Recovering after the bubble burst

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German biotech euphoria and stock market boom have been replaced by disillusionment and insolvencies, but a clear-out of the market has begun, writes Holger Bengs.

What German biotech had to offer in the late 1980s and early 1990s was very little by international standards and was highly science-oriented. More than a decade after biotech was kick-started by the discovery of recombinant DNA methodologies, there were neither the foundations nor the determination to make use of the economic potential of tailor-made genetic material. By passing its restrictive gene technology law (Gentechnikgesetz), Germany blocked its own progress. A key example of this was the former pharma world leader Hoechst, which had to wait 10 years before receiving permission to build a facility to produce recombinant human insulin. The company responded to the delay by cooperating with the Massachusetts General Hospital in the US. Thus, research funds worth tens of millions of dollars migrated abroad for the first time.

That is history. The first revision of the Gentechnikgesetz in 1993, the launch of the federal government’s BioRegio competition in 1995 (to build up regional biotechnology clusters) and the opening of the Neuer Markt (stock market for new technologies) in Frankfurt in 1997, enabled new companies to be founded and funded on a large scale. The BioRegio initiative has been surprisingly successful. When it was launched few people believed such a large number of scientists could be persuaded to use their innovations to set up companies. But the patents they have produced have ensured the new intellectual property agencies at German universities (another federal government initiative) are on the way to economic success.

Today, after the boom, the biotech industry faces new ethical, political, and above all financial challenges. In the euphoria of the mid-1990s, around the time that the Neuer Markt was launched, venture capital was plentiful, and unlimited biotech growth appeared possible. In the last three years, however, disillusionment has reigned supreme. This mood has often resulted in resigned, almost fatalistic visions of doom: insolvencies will rise dramatically, there is no more seed financing, investors are too hesitant and don’t know what they want, the legal framework and tax policies are wrong, the companies are still lacking products, and so on. There is a grain of truth in each of these complaints, but the German biotech industry is not suffering as badly as some experts want us to believe. The entire community - entrepreneurs, scientists, financiers, shareholders, bankers, analysts and media representatives - has learned some lessons. The foundation for further, moderate growth in the biotech sector is there.

For the past 18 years German biotech industry data has been gathered in a year-book. Companies are divided into three categories: Category I includes companies that either predominantly use modern biotechnological methods in research, production or other work, such as Qiagen, MorphoSys, Fresenius Biotech, or count as a significant part of the biotech sector due to their size or importance in the market, such as Bayer. Category II comprises companies that offer technical products or services specific to biotechnology on a significant scale, such as CyBio, Macherey-Nagel, or Sartorius. Finally, category III includes consultancies, publishers, trade exhibitions, and information service providers.

Of the 2247 companies recorded in the 2004 year-book, 561 fall into the research-focused category I. Among these, there are 59 major companies that have a strong involvement with biotechnology, but for whom it is not the sole focus. Category I companies are focusing on the medical and pharmaceutical sectors. Overall, 92 per cent see themselves as part of this ’red’ biotechnology, and the trend is towards a further increase. The agricultural sector, ’green’ biotechnology, is relevant to 23 per cent, while only nine per cent associate themselves with ’grey’ or ’white’ biotechnology, which includes environmental protection.

The consultancy Ernst & Young (E&Y) has published similar figures in its recent fifth report on Germany, Per aspera ad astra (From hardship to the stars). E&Y uses a narrower definition of core biotech industry, emphasising novelty and originality as documented by patents, business strategy focused on growth and the use of venture capital for funding. According to this definition, Germany has 350 such companies.

Both the biotechnology year-book and the E&Y report identify a year-on-year decline in the number of German biotech companies for 2003 and 2002. E&Y reports 69 exits from this group over the last two years, while other sources report 99 insolvencies since autumn 2001.However, E&Y also reports 48 new entries and there is no reason to write off biotechnology, even if there are a few more closures.

Some of the closures share common aspects. Some companies were set up hastily, without the appropriate financial and human resources, and were driven into a growth spiral, followed by rapid decline. The relatively stable number of companies in 2002 and 2003, together with the encouraging number of new companies being set up, possibly hint at the approach of a ceiling, as in the US, where the figures now only rise slowly. Today, there are some 1500 biotech companies in the US, of which around 320 are traded on the stock market. Relative to the population figures, Germany with 350 companies, and the UK with 334 companies are approaching a similar level of maturity.

Only 42 per cent of German biotech companies currently have products in the market. This figure may be startling at first glance. Asked about the focus of their business strategy (multiple answers allowed), 95 per cent cited research and 55 per cent said services to third parties. Overall, this leaves space for improvement, especially since generous advance financing by eager financiers is long gone. The progress towards a more market-oriented approach is most obvious in pharmaceutical research. In this area, there had been concern that in Germany, although there are more biotech companies than in other leading science nations such as the UK, an engineering basis, which is good for developing new instruments, was not suited to producing well-filled drug development pipelines.

But the number of substances in preclinical tests has almost doubled from 69 in 1999 to 133 today, and Phase I trials (on healthy volunteers) have more than tripled from 11 in 1999 to 38. Two recent events should encourage drug development. Medigene, based at Martinsried near Munich, caused a sensation with the in-licensed prostate cancer drug Eligard (leuprogel), which was approved by European authorities (EMEA) and which the company successfully introduced in European. Also Hanover-based LipoNova has become the first German Biotech company to go from research through to a drug approval application, and has thus set a milestone for the sector. The drug in question is the first tumour vaccine developed in Europe, which is effective against kidney cell carcinoma and reduces the risk of recurrence or metastasis by around 30 per cent. Stada Arzneimittel has secured the distribution rights for the product.

However, progress in biomedicine is not only built on recombinant proteins, antibodies and nucleotides.Disciplines in the biotech sector are interdependent as is evident from the fact that more than a third of the substances in German biotech development portfolios are based on small molecules.

What does the future hold for German biotech? The scientific trends are easy to spot: at the BioPerspectives 2004 meeting held in May, Dechema (Society for Chemical Engineering and Biotechnology) presented a brochure entitled Biotechnology 2020 - a compilation of the visions of young scientists working in Germany. It includes the transparent cell, regrowth of third teeth, and pharmaceutical supermarkets. However, while systems biology, tissue engineering or organogenesis, functional foods or other future-oriented fields like bioinformatics, proteomics, and microarrays may be fascinating, scientific curiosity is only one side of the coin. The flip side is the acceptability of ideas in society, and above all economic success. Because of the high density of rules and regulations and the still critical public opinion, companies dealing with genetic engineering of plants or with therapeutic cloning may find it difficult to establish themselves in the market for the foreseeable future.

One field that does have a good chance, even though it has not yet penetrated public consciousness, is white biotechnology - the use of biotech methods in industrial processes. One of the driving forces behind it is the demand for sustainability, which has been growing steadily in industrialised nations since the 1992 Earth Summit at Rio de Janeiro, Brazil. But white biotech is not only about the use of enzymes and microorganisms for environmentally friendly processes and products. It is also about using the entire tool kit of Mother Nature in all its variety for innovations in all areas, including environmental protection, health sector, and basic chemicals production. The potential is immense. The 60 000 microorganisms we know today are estimated to represent only one per cent of the microbial species present on our planet. Only 5000 of them can be cultivated, and only 100 have found entry into an equal number of chemical processes, such as the production of acrylamide, lactic acid, citric acid, or vitamin B₂, and starch liquefaction. Global players Henkel, Degussa, and BASF are now beginning to support white biotech. There is certainly an opportunity for young German companies in this field, which has so far appeared to be less than lucrative.

Slowly, German biotech is getting going again. There is no doubt that the move from a large number of companies to fewer, quality companies is painful for many. An unsympathetic tax system has made fundraising for new investments difficult, particularly getting capital from venture funds. Nevertheless, the decline in the willingness to invest in the venture capital area seems to have stopped. In 2003, € 106m (?71m) was invested in 67 companies, which is considerably less than in the boom years - in 2000 € 494m was invested in 174 companies. Additionally, the route to the stock market is effectively closed, following the collapse of the Neuer Markt and the subsequent loss of trust in high tech investments. The last German biotech company to be floated, co.don, which specialises in tissue engineering, was in February 2001.

However, there is some movement on the global stage. Ark Pharmaceuticals (?55m), Roche spin-off Basilea Pharmazeutica (SFr206m (?90m)) and BioCon ($70m (?39m)) obtained funds from stock trading in London, UK; Zurich, Switzerland and Mumbai, India, respectively. In New York, US, there were seven biotech floatations in 2003, and by May 2004, 12 companies had raised a total of $778m from the US capital markets.

In Germany, initial public offerings (shares of companies that have not traded before) are low on the agenda. Only Epigenomics, a transatlantic company specialising in cancer diagnostics, tested the Frankfurt market in July. Before further candidates, such as Jerini (Berlin), DeveloGen (G?ttingen), Micromet (Martinsried), Wilex (Munich), PAION (Aachen) or Vivascience (Hanover), will be able to fund major projects with capital from the stock market, the market will have to win investors’ trust.

Companies focused on immature markets or with insufficiently mature technology and lacking the resources needed to establish themselves in the market will, however, encounter difficulties regardless of whether the stock market window is open or closed and may go out of business as a result. This clear-out of the market is healthy and there are calls to abandon thoughts of rescuing companies with a broad ’watering can’ programme. Financial help to product-oriented companies on the basis of existing capital market rules is seen as the better alternative and as a way towards ’SAPisation’ - the build-up of critical mass and profitable companies. The software provider SAP, now a global firm, has demonstrated how a company can develop into a leader in the world market with a permanent presence and convincing company growth within two decades of its foundation, with the help of products that are highly valued and correspond to customers’ needs.

The economy runs in cycles. Often the waves of economic growth are only moderate. Sometimes, however, large peaks are followed by disillusioning troughs. The development of the German biotech industry coincided with such a cycle at the end of the 1990s. The steep drop at the end of this cycle had many causes. Now Germany has to learn from its mistakes. The balance sheet is not quite as bad as some make it appear. One thing that the German and European biotech community, locked in competition with North and South America, Asia or Australia, can do without is self-fulfilling negative prophecies. The issues of unsatisfactory conditions or the mistakes of the past, should not be brushed aside. Both are part of the present. What is needed for the future is a motivating and realistic look ahead.