Biopharmaceutical companies in search of cash have experienced significant recent headwinds. Through August 2022, biotech initial public offerings (IPOs) had dropped 78% compared with a year ago. Meanwhile, the NASDAQ biotech index had lost 14% of its value over the same period, as investors pivoted away from biotech stocks toward value investments. As a result, biopharma has shown growing interest in royalty financing to fund clinical development and drug product launches.
Royalty financing is a form of fundraising whereby the investor or financier—the royalty holder—provides a manufacturer an upfront fixed sum, plus optional subsequent payments tied to specific milestones for an asset or basket of assets. In return, the manufacturer commits to paying the royalty holder a percentage of future revenues from these assets. Academic institutions have long embraced such arrangements, but biopharma has recently begun to use it to fund asset development and commercialization. Royalty transactions offer an alternative to traditional equity financing and non-dilutive partnership deals, as this strategy avoids equity ownership dilution, helping founders maintain stable control of their companies. For the investor, this asset class offers a hedge against macroeconomic volatility.
There are two major royalty deal types: origination transactions, whereby a biotech manufacturer sells royalty rights to an investor, and resale transactions, whereby an initial investor trades its rights to a secondary buyer. In this piece, we focus primarily on origination transactions.
Based on ZS analysis of deal activity, the royalty financing market for origination deals has grown faster than that for equity financing over the past four years, with the total value of royalty deals growing at a compound annual growth rate of 45%, compared with just 25% for equity deals. In 2022, overall market value for equity-financed deals is expected to decline by almost 50% from a year ago, while royalty financing is projected to see modest growth, per ZS analysis based on transactions data. Moreover, while the biotech IPO market has slowed significantly in 2022, royalty financing volume is on track to remain steady, with the number of transactions potentially outpacing that of a year ago. This suggests greater resilience against the macroeconomic factors impacting today’s equity market.
At an individual transaction level, the average value of each royalty deal has grown more than twice as fast as it has for other financing types over the past four years: 30% for royalty financing compared with between 1% and 7% for others.
Notably, there have been three royalty origination transactions valued at more than $500 million in the past three years:
- Royalty Pharma and Pharmakon Advisors (a Royalty Pharma affiliate) bought royalty rights on sales of tazemetostat from Epizyme in a deal valued at up to $570 million (2019).
- Blackstone purchased 50% of royalty rights owed to Alnylam on global sales of inclisiran for $1 billion, plus up to an additional $1 billion to support RNA interference (RNAi) treatment development (2020).
- Royalty Pharma acquired a portion of PTC Therapeutics’ royalty interest in risdiplam for $650 million (2020).
Emerging and smaller biopharmaceutical companies have been part of a large share of royalty financing deals. Over the past 10 years, 84% of biopharmas using royalty financing have been emerging and small companies, with 58% having a market capitalization of less than $1 billion at the time of transaction. This analysis includes only deals involving companies with publicly available pipeline asset information; of the excluded deals with available market capitalization information, 70% had less than $1 billion.)
These smaller companies may turn to royalty financing for several reasons, but two stand out: funding late-stage asset development with larger-scale, capital-intensive clinical programs and funding early commercialization. Over the past decade, a third of all deals occurred with the product still in development, while 52% closed after filing for FDA approval. The remaining deals were multi-asset transactions.
Deal distribution across therapy areas has, for the most part, been in line with the broader biopharma development pipeline, with two exceptions: Cardiology and metabolic disorders comprise 8% and 12% of total royalty deal value respectively, significantly outpacing their representation of between 3% and 4% of the general biopharma pipeline.
Three notable blockbuster deals drove much of the cardiology activity, including two separate Cytokinetics deals with RTW Investments (2020) and Royalty Pharma (2022) for $450 million each, as well as the aforementioned $1 billion deal for Alnylam. It’s possible that biopharma companies investing in treatments for cardiology and metabolic disorders needed to raise large amounts of capital to run late-stage trials and fund commercialization due to the large patient populations inherent to these therapy areas. On the supply side, the large commercial opportunity associated with comparatively large patient populations likely drove investor interest.
Three firms are responsible for 71% of royalty origination deal value in the past decade: Royalty Pharma with $4.2 billion (36% of total value), Healthcare Royalty Partners with $2.3 billion (19%) and Blackstone Life Sciences with $1.8 billion (16%). In the past few years, however, new players have entered the market, hinting at growing interest in royalty investments. New investors drove almost half of total market value for this investment class in 2021.
Like origination transactions, resale deal value has increased over the past five years but only at a compound annual growth rate of 15%. Other than a very large outlier transaction in 2016, when Royalty Pharma purchased rights for Xtandi from UCLA for $1.1 billion, the trajectory for royalty resale deals has largely mirrored that for origination deals.
With royalty financing gaining popularity as an alternative investment strategy, biopharmaceutical companies approaching fundraising milestones may be more willing to consider these transactions than in years past. Our analysis shows that as investor interest has grown, royalty financing has become a more meaningful and popular way to raise capital. Current macroeconomic conditions—diminished biotech valuations, most notably—may push interest in this alternative financing even higher.
Biopharma companies pursuing royalty financing must carefully evaluate the financial, operational and strategic considerations of such a transaction, as well as the business scenarios under which a royalty transaction would make the most sense. Royalty financing presents smaller biopharma companies with the opportunity to retain more equity shares compared with other financing avenues; such opportunity, however, comes at the expense of margin on the transacted product or products. Companies must carefully consider the range of possible business scenarios to determine in which cases this trade-off will prove advantageous.
The authors would like to thank Damini Sandhu and Mahika Gera for their contributions to this piece.