Five Due Diligence Pitfalls in Life Science & How to Avoid Them
SummaryInvestment in biotechnology has been on the rise for nearly a decade, with biotech startups raising just shy of 29 billion USD in 2018. For smart investors, due diligence is now a necessity, as it can make the difference between landing a possible billion-dollar blockbuster or a multi-million dollar dud.
- Author Name: C. Hepler
In recent years the biotech and pharmaceutical industries have seen an unprecedented increase in investment. Both large pharma and investors are all searching for the next big thing to expand their portfolios and continue growth. Risk is high and a key part of mitigating this is effective due diligence. Simply put, due diligence is the investigation of a business or asset prior to signing a contract. As with any transaction, information is never perfect and the concept is that by conducting a thorough study beforehand one can significantly improve the quality and amount of information available, provide balance at the negotiation table and increase the chance of an informed decision. This provides the evaluating party the best possible framework to correctly assess the potential acquisition’s ability to achieve its desired post-closing objectives.
While due diligence is very often a buy-side activity, in an increasingly competitive investment environment, smart companies and institutions have realized the critical nature of unearthing and addressing issues before they have an interested party, which is resulting in an rise in sell-side due diligence. After all, why risk a broken deal or a protracted, contentious transaction process? Getting ahead on it, can increase the buyer’s level of trust and better position the seller to obtain top dollar. Further, by getting the jump on possible issues in development, operations, manufacturing or human resources, the seller or out-licensing party can often accelerate the time to close. It can also be a big help in avoiding the worst-case scenario: a discrepancy being uncovered by the buyer or in-licensing party. The result can be a defensive negotiating position, which could prove very costly.
Though the due diligence process can be tedious, time-consuming and sometimes even frustrating, it is a necessary prerequisite to a well-planned transaction. It can take considerable time to identify and explore potential issues, especially with life science companies where therapeutic assets are likely to bring significant complexity to their valuation, supporting data and intellectual property. Due diligence experience, scientific expertise, and a strong industry background are all often required to not only properly gauge the opportunity and understand what effect any issues uncovered might have, but also to be able to properly root out such issues. In some ways a good due diligence is like a detective’s investigation and to be able to do it effectively, it takes an experienced professional who has a wealth of past projects to draw on. When it comes to biotechnology, it’s not as simple as working through a checklist, which is why specialist life science consulting firms are often engaged to conduct it.
While the process of due diligence is complex with each scenario bringing with it unique aspects, there are a number of due diligence pitfalls that one should aim to avoid. Below is a list of five.
1. Disconnects between the PowerPoint and the actual data.There are often disconnects between the slide deck of the team leading the sale and the contents of clinical study reports, FDA correspondence and the data from supporting studies, which may detail a completely different trajectory. The PowerPoint serves as a good introduction to the company or therapeutic asset, but deeper investigation must be conducted to substantiate the story it tells.
2. Not evaluating carefully the supply chain. For biotech companies working towards their initial product launch, this can be a real blind spot that causes serious issues including a pushed back launch date. It’s commonly assumed that there is the potential to use clinical trial supply material to initially supply the launch market, but that is not a guarantee and the assumption is often misplaced. Manufacturing is complex and commercial supply chain work needs to be initiated during Phase II trials.
3. Losing your cool. While asking critical questions is necessary in any due diligence scenario, it is crucial to maintain composure at all times, avoiding heavy criticism, heated discussions or confrontation. Make inquiries as needed, and if resistance is met, take it in stride, noting it and moving forward.
4. Leaving yourself vulnerable to legal action. Any due diligence project should begin with a clear CDA firmly in place, requiring that the parties involved maintain confidentiality of any information received and use the information only for the defined purpose. For companies looking to in-license assets in areas where they are already active in R&D, careful attention should be paid to minimize contamination risk. If the disclosing party alleges the use of information outside of the contractual purpose, the burden of proof will fall on the other party to prove that the information was previously known or developed by them independently of any of the disclosures. To help offset this risk, status and amount of internal know-how should be clarified prior to agreeing to receive any 3rd party information and ensure that the description of information is as narrow as possible in the CDA.
5. Not investing sufficient time in developing the Target Product Profile (TPP). The TPP is central for the whole evaluation and should provide a realistic value proposition by measuring the key product attributes against the applicable Standard of Care. A clear link must be established between the assumptions in the forecast and potential claims. Markets, the competitive profile, the patient profile, and key differentials must be clearly defined if an accurate financial and commercial evaluation is to be performed.