Reinnovation and reinvention

MBC Finance Committee“The Evolution of the Biotech Business Model”Gautam Jaggi, Ernst & Young

October 24, 2008

Beyond Borders2

Is a pattern emerging?

Big pharma companies announce layoffs, restructuringsStock buybacksSafety concerns take bite out of product sales

Velcade gives NICE an unprecedented money-back guarantee

FDA NME approvals fall to lowest level in

over 25 years more pricing

pressuresemerging

Product safety incidents in the

rising China market

Big pharma’s search for pipeline productivity propels a booming deal environment

Biotech companies retain more

rights in deals

The mega deal… is back

π?

8%

Government negotiation of drug prices under MMA returns to public policy debate

FIPNETs

Creative deal structures

►

►

►

►

►►M&A R

EMS

FDAAA ►

$►

€►

¥ ►

£

R&D

►

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Beyond Borders3

Reinvention

Big pharma companies announce layoffs, restructuringsStock buybacksSafety concerns take bite out of product sales

Velcade gives NICE an unprecedented money-back guarantee

FDA NME approvals fall to lowest level in

over 25 years more pricing

pressuresemerging

Product safety incidents in the

rising China market

Big pharma’s search for pipeline productivity propels a booming deal environment

Biotech companies retain more

rights in deals

The mega deal… is back

π?

8%

Government negotiation of drug prices under MMA returns to public policy debate

FIPNETs

Creative deal structures

►

►

►

►

►►M&A R

EMS

FDAAA ►

$►

€►

¥ ►

£

R&D

►

??? ? ?►

The drug industry is being reinvented by three sweeping trends:

►R&D productivity►Personalized medicine

►Globalization

re-inre-in

Beyond Borders4

These drivers will fundamentally change the business of drug development

► Approaches to research and development► Business models► The value chain► Deal structures► Balance of power between biotech and big pharma► Partnerships between western companies and

companies in emerging markets

Big pharma companies announce layoffs, restructuringsStock buybacksSafety concerns take bite out of product sales

Velcade gives NICE an unprecedented money-back guarantee

FDA NME approvals fall to lowest level in

over 25 years more pricing

pressuresemerging

Product safety incidents in the

rising China market

Big pharma’s search for pipeline productivity propels a booming deal environment

Biotech companies retain more

rights in deals

The mega deal…is back

π?

8%

Government negotiation of drug prices under MMA returns to public policy debate

FIPNETs

Creative deal structures

►

►

►

►

►►M&A R

EMS

FDAAA ►

$►

€►

¥►

£

R&D

►

??? ? ?►

Big pharma companies announce layoffs, restructuringsStock buybacksSafety concerns take bite out of product sales

Velcade gives NICE an unprecedented money-back guarantee

FDA NME approvals fall to lowest level in

over 25 years more pricing

pressuresemerging

Product safety incidents in the

rising China market

Product safety incidents in the

rising China market

Big pharma’s search for pipeline productivity propels a booming deal environment

Biotech companies retain more

rights in deals

The mega deal…is back

π?

8%

Government negotiation of drug prices under MMA returns to public policy debate

Government negotiation of drug prices under MMA returns to public policy debate

FIPNETs

Creative deal structures

►

►

►

►

►►M&A R

EMS

FDAAA ►

$►

€►

¥►

£

R&D

►

??? ? ???? ? ?

►

The first driver of reinvention:R&D productivity

Beyond Borders6

Big companies need sustainable solutions

Buying pipeline assets

►High prices lower upside potential

►Limited reserves of cash

Cutting costs

►Short-term gains

Boosting EPS►Short-term gains►Limited reserves of cash

Companies need

sustainable solutions to fix the real problem:low R&D

productivity

Source: Ernst & Young

Beyond Borders7

The inertia of size

Small companies Conduct and performance Large companies Conduct and performance

Stru

cture

► Small ► Individuals have more control over outcomes

► Large ► Poor sense of ownership

► Flexible ► Encourages creativity and collegiality

► Rigid ► Centralized, bureaucratic processes

► Risk-aversion over time

► Cash-starved ► Driven to raise capital► Lean operations,

sometimes cut corners

► Strong cash flow ► Not as “hungry” or driven to succeed

Incen

tives

► Stock-based compensation is a strong incentive

► Direct financial tie to performance

► Stock-based compensation is not meaningful

► Less tied to outcomes► Less passion

► Private investors with longer horizons

► Less focused on short-term financial performance

► Public investors demanding quarterly results

► More sensitive to short-term impact of long-term decisions

Structure and incentives drive conduct and performance

Source: Ernst & Young

Beyond Borders8

Emulating biotech

Creating small, autonomous R&D units

Emulate

Large monolithic big pharma company

Preserving entities after acquisitions

Adopting networked structures

Pay-for-performance tied to small-team milestones

culture

of

small

biotech

companiesSource: Ernst & Young

Big pharma companies announce layoffs, restructuringsStock buybacksSafety concerns take bite out of product sales

Velcade gives NICE an unprecedented money-back guarantee

FDA NME approvals fall to lowest level in

over 25 years more pricing

pressuresemerging

Product safety incidents in the

rising China market

Big pharma’s search for pipeline productivity propels a booming deal environment

Biotech companies retain more

rights in deals

The mega deal…is back

π?

8%

Government negotiation of drug prices under MMA returns to public policy debate

FIPNETs

Creative deal structures

►

►

►

►

►►M&A R

EMS

FDAAA ►

$►

€►

¥►

£

R&D

►

??? ? ?►

Big pharma companies announce layoffs, restructuringsStock buybacksSafety concerns take bite out of product sales

Velcade gives NICE an unprecedented money-back guarantee

FDA NME approvals fall to lowest level in

over 25 years more pricing

pressuresemerging

Product safety incidents in the

rising China market

Product safety incidents in the

rising China market

Big pharma’s search for pipeline productivity propels a booming deal environment

Biotech companies retain more

rights in deals

The mega deal…is back

π?

8%

Government negotiation of drug prices under MMA returns to public policy debate

Government negotiation of drug prices under MMA returns to public policy debate

FIPNETs

Creative deal structures

►

►

►

►

►►M&A R

EMS

FDAAA ►

$►

€►

¥►

£

R&D

►

??? ? ???? ? ?

►

The second driver of reinvention:Personalized medicine

Beyond Borders10

Personalized medicine: why now?

Safety concerns

►Targeted approaches►Less misdiagnosis,

fewer adverse events

Pricing pressures

►Smaller clinical trials►Cheaper drug development

R&D productivity

►More efficient identification and development of drug targets

Move from efficacy to efficiency

in drug development

and healthcare

delivery

Source: Ernst & Young

Beyond Borders11

Challenge 1: end of the blockbuster model

Old model New model

►Large clinical trials►Pharma’s Phase III abilities a key

strength

►Smaller trials for targeted drugs►Scale less relevant

►Large-scale manufacturing for high volumes of blockbuster drugs

►Smaller volumes, but more complex manufacturing

►DTC advertising, armies of sales reps for poorly-differentiated drugs

►Drugs better differentiated, compete on merits

►Scale less relevant in sales

►Reimbursement based on efficacy ►Pay-for-performance requires greater allocation of resources to demonstrate value

Source: Ernst & Young

Beyond Borders12

Challenge 2: making the numbers work

Source: Ernst & Young

►Targeted therapeutics for more efficient treatment of disease

►More efficient drug development with smaller, cheaper clinical trials

Rx

►Diagnostics for more efficient:

►Prediction►Diagnosis►Dosing►Monitoring

►Lower healthcare costs from new efficiencies

Dx 3x

►Incentives and metrics to support the economics and ROI for investors:

►Better pricing for diagnostics

►Reimbursement based on value

►Measures across healthcare system

Big pharma companies announce layoffs, restructuringsStock buybacksSafety concerns take bite out of product sales

Velcade gives NICE an unprecedented money-back guarantee

FDA NME approvals fall to lowest level in

over 25 years more pricing

pressuresemerging

Product safety incidents in the

rising China market

Big pharma’s search for pipeline productivity propels a booming deal environment

Biotech companies retain more

rights in deals

The mega deal…is back

π?

8%

Government negotiation of drug prices under MMA returns to public policy debate

FIPNETs

Creative deal structures

►

►

►

►

►►M&A R

EMS

FDAAA ►

$►

€►

¥►

£

R&D

►

??? ? ?►

Big pharma companies announce layoffs, restructuringsStock buybacksSafety concerns take bite out of product sales

Velcade gives NICE an unprecedented money-back guarantee

FDA NME approvals fall to lowest level in

over 25 years more pricing

pressuresemerging

Product safety incidents in the

rising China market

Product safety incidents in the

rising China market

Big pharma’s search for pipeline productivity propels a booming deal environment

Biotech companies retain more

rights in deals

The mega deal…is back

π?

8%

Government negotiation of drug prices under MMA returns to public policy debate

Government negotiation of drug prices under MMA returns to public policy debate

FIPNETs

Creative deal structures

►

►

►

►

►►M&A R

EMS

FDAAA ►

$►

€►

¥►

£

R&D

►

??? ? ???? ? ?

►

The third driver of reinvention:Globalization

Beyond Borders14

Drivers and limitations

Driver Short-term play Long-term play

Outsourcing clinical trials and manufacturing

►Cost cutting for western companies

►Sources of revenue for emerging market companies

►Limited window as cost advantages get eroded

►Emerging market companies looking to develop innovative pipelines

►Goals become more competitive, less complementary

Selling drugs to rapidly-growing emerging markets

►Tremendous opportunity as emerging middle classes, rising prosperity create markets that can afford western drugs

Source: Ernst & Young

?

Beyond Borders15

Globalization:the challenge of the next billion consumers

Source: Ernst & Young and International Finance Corporation (IFC)

US$20,000

US$3,000

“The unserved base”US$30b market

US$65b by 20174b patients

6b patients by 2017

1b patients

1.5 bpatients

Mature markets withslow growth potential

Per-capita income thresholds: Market size/potential:

“The next billion”Emerging markets with

high growth potential

Big pharma companies announce layoffs, restructuringsStock buybacksSafety concerns take bite out of product sales

Velcade gives NICE an unprecedented money-back guarantee

FDA NME approvals fall to lowest level in

over 25 years more pricing

pressuresemerging

Product safety incidents in the

rising China market

Big pharma’s search for pipeline productivity propels a booming deal environment

Biotech companies retain more

rights in deals

The mega deal…is back

π?

8%

Government negotiation of drug prices under MMA returns to public policy debate

FIPNETs

Creative deal structures

►

►

►

►

►►M&A R

EMS

FDAAA ►

$►

€►

¥►

£

R&D

►

??? ? ?►

Big pharma companies announce layoffs, restructuringsStock buybacksSafety concerns take bite out of product sales

Velcade gives NICE an unprecedented money-back guarantee

FDA NME approvals fall to lowest level in

over 25 years more pricing

pressuresemerging

Product safety incidents in the

rising China market

Product safety incidents in the

rising China market

Big pharma’s search for pipeline productivity propels a booming deal environment

Biotech companies retain more

rights in deals

The mega deal…is back

π?

8%

Government negotiation of drug prices under MMA returns to public policy debate

Government negotiation of drug prices under MMA returns to public policy debate

FIPNETs

Creative deal structures

►

►

►

►

►►M&A R

EMS

FDAAA ►

$►

€►

¥►

£

R&D

►

??? ? ???? ? ?

►

The shape of the future: changing business models

Beyond Borders17

Changing business models

Personalized medicine changes the nature of competition

Source: Ernst & Young

Present state

Beyond Borders18

Changing business models

Personalized medicine changes the nature of competition

Source: Ernst & Young

Future state

Beyond Borders19

Changing business models

Personalized medicine redistributes value in the value chain

Source: Ernst & Young

Research

Research

Early development

Early developmentLate development

Late developmentManufacturing

Manufacturing

Sales and marketing

Sales and marketing

0%

20%

40%

60%

80%

100%

Current state Future state - personalized medicine

Value accrues to innovation

Beyond Borders20

Big pharma’s challenge: maximize the portfolio

Objectives Constraints

Supplement pipeline, more shots on goal

► Increasingly expensive in competitive dealspace

► Impact on current earnings

Boost R&D productivity ► Structures and incentives often not aligned innovation and speed

► Difficult to acquire and maintain “culture”

Mature product strategy: invest to protect the base to harvest?

► Capital-constrained environment► More focus on developing new

products

Variabilize costs / reduce infrastructure

► More risk and complexity dealing with third parties

► Change in culture to be more external

Beyond Borders21

Biotech’s challenge: survive and retain options

Objectives Constraints

Access capital ► Constrained public capital markets► More selective VCs► Less liquid equity in small caps

Retain downstream rights and ability to forward integrate

► Bargaining leverage► Adds costs, risk and complexity

Stay flexible for M&A exit ► Collaborations fill funding gap in constrained public capital markets but encumber assets

Accelerate pipeline development ► Increasing cost of drug development

Beyond Borders22

The need for new models

R&D

Source: Ernst & Young

Operations

Capital formation & efficiency

Deals

Pharma

►Take on more core risk►Boost productivity

Biotech

►Remain innovative

►Adapt to smaller scale►Variabilize fixed costs►Tap networks

►Value chain specialization / non-FIPCO models

►Efficient allocation & deployment of capital

►Access capital with less dilution

►Portfolio approach►Manage risk

►Retain control & rights►Higher share of value

Beyond Borders23

Opportunities for companies

Biotechs gaining

more bargaining

power

More flexibility

Greater share of value

produced

Source: Ernst & Young

Pharma’s imperative to fix R&D product-

ivity

Greater rights retention

Minimize P&L impact of

investments

Creative deals

Accept more risk to increase

potential upside

Acquire culture, not just

pipeline

Biotech Pharma

Beyond Borders24

Models of the future

Source: Ernst & Young

►Leaner FIPCOs: less infrastructure required

►Value-chain specialization

►Becoming FIPCOs less imperative with higher royalties, co-promotion rights

Biotech

►Some successfully reinvent R&D

►New Models: ►More risk

accepting in R&D

►Leaner sales►More networked

Pharma 1 Pharma 2

►For those that don’t succeed at reinvention:

►Core strengths are lower-margin

►Competition from emerging markets

►De facto CROs or CMOs?

Panel discussion

Moderator: Robert BuderiXconomy.com

Kevin J. BittermanPolaris Ventures

Dr. Eric ElenkoPureTech Ventures

Gautam JaggiErnst & Young

Mark KesselSymphony Capital