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GenomeWeb Feature: Omics/MDx Firms Still Struggling to Attract VC, Private Financing

NEW YORK (GenomeWeb News) – Since its founding in 2005, molecular diagnostics firm Great Basin has raised $36 million in private financing, including about $9.6 million in a Series B round completed at the start of this year.

But rather than going after venture capital, the company has relied largely on three private investors for financing. When it tried to tap into the VC pipeline, the response has been singular: Not interested.

"It's been a difficult, difficult environment because my investors all along would have preferred that an institutional investor come in and fund at least some portion, if not the entire go-forward for the company, and that's been a difficult process for us," Great Basin CEO Ryan Ashton told GenomeWeb Daily News. "Diagnostics, particularly infectious disease diagnostics … has not been a space historically where the early stage venture investors have done particularly well, and so they tend to be pretty hesitant to invest in an early stage infectious disease diagnostics company."

The Salt Lake City-based firm, which is focused on infectious disease diagnostics, is not alone in experiencing push-back from potential investors.

Stifled by meager exit opportunities via acquisition or an initial public offering and shackled by an uncertain macro-environment, many firms like Great Basin have found that the private funding environment continues to be unwelcoming and could potentially stay moribund for the foreseeable future.

Interviews GWDN conducted with CEOs and heads of VC funds have found a consensus that unlike the late 1990s and early 2000s when excitement stemming from the Human Genome Project cracked open private funding opportunities for companies developing new methods of detecting diseases and then curing them, the past several years have been marked by an increased reluctance by private investors, in most cases VCs, to provide funding to omics/MDx companies.

There are no statistics that specifically track funding in the omics/MDx space, but according to a recent report from PricewaterhouseCoopers and the National Venture Capital Association, VC financing to the life science sector as a whole was down in 2012 year over year. The drop-off was also greater than the downtick in VC funding to all sectors in 2012.

According to the report published in February, US VC funding in 2012 into the life sciences was down 14 percent in dollars and 7 percent in deals from 2011 levels. In 2012 venture capitalists injected $6.6 billion into 779 life science deals, compared to $7.7 billion and 836 deals in 2011.

Only 135 firms received life science funding in 2012, the lowest number since 1995, PWC and NVCA said.

Meanwhile, overall VC funding to all sectors in 2012 was down 10 percent year over year in dollars to $26.5 billion and 6 percent in the number of deals to 3,698.

Cause and Effect

In the omics/MDx space, the reasons for the soft funding environment are myriad.

David Nelson, president and CEO of Epic Sciences — a developer of circulating tumor cell-based diagnostics that raised $13 million in the fall — said that getting private funding has always been a challenge for diagnostic firms, especially compared to other types of biotech firms, most notably pharma companies, because the returns on investments have always been lower.

"The returns or the market sizes that have been achieved with traditional diagnostic companies are not the same as the therapeutic companies. There are very few billion dollar-type product opportunities in diagnostics," Nelson said. "And that's certainly one thing that venture capitalists look at, that sort of home run."

According to Joshua Phillips, managing general partner of Catalyst Health Ventures, without successful exits for omics/MDx firms, investing in them is untenable, and when his and other VC firms do invest in a company in the space, the investments are smaller and the firms are expected to do more with them.

"Until we see exits that are substantially larger than what we've been seeing, the value of the exit does not justify a huge amount of investment," he told GenomeWeb Daily News.

The IPO market for omics/MDx companies, in particular, has been barren. In 2012 just one company successfully went public, Atossa Genetics. In the meantime, Cancer Genetics is sitting on its proposed IPO, while Autogenomics recently let its planned IPO lapse because it was unable to meet a regulatory deadline, although a company official said that it may refile its Form S-1 in the next few months.

Arrayit Diagnostics also withdrew its IPO in December in order to complete a private placement.

Moreover, the performances of companies that have recently gone public have not inspired great confidence in investors. Pacific Biosciences and Complete Genomics went public in 2010 with fanfare, but both companies have since struggled.

Prior to going public, PacBio raised approximately $370 million through private financings. But in September 2011, less than one year after completing its IPO, it had to cut its workforce by 28 percent. Its stock price now hovers between $2 and $3 per share, a fraction of the $16.44 closing price on the company's first day of trading.

Complete Genomics, following a restructuring of its business and a strategic review of its operations last summer, was acquired by BGI last month. As it waited for the purchase to be finalized, the Mountain View, Calif.-based next-generation sequencing services firm warned that it faced having to shut down its operations if the acquisition did not go through.

"It's all about revenues," Steve Gullans, managing director of Excel Venture Management told GWDN. "Once you're public, it's 'What's your revenues?' and they haven't delivered revenues they promised."

That, in turn, has raised scrutiny about other firms operating in the same space, he said, and some VC funds and other investors, unconvinced that they will get back a satisfactory return on their investments, have turned their backs on omics/MDx companies.

According to Alexis Borisy, a partner in Third Rock Ventures, and the former CEO of Foundation Medicine, the number of VC firms active in the omics/MDx space "have decreased substantially" in recent years because many just didn't make "much money" on their investments. The result is that companies are all vying for funds from the same dwindling pool of VC investors.

The omics-related field "always has a little bit of glamour to it, for some reason," Gullans said. "It gets good press, so there's always very strong interest in a new omics technology use or breakthrough." But the investment community has awakened to the fact that getting a company to the commercial state can be very expensive.

"The lesson learned is … it has taken PacBio [and] Complete Genomics over $100 million to get to market and [they're] still not profitable," he said. "So when you can't find enough investors to come into a deal, the last thing you want to do is [spend] over $100 million."

A lumpy macroeconomic environment has not helped matters, either. Investing in the omics tools/MDx space may always have been risky, but the 2008 economic downturn has made VC firms and individual investors even more reluctant to open their vaults, experts said.

The political environment in Washington has provided further reason not to invest in such companies. The ongoing budget battles and sequestration have negatively impacted the stock prices of publicly traded omics tools/MDx firms, while healthcare reform has created an unpredictable reimbursement environment.

"Those things kind of culminate into an environment where it's certainly longer and harder to get things fundraised," Bill Ericson, a general partner at Mohr Davidow Ventures, said, adding that as those issues remain in flux and unresolved, there is no reason to believe the financing environment will become any easier any time soon.

Dry M&A Pipeline

Like IPOs, another exit strategy, mergers and acquisitions, similarly has been depressed. In 2012, overall M&A activity in the omics/MDx space was down 5 percent. Among the more notable deals involving a public company buying a privately held firm were Amgen's $415 million purchase of Decode Genetics, Thermo Fisher Scientific's $925 million buy of One Lambda, and Agilent Technologies' $2.2 billion buy of Dako.

But the prices fetched in those deals are far from being indicative of the market in general. And with returns on investments in the omics/MDx space remaining weak, investors continue to sit on the fence about such firms.

Earlier, this year Illumina acquired Verinata Health for up to $450 million, but even a company such as the Redwood City, Calif.-based developer of non-invasive prenatal diagnostics, operating in one of the fastest growing, albeit most competitive, spaces in omics, had trouble getting financed even as recently as a year ago, said Ericson. Mohr Davidow was a backer of Verinata.

"There were a lot of people who were skeptical the industry would grow as fast [as it has]. There were a lot of people who were skeptical that Verinata could take a leadership position," Ericson told GWDN. "There were a lot of folks who thought that it was inherently a conservative industry, and so [NIPD testing] wouldn't get the imprimatur of the American College of Obstetricians and Gynecologists. And they were all wrong."

Not all companies were shut out from investments and a small handful of omics and molecular diagnostics firms have had hefty recent raises. Foundation Medicine, for example, raised $42.5 million in September and then $13.5 million in January. Additionally, Biocartis took in $45 million in a Series D round in December, CardioDx reeled in $58 million in August, and investors poured $65 million into Agendia in a private equity round last May.

In order to attract any investment, a company must be engaged in truly transformative work that has the potential to recreate the research, diagnostic, and treatment models, experts said. Borisy, a co-founder of Foundation Medicine and its first CEO, told GWDN that "financing has never been a problem," for the firm largely because in addition to leveraging one of the hottest technologies in omics, next-generation sequencing, the company is addressing one of the hottest disease targets in the diagnostics space, cancer.

Applying the technology to get at new genomic information about cancer, and then applying that information to clinical practice, the potential of Foundation Medicine is that it may one day change the practice of oncology medicine and save lives, Borisy said.

In addition to Third Rock Ventures, which Borisy joined from Foundation Medicine, other investors in the Cambridge, Mass.-based cancer diagnostics company include Google Ventures, Roche Venture Fund, and Bill Gates.

Firms that develop disruptive technologies that "really, really matter" and who have the potential to capture a large audience are the ones that have the potential to succeed, and "the companies that are built that way … do not have trouble financing and end up being able to really strategically build their investors," Borisy said.

"I think that if one has a company that is truly transformative … those companies are getting financed. I think those companies that might have reasonable business models and good people that are going to be meeting a modest market and that are doing some good work, but that are not transformational, I think [for] those companies, it's a very difficult time," he added. "And those are companies that in other times might have been able to finance easily but that today is difficult for them."

Foundation Medicine's claim that it has the potential to revolutionize medicine may sound familiar, but the difference now is that investors believe they are better equipped to evaluate such assertions. During the past decade, there have been "a lot of mediocre companies that were built," but throughout the history of biotech, there also have been companies that have genuinely transformed the marketplace, Borisy said.

"From Third Rock's perspective, in a lot of ways, we've tried to return to the roots of the biotech industry, which is … looking for that fundamental innovation breakthrough opportunity and then when we see those, we really want to build a company that really has the wherewithal to create value," he said.

In the case of Epic Sciences, a sea change in the drug development landscape is proving beneficial to its financing fortunes, Nelson said. As drug firms move away from the traditional blockbuster model toward a personalized medicine model, diagnostics firms developing assays that can help predict the efficacy of new compounds and identify and stratify patients who are best responders to therapies will be the ones who get financing.

Those diagnostic firms still stuck in a traditional clinical chemistry-based model will be the ones left behind in the current funding environment, Nelson said.

Similar to Foundation Medicine, Epic Sciences is developing tools for the oncology space. Its platform identifies and characterizes rare circulating tumor cells in blood. Rather than using enrichment strategies, Epic's technology is able to identify CTCs in the background of normal blood cells using multi-parametric analysis. By doing so, a real-time non-invasive biopsy can be achieved that can drive treatment decisions.

"This is something that pharma is desperately hungry for," Nelson said, adding that Epic Sciences has forged working relationships with eight pharma partners since its founding in 2008.

Alternative Funding Mechanisms

Along with VC firm Domain Associates, Epic Sciences counts among its investors the venture arms of drug firms Roche and Pfizer. As the availability of venture dollars to omics/MDx companies contract, such funding, as well as funding from other types of biotech firms, are becoming a valuable resource to fill in the financing gap.

Other recent examples of this kind of strategic funding include Chinese pharma firm Fosun Pharma's $22.5 million investment last month in Saladax Biomedical, and Laboratory Corporation of America's $2 million infusion into SynapDx in February to further the development of an autism spectrum disorder test.

Such financings are also crucial because they can make up for decreasing government-based funding, which are coveted by both the companies themselves and VC firms. Like government grants, investments from drug firms and other biotechs are often non-dilutive, an important consideration for VC firms as part of their financing decisions, Nelson said.

Another nascent phenomenon is investments into the life science space by firms and individuals not usually thought of as life science players. The most apparent example is probably 23andMe, which raised $50 million in a Series D financing round in December. Its investors include Google Ventures, Russian venture capitalist Yuri Milner, and Google Co-founder Sergey Brin, the husband of 23andMe's Co-founder and CEO, Anne Wojcicki.

Foundation Medicine similarly has attracted investments from Google and Milner, as well as from Gates. But while the tech industry has shown interest in the life science space, "the people who have crossed over from tech to the life sciences, that's still more of a rare occurrence," Borisy noted.

He said that because Foundation Medicine is a life science firm that depends on "enormous computational power" and uses "incredibly sophisticated algorithms," it operates deeply in the technology space, making it more of a natural fit for investors such as Google and Gates, than perhaps other life science firms. It didn't hurt either that another Foundation Medicine Co-founder, Eric Lander, is "good friends with the Google guys," Borisy said.

But even with new funding mechanisms to help make up for fewer VC dollars, the challenging VC environment may be adversely affecting the pace of technology development and whether firms in the omics/MDx space can remain open for business.

In February, NanoInk, which used nanotechnology to develop instruments and applications for the life sciences, reportedly went out of business after its lead investor decided she no longer wanted to pour any more money into the firm.

A spokesperson handling NanoInk's closing did not respond to several e-mails and phone messages, but Crain's Chicago Business reported that Ann Lurie had invested $150 million into NanoInk during the past decade.

"I anticipated commercialization of a substantive development from [NanoInk's] platform," Lurie said in a statement to Crain's. "However, as the financial return from our investments supports my personal philanthropy, we could no longer continue to be the sole funder of the company's technology at the level required to fully achieve its commercialization."

Eight years after its founding and with one US Food and Drug Administration-cleared test and four additional tests in development, Great Basin is at the point where VC firms, as well as pharma venture firms and other investor types, are showing interest in it, its CEO Ashton said.

"Now that we have products and revenues, we're actually talking to more of the late stage, crossover kind of investor, and those conversations are very different and we're having a lot of good traction there," he said.

But, he added, Great Basin has "never been funded to the degree we would like to have been, and so, we haven't been able to develop the breadth of products we would have liked so far."

And that scenario, some said, benefits no one in the omics/MDx space.

"When I look around at the broader industry, I'm very concerned about the fact that there are fewer VCs out there," Epic Sciences' Nelson said. "Because there are fewer VCs, they can command very good terms for the financings that they do, and I think for early stage technology companies, it's an incredible struggle to raise money."

The situation is only going to get worse, he predicted, "and it will definitely stifle innovation and lead the industry into a challenge in terms of how they're going to realize this dream of personalized medicine."

Financing Darwinism

But some in the VC community see it differently. What's happening now is only a form of Darwinism being played out in the financing world and if some firms can't survive, maybe it's because the market doesn't need them.

In the molecular diagnostics space, for example, Catalyst Health Ventures' Phillips said that there is no shortage of companies with interesting ideas but which don't have a "clear linkage" to a clinical problem. Without that connection that can change the way clinicians practice medicine, "it doesn't make any sense to us because what's the point of having the information if you can't do anything with it."

Mohr Davidow's Ericson also cautioned that while it may seem like a heaven-send for a company to be able to attract a bolus of money right off the bat, it may actually end up creating problems later on if it results in a firm building too big of an organization prematurely, he said.

"And then if things don't go quite right, you’ve got a problem to solve. You've got a burn [rate] that's too high, you've got a lot of people [whom] you've got to downsize," Ericson said. "I'm of the view that early stage financing for any kind of venture-backed company should be reasonably small until the core, white-hot risks have been taken off the table. I think it's good for the entrepreneurs, it's good for investors."

Another result of the current environment is that it cuts down on the number of me-too type work and forces companies to carry out true innovation, he added.

One glimmer on the horizon for firms seeking VC and other types of private financing is the overseas market, where a growing appetite for new healthcare technology may create new opportunities operating in the omics/MDx space. In March 2011, for example, the Chinese government issued its most recent five-year plan with an emphasis on investments in science and technology development.

According to management consulting firm McKinsey & Co., healthcare spending in China is expected to balloon to about $1 trillion by 2020 from $357 billion in 2011, it said in a report late last year.

Seeking to capitalize on this, US VC firm Domain Associates and Chinese consulting company Elite Consulting last month announced the creation of Domain Elite, a partnership aimed at bringing" the most advanced healthcare products and technologies to China."

Domain Elite will focus on technologies in omics/MDx as well as the pharmaceuticals and medical devices arenas. In addition to creating firms from the ground up, Domain Elite seeks to provide a path for non-China-based firms to commercialize their products there.

"It is a market that is growing rapidly, where the basic constituents, whom I would describe as doctors, patients, companies, and the government, are all looking to increase the amount of innovation that's available in that market," Brian Halak, a partner in Domain Associates, told GWDN.

While the various players in China may emphasize home-grown technologies and companies, he said that process could be a long, drawn-out one, "so I think that there is a window of opportunity where in that gap, there's a lot of demand for bringing innovation discovered elsewhere into China," he said.

Also, a year ago, Domain and Russian state technology company Rusnano announced an initiative to invest $760 million into a number of US healthcare and pharmaceutical firms, while creating a drug and medical device manufacturing facility in Russia. The joint investments made by Domain and Rusnano, thus far, have been in the therapeutics space.

Though Domain is heavily investing in international markets, Halak said it is not a reflection on a lack of opportunity in the US, and the "vast majority of Domain's investments" remains in the US. Like others from VC firms, he said that VC funding is available to US firms in the omics/MDx market, but they have to prove they deserve it.

"I don't want to deny that it's a difficult market," he said, but "if you pick the right companies that are doing important things, there's still a lot of success to be had."

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