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Biotech 3.0: the start of a new era

Five issues the industry must face as transitions into its third act

By Dennis Purcell, Aisling Capital

March 27, 2024 11:33 PM UTC

BioCentury & Getty Images

After a difficult few years, things seem to be heading back to normal. At the J.P. Morgan conference that began the year, the sun was out, several companies announced acquisitions and some even filed for IPOs. The mood was upbeat, with terms like “cautiously optimistic” heard at various meetings. But suppose, instead of business as usual, we are at the start of a brand-new era: Biotech 3.0.

Parallels between Biotech 1.0 and 2.0 can serve as a rough guide to what’s to come. At the same time, today’s challenges and opportunities are taking Biotech 3.0 into uncharted territory. I see five major issues the industry must face as it begins Biotech 3.0: defining its basic focus, dealing with structural change, managing regulatory headwinds, creating relationships with payers, and fulfilling its duty to society. The solutions won’t be simple, but denial is not an option.

Both Biotech 1.0 (1980 until about 2000) and Biotech 2.0 (2000 through the early 2020s) began with exciting scientific achievements whose potential was not fully understood at the time. Biotech 3.0 is no different.

Although some of the sector’s great companies, including Genentech, Biogen, Cetus, Chiron and Gilead, were formed in the 1970s, 1980 was the real turning point, catalyzed by recombinant DNA and the prospect of monoclonal antibodies as highly selective therapeutic interventions. Apart from the few experts in the field, however, few people understood the new science or its implications.

The industry entered the mainstream investor landscape when Genentech went public in the fall of 1980 at $35 per share. The excitement was so high that the first trade was at $88 per share (the stock closed the day at $71 per share). Not only did Genentech introduce new science, it also introduced a new business model. Instead of doing all the research themselves internally, they partnered with large pharma companies. The first one was with Eli Lilly for recombinant insulin. This became a model that most biotech companies followed for years to come.

Biotech 2.0 kicked off with the mapping of the human genome. Companies in this cycle began to use precision medicine as a guide, primarily focusing on oncology and rare diseases driven by genetic mutations. Once again, expectations were high. Some experts predicted it would mean the end of cancer as we know it. New business models that cropped up during Biotech 2.0 included repurposing old drugs for new indications and becoming a fast follower in a therapeutic category (think Lipitor). The decision about whether platform- or product-based companies were more attractive also came into play.

After the initial enthusiasm about the science subsided, both cycles contended with a few years of very unfavorable capital markets. But as these eras matured, new investment firms formed to serve the sector, new financing mechanisms were created, and many new companies launched. Endowments and pension funds increased their allocations to alternative investments. The science began to deliver, in many respects exceeding expectations. Halfway through the cycles, bull markets emerged (1990-1993, 2010-2012) that helped the industry to survive the following rather lean years.

Late in each cycle, exuberance and positive momentum lifted the sector to all-time highs. Whether it was the indexes, stock prices or the health of the IPO market, everything set a new record. Then each cycle ended abruptly. In Biotech 1.0, the collapse of internet-related stocks hurt the entire market, and biotech as a sector lost half its value in the aggregate. In Biotech 2.0, the sheer magnitude of the public offerings in biotech along with increasing interest rates (which made other investments more attractive) caused generalist investors to flee the sector for other opportunities. Within a short period of time, companies that had market caps of $500 million or more found themselves being worth less than their cash value.

Will Biotech 3.0 follow the same trajectory? It has so far.

This time around, artificial intelligence (AI) is the scientific cornerstone. We certainly don’t know what its potential could be in life sciences, just like we didn’t know where the science would lead us in the other two cycles. And as in the other two cycles, the capital markets have been very difficult in the first couple of years of this one. How the industry handles the major issues outlined below could dictate the sustainability of its recovery from the recent downturn.

Defining Biotech 3.0’s basic focus

As genetics gave rise to the basic focus on Biotech 2.0 — precision medicine — AI is likely to give rise to a new focus. Could Biotech 3.0 mark a shift back to drug development for prevalent diseases? We’ve already seen some movement in that direction with obesity becoming a major market and Alzheimer’s disease becoming more tractable. Will industry take this to the next level, guided by big data and new analytical tools?

According to Population Health, the top 10 drugs sold $36 billion in 2010 and were used by 112 million people. By 2020, the top 10 drugs sold $93 billion and were only used by 18 million people. Pharmaceuticals became a larger and larger market that treated fewer and fewer people. The focus was understandable given the quicker and less costly clinical trials needed to obtain FDA approval for these indications. Biotech 3.0, however, will be squarely in the middle of the aging of America. How will the industry focus on serving this population? What about the mental health epidemic?  

The complexity of age-related diseases and mental health disorders both stand to benefit from AI tools that can find patterns in large-scale multi-omics and phenotyping datasets that humans cannot, and increase the odds of success enough to make these high-risk indications more attractive. This is one direction the science underpinning this epoch could go, and it would be a useful one.

Whatever defines the focus on this era, I believe AI and other new tools will enable companies to put more focus on high-quality product launches. The science has been outstanding and R&D pipelines are full. It’s time to stem the tide of too many mediocre product launches by doing a better job of determining which candidates should be developed.

Embracing structural change

Structurally, the industry is at a crossroads. We added significantly more companies during Biotech 2.0. They cannot all receive the full funding that their drug candidates may deserve. Biotech may be exiting its period of rapid growth. Yet, there are large pools of untapped resources that could help sustain the industry, and help break its dependence on specialist investors.

Industry could see major structural change with the entrance of these new players. The “Great Wealth Transfer” will mean the younger generation will have significant resources to invest. They have a goal of making a positive societal impact with their resources. Can we demonstrate we are a worthwhile investment? Family offices are taking an active interest and sometimes replacing traditional venture capitalists. The family office universe is huge (its size dwarfs the hedge fund industry) and the capital is more patient. Surely, reaching this sector warrants much more effort than the industry has made so far.

Other structural changes industry will have to contend with include product delivery, as Amazon and other companies have stated their intentions to move aggressively into the space. On the supply chain side, insurers have acquired pharmacy benefit managers (PBMs), which has created a whole new dynamic in the delivery and pricing of new medicines. In this regard, it seems evident that Biotech 3.0 will look different than Biotech 1.0 and 2.0.

Regulatory headwinds

Perhaps the biggest departure from Biotech 1.0 and 2.0 are the strong regulatory headwinds industry is facing. These must be managed. 

The policy pillars that have allowed biotech innovation to flourish over the past four decades may be crumbling. The concerns extend far beyond the recently enacted Inflation Reduction Act, which itself may hobble innovation, in part, because of how the law treats small molecules. There is also a movement challenging intellectual property rights both domestically and internationally.  On the domestic front, there are active calls to use the march-in rights provisions of the Bayh-Dole Act to issue compulsory licenses of patents created using public funding. WHO, with the support of the U.S., adapted an intellectual property rights waiver (TRIPS Waiver) related to COVID-19 vaccines. Now, WHO is requesting a broad IP waiver to cover all diagnostics and therapeutics. Internationally, the European Union has proposed legislation that seeks to reduce the term of regulatory data protection and reduce market exclusivity for orphan drugs.

The headwinds don’t stop at IP and exclusivity periods. The SEC is proposing rules that would increase the cost of being public (do we really need a cybersecurity expert on every board in America?) while also encouraging regulations that would reduce the number of angel investors, which would have the effect of making private financings more difficult. The FTC has embarked on its largest shift in regulating competition in decades. We saw its expanded reach with the blocking of the Sanofi-Raze preclinical collaboration, as well as the difficulty of completing the Pfizer-Seagen merger. 

Our industry is not just facing FDA scrutiny anymore but regulatory scrutiny on a number of fronts. We ignore it at our peril.

Evolving payer dynamics

The industry’s relationship with payers is rapidly changing. The top three PBMs (Caremark, Optum and Express Scripts) are no longer independent entities but owned by large insurers. These entities are exerting their control over the industry. Hundreds of branded drugs are excluded from formularies. To get or even stay on formulary, drugmakers must pay ever higher discounts or rebates to these organizations. According to Drug Channels, the average gross-to-net discount for brands at the top 10 pharma companies is now over 50%. Half of the price of a drug is captured by the PBMs/insurers and is, generally, not given back to the end user or patient. Insurers are also pushing to pay for drugs only if they perform the way they are supposed to. These “value-based contracts” are new to the industry but becoming commonplace. How should the industry respond? And will any of the provisions that affect our industry spill over to the private insurer market and not just affect Medicare?

The social contract

Lastly, and perhaps most importantly, is how we respond to our obligations to society. The industry has delivered on the science. Undoubtedly, Biotech 3.0 will continue the progress and benefit millions of people. Unlike prior eras, Biotech 3.0 begins its journey dealing with a society that has a distrust of our industry and science in general. It hasn’t always been like that. In the mid-1990s, during Biotech 1.0, we were the most admired industry in America and Merck was the most admired company. During Biotech 2.0, the industry saved millions of lives with the development of COVID-19 vaccines. It seemed everyone became interested in the mechanism of RNA. The shine did not last, however, largely because of continuing issues relating to access and pricing.  

With skepticism and misinformation surrounding us, it becomes even more important to focus on our core mission of delivering the best therapeutics, diagnostics and devices. But this isn’t enough. Patients must have access to these innovations and be able to afford them. And industry should neither resist change nor be passive. It must lead — and be seen as leading — efforts to improve access.

Each era has had its upside and its challenges. Biotech 3.0 will be no different. But this new era brings the promise of accelerating innovation, a greater understanding of causal biology and a rapidly expanding toolkit of therapeutic modalities. If we meet our structural, policy and public image issues head on, I think the best years for the industry are still ahead of us.

Dennis Purcell founded Aisling Capital and previously served as senior managing partner. He is now a senior adviser to the firm.

Signed commentaries do not necessarily reflect the views of BioCentury.