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Print“If the product is any good, it's definitely a seller's market.”
Genentech’s Joe McCracken had a busy year last year. He and his team closed 49 deals as the South San Francisco, California-based company sought to bolster its mid-stage pipeline after many of its drugs hit the market earlier than expected.
No sign that there’ll be time for a breather in 2007, either. When biotechnology executives from around the world gather in Boston beginning on May 6 for BIO 2007, the industry’s largest annual gathering, McCracken, 54, and his team of six deal makers will have a full dance card.
Originally trained as a veterinarian, McCracken was wooed from the pastures of his home town of Tipp City, Ohio in 1980 to perform research for Schering-Plough in Allentown, New Jersey. In 1983, Genentech lured him to work on researching animal therapeutics and diagnostics.
But soon after joining the company, Genentech decided it needed to focus its business on human therapeutics. As a result, McCracken dove into business development, focusing on divesting the company of its animal assets and other areas.
McCracken eventually grew concerned over Genentech’s growth prospects and wanted to gain international experience. In 1993, he left the company to go to work for Rhone-Poulenc Rorer and its successor, Aventis. Seven years later, Genentech recruited him back when he grew convinced big pharma’s approach was fatally flawed in letting, as he saw it, commercial needs dictate the direction of science rather than letting science define the commercial opportunities.
The Genentech McCracken returned to was different than the one he had left. Instead of selling off assets, it was now focused on acquiring new technologies and potential products. Genentech has long relied on alliances to build its business. Collaborators have invested some of the company’s biggest products, including Rituxan, its treatment for rheumatoid arthritis and non-Hodgkin’s Lymphoma, and Tarceva, it’s treatment for non-small cell lung cancer and pancreatic cancer. The importance of such deal making is intensifying.
Genentech’s enviable growth of recent years-revenue hit $9.3 billion in 2006, up from $6.6 billion the previous year-will not be sustainable by relying on products discovered in house alone. That means that Genentech is banking its future success in part on McCracken and his team to make the right deals.
McCracken recently spoke to The Journal of Life Sciences’ Daniel S. Levine about the changing environment for deal making, Genentech’s unique approach and how he fortunately doesn’t have “the Pfizer problem.”
Q: How is the environment for making deals changing?
A: It’s becoming more competitive, particularly for mid-stage product deals. There are not a lot of good mid-stage product deals out there. If you look at the deals that get done, a lot are for early-stage products-preclinical or phase I-things where proof of concept hasn’t been established. In that segment of the deal market, costs are increasing, complexity of deals is increasing and you are seeing loan structures, co-development, co-promotion, opt-ins and opt-outs-different ways for the sellers to retain more value. If the product is any good, it’s definitely a seller’s market.
Q: How does that affect what you do?
A: It means we have to be willing to pay more. But it also means we have to identify opportunities before they become auctions or bidding wars.
Q: Up until recently Genentech had the luxury to focus on those early-stage deals because of its robust pipeline. Has that changed? Are there pipeline pressures now, given how rapidly Genentech has been able to commercialize some of the pieces in the pipeline?
A: To some extent, yes. Our near-term pipeline and growth looks really promising, so we’re not out there looking for companies with approved products or products in late Phase III. In general, those kinds of opportunities aren’t available for licensing anyhow. The only good way to acquire late-stage assets is through M&A. I don’t think we have the Pfizer problem.
Q: “The Pfizer problem”? You’re not talking about erectile dysfunction?
A: No. The Pfizer problem is you become so big that you can’t sustain that growth. We're not there yet. We have exceeded our growth projections for the last few years and in order to sustain those historical levels of growth, we’ve had to band our pipeline in what I’d call the mid-stage. If you look at the deals Genentech did last year, we did some mid-stage deals after not having done deals at that stage for quite a few years. Look at the deals we did with Seattle Genetics, BioInvent, Altus, Exelixis and Inotek. Those were all clinical-stage or very near clinical-stage deals.
Q: So is your mandate as a dealmaker today to address that mid-stage pipeline?
A: Not anymore. That was my mandate last year. Now I’m focused again on discovery-stage and early-stage deals.
Q: Let me ask about some recent deals. In November 2006, Genentech announced plans to acquire Houston-based Tanox. It is the only acquisition Genentech has made in its 31-year history. Why do only one and why do this one?
A: The reasons we haven’t done them in the past is because we haven’t had to do them to drive growth. We’ve been able to sustain growth with our internal pipeline. We’ve been able to get access to the technologies and products that we needed through licensing activities focused on a single activity. We didn’t have a core expertise on acquiring companies and integrating them-or a desire to acquire companies and just wring out the synergies and disrupt people’s lives. That was never our appetite. In Tanox, we saw a company that had areas of research and development that were consistent with our own-immunology and antibodies. We saw a good organization with interesting products. And we have a shared economic interest in one of our key products, Xolair.
Q: On the heels of the Tanox deal, Genentech at the start of this year announced a co-development agreement with South San Francisco-based Exelixis over a possible new cancer drug. What was interesting is that it is a small molecule drug. I know Genentech has been ramping up its capabilities to develop small molecule drugs, but to what extent is Genentech looking to business development to build that area?
A: Significantly. Our small molecule activities are largely focused in oncology. And a significant number of our discovery and early development projects in oncology are small molecules, and that’s by design. In the other therapeutic or biology areas, much smaller numbers of projects are small molecule-and that is by design.
Q: The last deal, which you mentioned earlier, was the one with Bothell, Washington-based Seattle Genetics, an agreement for a monoclonal antibody in development for multiple myeloma. The deal, which included a $60 million up-front payment and potential milestones in excess of $800 million, is the type of big-dollar deal I’ve become accustomed to seeing from big pharma. At what point do these deals become too rich?
A: You have to answer that question on a case-by-case basis. Companies have different return-on-investment hurdles. There are two drivers. One is, what are your alternatives? If you don’t have good alternative investments internally then your ROI hurdle starts to get pretty darn low. Ours is pretty high, so for us to do these larger deals-Seattle Genetics is a great example-we have to believe we have synergies we can exploit in maximizing the development of those molecules. In this case we really believe we have some good insights and expertise in basic research and in development and manufacturing that we can leverage and improve our ROI in that collaboration. We also feel there are good commercial synergies and our existing commercial franchises. This product has the opportunity to address an important disease that we don’t have anything else in our pipeline to address. We put a big premium on that.
Q: Genentech has operated with a very clear sense of the type of deals it wants?very specific to disease areas and disease pathways. Has that made your life easier?
A: A couple of things have made my life easier. One is a really clear focus on the therapeutic areas and stage of development. I think of business development as a customer service organization and I have a real good understanding of what my customers want. I spend 80 percent my time working with my customers and refining that understanding and 20 percent of my time actually going out and looking for things and bringing them in. That’s just the opposite of the way it has been at other times in my life when I have been with more traditional pharmaceutical companies. I’m able to do that because business development here is so integrated with our internal customers in research, development and marketing.
Q: In 2004, Genentech moved business development out of the commercial side of its operations and placed it under Sue Desmond-Hellman, president of product development. Has that made a difference? What does it say about the way Genentech thinks of the role of business development?
A: I’m not sure how much it really matters where we are reporting, but it does tell you we emphasize scientific rationale and probability of approval much more than we emphasize market size. A strong underlying scientific rationale or a probability of approval will trump market size any time at Genentech, so it does tell you that.
Q: Do you see any problems with the way big pharma looks for deals?
A: A lot of pharmaceutical companies and biotechs look at an in-licensing opportunity and build a discounted cash-flow model and use risk-adjusted net present value as a measure of the attractiveness or financial viability of a deal. It’s really easy to get seduced by an incredibly large market with a low probability of success. You take a $10 billion opportunity and it has a 1 percent probability of success. One percent is still a big number. You can look at that and say, “Wow, I’ve accounted for all of the risk and this opportunity is still worth 1 percent of $10 billion. Therefore the opportunity is worth this and we should do the deal.” That’s just nonsense. If that’s your philosophy, you should just go out and buy lottery tickets.
Q: So is there anything good about the way big pharma does deals?
A: I talked about how closely integrated I am with my internal customers. We’re able to do that because we’re all right here in South San Francisco. When I was at Rhone-Poulenc Rhorer and Aventis, I had internal customers in Hayward, California; Bridgewater, New Jersey; Collegeville, Pennsylvania; London, England; and Paris, France. You just can’t be as well integrated when you are spread out like that, so it’s a real advantage to be here.
The other advantage I have is not an internal, but an external factor. Genentech today has an incredibly valuable brand image that we can leverage and we are really trying to do that where ever we can. We have a really great reputation for science. We have a really good success record in development. This is an industry where more projects fail than succeed. Our success rates are probably beating the industry average and that’s how I compete with companies that are willing to offer bigger deal terms on the front end. If you just look at near-term compensation, someone will be willing pay more than I will. But if you look at the long-term value of the opportunity, and if you factor in our higher-than-average success rates at getting our products approved, than I can make a credible argument that I can bring a higher probability of success and that will bring a higher long-term value to my collaborators.
The other advantage I have is not an internal, but an external factor. Genentech today has an incredibly valuable brand image that we can leverage and we are really trying to do that where ever we can. We have a really great reputation for science. We have a really good success record in development. This is an industry where more projects fail than succeed. Our success rates are probably beating the industry average and that’s how I compete with companies that are willing to offer bigger deal terms on the front end. If you just look at near-term compensation, someone will be willing pay more than I will. But if you look at the long-term value of the opportunity, and if you factor in our higher-than-average success rates at getting our products approved, than I can make a credible argument that I can bring a higher probability of success and that will bring a higher long-term value to my collaborators.
Q: The venture capitalist Rod Ferguson, who was one of your predecessors, has talked about a “Genentech discount,” the idea that the value of doing a deal with Genentech is so validating and boosts a company’s stock price so much that Genentech is able to get a better price than someone else. Do you think that exists today?
A: I’m not particularly fond of a “Genentech discount.” The way Rod would describe it-and it may have been that way in the past-would be negotiating the price of a deal and then saying, “Now give me the Genentech discount.” We don’t do that. Our style is much more to start at the beginning of the discussions and make the argument I just made to you. So I’d call it a “Genentech premium”-a premium of value we bring to our collaborators based on the fact that we have a better-than-industry-average rate of successfully developing molecules, and make that argument with real data.
