Written by Andrew Craig, Conviction Life Sciences Company
When you hear the term ‘life sciences,’ this may conjure images of scientists with white coats and test tubes trying to develop a new wonder drug – and to an extent this is true, but the reality is far more diverse.
Life sciences companies include those working in biotech, medical technology, pharmaceuticals and digital health, but can also be found working in many areas outside of healthcare.
The applications for these innovations are expanding all the time into areas such as clean power generation, revolutionising agricultural production, and even addressing limits to processing power. The science is advancing at an incredible rate, creating significant equity value in the process.
A clear example of just how exponential the pace of change is here is the human genome project. Since the 1990s, the cost and time required to sequence a human genome has fallen from approximately US$3bn and 13 years, to as little as US$200 and a few hours, making it a commercially viable routine procedure with wide application. This reality is driving extraordinary innovation in healthcare and a great deal else besides.
This astonishing scientific progress and many other areas of innovation which have developed at a similar pace, including diagnostic technologies and the use of AI and machine learning, for example, are driving very significant value creation across the life sciences industry.
Yet, despite this, many companies working in the area, particularly those found outside of the United States, seem to us to be structurally undervalued when you consider that they are serving such enormous and high growth end markets and leading the charge scientifically.
So why are these companies not getting the attention they deserve? We believe this is to do with how capital markets and the investment industry function, particularly in places like the UK, Europe and Australia, rather than a reflection of the potential commercial trajectory of many of these businesses.
Earlier stage, innovative life sciences companies are usually “smaller” companies by definition. They are also viewed as “specialist” investments given the relatively complex nature of their products. This can be problematic for two key reasons:
First, investors focused on smaller companies are invariably generalists. In our experience, such investors have not felt confident investing in life sciences companies which they have often viewed as outside of their area of expertise. Life sciences companies are also hard to value using the conventional valuation metrics which are normally employed by generalist investors, such as profit multiples, given such businesses can be several years away from profitability.
In our experience, this has meant that in the past generalist smaller company investors have tended to avoid the sector to a great extent, particularly in the UK and Australia.
Secondly, specialist investors tend to be looking to invest relatively large amounts of capital. Their large position sizes make it difficult for them to give serious consideration to smaller companies; they need to be making large investments in mid- or large-cap companies given how much capital they have available to deploy. Furthermore, most of that specialist investment capital sits in the United States.
There are several hundred companies listed in the US market which those specialist investors need to follow, and which are available to them as potential investments. Biotechnology and healthcare analysts at these specialist investors will also be required to monitor a large number of global large-cap companies. Taken together, we have found that such investors have too much capital and insufficient human resource to justify spending time looking at smaller life sciences businesses from outside of their domestic market.
This creates a double barrier to attracting investment from outside sources because they are either considered ‘too specialist’ for small company investors, or conversely are regarded by specialist investors as ‘too small.’
We view this as a unique opportunity. First, because we see signs that this state of affairs is changing. As smaller life sciences companies deliver innovation and, crucially for the purposes of investors, revenues and profitability, they will attract significantly more attention. Our belief is that there are a large number of companies outside of the US which are poised to do just that if only given where they are today commercially.
One of the most obvious drivers for innovation in life sciences is the changing needs of a global population which is growing larger and living longer. By 2050, one in six people in the world will be over the age of 65 (up from one in 11 in 2019) causing a huge increase in demand for specialised healthcare. For example, 80 per cent of cancer is diagnosed in people aged over 55, while obesity-related diseases – such as cardiovascular disease, type 2 diabetes, stroke, cancer, and respiratory disease that become more common as people age – have seen rates triple since 1975. Humanity is also grappling with a myriad of ‘diseases of modernity’ such as asthma, autoimmune diseases, and dementia, leading to an urgent demand for innovation in the life sciences sector to alleviate and address these problems.
Key strategic sector for government post-Brexit
Another driver of momentum in the UK specifically is the government’s eagerness to demonstrate the UK’s scientific strength post Brexit. In 2021 a £1 billion Life Sciences Investment Programme was announced as part of a ten-year strategy intended to help keep the UK life sciences industry at the head of the global pack, solving the biggest healthcare problems of our generation.
The life sciences sector generates significant value for the economy, paying higher than average wages and generating healthy profits and cash-generation given long duration patent protection. In fact, according to PWC, success here could drive the UK’s Life Science’s contribution to exports from four to nine per cent.
This momentum is also growing in numerous other countries as governments seek to improve the regulatory environment, remove red tape and accelerate market access to important medical therapies in a post-COVID climate. Support for the sector from government bodies all over the world is relatively easy to evidence and certainly in our core focus regions of the UK, Europe and Australia.
The technology accelerator
The adoption of technology has arguably made life sciences less risky and more productive from an investment perspective. For example, the use of AI and machine learning has transformed the rate at which drug compounds can be tested – going from single digit levels of different tests per day carried out by humans compared to the hundreds of millions of tests in a single week that machines using advanced ‘in silica’ drug design can achieve.
Looking beyond drug therapy development, health tech in the form of fitness trackers and other monitoring devices has enhanced traditional healthcare and even insurance industries by producing rich data for large populations, expediting research and innovation over years instead of decades. This trend will likely continue with the involvement of non-traditional ‘big tech’ players in life sciences now that analytics, big data and digital health are making such an impact and converging.
The life sciences sector is a hugely exciting field serving enormous markets with high growth expectations. For example, the top 701 biopharma companies in the world were valued at more than US$5.5tn at the end of 2021, whilst global annual pharmaceutical revenues grew to more than $1.42tn in the same year.
The McKinsey Global Institute estimated in 2020 that the sector could generate between $2tn-$4tn per annum by 2030-2040, so to reach revenues of $1.42tn so soon suggests that current growth forecasts are likely to be conservative. With robust structural drivers and strong diversification within the investible universe, current valuations across small and mid-sized life science companies offer investors an excellent opportunity to benefit from the economic value being created by this innovative and progressive market.