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 / Summer 2007 / Issue 47(originally published by Booz & Company)


Gary Pisano: The Thought Leader Interview

In this new epoch of science-based businesses, what organizational and business innovations will enable scientific innovation? Consider again the funding models. As I noted, there are problems with venture capital. And public equity isn’t ideal for this business either, not only because of the disclosure issues, but because the market demands quarterly growth, and that’s a tall order for an industry in which new product development can take 10 years or longer. Private equity firms are now getting involved with more mature firms in the sector, and they’re starting to transform the models, at least for the middle stages between venture capital and public equity. Just how that will play out is yet to be seen.

We’re also seeing the rise of the quasi-public firm, which preserves the benefits of public equity while mitigating its downside. These firms are publicly traded, but the majority of their stock is held by a corporate partner. Genentech is a good example; the Swiss pharmaceutical giant Hoffmann–La Roche owns 60 percent of its equity. This gives Genentech the oversight of an informed investor and the financial support it needs to pursue long-term R&D strategies, without needing to show quarterly growth. Another advantage is that by having stock that floats, even if it’s a minority of the shares, you still have an incentive to attract and keep talent. Still, despite the success of the alliance between Genentech and La Roche, there’s always a danger that the oversight arrangement can become confining to the biotech entity if the bigger partner gets too meddlesome.

More important, the Genentech example is the exception rather than the rule. Right now most pharma companies manage alliances with biotech firms in such a way as to diversify their risk. They enter into 40 such arrangements and they don’t really care which ones work, just as long as at least a few do. The contracts are usually for just four years on average. And the relationships are often fraught because the contracts are usually geared toward specific, short-term milestones. A longer-term, value-creating relationship never has a chance to blossom. In addition, these loose arrangements don’t yield the integration that’s so necessary for real progress. You don’t get the long-term learning between the two partners that is the essence of true collaboration.

Meanwhile, we’re seeing a rise in venture philanthropy — funding for specialized research from not-for-profit institutions like the Bill and Melinda Gates Foundation, Michael Milken’s Prostate Cancer Foundation, Steve Case’s Accelerate Brain Cancer Cure, and the Michael J. Fox Foundation for Parkinson’s Research. These players exert a good deal of pressure because they’re taking some of the most promising new tools, discoveries, and concepts out of the market and placing them in a nonmarket setting. They’re run like venture capital organizations in the sense that they use many of the same discipline and oversight approaches as venture capitalists, but their goal is not to maximize the returns for a set of limited partners. Rather, they aim to continue funding the enterprise and its work. That means that their time horizons are much longer than those of a typical VC investor. They also supervise the research, creating networks of collaborators and actively promoting information sharing.

S+B: So you see the funding model moving in a better direction. How about the business model?
Biotech has always been an industry in search of a business model that works. The first-generation business model was vertical integration from R&D to marketing. These companies aimed at developing products for market, à la Genentech, whose 1980 IPO was the first for biotech. In those days, even the best-financed public biotech company could afford to support only a few projects without a corporate partner. Even so, the risks were high because each individual project had the power to make or break the company.

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