Venture capital: adventurous times in biotech

The Australian venture capital industry is small but growing, say most commentators. And although 2003 was apparently a prosperous year for which healthcare venture capital -- which includes biotechnology -- the blues brought on by the dotcom crash continue to make new fundraising difficult.

The Australian Venture Capital Journal reported that in 2003, venture capitalists invested more than AUD$200 million in the local healthcare sector. Of Australia's 131 venture capital firms, 11 specialise in the healthcare sector. These include GBS Ventures, Nanyang Ventures, Queensland BioCapital Fund, Starfish Ventures and Innovation Capital.

"We're at the start of a very long journey to create a competitive industry here," says GBS Venture Partner's Geoff Brooke. "The US is a steam train, and we've got to pedal like mad and spread the word.

"Australia has proven that we can do that. [Not so long ago] we had no nightlife industry, no tourism industry, but now we have a hospitality tourism industry second to none. We've done it in tourism and hospitality; we've re-created a film industry. Sure, we can do this."

Among recent local successes, Starfish recently announced the first close of its new VCLP Starfish Technology Fund I, at AUD$62.5 million. And the traditional model looks about to change, in keeping with new Australian tax laws designed to make investment here more attractive.

As a direct consequence of the new laws, new VC funds have been established, the most ambitious being Burrill & Co's AUD$200 million Burrill Australia Fund.

According to the fund's Australia-based managing director, Peter Carre, the San Francisco-based investment bank set up its first fund outside US borders in Australia because of pockets of excellence in Australian science and also weakness in the way opportunities were being commercialised.

The Burrill fund will invest between AUD$5 million and AUD$15 million in a company, providing early-stage capital -- currently a scarce commodity in the Australian market.

"The Australian marketplace was the place where we could make the most gains for investors because we didn't think biotech was being commercialised in a way that the opportunities were being maximised," Carre says.

Burrill's Richard Haiduck, in Australia recently to address the local Securities Institute, adds that the fund should be seen as "a measure of optimism for the Australian biotech industry".

Carre says that the Burrill fund will also provide Australian biotechnology with access to strategic corporate investors with deep reserves of expertise -- a benefit often seen as one of the jewels in the VC sector's crown -- and the contacts to set up partnering deals.

"Most of Australian biotechnology and life sciences has focused on the supply side -- spinning out [companies] -- but not focusing on the demand side. [We try to provide information about] what the companies in the marketplace are looking for, what they don't have in their product suite that they are most interested in."

Other funds which have been mooted include a $150 million fund announced in August last year by British company Bioscience Managers, in collaboration with stockbrokers Intersuisse and the Sequence Capital Group, and a $250 million early-stage fund, Scientiaus.

It is almost a cliché now that a dearth of early-stage funding forces Australian biotechnology companies to seek early listings on the Australian Stock Exchange, often at a stage in their lives when their US equivalents would be looking for VC funding. By extension, VCs are said to be offered the kind of investment opportunities which a US-based investor would regard as an angel-stage investment.

"[We believe that we can help to] to keep those firms private longer, so that the foundation has been built with more substance," said Haiduck. "They can then conduct initial public offerings at higher levels but with better prospects going forward. This is a fundamental change, but one we want to be part of."

By contrast to Europe, and almost in tandem with the US, abundance returned to the Australian biotechnology sector in 2003, when the window for initial public offerings reopened, and companies -- new and old -- took the opportunity to raise fresh funding from investors. Biotechnology investment report Bioshares calculated that at the end of the March quarter this year the combined valuation of Australian biotechnology and healthcare companies reached $24 billion. Six new listings occurred in the March quarter, following nine in 2003," says Bioshares' co-editor David Blake.

Mike Hirshorn of VC Nanyang Ventures says that the current IPO 'boomlet' has allowed some companies to get a higher valuation from listing than from venture capital.

"I get the impression that many of the existing biotech companies backed by VC are doing well, and some are on their way to exit through the listing process," he says. "The opening up of the IPO market is good, both for new ventures raising money and also for existing VC-backed companies to potentially attain liquidity.

"The other trend we've seen during the year we've seen more money invested from the pre-seed funds and more money coming from the [federal government's] R&D Start program, which does leverage the investment of venture capital."

And success could beget success, says Burrill's Peter Carre. "I think that there will be more [funding] coming into this market in the next year or two, particularly when they see the success of our capital raising and the use of the capital - they will realise that Australia is a great place to do this."

Removing barriers

"If there had only been government research establishments in the Stone Age, by now we would have had absolutely superb flint tools," said Arthur C Clarke. "But no one would have invented steel."

Perhaps slightly too harsh an assessment, but Clarke would almost certainly approve of venture capitalists, with their rigorous commercial standards and liking for quick growth.

And to give the Australian government its due, changes in venture capital legislation -- most of which came into force in 2002 -- have made venture capital investment in Australia much more attractive.

Under the new regime, investments in Australia will be among the most tax-competitive in the Asia-Pacific region. Profits from the disposal of venture capital limited partnership (VCLP) investments in eligible investee companies will be tax-exempt, as will profits from eligible venture capital funds-of-funds.

Recent amendments to the rules mean that the tax concession will also apply to eligible investments a VCLP makes into a holding company of a corporate group.

"This package of measures will complete the government's commitment to establish an internationally competitive framework for venture capital investments and to bring Australia into line with what is currently recognised as 'best practice' within the international venture capital market," said senator Helen Coonan, the federal government's minister for revenue and assistant treasurer, spruiking the changes.

Although there is general and unreserved agreement that the legislation is a good thing, it's uncertain as to exactly what impact it will have on how venture capitalists operate.

"I don't think there will be a flood of offshore investors into early-stage VC funds, although the Australian Venture Capital Association will get offshore investors into their later-stage funds," said Geoff Brooke of GBS Venture Partners.