Using Grants to Reduce Cash Burn and Equity Dilution

Entrepreneurs can be defined as “businessmen who utilise resources beyond their direct control”.  In the early phases of research or product development, some technology entrepreneurs tend to take advantage of grants from various sources to progress their scientific ambitions. I have learnt that many CFOs disapprove of this source of finance as they prefer the company’s science teams or entrepreneurs to focus on generating “commercial” sources of cash via sales and/or the raising of Private Equity.

Grants are very useful as they minimise spend on core R&D (enabling saved funds to be invested in other functions such as sales). Also, contrary to loans, grants have no penalising interest and capital repayments required and, unlike Private Equity, there is no share ownership dilution! So, in this “cold financial winter”, the CFOs may at last start warming to this source of money?

I have observed in the biotech media and blogosphere that, since Private Equity is now becoming rare, start-ups in the US and Europe are now hunting down relevant Research Foundation or Government Grants to fund their science programs. There are also specialist conferences emerging across Europe dedicated to explaining to SMEs and academics the availability of various grants. So, in the words of Bob Dylan, “The times they are a changin…”.

Over the last several years, as part of my business development activities, I have gathered together a novel database collection which contains information on almost 200,000 funding sources for new enterprises, and around 2000 sources specific to life sciences. The sources of funds includes: Charities, Foundations, Loans, Lease Finance Firms, Government Grants, Regional Development Agencies, Government R&D Tax Credits, Corporate Donors and Sponsors, Philanthropists, High Net Worth Individuals, Angel Syndicates and Venture Capital (VC). The vast majority of the database entries are grants from various institutions. Currently, our financing database is mainly UK-based with a proportion from the US and large European Union funding sources (e.g. Framework 7) now being integrated. This set of information is unique and can be exploited by SMEs ranging from pre-start-up firms with intellectual property (IP), which need a balanced, corporate financing strategy, through to an established firm wishing to identify all sources of funding for its planned growth (or even survival in this harsh, economic climate?).

Let’s examine a common biotechnology start-up paradigm: identify some IP, get some seed investment from an angel or VC firm, create or update the business plan and then use the seed money to leverage a commercial partnership and subsequent round of Private Equity. This could take 12-18 months, is focussed, formulaic but not truly entrepreneurial.

Let’s revisit this model in light of our improved understanding of available “resources”. This time we will be truly entrepreneurial: go get some IP, bootstrap the company for a little while and meanwhile create a plan which reviews all of the known financial resources available to generate a robust financing strategy. This will involve the accessing of funds in a systematic manner such that the overall cash coming into the business is increased - improving the company’s cash-flow and valuation and minimising the owners’ equity dilution. A much better scenario in anyone’s view.

However, even with grants there are some hurdles to overcome: forms to complete, presentations to give and a decision-making process that can take 3-12 months. Also, one must carefully read the details of the conditions of the associated contract as certain awarding bodies may claim some or all of the emerging IP. Saying that, a shrewd SME can still use these funds to progress its plans and is usually in a prime position to be the first firm considered as a licensor of any shared IP. Noticeably with grants, funding success is not always guaranteed: most individuals or companies will win 1 in 4 applications (recent figures from Nature).  In my view, this can be significantly improved with a better understanding of the grants available, specific grant selection and targeting, professional drafting of the application and involvement of the correct individuals and/or team to win favour from the review panel.

To compare this approach, only up to 5% of those companies wishing to obtain Private Equity investment are successful. Plus a VC investment process involves lengthy due diligence. This takes significantly longer and is more expensive than a grant submission - as the former involves preparation and review of multiple technical, business, financial and legal documents. Currently, global VC investment in new firms has significantly decreased as the VCs preserve their funds to provide lifelines for their current portfolio of companies.

While the recession has undoubtedly reduced the net worth of most philanthropists and business angels, there are complex patterns according to geographies and philosophies. Some investors in the UK have cash to invest but the bank interest rates are so low that angel investment rates in some regions (e.g. Scotland) have gone up. The angels have seen that the valuations of start-up firms have gone down, are competitively priced and thus the financial returns should, in theory, be significantly better over the mid to long-term than other types of investment. Whereas in the US, angel investment has crashed – perhaps due to a larger exposure to the Stock Market or difference in market outlook?

Charities, Foundations and Government grant funding sources are usually more impervious to economic pressures as they have a longer-term view of the world and are more consistent in delivering on their objectives to invest a certain amount of money per year – no matter the state of the economy. Thus, they are a relatively predictable and stable source of finance.

Another market observation has been the recent (re-)emergence of the Venture Philanthropist (remember Andrew Carnegie?). Recent examples include Tom Hunter, Warren Buffet and Bill Gates. These individuals are now giving away hundreds of millions of dollars to scientific and humanitarian causes. These funds will likely grow in the future and may well increase the amount of funding available to biomedical science based start-ups?

In conclusion, talented entrepreneurs should consider all sources of finance to generate fuel for their business. To date, a major barrier to doing this successfully has been the lack of a codified set of information. To this end, ATPBio has developed such an approach, and is able to work with external individuals or companies to enable their subsequent growth. Other challenges have included available management ability, energy and experience to juggle these funding options, prepare applications and process them successfully.  We also have expertise to help here with the provision of professional, business support services. In our view, the future of financing businesses is via improvements in strategy, exploitation of a portfolio of funding sources and adoption of more entrepreneurial processes. The future starts here……..

This article was written by Dr Frank F Craig MBA. Frank is an entrepreneur who has (co-)Founded several biotechnology companies, one of which grew to have a market capitalisation of almost £2 billion. He has raised Venture Capital and utilised many sources of finance to fund his companies. He is a Principal at ATPBIO and also manages his own consultancy business, Life Sciences Consultancy Limited. Working with colleagues, Frank has also been key in winning a recent research grant of £1.6 million for a new biomedical software venture.