The collapse of Silicon Valley Bank will leave early-stage biotech companies in a funding dearth, experts said this week. But big-name biotech stocks will emerge largely untouched.
Silicon Valley Bank, under the SVB Financial Group umbrella, was the bank of choice for many early biotech companies. Its failure shows the cracks in the fundraising model for early-stage biotech companies, says Robert Cote, founder and chief executive of Cote Capital. Now, many of those companies are on the brink of defaulting on their loans, he said in an interview.
Mina Tadrus, founder and chief executive of Tadrus Capital, says these firms will need to find alternative sources of cash — all while competing against other companies in the same straits.
"The increased competition for funding could lead to higher valuations and more stringent terms, making it harder for smaller startups to access capital," Tadrus said in an email to Investor's Business Daily. "The fewer investment opportunities could mean fewer exit opportunities (initial public offerings or acquisitions) and lower returns for investors in venture-backed businesses."
Meanwhile, biotech stocks are trying to claw back from a dive last week amid SVB's demise. On the stock market today, IBD's Medical-Biomed/Biotech industry group closed 1.3% higher after a 2.1% jump on Monday.
Biotech Stocks And SVB's Failure
SVB's failure is largely a communication problem, says Aaron Rafferty, chief executive of community investing outfit Standard DAO.
The bank saw fewer deposits and increasing withdrawals early this year. SVB tried to shore up its liquidity by selling some $21 billion of its longer-term securities. But given the interest rate, that sale was at a $1.8 billion loss. Later, SVB planned to raise additional capital to cover that loss.
Further, SVB made those moves around the same time crypto-focused lender Silvergate Capital failed. Things quickly spun out of control as companies scrambled to withdraw their money from SVB.
The U.S. government stepped in to secure the deposits. But the whole debacle shows the issue with the early-stage model of investing in biotech companies, says Cote.
These companies are often living "paycheck to paycheck" — that is, fundraising round to fundraising round. Each time they hit a milestone, they announce another round. But those rounds aren't taking off due to low valuations. So, those companies are unable to pay the interest on their loans.
Meanwhile, more mature biotech companies aren't able to exit the market through an acquisition or by filing an initial public offering and joining the ranks of publicly traded biotech stocks. Without either of those, the companies can't pay the principle when their loans become due.
"It's a double whammy," Cote said. "That's why Silicon Valley has a problem. The collapse revealed that the venture capital model is broken. It's broken in a lot of ways."
Minimal Impact For Big Companies
For most biotech stocks, the impact is minimal. Axsome Therapeutics and Rhythm Pharmaceuticals have disclosed cash deposits with SVB. Vir Biotechnology has about $220 million with the bank.
Mizuho Securities analyst Graig Suvannavejh sees the collapse as a buying opportunity. Across the board, the exposure for biotech stocks appears limited. Plus, the federal government is covering the deposits that SVB can't.
"We suggest taking advantage of the recent volatility — not only more broadly across the biotech sector, but also within our coverage universe," he said in a recent note to clients.
Meanwhile, William Blair analysts are more cautious. For publicly traded biotech stocks, the demise of SVB demonstrates the low level of cash available within the industry. Out of 358 biotech stocks the investment bank tracks, 12.5% have just one year of cash on hand and 21.2% have one-and-a-half years of cash on their balance sheets.
"While we know expenses in the sector can vary greatly quarter to quarter as clinical (studies) are initiated and wound down, we believe this estimate highlights that many companies in the sector may experience pressure following the SVB event, and we continue to approach the sector with a stock-picking view," they said in a recent note.
Biotech Stocks Remain Under Pressure
Still, early-stage biotech companies will feel the brunt of the SVB fallout, says Tadrus from Tadrus Capital. That pain is still being felt among biotech stocks. The Spdr S&P Biotech exchange-traded fund has climbed for the past two days, but still remains below its 200-day moving average, according to MarketSmith.com.
While scrambling to find alternative sources of funding — or face defaulting on their loans — they will also need to keep their research in mind. SVB, Silvergate and newly shuttered Signature Bank in New York were all major lenders for the venture capital and startup ecosystem, Tadrus says.
"Their closure could affect the ability of these companies to access the necessary funding and cash flow they need to continue their research projects," he said. "The impact will depend on how much of a disruption is caused by the closure and if alternative sources of financing can be found."
Follow Allison Gatlin on Twitter at @IBD_AGatlin.
