Henrik Ekman BioTech Equity Analyst
BioTech investing is high risk!
Generally, we all know investing in BioTech can be very rewarding, but it comes with a price – high risk. Fundamentally, investing in BioTech requires patience and acceptance of high risk as the development of new pharmaceutical or diagnostic products are a very lengthy multiyear process and historically the likelihood of success from the first preclinical studies to the final successful approval of the product is very low. Historically the success-rate has been around 5 percent, depending on the product category. However, as the product development (hopefully!) moves successful through the different development phases, the likelihood of success increases dramatically. On average, there is a 55 percent likelihood that a product that have gone through to the last phase, will end up getting approved. As our proprietary model show, currently the stock market valuation of many BioTech companies implicitly reflects only a 15-25 percent likelihood of success for the companies late-stage products. This even excludes the value of technology platforms or the pipeline products that are not in the late stage. This huge valuation gap leaves significant room for both share price appreciation if the product becomes successful. It also leaves room for potential diluting capital raises.
So why the big gap? It’s all about perception of risk which constantly change. Firstly, even though the development of a product doesn’t change from a scientific perspective when risk appetite drops – often expressed through rising interest rates – the present value of long-term cash flow drops which leads to a falling market value. Secondly, as risk and interest rates rise, the demand for risky assets drops making it more difficult for BioTech and Life Science companies to raise capital and secure funding.