Drug royalty financing thrives in difficult market

By Toni Clarke - Analysis

BOSTON (Reuters) - Private equity funds that specialize in healthcare royalty financing are gaining momentum as investors seek new ways to hedge risk, and companies seek new ways to raise capital.

For nearly a decade, the acquisition of drug royalties has been the province of a handful of specialty funds, which have won loyal, but not widespread, attention from investors.

Now, two trends are converging to generate greater interest: there are more royalties for sale from cash-strapped biotechnology companies, and there is more interest from investors seeking stable returns in a volatile market.

"Large pools of capital have become interested in these investments because they do not correlate to the traditional debt and equity markets," said Timothy Bryant, a partner at the law firm McDermott Will & Emery LLP. "This is a huge market and we are only at the early stages of its development."

A royalty asset gives the holder the right to receive future revenue on a pharmaceuticals product. It is a form of investing that has historically been dominated by four firms: Royalty Pharma, DRI Capital, Paul Capital and Capital Royalty.

Recently a new fund, Cowen Healthcare Royalty Partners, was formed whose principals broke away from Paul Capital earlier this year.

Cowen says it is already attracting interest.

"With the equity markets closed and credit markets without much liquidity, it's not surprising that many of these biotech companies are coming to us and we're seeing a lot of high-quality opportunities," said Gregory Brown, who helps manage the firm's $500 million in funds.

Despite the growing interest, don't expect many new funds any time soon, said Joshua Salisbury, managing director of DRI Capital, which has $1.1 billion in healthcare funds and is raising another $1 billion.

"Investors have a great interest in this," he said. "Hedge funds would love to do what we do but it is a very complex model that requires a lot of commercial and scientific expertise."

That is not stopping a growing number of hedge funds from trying.

"When something works, other people come in and try to do it," said Daniel Spiegelman, chief financial officer of biotechnology company CV Therapeutics Inc (CVTX.O: Quote, Profile, Research, Stock Buzz).

In April, TPG-Axon Capital, a hedge fund with more than $15 billion under management, agreed to pay CV Therapeutics up to $185 million in exchange for rights to 50 percent of its royalty on North American sales of Lexiscan, a stress agent used in the detection of coronary artery disease.

Some analysts were surprised.

"The magnitude of this deal is much bigger than we would expect, since physicians we have queried seem relatively uninterested in a novel cardiac stress agent," said Joseph Schwartz, an analyst at Leerink Swann, in a note following the announcement.  Continued...