Words of Wisdom from a Biotech M&A Pro
December 18, 2017
By Phil Bergamo
Life science companies pursue strategic transactions in several forms, primarily to access various types of capital necessary to effectively compete in the global biopharmaceutical sector.
I spoke with Bob Esposito, managing director in EisnerAmper’s Corporate Finance Group (and former national partner-in-charge of life sciences for a Big 4 firm). Bob has more than 35 years of experience advising life science (pharmaceutical, biotechnology, medical device and pharmaceutical service) companies as well as participating in more than 450 buy- and sell-side M&As.
Why are strategic acquisitions popular with life science companies?
Virtually all life science companies—whether they’re the world’s largest pharmaceutical company or a small biotechnology start-up—must consider strategic transactions as a necessary means of survival, competitive edge and value creation in their competitive and risky health care industry. Life science companies pursue M&As for a variety of reasons: (1) capital access [financial, intellectual property, R&D, distribution channel, global market access and others]; (2) risk leverage, such as partnering with third parties [CROs, CMOs, pharmaceuticals, academic research institutions] to acquire unique product development, regulatory and commercialization skill sets and leverage third-party resources and expertise to minimize risk; and (3) mitigate the FDA product approval process as well as health care distribution, market access and reimbursement risks.
How is a biotech M&A unique from other industries?
Biotechnology companies generally operate in an environment of day-to-day survival. Access to capital (financial, human, technology, regulatory and global market access) is complex and critical, generally evidenced by unique contractual arrangements with employees, advisors, strategic partners, vendors and customers—risk areas that should be focused on during pre-acquisition due diligence.
Attracting and retaining a skilled team is critical to a biotech’s success. Most have limited financial capital and long-term staying power to attract and retain these experienced, skilled professionals. To compensate, biotechs employ creative, performance-based equity compensation arrangements—deferred compensation, value-driven incentive plans, stock options and awards—to mitigate the limited access to cash and financial capital.
Biotechnology companies work with third parties in a manner often structured by complex, unique contracts. Due diligence generally focuses on such contractual arrangements—with a primary focus on revenue recognition and related performance obligations—with customers, strategic partners, employees and vendors that require a thorough understanding of these relationships.
Also, the products/technology acquired generally have not been approved by the FDA and/or commercially launched into the complex health care distribution channel. These companies have significant operational, financial and executional risk, especially in the current environment of regulatory reform, FDA risk mitigation and stringent pharmaceutical product price controls. Furthermore, careful consideration of a company’s financial viability and available resources (e.g., technology, financial capital, skilled work force, global reach) is critical for success. The company must have financial, R&D, regulatory and commercialization contingency plans should the product(s) not receive FDA approval or be clinically or financially efficacious.
Have you learned any buy-side M&A lessons?
- Tackle process management and other key activities early in the transaction. This includes preparing a transaction due diligence and integration “playbook” and dedicating a process manager with the appropriate skills to lead transaction activities such as risk and issue management, deal assessment, negotiations and implementation.
- Perform commercial due diligence on current and future revenue projections for existing and projected approved products.
- Include process, technical or industry experts to assess commercial and regulatory concerns.
- Assemble the proper due diligence team to identify and resolve issues prior to closing. Bring in external advisors well in advance of signing a letter of intent to vet risks early in process.
- Ensure that the project team is organized throughout the transaction. This is a worthwhile investment, as transactions generally take longer and are more complex than expected.
- Perform financial due diligence and a quality of earnings (QOE) analysis to uncover significant financial, business and operational risks not identified in the audited financial statements: revenue recognition, liability recognition, R&D activities and intellectual property cost capitalization.
- Carefully analyze underlying employee, officer and director contracts as well as compensation and benefit plans to minimize employee turnover and better align the synergies of the acquired company or strategic partner.
- Thoroughly review the key provisions and contractual terms from an accounting, legal and regulatory perspective.
- Begin integration planning several months prior to deal closure.
- Focus on the substance rather than the form of the contracts, agreements and transactions underlying the biotechnology business. Such arrangements are generally far more complex, unique and material to the overall survival of the biotechnology company than experienced in most other industries.
And from the sell side?
- Control the transaction process early in the negotiations, including the amount and detail of information provided to prospective buyers.
- Be transparent in disclosure and discussion of key due diligence questions and data request items.
- Perform a pro forma buy-side QOE analysis of the target with a key focus on revenue cycle (revenue recognition), purchase cycle (cost of revenue and employee-related expenses) and normalized earnings/burn rates.
- Create a well-organized data room and electronic data pack with important financial, contractual, operational and legal information, including data analysis and contract abstracts.
- Sanitize, vet and organize the data room information you will provide to potential buyers.
The aforementioned tasks can help improve management’s ability to simultaneously run the business and negotiate the deal. Legitimizing the seller in the eyes of the buyer can often result in a sale premium as well as a more efficient and effective sales process.
Who are the key external players in an M&A, and what are their roles?
- Financial and accounting – An independent CPA firm that will perform a financial due diligence QOE analysis.
- Legal counsel – Should have M&A experience and assist with the deal documents and negotiations. Counsel should also thoroughly review key contractual terms to determine risk exposure and assist management with the post-close integration and synergy assessment.
- Tax – Structure a tax-beneficial transaction.
- Other – HR, regulatory, reimbursement and commercial consultants as well as an integration team.
Catalyst - Winter 2017