increase to 17 per cent in April. DREAMSTIME This distinguishes it from venture However, protests that trying capital – where private investors to extract more tax from private buy into the creation of start- equity fund managers will hit the up companies based on a new true risk-takers in venture capital technology. One of the prime appear to be prompting a rethink targets is quoted companies that by the government. are assessed to be undervalued The key piece of financial by the stock market and which engineering deployed by private can be restructured, made equity is gearing – or increasing profitable and sold on. the size of each investment by There are many examples of borrowing some of the money. private companies that have That debt subsequently ends been built up and run by the same up on the balance sheet of the owner for a longer period, but a acquired company. With low private equity firm would usually interest rates, the amount of seek a profitable exit within a few borrowed money in private equity years – either through an initial deals increased sharply in the public offering (IPO) of shares Most private equity firms seek a profitable exit within five years past four years, with consequent on the stock market, a trade sale, increases in profits when or selling on to another private Alliance by Kohlberg Kravis from the tyranny of quarterly companies are sold. owner. According to the British Roberts, the world’s largest fund, reporting and dealing with restive Private equity has also Venture Capital Association the have put private equity in the shareholders, freeing up time to flourished on the back of changes average time for a private equity spotlight in the UK. focus on long-term management. in banking practices. Rather than owner to hold onto a company is For detractors, private equity The single factor that has done holding onto a debt, banks now five years. is concerned with ladening most to blacken the image of the charge a fee for arranging it and The industry has risen to the balance sheet with debt, industry in the UK is the 10 per then sell it on, creating a constant prominence since 2003 on the stripping out assets and reducing cent rate of corporation tax that stream of capital for new loans. back of cheap credit. Money costs by cutting staff – and not private equity fund managers pay But in July 2007 the private has poured into private equity as claimed – about improving on their profits currently. equity snowball came to an funds from institutional investors performance and adding value. This low rate is intended abrupt halt when the fallout from including pension funds and Critics add that this is done to promote risk-taking and the US subprime mortgage crisis insurance companies, enabling without the external scrutiny entrepreneurship, two activities put a stop to cheap credit. Banks them to target bigger and bigger to which listed companies are which critics say are far removed found themselves unable to sell companies. subject. from private equity’s low-risk on loans from private equity deals Large deals such as the For its advocates, private financial engineering approach that closed previously and deals £12 million acquisition of equity liberates executives to flipping undervalued public in the pipeline started to unravel.

50 | Chemistry World | February 2008 www.chemistryworld.org by the company’s founder Dennis Gillings . Similarly, Bristol-Myers Squibb (BMS) sold its medical imaging business for $525 million to Avista Capital Partners. Interestingly, BMS says it will use the proceeds to finance clinical trials of biotech drugs. This highlights the one way in which the pharmaceutical industry can truly be said to have deployed the resources of private equity, and that is in using it as a channel for offloading non-core assets, to enable a sharper focus on the high-risk, capital and knowledge-intensive business of drug development. ‘As BMS continues to focus on

evolving into a next generation ISTOCKPHOTOS biopharma company, we felt the best way to maximise the value of medical thus reducing the risks for its own Private equity has Interestingly, at the time it set out imaging for shareholders was to investors. ventured into the less to borrow the money there were sell this business and re-invest the ‘Once we have a majority stake risky parts of the life eight products, but it then decided proceeds into our pharmaceutical we can afford to apply resources sciences sector to axe the lead product, TransMID, a research, development and that venture capitalists (VCs) with treatment for brain cancer. commercialisation effort,’ said James smaller stakes cannot,’ says Mayo, Such news has sunk quoted Cornelius, CEO of BMS, during his who in a former post was responsible biotech companies. But Mayo noted announcement of the sale. for splitting off the pharmaceuticals at the time that the decision to interests of the (then) chemicals scrap the product had not affected Risk and reward giant ICI to form plc, and was sentiment. ‘The news on TransMID In December 2007, private equity chief financial officer when Zeneca came in during the process [of house Celtic Pharma claimed it subsequently merged with the raising the loan]. But we’re not like had found the formula for finessing Swedish drug company Astra AB. a biotech with a lead product and the risks in biopharma, when it ‘VCs tend to provide capital and others following based on the same announced the launch of two new a sharp stick they poke people with technology. We have a bunch of funds worth $1.5 billion in total, to at board meetings,’ he continues. other products based on different invest in development stage biotech The same sentiments could be technologies.’ companies and products. At the applied to the shareholders of public Celtic said the way in which it took same time the firm said its first companies. ‘With private equity we the decision to scrap TransMID was $300 million fund, launched in 2005, take control of a company and from a further vindication of its model. As was reaching the fully subscribed that point make sure the product, a private equity firm it is not subject mark, with the first exits promised manufacturing, data, clinical trials to external pressures to continue for early in 2008. and everything, are to big pharma with programmes where the risk/ ‘We’ve shown private equity can standards.’ reward profile is moving in the be successful in this space,’ says John The portfolio of Celtic’s first fund wrong direction. Mayo, one of the firm’s co-principals. was built on the acquisition of the ‘Celtic Pharma’s first fund has As Mayo notes, there are 3000 quoted UK biotech Xenova Group shown that the private equity model biotech companies in North in June 2005 for £20 million cash. for pharmaceutical investment and America and Europe, and only 30 The firm subsequently took a 21 development is highly successful are successful. ‘There’s a 99 per cent per cent stake in IDEA of Munich, and we look forward to replicating failure rate at the moment.’ Germany, and licensed rights to this success in our next funds,’ Mayo Glyn Edwards, CEO of UK a number of IDEA’s products. It said as the second two funds were oncology specialist Antisoma also acquired rights to Xerecept, launched. believes the Celtic model is a drug to treat cerebral oedema But the opportunity to replicate instructive because it demonstrates – swelling of the brain due to the Celtic’s model may have passed. The that there are undervalued public accumulation of water, from US- credit crunch initiated in July 2007 biotech assets. But, he adds, ‘Quite based Neurobiological technologies. by the US sub-prime mortgage crisis, frankly across Europe [the $1.5 The drug is now in Phase III trials. and exemplified by the fiasco at the billion funds] are just a drop in the On the strength of this portfolio, in ‘Out of 3000 UK bank Northern Rock, has made ocean.’ February 2007 Celtic did something it impossible to raise cheap money, Celtic says it is bridging the gap else that is unusual in the sector, biotech and many US financial institutions between cash-starved biotech raising $156 million in loans secured companies in entered 2008 with loans given to and the denuded pipelines of big against its drug development finance private equity deals sitting pharma. It does this by bringing in programmes. North America on their balance sheets. Perhaps the cash and applying pharmaceutical The principal and interest due on and Europe private equity pendulum has swung. industry expertise to drug the loans will not be paid until there development, ensuring products are proceeds from selling products only 30 are Nuala Moran is a science and business reach the standards required, and onto pharmaceutical companies. successful’ journalist based in Manchester, UK www.chemistryworld.org Chemistry World | February 2008 | 51