september 12, 2002cfo roundtable - valuing biotech

September 12, 2002 CFO Roundtable - Valuing Biotech


Tools for Valuing Tools for Valuing Biotech Investments Biotech Investments

Alan GreerAlan GreerGreer ConsultingGreer [email protected](604) 682-6943

BC Biotech - CFO RoundtableBC Biotech - CFO RoundtableVancouver, B.C. September 12, 2002Vancouver, B.C. September 12, 2002


Today’s PresentationToday’s Presentation

PurposePurpose introduce/discuss innovative modeling introduce/discuss innovative modeling

tools for technology valuationtools for technology valuation OutlineOutline

1.1. Biotech Valuation Needs / ApproachesBiotech Valuation Needs / Approaches

2.2. The The Biotech Biotech (ENPV)(ENPV) ModelModel

3.3. Further DiscussionFurther Discussion


Biotech Valuation NeedsBiotech Valuation Needs

R&D program design;R&D program design; financing, M&As;financing, M&As; licensing/partnering licensing/partnering

agreements; andagreements; and strategy development.strategy development.

TOOLS:– discounted cash flow (NPV)– expected value / decision trees– simulation– real options analysis


Limits to Traditional Limits to Traditional ValuationValuation

Valuation requires:Valuation requires: Long history of earnings/market pricesLong history of earnings/market prices Current financial statements that reflect Current financial statements that reflect

underlying assetsunderlying assets Peer group of readily comparable (traded) firmsPeer group of readily comparable (traded) firms

BUT, small biotech firms:BUT, small biotech firms: No earnings history No earnings history IP asset value not on companies booksIP asset value not on companies books Seek novel technology with no/few comparisonsSeek novel technology with no/few comparisons


Valuation of FundamentalsValuation of Fundamentals

FundamentalFundamental value is function of value is function of Cash flows generated by assetCash flows generated by asset Life of assetLife of asset Expected growthExpected growth Riskiness of cash flowsRiskiness of cash flows


LONG TIMEFRAME

RISK / UNCERTAINTY

FLEXIBILITY (STAGED INVESTMENTS)

Modeling ApproachesModeling Approaches

Discounted Cash Flow (Net Present Value)

Decision Tree Analysis

(Expected NPV)

Option Pricing

Monte Carlo Simulation


Val

ue

Time

Growth and uncertaintyGrowth and uncertainty


Biotech ENPV ModelBiotech ENPV Model

Spreadsheet-based (Microsoft Excel) Spreadsheet-based (Microsoft Excel) Model has common analytical "engine"; Model has common analytical "engine";

can drive different applications:can drive different applications: STRATEGY modelSTRATEGY model

compares different scenarios re. timing of licensingcompares different scenarios re. timing of licensing DEAL modelDEAL model

compares deal terms offered by two partiescompares deal terms offered by two parties

Illustrative examplesIllustrative examples key model data/results altered to camouflage key model data/results altered to camouflage

confidential informationconfidential information


Key Model AssumptionsKey Model AssumptionsRESEARCH / DISCOVERY No. of compounds / year of discovery Annual cost & no. of years of funding

Scenario 1Compounds:A B C D E

…Scenario 9Compounds:A B C D E

DEVELOPMENT risks (% continuing to next phase) costs per phase duration (years)COMMERCIALIZATION Prices/dosage, market size / share Costs (marketing, admin, etc.)

DEAL TERMS License fees, FTE funding, milestone payments Royalty rates/brackets Development / Profit % Opt Out provisions


Expected ValueExpected Value Probability-weightedProbability-weighted average of possible average of possible

outcomesoutcomes

80% prob. of failure

20% probability of success

Invest $10 M in research for new product

50% prob. of $ 100 M sale

50% prob. of $20 M sale

$10 M LOSS

$10 M PROFIT

$90 MPROFIT

EXPECTED VALUE =

80% X -$10 M + 10% X $90 M+ 10% X $10 M

= $2 M


Drug DevelopmentDrug Development

PRE-CLINICAL

PHASE 1

PHASE 2

PHASE 3

NDA

Abandon

Abandon

Abandon

Abandon

Reject

Commercialization

Continue

Continue

Continue

Continue

Approved

DISCOVERY

90%

75%

50%

85%

75%

10%

25%

50%

15%

25%

90% 67.5% 33.8% 28.7% 21.5%100%


Modeling Cash FlowModeling Cash FlowDrug DevelopmentDrug Development

-$14 m

-$12 m

-$10 m

-$8 m

-$6 m

-$4 m

-$2 m

$0 m

Pre-clin Phase 1 Phase 2 Phase 2 Phase 3 Phase 3 Phase 3 NDA NDA

100% 90% 67.5% 33.8% 28.7%

Risk factors


Modeling Cash FlowModeling Cash FlowDrug Development (Expected Drug Development (Expected Value)Value)

-$14 m

-$12 m

-$10 m

-$8 m

-$6 m

-$4 m

-$2 m

$0 m

Pre-clin Phase 1 Phase 2 Phase 2 Phase 3 Phase 3 Phase 3 NDA NDA

100% 90% 67.5% 33.8% 28.7%


Modeling Cash FlowModeling Cash FlowDevelopment & CommercializationDevelopment & Commercialization

-$25 m

$25 m

$75 m

$125 m

$175 m

$225 m

100%

90% 67.5% 33.8% 28.7%

21.5%Risk factors


Modeling Cash Flow Modeling Cash Flow Development & Commercialization (Expected Development & Commercialization (Expected Value)Value)

-$25 m

$25 m

$75 m

$125 m

$175 m

$225 m

21.5%

100%

90% 67.5% 33.8% 28.7%


Modeling Cash Flow Modeling Cash Flow Development & Commercialization (Expected Present Development & Commercialization (Expected Present Value)Value)

-$25 m

$25 m

$75 m

$125 m

$175 m

$225 m

Divide by (1+discount rate)year


Modeling Cash Flow Modeling Cash Flow Development & Commercialization (Expected Present Development & Commercialization (Expected Present Value)Value)

-$6 m

-$4 m

-$2 m

$0 m

$2 m

$4 m

$6 m

$8 m

$10 m

$12 m

$14 m

ENPV = $57 m


Monte Carlo SimulationMonte Carlo Simulation


Strategy Model ScenariosStrategy Model Scenarios

Compare ENPVs for 9 licensing scenarios:Compare ENPVs for 9 licensing scenarios:

Deal NowDeal Now Phase 2 Phase 2 DealDeal

Phase 3 Phase 3 DealDeal

No Deal No Deal

Joint fund thruJoint fund thru

Phase 2Phase 2Straight licenseStraight license

Joint fund thruJoint fund thru

Phase 3Phase 3Joint fund thruJoint fund thru

Phase 3Phase 3Straight licenseStraight license

Joint fund thru Joint fund thru CommercializatiCommercializationon



Self fund Self fund throughoutthroughout


Results: Strategy ModelResults: Strategy Model1 Expected NPV to BiotechX - $ Millions

$171.7 M $263.3 M

$200.4 M$145.1 M $163.1 M

$146.1 M$145.6 M

$146.6 M

$242.4 M

Preclinical Phase 1 Phase 2 Phase 3 NDA Commercialization

PROGRAM DEAL NOW

PARTNER AFTER PH 2

Opt Out Ph 2

Opt Out Ph 2

Opt Out Ph 3

Opt Out Ph 3

PARTNER AFTER PH 3

Opt Out Ph 3

SELF-DEVELOP/MARKET

Joint Develop

Joint Develop

Joint Develop

ENPV

Capital Requirements (Exp.)

ENPV per share


Results: Strategy ModelResults: Strategy Model2 Expected Value of R&D Capital Requirements - $ Millions

($20.3) M ($38.6) M

($65.7) M($108.3) M ($115.2) M

($140.2) M($109.7) M

($131.3) M

($191.0) M

Preclinical Phase 1 Phase 2 Phase 3 NDA Commercialization 0

PROGRAM DEAL NOW

PARTNER AFTER PH 2

Opt Out Ph 2

Opt Out Ph 2

Opt Out Ph 3

Opt Out Ph 3

PARTNER AFTER PH 3

Opt Out Ph 3

SELF-DEVELOP/MARKET

Joint Develop

Joint Develop

Joint Develop

ENPV

Capital Requirements (Exp.)

ENPV per share


Deal ModelDeal Model Models licensing negotiation between two Models licensing negotiation between two

parties:parties: Pharma X Pharma X Biotech XBiotech X

Early stage deal with provisions for Early stage deal with provisions for License fees, milestones, research funding; License fees, milestones, research funding; Allocation (%) development costs, profit-Allocation (%) development costs, profit-

sharing;sharing; Royalty rates, brackets.Royalty rates, brackets.

Compares competing offers and different Compares competing offers and different assumptions of both sidesassumptions of both sides


Deal Model InputsDeal Model Inputs


Results: Deal ModelResults: Deal Model

Summary - ENPV Allocation

200 150

100 50 0 50 100 150 200

Straight LicensingJoint Development

ENPV to Pharma X

Biotech X Offer

Pharma X Offer

ENPV to Biotech X

Straight LicensingJoint Development


Limits of ModelsLimits of Models

““All models are wrong. Some are All models are wrong. Some are useful.” useful.”

George Box George Box Forecasting uncertaintyForecasting uncertainty Modeling errorModeling error Spreadsheet errorSpreadsheet error


Val

ue

Time

Uncertainty and flexibilityUncertainty and flexibility


Biotech Biotech real optionsreal options Underlying assetUnderlying asset

Product (with patent protection)

Exercise priceExercise price Cost of next phase

VolatilityVolatility Technical (private) -

development risk Market (public) –

competition/price risk Time limitTime limit

Patent life

Types of optionsTypes of options Defer Defer - delay/advance

research for compound AbandonAbandon - option to

abandon prior to full commitment of funds;

LearningLearning - Invest in additional research re. alternative indications, comparison with other drugs

Growth/strategic Growth/strategic - platform/pipeline with future unforeseen potential


SummarySummary

Biotech (ENPV) Model:Biotech (ENPV) Model: fundamental (cash flow) basis for valuationfundamental (cash flow) basis for valuation allows for scenario comparison / tailoring allows for scenario comparison / tailoring

of assumptionsof assumptions uses expected value & Monte Carlo uses expected value & Monte Carlo

methods to assess risk/uncertaintymethods to assess risk/uncertainty customizable to suit different business customizable to suit different business

needs (e.g., deals, strategy, financing)needs (e.g., deals, strategy, financing) easily adapted to other biotech easily adapted to other biotech

applications (e.g. tools, medical devices)applications (e.g. tools, medical devices)

september 12, 2002cfo roundtable - valuing biotech

Documents

discounted cash flow

lossexpected value

timing of licensingdeal

present valuedivide

present valueenpv

small biotech firms

phase costs

deal terms license fees