What healthcare and life sciences founders need to know about 409As

What healthcare and life sciences founders need to know about 409As

Author: Andrew Radant
Read time:  4 minutes
Published date:  22 July 2021
Seeking valuation looks very different for biotech companies and others in the HCLS industry. Here’s the rundown.

After working with companies on upwards of 20,000 409A valuations, we’ve seen some patterns emerge—particularly around companies in healthcare and life sciences (HCLS). Seeking a valuation looks very different for biotech companies and others in the HCLS industry. Here’s a rundown of what these companies face, and how we worked to solve these problems in a rapidly growing industry.

The unique valuation problems HCLS companies face

While traditional tech tends to see an IPO as an opportunity to either cash out or grow big, biotech companies (especially pharmaceutical companies) often see going public as a fundraising event, using IPOs or SPACs to support the next round of clinical trials. Combine this practice with investor demand, and it means that HCLS companies tend to go public earlier. 

Going public early leads to several challenges founders need to navigate. Especially compared with a more traditional tech company, you’ll need more support with the valuation and audit process. For instance, many biotech companies don’t have revenue that can be used to calculate a valuation, and profitability can often be years away. Most standard methods rely on revenue or cash flow to determine a valuation; that doesn’t work here. 

HCLS is also a very specialized industry with mechanisms for going to market that differ from traditional tech. They include specific regulatory processes, like FDA trials and approvals. For that reason, founders in the industry are often highly specialized subject matter experts. Meanwhile, funding often involves tranched equity and lots of grants. Along with a need to stay leaner for longer before generating revenue, that means there may not be a “finance person” on an HCLS team when it comes time for a 409A. If so, companies may need more time to make sure everyone understands the valuation and more support to get over the goal line.

Solving for these problems

First, we tackled the need for more support. We believed that customers would be happier with a dedicated team of specially trained analysts who “spoke the language” of the industry and had  enough information to be really useful to biotech teams.  In January of 2021, we formed a full-time team dedicated specifically to 409A valuations for HCLS companies. 

As we built out the team, we developed new, HCLS-specific approaches for factoring in biotech IPOs and SPACs. For example, we saw that biotech companies not only go public earlier, but frequently at much lower valuations than other tech companies. Workflows created for early-stage tech companies don’t make sense for HCLS, so we organized our team to give individualized support through the complex IPO readiness process. We also standardized our approach to tranche financings to streamline the audit review process.

Then we turned our attention to the timeline problem. A tech IPO will usually rely on revenue or EBITDA multiples, often with a discounted cash flow analysis that looks at long-term projected profitability. You can’t reliably do this with (for example) a pharmaceutical company that’s still pre-revenue and doesn’t expect to be profitable for years. So when HCLS companies have long-term projections, we’ll look at them to corroborate other methodologies, but we rely on more robust methods whenever we can, such as looking at the company’s pipeline and comparing it to similar publicly traded companies. 

This has been an interesting year to work more directly with companies in this industry. 2020 was a super-hot year for the public biotech market—many companies went public via IPOs and SPACs, and many existing public HCLS companies saw huge increases in their market caps. We saw a similar uptick in the private market, especially (though not surprisingly) for companies associated with COVID solutions. 

But though there was definitely a huge interest in companies that could help us get through the pandemic, COVID wasn’t the only driver of progress over the past year. We expect to grow our team as this industry grows, and we’re happy to share more about the team and how we work with healthcare and life sciences companies to solve problems. You can contact us here if you’re new to Carta, or if you’re an existing customer, reach out to your customer success manager here. We’re happy to help.

DISCLOSURE: This communication is on behalf of eShares Inc., d/b/a Carta Inc. (“Carta”).  This communication is for informational purposes only, and contains general information only.  Carta is not, by means of this communication, rendering accounting, business, financial, investment, legal, tax, or other professional advice or services.  This publication is not a substitute for such professional advice or services nor should it be used as a basis for any decision or action that may affect your business or interests.  Before making any decision or taking any action that may affect your business or interests, you should consult a qualified professional advisor.  This communication is not intended as a recommendation, offer or solicitation for the purchase or sale of any security. Carta does not assume any liability for reliance on the information provided herein. ©2021 eShares Inc., d/b/a Carta Inc. (“Carta”). All rights reserved. Reproduction prohibited.

Andrew Radant manages Valuations at Carta and is passionate about private market investments. Andrew graduated from Northwestern University, majoring in applied mathematics and economics.