Over the last few years, royalty monetization deals have solidified their status as important financing alternatives for late-stage life sciences companies to consider in their fundraising initiatives.1 As knowledge about and interest in these transactions has grown exponentially over the past five years or so, we’ve seen an overarching trend emerge: More, more, more.
More Synthetics
Royalty monetization typically takes one of two forms: Investors buy or finance against royalties from an existing license or collaboration agreement (a “traditional” royalty), or they buy or finance against a product’s future revenue stream (a “synthetic” royalty). Synthetic royalties have seen a sharp increase over the last few years, a result of several factors: more investors, more structural innovation, more appetite for earlier-stage development, more capital requirements, and more awareness.
More Investors
As the size of the royalty monetization industry has grown, so has the number of investors in the market. Likely attracted by the flexibility and predictability these deals afford, or perhaps driven by a fear of missing out as more companies are considering synthetic financings, a field that has been dominated by a few companies is now seeing several other investors becoming increasingly active in the space.
More Structural Innovation
The flexibility previously noted evolves from the creative structuring elements of these transactions and how they can be customized to balance an investor’s goals with a company’s particular fundraising needs. Deals can include tiered royalties; developmental, approval, and sales-based milestone arrangements; capped or hybrid instruments; territory or indication splits; multiproduct deals; and required or elective tranched funding. The recently announced Revolution Medicines transaction, which we advised Royalty Pharma on, presents a good example of how a combination of features can be implemented in a single transaction. The Revolution Medicines deal, which provides up to $2 billion in committed capital, includes the following terms:
- $1.25 billion of the total funding is optional to the company at its discretion, subject to the achievement of a specific milestone.
- Royalties are tiered depending on various factors, including annual net sales.
- A 15-year term on the royalties.
- If there are certain overlapping indication labels across certain assets within the company’s pipeline, those sales will be included in the calculation of total net sales that are subject to the royalties.
- A traditional debt component in the form of senior secured debt.
More Appetite for Earlier-Stage Development
While mostly a tool for recently launched products, or candidates in Phase 3 trials with late-stage data, increased competition coupled with increased underwriting sophistication among investors suggests we could see an emerging trend in investor tolerance for earlier-stage development, when deals are structured around R&D funding and milestones. Big Pharma is undertaking these earlier-stage transactions with increased frequency, not for capital needs but as a profit-and-loss play in which Big Pharma uses royalties to offset R&D costs. Teva and Biogen both announced synthetic royalty deals this year.
More Capital Requirements
Experts project that the capital required to sustain biopharma innovation over the next decade will exceed $1 trillion2 — that’s a lot to go around.
More Awareness
As these transactions, which are often nonrecourse, have become more familiar, executives recognize that they can provide non-dilutive financing with the benefit of maintaining operational control and without the burdensome covenants and harsh remedies that come with traditional debt instruments. Increased discussions around these transactions, including those with advisers and business partners, has changed some companies’ previous perceptions of monetization as a poison pill for M&A or a hindrance for out-licensing opportunities. Given how intensely products typically undergo due diligence by monetization investors, the receptions of funding from sophisticated and reputable investors certainly suggest a proper endorsement of the product to the market.
More Global Expansion
European pursuit of royalty deals is an emerging trend. Five years ago, the terms “monetization” and “structured finance” were uncommon in financing discussions with European life sciences companies, investors, and advisers. Banking and bankruptcy regimes vary throughout Europe and introduce structural challenges that don’t exist in the United States, which likely had a chilling effect. But with novel and successfully structured deals for GENFIT, Heidelberg Pharma, Nanobiotix, and others, which garnered considerable attention in the market, interest among European companies has spiked over the last year or two. We’ve also seen an uptick in interest in the Asian market, particularly China, which we expect is ripe for deal surge given the growth of biopharma and formidable assets there.
But Why and When Should Companies Consider a Royalty Monetization? And How?
Why?
In light of the considerable capital needs faced by companies today, and given the trillion-dollar innovation figure projected over the next decade, companies need to diversify capital sources and consider a broad range of alternatives to fund innovation, R&D, and commercialization.
Royalty Monetization Versus Equity
Although there’s been recent recovery in the equity markets, they remain subject to volatility, and the market conditions for the scale of funding needed might not be available or might be painfully dilutive. Royalty financings, on the other hand, aren’t subject to market volatility and are non-dilutive.
Royalty Monetization Versus Debt
Traditional debt might not be available in sufficient quantities (or at all) for nonrevenue-generating companies, and it’s likely to include restrictive and financial covenants as well as the looming threat of acceleration if there’s an event of default. Plus, debt isn’t cheap these days. And while remedies and covenant packages can vary and sometimes lean more debt-like, increased competition among investors has resulted in a pretty company-favorable market for attractive opportunities, with most deals being non- or lite-recourse and with covenant packages that work to protect the investor’s investment in the subject product without overreach into broader operational restrictions and financial covenants.
When?
Companies should consider monetization deals every time they visit their financing strategies. While commercial- or Phase 3–stage companies remain the most viable investment opportunities, investors in this space are in it for the long game and start to build relationships and monitor drug trajectories early in the candidate’s development, and companies can benefit from introductions to investors, educational tools, and market research that legal, financial, and accounting advisers can provide to gear up for earnest exploration at the right time. Once ready for prime time, companies should consider royalty monetization as part of their overall fundraising (i.e., not necessarily in lieu of equity or debt, but perhaps in combination to provide the right quantum of financing and the right balance in the capital structure).
How?
These deals are complicated and nuanced. CEOs should ensure they are educated on how these deals can work and how the pros and cons compare to other fundraising sources. Management teams should also bring this alternative as an education and discussion topic to their boards. Experienced deal counsel should be involved long before a term sheet is even a twinkle in an investor’s eye; we can educate companies on economic elements, market terms, and investor pressure points, and we can help companies navigate early considerations and best position themselves to be viable players for a monetization deal when the time is right. And once the time is right, we will ensure your company signs a favorable, fair, and as-customized-as-needed deal that meets your company’s funding needs.
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