The COVID-19 pandemic dealt a devastating blow to societies, economies, and healthcare systems, but the biotech sector proved resilient, attracting a record level of financing in 2020 and the first half of 2021 that has supported a range of exciting innovations.
In late 2021, however, the macroeconomic picture began to change. Although we still see impressive levels of funding for proven innovations, the tougher capital-markets environment has made biotech financing overall more challenging. In this article, we address several important questions using key findings from our recent report on the European biotech sector. We look at how the biotech funding environment has changed over the past 12 months, consider the headwinds and tailwinds affecting the sector, and reexamine widely held beliefs about a European biotech talent gap. Finally, we describe two promising ways forward for biotech leaders and investors in the European market.
A tale of two funding environments
While public markets have tightened since 2021, we continue to see high levels of venture capital (VC) funding and partnership deals for biotech firms, suggesting that sector fundamentals remain strong.
The 29 percent drop in the Nasdaq biotechnology index from September 2021 to May 2022 has made it much more challenging for biotech firms to secure public financing. After a torrid 2020, when biotechs raised a record $29 billion in capital globally through IPOs, biotech IPO activity slowed in the second half of 2021 and virtually halted in the first half of 2022. Total capital raised through biotech IPOs worldwide in fourth quarter 2021 and first quarter 2022 fell by 63 percent compared with the same period a year before.
This trend is not unique to biotech; other innovative sectors that boomed over the past two years have experienced similar pullbacks.
Despite recent pressures in the public market, private investments in biotech remain high, and companies can still secure financing if they have promising science supported by evidence. VC investments in the sector remain relatively stable worldwide at approximately $10 billion a quarter (Exhibit 1). While partnership deals continue to increase in frequency and value, the value of mergers and acquisitions is declining, mainly because of a drop in billion-dollar deals in recent years.
As the financing environment continues to shift, we see three likely developments:
- Big Pharma will deploy its cash stockpile. Big Pharma has accumulated $330 billion in cash.
Biotech firms could take advantage of the recent downturn in biotech valuations to embark on a wave of deal making.
- Biotechs will rely more on pharma partnering and private funding. As the IPO window has narrowed, biotechs are increasingly looking for private sources of capital. The typical biotech is likely to adjust its path by delaying its IPO and acquiring more growth funding through private capital sources. In addition, we may see fewer new-product launches than in recent years.
- Cash will be managed and portfolios reprioritized. While financing remains tight, biotech companies are likely to reprioritize their portfolios and manage cash more tightly to find viable paths to long-term value creation.
European biotech is buffeted by new tailwinds and headwinds
Biotechs are facing a mix of tailwinds propelling the sector forward and headwinds presenting challenges that only the strong will be able to overcome.
Tailwind 1: Continued strong innovation
We continue to see impressive levels of biotech innovation around the globe as measured in publication volume, patent activity, a growing industry pipeline, and an increase in approvals.
Europe, in particular, continues to be a scientific powerhouse: in 2021, it produced nearly 750,000 scientific publications, compared with approximately 400,000 in the United States. Publications from China have also accelerated in recent years, growing at an annual rate of 18 percent between 2019 and 2021.
In translational science, more than 250,000 biotech patents were granted in Europe, China, and the United States from 2012 to 2021; nearly a quarter of them came from Europe.
The flourishing scientific environment has created a robust development pipeline, with a consistent 8.2 percent yearly growth in investigational new drug submissions globally since 2014. In particular, newer modalities such as cell and gene therapies are spurring innovation, with 20 to 25 percent year-on-year growth in the global preclinical and early-clinical pipeline over the past five years.
Strong science and growing pipelines, combined with companies getting better at navigating approval requirements, have increased the number of products approved annually by the US Food and Drug Administration (FDA) and the European Medicines Agency (EMA). FDA approvals have doubled, from 29 in 2011 to 60 in 2021, with 62 percent of them first in class, and EMA approvals have ticked up from 80 percent between 2011 and 2015 to 89 percent from 2016 to 2020. The share of approved products leveraging special regulatory mechanisms, too, has gone up, from 31 products between 2011 and 2015 to 51 products from 2016 and 2020, highlighting how companies have improved at navigating approval requirements.
Tailwind 2: Biotechs drive innovation in the broader pharma industry
Biotech has long been a critical source of innovation for the pharmaceutical industry, and this role has grown over the past two decades. Consider that in 2003, the top ten pharma companies still accounted for 53 percent of clinical trial enrollment. By 2021, the top ten firms enrolled only 18 percent of clinical-trial participants (Exhibit 2). Big Pharma holds a significantly smaller share of the total revenue pie than it did 20 years ago, and biotech firms are reaping the rewards.
Tailwind 3: The capital landscape continues to mature
The availability of private capital continues to grow worldwide, suggesting that venture capitalists have considerable reserves to deploy. European healthcare-focused VC funds have grown at an annualized rate of 24 percent since 2012, though they raised only $6 billion in 2021, while their counterparts in the United States and China raised $20 billion and $8.6 billion, respectively. Late-stage funds have seen significant growth in recent years. Since 2012, the annualized growth rate of the average late-stage fund has grown by 26 percent in Europe and 13 percent in China.
We also see European private investors exploring growth funding for biotechs, including acquisitions of life-science-focused VCs by large private-equity firms such as EQT Group Stockholm’s acquisition of Netherlands-headquartered Life Sciences Partners in November 2021.
Headwind 1: Evolving pricing and access environment in the industry
A slow but steady downward trend in US pricing for brand-name drugs began in 2015.
In addition, health-economics considerations are expected to become ever more important for gaining and maintaining market access. Evidence generation is becoming increasingly important and complex, with heterogeneous needs between countries—for example, cost effectiveness is prioritized in some markets, while clinical benefit is prioritized in others. All of this could be addressed with a single global-evidence plan.
Headwind 2: Indirect and direct effects of the war in Ukraine
The invasion of Ukraine in February 2022 is having deep human, social, and economic impacts in many countries. Like other industries, the biotech sector is feeling the force of high inflation caused in part by sharp increases in oil and natural gas prices, but it’s also facing its own specific war-related challenges, particularly due to the disruptions of clinical trials. There are more than 1,000 active clinical trials in Ukraine, Russia, and Belarus. McKinsey analysis shows that approximately 500 trial sites and 25,000 patients enrolled in trials in Ukraine face direct risks from the war.
The biotech talent gap in Europe is starting to close
A purported talent gap is often cited as a challenge for European biotechs. While US biotech firms do enjoy higher talent availability driven by the larger scale of the US biotech ecosystem, our analyses suggest that the quality and availability of biotech talent in Europe is approaching parity with US levels.
Demand for biotech talent exceeds supply in the United States and Europe due to the rapid growth of the sector. From 2019 to 2021, the number of biotech firms with more than one funding round grew at a CAGR of 15 percent in Europe and 16 percent in the United States.
Science, technology, engineering, and math (STEM) talent is also growing but at a much slower pace. Indeed, biotech firms often consider the lack of available talent a key bottleneck to their growth plans. McKinsey analysis of Eurostat and IPEDS (Integrated Postsecondary Education System) data shows that from 2016 to 2019, STEM university graduate talent grew at a CAGR of 5 percent in the United States and just 2 percent in Europe, spurring significant competition between the continents. European biotechs are closing the gap with their US counterparts in how long it takes to fill open positions. In 2018, it took European biotech firms an average of 69 days to fill open positions—two weeks longer than the 55 days it took in the United States. Just three years later, European biotech firms needed only 44 days to fill an open role—just six days longer than US firms, according to McKinsey analysis (33,892 US biotechs, 12,394 European biotechs).
When we look at international biotech talent flows, the United States still has access to more experienced executive talent. We know that a third of European executives and investors think European biotechs lack a sufficiently entrepreneurial mindset. However, we see serial entrepreneurs emerging in Europe, including experienced biotech leaders relocating from the United States.
To gain ready access to talent, biotech firms tend to operate in a small number of global innovation hubs. From 2020 to 2021, 13 hubs attracted 74 percent of global biotech funding and served as home base for 71 percent of new biotech start-ups (Exhibit 3). These 13 hubs are as important today as they were in 2015.
In the United States and Europe, biotech executive teams are becoming increasingly international. One-third of C-suite roles for European biotech firms are actually located in the United States, while in the United States, a quarter of the larger biotechs have Europe-based C-suite roles (though only 4 percent of firms with fewer than 575 employees do).
European and US biotech firms have practically reached parity on key performance indicators regarding talent. We see small differences in average industry tenure (18 years in Europe, 17.5 years in the United States), retention (88.8 percent in Europe, 89.8 percent in the United States), and tenure at a particular company (8.0 years in Europe, 8.2 in the United States).
The quality of biotech R&D talent in Europe is perceived to be almost on a par with that in the United States, and European biotechs have made significant strides toward closing the commercial talent gap with the United States.
Given the international market for biotech talent, European firms might want to keep tabs on one warning signal that is flashing red: employees report 8 to 10 percent lower satisfaction than their US counterparts on many metrics, including culture, work–life balance, and compensation.
In general, US biotechs seem to better align their employees with the company’s strategy and mission.
Leading the way to the Bio Revolution
Given healthy sector fundamentals and with strong financial support from private markets and partnerships, we believe the European biotech sector has excellent potential to move forward and continue closing gaps with its US counterparts. However, Europe still lags behind the United States when it comes to translating promising academic research into start-ups.
Looking ahead, European biotechs can seize a promising strategic opportunity by taking leading roles in the Bio Revolution that’s building, thanks to advances in computing, data, analytics, machine learning, artificial intelligence, and biological engineering. These synergistic breakthroughs are fueling a new wave of innovation with the potential to solve major medical needs in four categories:
- biomolecules: the mapping, measuring, and engineering of molecules
- biosystems: the engineering of cells, tissues, and organs
- biomachines: the interface between biology and machines
- biocomputing: the use of cells and molecules such as DNA for computation
To navigate the turbulent times, biotechs will need to continue to innovate, drive efficiency, and bring breakthrough science to patients faster. We see this as a challenging yet exciting time ahead.