Bridging “the Valley of Death”A New Model for Partnership in Pharmaceutical

Research & Early Development

Massachusetts Biotechnology Council April 17, 2009

Ted Torphy, Ph.D.CSO & Head

External Research & Early DevelopmentJohnson & Johnson Pharmaceutical R&D, L.L.C.

A View from Big Pharma

Spiraling R&D costs coupled with decreased productivity

Demand for safety and post-marketing surveillance

Expectation of personalized medicine Reimbursement driven by medical and

economic outcomes Proliferation and redistribution of

healthcare outcomes information

Five Trends Are Transforming Our Industry

Spiraling R&D costs coupled with decreased productivity

Demand for safety and post-marketing surveillance

Expectation of personalized medicine Reimbursement driven by medical and

economic outcomes Proliferation and redistribution of

healthcare outcomes information

Five Trends Are Transforming Our Industry

Productivity of the Pharmaceutical Industry

10

20

30

40

50 60

40

30

20

10

1995 2000 2005

50

NM

Es

an

d B

iolo

gic

s A

pp

rov

edR

&D

Sp

en

din

g (U

S$ B

illion

s)

R&D Expenditures

Approvals

Sources: FDA/CDER, PhRMA, PricewaterhouseCoopers

Note: R&D spending from non-PhRMA companies not available

Pharma

Venture Capital?

Biotech?

Pharmaceutical R&DThe Macro-environment – A View from Big Pharma

We need products, not companies

Increasingly, biotechs are the major source of new products– Creating ever larger Big Pharma R&D organizations through mergers and acquisitions has

failed to increase productivity and spur innovation– In recent years, over half of new product approvals were for compounds derived from

biotech companies

The traditional venture capital model is stressed:– The credit crisis has hampered the ability to raise large new funds– The IPO market is miserable, making M&A the primary exit strategy for biotech companies– Building new companies is not a capital efficient way of generating products– Many VCs are moving away from early-stage investments– There is a huge funding gap for early-stage opportunities, which leaves them them

languishing in the “valley of death”

Without a new business model, the industry will not supply an adequate number of innovative new products to drive growth and increase shareholder value

The Opportunity

In partnership, the pharmaceutical industry, academia, biotech and the venture capital community can create a new model of R&D that will accelerate and expand the introduction of innovative medicines

Academia and biotech are leading sources of innovative assets, many of which are under-valued and under-resourced

New approaches to venture capital seek to create value by investing in early stage opportunities

Elements of the discovery and early development process are becoming a commodity

J&J’s External Research & Early Development (eRED) Organization

To improve pharmaceutical R&D productivity, J&J has launched a new organization, called External Research & Early Development (eRED), with a business model that emphasizes:– Open Innovation– Lean infrastructure– Flexibility– External partnering– Financial risk and reward sharing– Rapid decision making– Sustainable pipeline of strategic options

eRED Mission

In partnership with external innovators and investors, build and manage a diverse portfolio of early-stage product opportunities

Employ the principles of Open Innovation to create enduring partnerships to identify early-stage innovative product opportunities

Link these opportunities with external management expertise and capital

Institute innovative financial risk-sharing strategies with external investors to support the development of products to value-creating milestones

Retain options to acquire these opportunities under financial terms that are attractive to both J&J and our partners

We must discover, develop, manufacture and distribute innovations ourselves in a vertically integrated model

The requisite expertise in R&D must exist inside of our company

If we invent and fund everything internally we will win

We must control and conceal our innovation processes, technologies and tools, so that our competitors don't profit from our ideas

Enormous value can be unlocked from external R&D and innovation networks

Pharmaceutical R&D has become far too complex for us to employ all the expertise needed

Creating a better business model for partnered innovation can trump internal invention

We will profit from others' use of our innovations and knowledge, and we will leverage others' IP whenever it advances our own business model

Closed Innovation Open Innovation

The Open Innovation Mindset1

1 Adapted from Open Innovation, by Henry Chesbrough Harvard Business School Press, 2006

“The Valley of Death” A Major Impediment to Commercializing Innovation from Academia

Proof of Concept

ResearchFull

DevelopmentCommercializatio

nPreclinical R&D

Funding Gap

Phase 1

Basic Research

Clinic

Innovator

R&D Risk ProfileThe Basis for the Valley of Death

Years

Cu

mu

lati

ve P

rob

ab

ility

of

Su

cce

ss1

1 CMR benchmarks used to calculate risk-adjusted values at various stages

2 Internal estimate

1 2 3 4 5 6 7 8 9 10 11

1.0

0.5

012

LeadOptimization2

Phase III

Pre-Clinical

Phase I

Phase IIa

Phase IIb

FDAReview

35-40% of R&D investment is made in advancing products through Ph IIa

Until clinical proof of concept is demonstrated, the probability of success is low

eRED Operating ModelBridging the Valley of Death

Academia

Accelerators

Biotech

eRED

Innovation Sources

J&J REDs

Private Equity

Government

Philanthropy

Funding Sources

Academia

Public Incubators

External R&D Entities

• Assemble a portfolio of external product opportunities

• Syndicate with external funding sources

• Retain pre-defined product rights• Provide guidance and expertise

to portfolio companies

COSAT / JJDC / BD

eRED Process

1 2 3 4 5 6 7Years

8 9 10 11 12

IND / FIH PhIIa / PoCPhI

External R&D Entities / Venture Partners

LeadOptimization

Phase IIIPre-Clinical

Phase IFDA

ReviewResearch

0

J&J R&D

Source

Seed

Monitor

Transfer

eRED

Develop

Acquire

7

Phase IIa

Phase IIb

External R&D with Venture Investors

1:4 risk sharing through external LP vehicle

Focused, incentivized management team oversees product development with a focus on rapid, capital efficient achievement of milestones

eRED consultants provide guidance on development program and access to J&J expertise and and preferred providers through non-controlling Joint Development Committee participation

J&J retains hard right to own a limited number of assets at predetermined milestone(s) under pre-agreed terms

1One C-Corp per project 2 3 4 5 6 7 …

JJDC 20% Other LPs 80%

Acme Venture Development Fund

Management Team

Benefits to Academic Partners

Progress opportunities that would otherwise languish in “the valley of death”

Access to external funding vehicles to advance product development through key value-creating milestones

Attractive financial incentives for innovators and universities

Opportunity for faculty to be involved directly in drug discovery and development

Commitment from a dedicated J&J team

Benefits to Venture Partners

Assets monetized at early stage of the R&D process

Flexible partnership structures Attractive returns with a mid-term horizon Availability of J&J expertise and CRO

networks Commitment from a dedicated J&J team Pre-identified and motivated exit partner

“It is not the strongest of the species that survives, nor the most intelligent, but the one most responsive to change.”

Charles Darwin (1809-1882)

Illustration from The World Is Flat, Thomas L. Friedman, Farrar, Straus & Giroux, publisher

Re-engineering Pharmaceutical R&D

Bridging “the Valley of Death”A New Model for Partnership in Pharmaceutical

Research & Early Development

Johnson & Johnson Pharmaceuticals External Research & Early Development

Massachusetts Biotechnology Council April 17, 2009