Healthcare IPOs sputter as uncertainty, anxiety cloud–everything; what is an issuer and investor to do?

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Steve’s Take:

After a perfectly miserable 2016, IPO issuers have been praying for a New England Patriots-style comeback.

Bob Pisani at CNN says there are reasons to be optimistic. Leading the list are:

  • Historic highs in the stock market, which is the main determinant of IPO activity, and
  • A business-friendly administration with the stated goal of less regulation and lower taxes. IPOs are mostly small-cap companies, and those small-cap companies pay a larger share of taxes and suffer from higher levels of regulation because they lack the lawyers and infrastructure to deal with all the regulations. Any reduction in taxes and regulation would be a major plus for IPOs because it would likely increase the public valuation of the company.

For IPOs in 2016, it was the best of times and the worst of times, according to Kathleen Smith at Renaissance Capital. It was the worst of times because there were roughly 105 IPOs, more than 35% below the 170 IPOs in 2015. Ouch.

For #IPOs in 2016, it was the best of times and the worst of times Click To Tweet

But Pisani contends it also was a pretty good time if you were an investor in the minuscule number that did go public. Buyers were skeptical, so IPO issuers had to cut their prices. The average price relative to the midpoint of the expected price range was minus 7%. In other words, if an IPO was expected to price between $19 and $21, the midpoint was $20. The actual average price was 7% below that, or $18.60.

That’s what Wall Street calls a “haircut.” No, a “buzz cut,” is more apropos (as well as more stylish on the Street these days if you’re an IBK type).

Call it what you will, that “restyling,” shall we say, helped the investors in IPOs make money. As of mid December, the average return on a 2016 IPO was 26.9%, according to Renaissance Capital. And it wasn’t all on the first day of trading. The average first-day pop was 11.9%, so there were also substantial returns after that first day.

Why did the IPO market dry up in 2016? Smith says it’s not a mystery:

“There was a huge hit in returns in the beginning of the year, and valuations were reset downward. The market didn’t gear up again until the middle of the year, then Brexit hit. Then the election hit.”

In early February, for example, Braeburn Pharmaceuticals pulled the plug on an initial public offering that it hoped would haul in $150 million to boost the development of a drug to treat opioid addiction. It had just announced the IPO two weeks earlier, about the time that Donald Trump was sworn in as President.

But after a series of moves by the President-elect that included blasting Big Pharma CEOs for high drug prices and meeting with controversial candidates to head up the FDA, Braeburn’s executives abruptly decided the market environment “does not represent an appropriate financing opportunity,” the company said in a statement.

Braeburn is far from the only biopharma company to decide to stay away from Wall Street, at least in the short term. Visterra, which is developing antibody-based treatments for Zika and other infectious diseases, announced plans to raise about $50 million in an IPO on January 17 but postponed on February 9, citing market conditions, according to Renaissance Capital. The delays came after a jittery fourth quarter, which turned out to be the slowest quarter for biotech IPOs since 2012, Bloomberg reported.

It’s not that Trump had made any drastic moves in the healthcare realm that have stirred up the kind of fury that accompanied the recent attempted travel ban. He hasn’t.

The problem is that the two health topics on which he has been most vocal–drug prices and FDA reform–could have more of an impact on biotech companies than on other members of the healthcare sector. Many biotechs are preparing to face the FDA for the first time, so the prospect that drug review processes might change only adds to the uncertainty about what those companies will face when they apply for approval to market their products.

Then there’s the pricing issue.

“Biotechs spend a lot of financial resources to get to where they are, and they may end up with products that are priced well into the thousands of dollars, if not meaningfully more,” says Dimitri Drone, US Pharma & Life Sciences Deals Leader for PricewaterhouseCoopers (PwC). “Biotech companies need to be mindful of the [political] environment and how the drug they’re working on fits into that.”

When it comes to drug prices, Trump sent a chill through the pharma industry before he even took office with the charge that drug companies are “getting away with murder.” On January 31, 2017 he hosted a group of Big Pharma CEOs at the White House, during which he implored them to lower prices and move jobs back to the US But biotech companies–which typically remain unprofitable for years as they spend heavily on R&D–rely on the ability to charge high prices so they can recoup their investment, Drone points out.

Despite the controversies in DC, some biopharma companies have pulled off successful IPOs this year. They include AnaptysBio, which raised $75 million to develop treatments for inflammatory disease, and cancer drug developer Jounce Therapeutics, which pulled in $120 million. Their shares are up 54% and 35% respectively.

Other recent biotech premieres on the Street haven’t done quite as well. ObsEva, which is focused on women’s health, has fallen from its $15 offering price to $13.62.

Still, says Drone, the underlying fundamentals of the biotech industry remain strong. In the fourth quarter of 2016, 20 deals with a total value of $7.7 billion were consummated, according to PwC. Many of those were licensing deals and other partnerships that tend to attract investors’ attention when it comes time to float an IPO, Drone says.

“The partnering environment is as strong as it’s ever been, and that bodes well,” Drone added.

As far as Trump’s talk about reforming the FDA goes, most of what he has said centers around shortening the timeline for drug development–a scenario that should be viewed as a positive for the drug industry, Drone says.

“If the new commissioner makes meaningful changes, the FDA could be more focused on safety and less so on efficacy,” Drone continues. “Maybe what happens is the time to bring a drug to market shortens, and the cost decreases. I think that could be a huge positive for a biotech.”

But here it is–the end of February–and we’re all still without a clear sense of who the front runner for FDA commissioner is. With the controversy over drug pricing still red-lining, the overarching sentiment for biotech companies is rampant uncertainty. And that could keep the IPO window partly closed for “some time,” Drone predicts.

“Uncertainty” Drone says, “means some companies will sit on the sidelines, hoping to go out but not be able to.”

Some think there is a strong case for a brighter future. Atlas Ventures partner Bruce Booth projects more than 30 life science IPOs, the majority of which would come from biotechs, on just the Nasdaq exchange in 2017. The prediction devolves from a large crop of already filed IPOs and drugs channeling through the pipeline.

In addition, fourth-quarter healthcare IPOs rose in number and volume compared to the third quarter, with 35 deals, up over 67%, worth a combined $8.15 billion, according to a BioPharm Inside report–spawning hopes that the trend may persist well into the new year.

Bottom line:

When President Trump met with big pharma CEOs at the White House last month, he offered blunt demands on the one hand and olive branches on the other, says Fortune. But the biopharma industry isn’t ecstatic over one of his proposed gifts: a de-regulated FDA that speeds drug approvals across the waving checkered flag.

One would think that the sector would be licking its chops for a leaner (but not meaner) FDA. But a first-to-market advantage doesn’t mean much if there’s an insufficient market on which to capitalize. And that’s exactly what’s prompting concerns among a number of prominent drug-company executives who fear that insurance companies will be disinclined to cover an unproven treatment.

“People often argue that the FDA is too restrictive,” Roger Perlmutter, who heads up research and development at Merck, told Reuters. “We have the sense that the balance is pretty right…You have to have a well-characterized risk/benefit profile.”

The apprehension among the companies is understandable considering some of the names Trump is reportedly considering for the critical FDA commissioner job. One potential candidate, Peter Thiel associate Jim O’Neil, has advocated a system whereby drugs can be approved the minute they are shown to be safe, rather than the twofold safety and effectiveness standards which the agency must now consider.

So what’s an issuer and investor to do?

2016 was a “failure” for many IPO issuers but not for investors. Recall that as of mid December, the average return on a 2016 IPO was 26.9%. 2017 is rife with uncertainty and free-floating anxiety, and that will continue to put a damper on new issues…for now.

Eventually the fog and attending anxiety will lift and risk parameters for venture capitalists, and thus issuers, will be reset.

As an investor, getting a piece of a hot IPO is difficult, to say the least. The only way to get shares (known as an IPO allocation) is to have an account with one of the investment banks that is part of the underwriting syndicate. But don’t expect to open an account with $1,000 and win an allocation. You need to be a frequently trading client with a large account to get in on a hot IPO, says Investopedia.

Steve's Take: It's hard to get in early on an #IPO, but if you do buy as many as you can Click To Tweet

In truth, your chances of getting early shares in an IPO are slender to zilch unless you’re on the inside. If you do get shares, it’s probably because nobody else wants them. For certain, there are exceptions to every rule and it would be inaccurate to say that it’s impossible. Just keep in mind that the probability isn’t high if you are a small investor.

However, if you’re in luck, and this does happen, quickly snap up whatever IPO shares you can find. After all, where else can you get returns like those seen even in the despondent 2016 IPO market?

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