Science and TechnologyWritten evidence submitted by Dr Michael M Hopkins, SPRU, University of Sussex

Submission on Financing High-tech Small UK Firms

1. Michael Hopkins is a Senior Lecturer at SPRU, University of Sussex, conducting research on innovation and financing in biotech and other high-tech areas. For the last 15 years his work has been funded by the UK’s ESRC, MRC, EPSRC, BIS, TSB, NESTA, European Framework programmes, the ERC, and the USA’s NSF. He has published over 20 academic papers on innovation in the life sciences, and he trains students and industry executives in aspects of financing and undertaking biomedical innovation. The author has no financial interest in any of the firms discussed.

2. This submission addresses the questions posed by the Committee in relation to the UK therapeutics sector.1 Caution is needed when generalising from an industrial sector, especially therapeutics which is in many ways atypical. However, the sector is of interest for several reasons. First, therapeutic R&D is an area where the UK has tradition strengths and has made important contributions, for example, developing beta-blockers, stomach ulcer treatments and humanised antibody therapies. Second, it generates significant social benefits from the development of therapeutics that reduce disease morbidity and mortality; Third, the sector is one of the most economically important UK high-tech manufacturing sectors, whether measured by revenues, R&D spend or employment.2 Finally, therapeutic innovation requires a bridge over “the valley of death” at one of its widest and deepest points: therapeutics take ~14 years on average from discovery to launch, and cost hundreds of millions of pounds to develop. The state of small UK therapeutics firms’ financing therefore provides an important window on the capacity and willingness of UK financial institutions to support resource intensive high-tech firms.

3. The analysis that follows is based on (unpublished) data from the SPRU dataset of all therapeutics firms founded in the UK since 1980 that have publically disclosed at least one proprietary therapeutic research programme. The dataset covers 247 UK firms, a considerably smaller number than found in this sector by others3 due to the focus on UK-founded firms only and more stringent selection criteria (hence we deliberately avoid using the terms “biotech” and “life sciences” to describe these firms, while other sources discuss the wider sector).

1. What are the difficulties of funding the commercialisation of research, and how can they be overcome?

2. Are there specific science and engineering sectors where it is particularly difficult to commercialise research? Are there common difficulties and common solutions across sectors?

4. The UK therapeutics sector faces major problems raising money, and our research suggests that raising finance often takes up a substantial portion of senior management time. The commercialisation of research in the UK is widely perceived to be significantly more difficult than in the US, although easier than in some parts of Europe. This is partly because investors perceive they will get better returns elsewhere (eg mining), creating a self fulfilling prophecy as UK high-tech firms are underfunded compared to their US counterparts. Our view is that the main problem facing small therapeutics firms attempting to commercialise research in the UK is reduced support in recent years from the UK stock markets. This is because they have unfortunately often failed to provide sufficient returns for investors given the high risks and long duration of investment.4 This constrains exit markets for VC funds, which reduces their returns and makes it more difficult for them to raise new funds to support new firm. As a result, after years of growth, the UK population of small therapeutics firms is now in decline.5 It is likely that this is a common problem across high-tech sectors, eg “clean tech”.

5. Most UK therapeutics firms with no products or revenues seek external finance from equity investors to cover their R&D expenditure for a loss making period of 10 or even 20 years.6 Most have relied on a succession of investors working in a relay, sometimes referred to as a funding escalator. These include other therapeutics firms, business angels, venture capital (VC) funds, and institutional investors supporting stock market placings.

6. VC funds supported 140 of the 247 firms in the SPRU dataset. The stock markets have also played a prominent role in therapeutic innovation, supporting 76 of the 247 firms. During the recent economic boom, high stock market valuations provided supportive conditions for emerging therapeutics firms, encouraging VC to invest also. Previously leading firms have raised more than £100 million (at 2010 prices) in stock market placings, however since 2000 no UK firm has raised such an amount and none has had its initial public offering on the main list of the London Stock Exchange since 2006. This situation has been suggested as arising following a number of high profile failures of products and management.7 However these problems are also apparent beyond the life sciences, as returns are often lower in high-tech than elsewhere—as a crude example the UK TechMark index has underperformed the LSE’s main market over the last decade (by 33% in 2010).

7. As stock market funding has become harder for emerging small firms to obtain, VCs and other early stage investors have become more focused on finding corporate acquirers for their investee firms. This has the result of shortening the time firms have as independent entities to advance their R&D projects, from over 11.5 years where stock market investment is obtained, to seven years or less. This is concerning because we find that the average UK therapeutic firm required around seven years to advance its first project passed Phase II trials (an important milestone in drug development and a key opportunity for out-licensing drugs to commercial partners). Moreover the proportion of start-ups in the sector being bought before their fifth year of independence has risen from less than 15% of those founded in the 1980s to over 30% of those founded from 1990 to date. These shorter time frames may also be focusing investors’ attention on developing more incremental innovations (eg drug reformulations) rather than entirely new therapeutic technologies.

3. What, if any, examples are there of UK-based research having to be transferred outside the UK for commercialisation? Why did this occur?

8. Only 7 of 247 firms in the dataset emigrated. However, promising therapies are often licensed overseas because money and expertise are not available in the UK. Research begun in UK research institutions and firms is often be continued abroad as UK organisations seek partners with the aligned strategic interests and the highly specialised complementary assets needed to commercially exploit the research. It is routine for UK organisations to in-license and out-license therapeutic projects through international alliances. The optimal point of out-licensing for a small firm is often suggested to be after Phase II clinical trials. Of the 247 firms studied, 42 have had at a therapeutic project which has passed Phase II trials. Data is available on 40 of these, and analysis reveals that 13 worked with a non-UK firm (as a partner or acquirer) to exploit their lead project before they had reached this important milestone. This was necessary even during the years when therapeutics firms had relatively strong support from the stock market.

9. Over a third of UK small therapeutics firms (78/247) had been acquired by the close of 2010. This is far more than had failed (25) or emigrated (7), the remaining 137 firms were still being in business at the end of 2010. Where firms have been acquired, in 37/78 this was by foreign firms. In recent years the pace of acquisitions in the sector has increased as accessibility of stock market capital has decreased. In particular this has led to the purchase of a number of promising firms such as BioVex, bought by Amgen for over $400 in cash, plus future milestone payments (perhaps worth $1Bn in total) and Astex’s merger with Californian firm Supergen—both reportedly due to a lack of stock-market support in the UK.

4. What evidence is there that Government and Technology Strategy Board initiatives to date have improved the commercialisation of research?

10. I am unaware of evidence on this question in relation to therapeutic innovation. A systematic external review of the contribution of TSB funding would be welcome. At present the only report I know to have been undertaken (by PACEC) claims returns for the tax payer of £7 for every £1 invested by the TSB. This suggests the TSB is better at making returns than almost all VC funds. If this is performance can be maintained (it may be unpredictable, because returns on investment are dependent on small numbers of very high performing outliers) this suggests that collaborative R&D schemes are a better use of public resource than many other public policy support schemes.

5. What impact will the Government’s innovation, research and growth strategies have on bridging the valley of death?

11. Taking a sector specific view on therapeutics once again, any additional benefits of government funding must be seen in the context of massive commercial cut-backs in UK based R&D and a reduction of investment in therapeutic innovation by the public markets. In 2008–09 estimates suggest that industry invested £8.9 billion in healthcare R&D (albeit including large UK pharmaceutical firms that invest much of this outside the UK) while government invested around £1.7 billion. Since then large pharmaceutical firms have cut thousands of UK jobs, and capital markets have continued to fall far short of the historic levels of support they provided for the small firm sector before the sector lost investor support (78 firms in the SPRU dataset received over £5.5 billion at 2010 prices between 1987 and 2010, but this has slowed recently). Government policy must address the huge reductions in financial support for the UK sector from industry before they can help to support growth and improve bridging of the valley of death.

12. The UK has the most advanced pipeline of therapeutics projects of any European country, and is often suggested to be performing well in therapeutic innovation—perhaps a sign of successful prior policy making.8 However this position is not as robust as it seems. A study undertaken by SPRU for the European Commission in 2008 used 16 indicators to assess the relative strengths and weaknesses of 19 (mainly European) countries in commercialisation of biotechnology (broadly defined).9 The study reported that, controlling for size, the overall performance of the UK was only just above the EU average (leading countries were Switzerland and Denmark). The most significant relative weakness identified by the study was the amount of government funding invested in biotech related-R&D (relative strengths included the volume of VC finance, revenue per employee, number of corporate alliances and volume of scientific publications).

6. Should the UK seek to encourage more private equity investment (including venture capital and angel investment) into science and engineering sectors and if so, how can this be achieved?

13. Over recent years the UK governments have promoted a number of venture capital-backed investment schemes with varied results, suggesting that the design of funds (eg avoiding small size, or local/regional focus) is crucial to their success.10 Life sciences investors maintain that despite difficulties VC funds remain interested in exciting new life science companies, if the opportunity is exceptional enough. SPRU data on therapeutics firms finds evidence of VCs investing in the earliest phases of such firms (and even founding firms). A focus on such firms, and a concentration of resources in these is appropriate because the UK has a relatively large number of relatively small therapeutics firms vying for investor attention– while it is claimed that VC has rarely invested sufficiently.11

14. Which sources of capital are needed for successful therapeutic innovation? The SPRU dataset of therapeutics firms tracked 40 of 42 small UK therapeutics firms which generated at least one project that passed a P.II clinical trial. The analysis shows that in 25/40 cases stock markets played a role in supporting these firms, while only 10 relied on VC alone. Adjusting for the numbers of firms using different types of investors, stock market firms produce more successes than expected, and VC less. The distribution of successes is statistically significant (P = 0.01). The findings are intuitively supported as VC funds typically lack the timescales and the deep-pockets to fund firms through to the valuation inflection point that often follows successful P.II trials.

15. Where exit opportunities are limited VC are less unwilling to invest—and rightly so. If corporate acquisition by a small number of firms with co-specialised assets (regulatory expertise, appropriate therapeutic focus and sales forces) is the main exit route for investors, markets may not perform efficiently. For these reasons, strong stock market support for therapeutics firms would be beneficial as an alternative. Stock markets have (historically) provided longer term investment, more capital, and been a sufficient (even without VC) source of capital for successful therapeutic innovation. Furthermore the availability and volume of stock market support for therapeutics firms in the UK has been strongly associated with VC investment in the sector. Vibrant stock markets will pull VC into supporting the sector, so long as these markets can provide VCs with valuations for their investees that generate returns and offer more choice of exit than trade sales alone.

7. What other types of investment or support should the Government develop?

16. The biggest pool of money—from institutional and retail investors who used to invest hundreds of millions annually in the sector through stock markets—is currently ignored in the Government’s recent life sciences strategy. Finding a way to make life sciences (and indeed other high-tech investment opportunities) attractive to stock markets would be a visionary strategy, with returns from investing in innovation as the incentive for investors.

17. There has long been debate on boosting stock market investment in the UK and the committee’s focus suggests there is little perceived improvement in the situation. A raft of more radical measures may be needed to build market demand. Therapeutics firms and other technology firms are often high risk, illiquid, long term investments, yet as one stock analyst I interviewed recently said “social benefit doesn’t increase your [stock]rating”.

18. This is a major drawback because investors have little incentive to invest in these firms and their potentially beneficial and profitable innovations over socially neutral (or even destructive) firms. This situation should be tackled even if these investments look prime facia unviable in the present climate—because higher levels of investment yield firms that are more likely to be successful. Well managed firms with more cash to deploy can afford to be opportunistic, and can, in theory, afford to build a portfolio of projects and build scale to become more resilient, such as large pharma does. Such a model breaks down if firms need to go back to capital markets when they have just had a product failure or after long periods of low news flow (and associated low-liquidity stock price spirals). Thus investment is needed to build firms with sufficient scale to do well. The UK has generated a number of £1Bn therapeutics firms in the past (eg Celltech, Shire and more recently BTG).

19. To deal with this complex demand-generation problem government should use a systematic approach to tackle the problem in a number of ways:

20. Boost specialist knowledge to encourage investment—There are fewer specialist fund managers with a dedicated interest on therapeutics currently than has been the case during the boom years of the sector, and stock analysts are also unable to dedicate as much attention to the sector as its size and relative value diminishes. Similarly specialist journalists are also not able to invest as much time writing about the sector when it is a smaller part of the market. This has a negative impact on investment in the sector as therapeutic innovation is a complex area where most investors lack appropriate knowledge and therefore may be unwilling (quite reasonably) to invest. A pool of specialist investors or investors with high-risk appetite therefore needs to be encouraged. Tax incentives (perhaps on bonuses) could attract fund managers to cover the sector, but only if they have clients. Small grants for the production of suitably objective equities research and media stories (even TV programmes) could begin to raise awareness of the UK sector to showcase promising developments as and when they arise. This could complement a move towards more mainstream investment incentives where investors will require high quality information rather than sponsored research by interested parties (see below).

21. Extend tax efficient investment schemes to encourage stock-market investors back to therapeutics and other technology stocks. I support the BIA’s suggestion of a UK equivalent of a French Fonds Commune de Placements dans l’Innovation (FCPI)—designed to encourage popular investment in hi-tech industries.”12 However such a scheme needs to prevent the formation of funds that are a) subscale and b) do not invest in tech-firms. Lessons need to be learned here from the failure of VCT to invest in technology firms. Extension of existing schemes such as VCTs and EIS has been suggested before,13 and it remains important to channel investment through such schemes to high-tech firms.

22. Change EC state aid ruleslarge investments stemming from government initiatives (ie tens of millions of pounds, rather than hundreds of thousands) are currently difficult to invest in single firms because of EC state aid regulations that prevent government subsidies that could be seen as distorting European markets.14 Government should explore how European countries may amend these rules so as to preserve their original function without damaging investment in emerging technologies and related high-tech firms.

23. Take research closer to the market before commercialisation—The public sector should continue to develop funding streams taking basic research downstream where there is clearly identified benefit from doing this (ie not replicating pharma’s drug screening capabilities). As important as fundamental research is, in a climate where there is less development funding, the stock of unexploited fundamental research will only grow. Narrowing the gap for commercial funds to bridge, or co-funding key trials is an important contribution that could be made, in return for appropriate benefit sharing (eg reduced prices for UK patients on approved therapies).

This submission is based on work undertaken in EPSRC-sponsored grant EP/E037208/1 and this submission was supported by ESRC-TSB-NESTA-BIS funding on Innovation Research Centre Distributed Project grant RES-598–25–0054.

February 2012

1 In this context therapeutic innovation refers to the generation of novel small molecule drugs, biologics such as vaccines, and monoclonal antibodies, as well as emerging options such as nucleotide-based and cell therapies.

2 BIS (2010) Economics paper No 2 Life Sciences in the UK—Economic analysis and evidence for “Life Sciences 2010: Delivering the blue print”. BIS: London.

3 BIS (2011) “Strength and Opportunity 2011—the landscape of the medical technology, medical biotechnology, pharmaceutical and industrial biotechnology sectors in the UK” BIS: London.

4 BIGT (2009) The Review and Refresh of Bioscience 2015. Available at:

5 Office of Life Sciences (2011) Strength and Opportunity 2011. HM Government.

6 A few firms reduce their reliance on external investment by assisting the development of novel products with revenue from sales of niche products launched by other firms (eg Shire Pharmaceuticals).

7 Smith, G, Akram M S, Redpath K, and Bains W (2009) “Wasting cash—the decline of the British biotech sector” Nature Biotechnology 27(6) 531-537.

8 BIS/DoH (2010) BIS Economics Paper No 2: Life Sciences in the UK—Economic analysis and evidence from “Life Sciences 2010: Delivering the Blueprint” BIS: London.

9 Patel, P, Hopkins, M M, Arundel A (2008) Sectoral Innovation Systems in Europe: Monitoring, Analysing Trends and Identifying Challenges in Biotechnology Report for Europe Innova. SPRU: Brighton.

10 NESTA from funding gaps to thin markets.

11 Bains, W (2009) Venture Capital and the European Biotechnology Industry. Palgrave Macmillan: London.


13 See Engineering Technology Board (2006) SET and the City: Financing Wealth Creation from Science Engineering and Technology. ETB: London; Bioscience Innovation and Growth Team (2009).


Prepared 11th March 2013