In The Fed’s Inflation Fight, Biotech May Be The First Casualty

Serious thought should be given to the effect the anticipated Federal Reserve 0.75% rate hike will have on the biotechnology industry and consequently on the health of the nation. Given we are in the fastest inflationary period in 30 years and rate hikes are really the only tool the Fed has to address this economic challenge, unintended consequences are certain.

As interest rates and inflation continue to rise, challenging “safer” fixed returned securities and capital market’s dramatic swings, investors are becoming justifiably alarmed. It should therefore be expected that investment in higher-risk, long-term growth companies like biotechs will have to decline, making the industry’s continued growth tenuous.

The anticipated rate hike will result in an annual increase of 3.25% – 3.5%. By the end of 2023, rates are projected to rise even higher to between 3.75% and 4%. Such rate increases will further impair the biotech sector’s ability to raise life-sustaining funds and could be its most significant challenge to date. So what happens if the biotech sector breaks down?

Consider that between 1980 and 2021, there were 635 biotech IPOs launched. Of that total, 173 (over 27%) entered the market in 2020 and 2021. That unprecedented number of enterprises all required financial support from a now shrinking market of serious investors who were mindful of the history that 90% of biotech’s drug programs fail.

Many of these biotech startups are led by individuals long on science but short on business experience and whose financial models face unfamiliar headwinds. What revenue sources can they turn to when investment banks are downsizing and cutting staff?

As Biotech Private Equity and Venture Capital firms sustain significant losses, they are increasingly focused on investing in firms that have drugs in late stage development, which are closer to approval and being marketed. It has never been truer that the markets hate uncertainty, and this leaves biotech IPOs with little prospect for financing. Even large pharmaceutical companies are losing interest in new drug development, preferring instead to concentrate on cutting costs and increasing revenue from their best sellers.

This lack of support for innovation may be prudent for the risk averse investor but it will not benefit the health profile of the public at large. Without new and better therapeutics (not just new antibiotics), pathogens will continue to change to circumvent existing therapies and body defenses. These resistant organisms are already making themselves known in Intensive Care Units across the country. Their cost is staggering. The United States spends $20 billion on treating patients with resistant organisms and incurs an additional $35 billion in lost productivity.

All of this at a time when the U.S. Government debt is nearly $31 trillion, which currently translates to $400 billion in debt servicing annually. The debt is currently over 130% of the gross domestic product. And there is no sector of the economy that is spared from the threat of inflation.

Medicine lives on innovation, especially in biotechnology, yet the private sector is currently cautious of investing in such high risk – high reward enterprises. The public sector’s reliance on the “full faith and credit” of the national monetary system, is stressed by an inflation rate not seen since 1979. Where can we expect new investment funds to come from?

The current biotech model is facing pressures never seen on this scale. So how might it be fixed to maintain much needed biotech innovation? The current climate tells us there will be little investment in biotech without incentives, especially during this time of high inflation. With low success rates and an average time of at least 10 years from discovery to market at an industry-reported cost of $2.6 billion for each successful drug, every biotech company poses a significant investment risk. One way to moderate risk would be to offer tax incentives as has been done in the past. Such incentives could take many forms, but the result would be short-term rewards for investing in long-term projects.

Despite these seemingly overwhelming risks, there is little choice but to take them on in this age of pandemic and other national health emergencies. We cannot afford to be complacent, because our collective health depends on bold action.