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Growth in Medical Device Investment Tops Increase in Biopharma VC Deals

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The venture capital market for biotech and pharmaceutical companies stayed robust during the second quarter, but investors seeking a faster return on their money increasingly warmed to medical device makers over traditional life sciences enterprises.
 
Nationwide, Ernst & Young and Dow Jones VentureOne recorded a total 100 venture capital deals totaling more than $1.5 billion in 29 sub-regions of the US. That compares with 77 deals totaling $1.36 billion during the second three months of 2006.
 
The E&Y/VentureOne numbers, released July 23, are the only detailed venture capital numbers publicly available. PricewaterhouseCoopers and the National Venture Capital Association with Thomson Financial have yet to release their quarterly MoneyTree Survey of the nation’s VC market.
 
MoneyTree was to have also been released July 23, but was delayed — and remained unreleased as of July 30 — because of an unspecified technical problem that PwC spokeswoman Lisa Peterson said came from Thomson Financial. She said a new release date for the second-quarter survey had yet to be set.
 
According to E&Y/VentureOne, almost as much venture capital was invested during the second quarter in medical devices as in biopharma companies — $1 billion in 75 deals, compared with more than $1.5 billion in 100 deals for biopharma. The amount invested in medical devices was the highest ever recorded and jumped 58 percent from the year-ago quarter, compared with a 13 percent increase in VC investment for biopharmas.
 
Bryan Pearce, E&Y’s Northeast strategic growth markets leader, told BioRegion News the growth of medical device investing boded best for three regions of the US — the two largest biotech clusters and a state where pharmaceuticals have been strong: 
  • Boston — The region has a critical mass of both established companies like Boston Scientific and newer competitors like Covidian, a company spun out of Tyco International.
  • Southern California – While Orange County has been a traditional medical device stronghold, new device companies have been established further South. Within Orange County, Interventional Spine of Irvine, Calif., netted $24.7 million in second-round financing; while WaveTec Vision Systems of Aliso Viejo, Calif., also in Orange County, racked up $13 million, also in second-round capital. In San Diego, Naviscan PET Systems completed a $15 million series C round.
  • Indiana – While the state’s base of pharmaceutical giants has generated spin-off companies, Warsaw, Ind., has drawn its own cluster of device makers specializing in orthopedic products as well as replacement knees and hips. The city has three of the top five prosthetics makers: Biomet, DePuy, and Zimmer.
“The activity in California and the New England area probably reflects some of this convergence, and not just with biotechs. Large medical communities and teaching hospitals also lend themselves to research. You have there a lot of the ingredients to be generating this type of activity,” Pearce said.
 
He said the move of investor money toward medical devices will not necessarily mean less capital for biotechs and pharmaceuticals in the near future: “I don’t think there’s necessarily been a tradeoff there. I just think that devices have had some very successful products and some really successful years.”
 
Gary Kurtzman, vice president of life sciences with Safeguard Scientifics in Wayne, Pa., agreed with Pearce that investors won’t likely shift capital from biopharma companies: “Overall, funding for the biotech sector in general has been robust.
 
“You’re seeing the effects of increasing liquidity on the device side. There’s pretty active [merger and acquisition] activity. A few IPOs have occurred. All of a sudden, people see that as a faster path to liquidity. That makes people more optimistic about getting an exit in devices,” Kurtzman said. “There seems to be a general interest in the marketplace in solutions that the devices have applicability to, such as obesity.”
 
Kurtzman said his firm as a result is examining several medical device companies for possible funding, but says the mid-Atlantic region where his firm is based is unlikely to emerge as a cluster for device companies as in Indiana or Minnesota, where he said the presence of Medtronic has generated spinoffs. Medtronic on July 27 announced it would acquire Kyphon, a Sunnyvale, Calif., maker of devices to restore spinal function and diagnose lower back pain, for $3.9 billion, in a deal to close during the first quarter of 2008.
 
Pearce said the growth of med device investment reflected in part greater convergence as more biotechs have paired devices with their therapies. But another key factor has been greater acceptance by investors, who have shown more willingness to buy stock in newly public medical device companies compared with traditional biotechs given smaller losses and brighter prospects for sustained profitability.
 
“The exit environment has improved quite a bit for medical device companies. Where in the past it would be the exception for a medical device company to go public, and more often than not they would be acquired by one of the larger entities in their industry, now those companies are able to go public,” Pearce said. “I think investors are realizing that this is a very attractive space to invest, and it’s not only the biotechs are able to get into the public markets.”
 
He cited as a recent example Insulet, the Bedford, Mass., developer of the OmniPod personal insulin infusion devices for people with diabetes. In May, Insulet raised a better-than-planned $115 million before fees in its initial public offering. The company was able to price 7.7 million shares — 1 million more than initially expected — at $15, the midpoint of its range of $14 to $16 per share.
 
But after Insulet reported a widening earnings loss over the past year — to $11.6 million from $7.2 million in the second quarter of 2006 — the company’s share price dipped, falling to a low of $13.28 before rallying in recent days, to $14.11 at the close of trading July 27.
 
“I wouldn’t say medical devices are a better investment than biotech. But it’s certainly better and different than it has been for medical device companies. You still [have] the opportunity to sell to the corporate acquirers. But you’re also able in many cases to get medical device companies in the public market,” Pearce said. “They’re good on their own now.”
 
The reason, he continued, was because investors have come to understand the nation’s aging population has created growth opportunities for device makers that focused on diabetes, spinal and orthopedic problems, and other conditions associated with older people.
 
In some cases, device makers have been able to surmount one past obstacle to growth by creating their own distribution networks rather than seeking acquisition by corporate giants with established distribution systems. In other cases, Pearce added, med device companies have addressed distribution or even manufacturing through partnerships with other companies.
 

“The exit environment has improved quite a bit for medical device companies. Where in the past it would be the exception for a medical device company to go public, and more often than not they would be acquired by one of the larger entities in their industry, now those companies are able to go public.”

VC firms investing in medical devices laid out $8.7 million per average round, compared with $9.5 million per average round of investment in biotechs. That difference has not been significant enough to sway investors away from biotechs, Pearce said.
 
In E&Y’s Northeast section — which includes the New England, New York, and New Jersey regions — investors spent a combined $250 million in 23 medical device deals, compared with $195 million on 20 biotech and pharma companies. But in the San Francisco Bay Area, biotech continued to hold the edge in investment dollars, with $295 million in 15 deals versus $239 million in 14 deals for med devices. That difference reflects in part as the difference between the $10 million average size of Bay Area biotech deals versus the $6.5 million average size in the Northeast.
The smaller deal size, Pearce said, in turn reflects the presence of more earlier-stage companies receiving smaller sums of capital, especially in the Boston region. There, E&Y/VentureOne recorded a total $120.91 million invested in 10 biotech or pharma deals, more than double the $55.6 million in three deals during the year-ago quarter. Over the first half of 2007, however, the amount invested in biopharma rose only 10 percent, to $351.26 million in 17 deals from $318.53 million in 14.
 
Michael Greeley, general partner and founder of IDG Ventures Boston, said he perceived a larger increase in activity for the Boston region than recorded by E&Y/VentureOne, since many venture deals are not made public and thus may not appear in the survey.
 
“What I have looked at has been quite encouraging,” said Greeley, who is also the president of the New England Venture Capital Association. “My impression, feet-on-the-street, is that things are really very strong right now, certainly in New England. There’s a lot of early-stage activity that’s not announced until either the series A or series B [rounds] are formally closed. I know we’ve done a couple of things that we haven’t announced.”
 
Greeley said New England’s strength in venture capital reflects several recent job-attraction successes by Massachusetts among pharma and biotech companies — such as new research facilities now under construction by AstraZeneca and Bristol-Myer Squibb — as well as the state government’s commitment under Gov. Deval Patrick to spend $1 billion over 10 years to support biotech.
 
Big pharma’s growth, Greeley said, will ultimately generate more growth for Boston and New England through smaller companies looking to grow through collaborations and joint ventures.
 
“It drives attention, and then it brings a lot of talent into the market that ultimately gets recycled as entrepreneurs,” Greeley said. “The big corporat[ions] are actually doing a lot of recruiting into the market. The immediate impact is that it makes it more difficult to recruit, because they’re sucking up so much talent.
 
But over time, more is better. More people in the market will create downstream benefits as they think of starting up companies,” Greeley added. “Labs are coming here. Dollars are flowing here. It’s in tools. It’s in biotech. It’s in diagnostics. It’s in medical devices. It’s in health IT. It really is across the broad spectrum of life sciences companies. Success begets future success.”

 
 
Ernst & Young/Dow Jones VentureOne
Sub-Regional List of Biotech Venture
Capital Awards, Second Quarter 2007
Region
Investment amount ($M)
# of deals
Bay Area
$294.85
15
Peninsula
$169.95
8
East Bay
$191.10
4
Boston
$120.91
10
Pennsylvania
$82.21
5
Research Triangle
$67.30
7
Philadelphia
$67.00
4
San Diego
$64.90
4
Greater Seattle
$59.00
3
Ann Arbor
$49.00
2
Los Angeles
$41.80
2
Maryland
$28.32
3
Pittsburgh
$38.60
2
Orange County
$36.75
4
San Francisco
$26.00
2
South Florida
$25.75
1
Potomac
$25.18
5
North Texas
$25.00
1
Colorado
$24.67
3
New Jersey
$24.00
2
Indianapolis/ Ft. Wayne
$23.25
2
N. Carolina/ S. Carolina
$15.80
1
Lexington/ Louisville
$12.20
1
Eastern Missouri
$8.80
1
Potomac/Virginia
$7.61
2
Georgia
$5.37
3
Sacramento
$2.80
1
Wisconsin
$2.00
1
District of Columbia
N/A
1
TOTAL
$1,540.12
100
SOURCE: Ernst & Young and Dow Jones VentureOne, Quarterly Venture Capital Report, second quarter 2007
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