Real Options Analysis
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Transcript Real Options Analysis
September 12, 2002
CFO Roundtable - Valuing Biotech
Tools for Valuing
Biotech Investments
BC Biotech - CFO Roundtable
Vancouver, B.C. September 12, 2002
Alan Greer
Greer Consulting
[email protected]
(604) 682-6943
September 12, 2002
CFO Roundtable - Valuing Biotech
Today’s Presentation
Purpose
introduce/discuss innovative modeling
tools for technology valuation
Outline
1.
2.
3.
Biotech Valuation Needs / Approaches
The Biotech (ENPV) Model
Further Discussion
September 12, 2002
CFO Roundtable - Valuing Biotech
Biotech Valuation Needs
R&D program design;
financing, M&As;
licensing/partnering
agreements; and
strategy development.
September 12, 2002
TOOLS:
– discounted cash flow (NPV)
– expected value / decision trees
– simulation
– real options analysis
CFO Roundtable - Valuing Biotech
Limits to Traditional Valuation
Valuation requires:
Long history of earnings/market prices
Current financial statements that reflect
underlying assets
Peer group of readily comparable (traded) firms
BUT, small biotech firms:
No earnings history
IP asset value not on companies books
Seek novel technology with no/few comparisons
September 12, 2002
CFO Roundtable - Valuing Biotech
Valuation of Fundamentals
Fundamental value is function of
Cash flows generated by asset
Life of asset
Expected growth
Riskiness of cash flows
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CFO Roundtable - Valuing Biotech
Modeling Approaches
Option
Pricing
FLEXIBILITY
(STAGED INVESTMENTS)
RISK / UNCERTAINTY
LONG TIMEFRAME
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Decision Tree
Analysis
(Expected NPV)
Monte Carlo
Simulation
Discounted Cash Flow
(Net Present Value)
CFO Roundtable - Valuing Biotech
Value
Growth and uncertainty
Time
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CFO Roundtable - Valuing Biotech
Biotech ENPV Model
Spreadsheet-based (Microsoft Excel)
Model has common analytical "engine"; can
drive different applications:
STRATEGY model
DEAL model
compares different scenarios re. timing of licensing
compares deal terms offered by two parties
Illustrative examples
key model data/results altered to camouflage
confidential information
September 12, 2002
CFO Roundtable - Valuing Biotech
Key Model Assumptions
RESEARCH / DISCOVERY
No. of compounds / year of discovery
Annual cost & no. of years of funding
Scenario 1
Compounds:
A
B
C
D
DEVELOPMENT
risks (% continuing to next phase)
costs per phase
duration (years)
COMMERCIALIZATION
Prices/dosage, market size / share
Costs (marketing, admin, etc.)
DEAL TERMS
License fees, FTE funding, milestone payments
Royalty rates/brackets
Development / Profit %
Opt Out provisions
September 12, 2002
CFO Roundtable - Valuing Biotech
E
…Scenario 9
Compounds:
A
B
C
D
E
Expected Value
Probability-weighted average of possible outcomes
50% prob. of
$ 100 M sale
20% probability
of success
Invest $10 M in
research for
new product
80% prob.
of failure
September 12, 2002
$90 M
PROFIT
EXPECTED VALUE =
50% prob. of
$20 M sale
$10 M
LOSS
CFO Roundtable - Valuing Biotech
$10 M
PROFIT
80% X -$10 M
+ 10% X $90 M
+ 10% X $10 M
= $2 M
Drug Development
100%
90%
67.5%
33.8%
28.7%
21.5%
75%
85%
Commercialization
Approved
NDA
50%
Continue
PHASE 3
75%
Continue
PHASE 2
90%
Abandon
Continue
DISCOVERY PRE-CLINICAL
Abandon
Abandon
Abandon
Continue
PHASE 1
50%
25%
10%
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Reject
CFO Roundtable - Valuing Biotech
15%
25%
Modeling Cash Flow
Drug Development
$0 m
-$2 m
-$4 m
-$6 m
-$8 m
-$10 m
-$12 m
-$14 m
Risk factors
100%
90%
Pre-clin
Phase 1
September 12, 2002
67.5%
Phase 2
Phase 2
33.8%
Phase 3
Phase 3
CFO Roundtable - Valuing Biotech
28.7%
Phase 3
NDA
NDA
Modeling Cash Flow
Drug Development (Expected Value)
$0 m
-$2 m
-$4 m
-$6 m
-$8 m
-$10 m
-$12 m
-$14 m
100%
90%
Pre-clin
Phase 1
September 12, 2002
67.5%
Phase 2
Phase 2
33.8%
Phase 3
Phase 3
CFO Roundtable - Valuing Biotech
28.7%
Phase 3
NDA
NDA
Modeling Cash Flow
Development & Commercialization
$225 m
$175 m
$125 m
$75 m
$25 m
-$25 m
28.7%
33.8%
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67.5%
90%
100%
Risk factors
21.5%
CFO Roundtable - Valuing Biotech
Modeling Cash Flow
Development & Commercialization (Expected Value)
$225 m
$175 m
$125 m
$75 m
$25 m
-$25 m
28.7%
33.8%
67.5%
90%
100%
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21.5%
CFO Roundtable - Valuing Biotech
Modeling Cash Flow
Development & Commercialization (Expected Present Value)
$225 m
$175 m
Divide by (1+discount rate)year
$125 m
$75 m
$25 m
-$25 m
September 12, 2002
CFO Roundtable - Valuing Biotech
Modeling Cash Flow
Development & Commercialization (Expected Present Value)
$14 m
ENPV = $57 m
$12 m
$10 m
$8 m
$6 m
$4 m
$2 m
$0 m
-$2 m
-$4 m
-$6 m
September 12, 2002
CFO Roundtable - Valuing Biotech
Monte Carlo Simulation
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CFO Roundtable - Valuing Biotech
Monte Carlo Simulation
September 12, 2002
CFO Roundtable - Valuing Biotech
Strategy Model Scenarios
Compare ENPVs for 9 licensing scenarios:
Deal Now
Phase 2 Deal Phase 3 Deal
Joint fund thru
Phase 2
Straight license
Joint fund thru
Phase 3
Joint fund thru
Phase 3
No Deal
Straight license
Joint fund thru
Joint fund thru
Joint fund thru
Self fund
Commercialization Commercialization Commercialization throughout
September 12, 2002
CFO Roundtable - Valuing Biotech
Results: Strategy Model
Expected NPV to BiotechX - $ Millions
ENPV
1
ENPV per share
Capital Requirements (Exp.)
$171.7 M
$263.3 M
Opt Out Ph 3
Opt Out Ph 2
PROGRAM
DEAL NOW
Joint Develop
$200.4 M
$145.1 M
$163.1 M
Opt Out Ph 2
Opt Out Ph 3
Joint Develop
PARTNER
AFTER PH 2
$146.1 M
$145.6 M
Opt Out Ph 3
Joint Develop
PARTNER
AFTER PH 3
$146.6 M
SELF-DEVELOP
/MARKET
$242.4 M
Preclinical
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Phase 1
Phase 2
Phase 3
CFO Roundtable - Valuing Biotech
NDA
Commercialization
Results: Strategy Model
Expected Value of R&D Capital Requirements - $ Millions
ENPV
2
ENPV per share
Capital Requirements (Exp.)
($20.3) M
($38.6) M
Opt Out Ph 3
Opt Out Ph 2
PROGRAM
DEAL NOW
Joint Develop
($65.7) M
($108.3) M
($115.2) M
Opt Out Ph 2
Opt Out Ph 3
Joint Develop
PARTNER
AFTER PH 2
($140.2) M
($109.7) M
Opt Out Ph 3
Joint Develop
PARTNER
AFTER PH 3
($131.3) M
SELF-DEVELOP
/MARKET
($191.0) M
Preclinical
Phase 1
September 12, 2002
Phase 2
Phase 3
CFO Roundtable - Valuing Biotech
NDA
Commercialization
0
Deal Model
Models licensing negotiation between two
parties:
Early stage deal with provisions for
Pharma X
Biotech X
License fees, milestones, research funding;
Allocation (%) development costs, profit-sharing;
Royalty rates, brackets.
Compares competing offers and different
assumptions of both sides
September 12, 2002
CFO Roundtable - Valuing Biotech
Deal Model Inputs
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CFO Roundtable - Valuing Biotech
Results: Deal Model
Summary - ENPV Allocation
ENPV to Biotech X
ENPV to Pharma X
200
15
0
100
50
0
50
100
150
Biotech X Offer
Straight Licensing
Joint Development
Pharma X Offer
Straight Licensing
Joint Development
September 12, 2002
CFO Roundtable - Valuing Biotech
20
0
Limits of Models
“All models are wrong. Some are useful.”
George Box
Forecasting uncertainty
Modeling error
Spreadsheet error
September 12, 2002
CFO Roundtable - Valuing Biotech
Value
Uncertainty and flexibility
Time
September 12, 2002
CFO Roundtable - Valuing Biotech
Biotech real options
Underlying asset
Types of options
Technical (private) development risk
Market (public) –
competition/price risk
Patent life
September 12, 2002
Abandon - option to abandon
prior to full commitment of
funds;
Cost of next phase
Time limit
Defer - delay/advance research
for compound
Volatility
Product (with patent
protection)
Exercise price
Learning - Invest in additional
research re. alternative
indications, comparison with
other drugs
Growth/strategic -
platform/pipeline with future
unforeseen potential
CFO Roundtable - Valuing Biotech
Summary
Biotech (ENPV) Model:
fundamental (cash flow) basis for valuation
allows for scenario comparison / tailoring of
assumptions
uses expected value & Monte Carlo methods
to assess risk/uncertainty
customizable to suit different business needs
(e.g., deals, strategy, financing)
easily adapted to other biotech applications
(e.g. tools, medical devices)
September 12, 2002
CFO Roundtable - Valuing Biotech