The ABC of biotech startup funding

Unlike other industries, biotech startups often require substantial initial capital to support extensive research and development (R&D), clinical trials, and regulatory approvals before generating any revenue. This high-risk, high-reward environment makes navigating the biotech startup funding landscape particularly complex.

In this article, we provide a comprehensive guide to the various funding options available to biotech startups. By exploring the advantages and disadvantages of each funding source and offering practical advice on choosing the right strategy, this guide aims to equip biotech entrepreneurs with the knowledge needed to navigate this challenging journey.

Jörg Klumbis, chief financial officer (CFO) of Peptomyc, a biotech that has gone through the biotech startup funding journey, Katerina Stroponiati, founder of Brilliant Minds, a venture capital fund operating in the life sciences space, Michael Salako, investment director of Start Codon, a life science-specialized venture capital fund, and Kathleen Lee, director of applied research centers at Partnership for Economic Innovation (PEI) and vice president of regional initiatives at the Greater Phoenix Economic Council (GPEC) shared their experience and advice.

Bootstrapping and crowdfunding, not the best options for biotechs

Bootstrapping involves building a company from scratch using personal funds and resources, such as savings and revenue from initial sales, rather than relying on external investments. Crowdfunding leverages contributions from a large number of people, typically via online platforms, to raise small amounts of capital from each contributor.

While bootstrapping allows the owner to retain full control and independence from investors in the decision-making process, it is necessarily limited in terms of financial resources and it comes with much higher personal risks. 

In an interview given to Founders Network, Garren Hilow, the creator of Abveris, explained how he successfully bootstrapped his biotech company by focusing on generating revenue early and avoiding the dilution of ownership that comes with external investment. However, while he was successful as he owned more than half of his company when he sold it for $190 million, his story is also the perfect example of the personal risks involved in bootstrapping a biotech startup. 

Talking about taking two million dollars worth of debt using the house he bought to launch Abveris, Hollow said either bankruptcy would allow him to go back to zero or the company would keep going up. “That irrational fear of loss needs to be overcome by any rational business person making any decisions,” he said to Founders Network. Abveris might very well be the exception to the rule.

Indeed, according to Klumbis, bootstrapping is less suitable for investment-intensive sectors like biotech, but it can be feasible for fields such as health tech or diagnostics​​. With this method, the company needs to generate revenue quickly, which is not generally the case in biotech. 

Salako notes that the most common sources of funding in this case are friends and family and, while this means there will be no lengthy process involved, there are risks. “There is a chance to enable those close to share directly in the success of the company at a positive exit but it comes with the worry that if the venture isn’t successful and the capital can’t be returned, will that put a strain on a relationship going forward.” 

In most industries, companies don’t give up equity when resorting to crowdfunding. However, this is not true in biotech as biotech cannot sell to the consumer and most crowdfunding companies are equity-based. One of the main qualities of crowdfunding is market validation, but is it really applicable to biotech? Crowdfunding can be effective for projects with strong consumer appeal and clear, tangible benefits. Crowdfunding isn’t as effective for high-cost biotech projects due to the substantial capital required for R&D and clinical trials​​.

Government grants and subsidies, essential steps for biotech startups

Government grants and subsidies are non-repayable funds provided by government agencies to support specific projects, such as R&D in biotech startups. These funds can come from various sources, including federal, state, and local governments, as well as international bodies like the European Union (EU).

Stroponiati explains that biotech startups rely heavily on government funding, especially at the earliest stages. “It’s wise for a biotech startup founder to realize early on that non-dilutive capital from the government is critical for funding the R&D phase and a significant portion of clinical trials,” she said.

Here are some  examples of government grants and subsidies:

• SBIR and STTR grants: In the U.S., the Small Business Innovation Research (SBIR) and Small Business Technology Transfer (STTR) programs are major sources of funding. They provide significant funding for R&D, from proof-of-concept (phase 1) to commercialization (phase 2)​​.
• National Institutes of Health (NIH): The NIH offers a variety of grants to support biotech research. In 2022, the NIH invested approximately $45 billion in research funding.
• European Union: The EU offers numerous grants and subsidies through programs like Horizon Europe, which supports research and innovation projects. Funding is managed either directly by the European Commission or in partnership with national authorities​​. For instance, Peptomyc, Jörg Klumbis’ company has been recently awarded an EIC Accelerator (subsidy) and a Collaboration of Public and Private (CPP) sector grant (soft loan). “The main benefit is that these tools finance very risky projects, which other entities, like banks, will not support without guarantees or pledges that a biotech startup usually is not able to provide,” said Klumbis.

Grants and subsidies are essential in the development of startups in the biotech space and they present a lot of advantages, the first being that these funds are non-dilutive meaning the companies receiving them do not give up equity. Also, grants provide essential funding for high-cost R&D activities, allowing startups to progress without the immediate pressure of generating revenue. The highly regulated nature of these fundings adds credibility to what the company is working on.

There are downsides to grants and subsidies too. Securing them goes through a highly competitive application process and the timelines between application and actual funding can be lengthy, potentially causing delays in the company’s schedule. Once the funding is granted it does not come with no strings attached. Grantees must adhere to stringent guidelines and regularly report progress. 

However, the positive vastly outweighs the negative. “Many founders I speak with feel negatively about grants because it can take a lot of time or because of the operational complexities involved. But, for startups that need U.S. Food and Drug Administration (FDA) approval, clinical trials might require millions of dollars. Only some venture capitals (VCs) will fund at this stage without government money because the founders would get highly diluted and because the money is spent on long-term, high-risk trials,” said Stroponiati. 

Salako agrees that grants should not be overlooked. “Even if the outcome wasn’t ultimately successful the process involves getting feedback from a range of assessors which can be very helpful to the startup going forward.” However, he also notes that sometimes the grant criteria can be a bit opaque. “Different grant-giving bodies have particular strategic asks they seek over and above the science and tech that may not initially be that transparent but can often be the reason some promising proposals fail,” Salako said. So however promising and solid the science, there is no guarantee of the outcome.

Stroponiati identifies a caveat, startups should be very clear about the future right to their intellectual property (IP). “Moderna received significant government funding for its COVID-19 vaccine development, leading to disputes over IP rights and revenue sharing. Through entities like the NIH, the U.S. government sought recognition and potential royalties for their contributions. As these companies grow into multibillion-dollar enterprises, transparency and clarity on IP rights are crucial to avoid future conflicts.”

Klumbis advises resorting to external consulting firms when it comes to preparing the application, especially when you lack the experience and expertise in grant financing.

“There are several external consulting firms specialized in grant writing and know the insights of the ‘makes and breaks’ of a successful application, and they can be extremely useful, especially for first applications. Most of them work on a success basis or charge a very low fixed fee. They are a good filter to get an idea of whether your project will be competitive. The downside of such a full service may be the percentage that they ask in case of being awarded. An alternative is to prepare most of the documents in-house and hire the consultants only for revisions.”

Angel investors, an overlooked source of funding for biotechs

Angel investors are high-net-worth individuals who provide capital to startups, usually at the very early stages, in exchange for equity ownership or convertible debt. They often invest their own money and bring not just funds but also mentorship, industry expertise, and valuable connections to help startups grow​.

The most unique upside when receiving funds from an angel investor is the mentorship that comes with it. The industry experience of the investor should be at the heart of your decision to engage with them. As you are dealing with individuals rather than corporations, the process of securing funding can be faster, and the conditions and terms might be more flexible and favorable in comparison to institutional investors.

However, resorting to angel investors inevitably results in ownership dilution as you will give up a portion of equity in the company in exchange for the funds. The fact that you are dealing with individuals is a double-edged sword, as some investors might want a say in how the company is run, potentially leading to conflict. Klumbis warns that angel investors typically seek a fast return on investment and can add pressure on the startup to scale rapidly.

To find the right angel investors, platforms such as AngelList, Life Science Angels, and Tech Coast Angels can come in handy. Industry conferences and networking events can also help. As Klumbis puts it, in angel investment, it all comes down to the people: “Angel investors bet their money mostly on people, so their connection with the team is crucial.”

According to Salako, angel investors generally don’t lead funding rounds, so a startup would still need to find a lead. But he agrees they can be a good source of funding. “For the start-up, angel investment can be hugely beneficial as most angels understand the risk and are bought into the company’s vision to make a good return on investment, so ideals are aligned.” He warns however that they may invest via a convertible loan note that is a debt instrument and thus would mean the company would need to pay interest annually on this loan.

To attract angel investors, Klumbis believes that as much detail must be thought through. “Biotech startups should build a team with strong science, business acumen, and exit experience.  The team can be composed of the management and external advisors. Then, they should present a realistic business plan and make sure that all angel investors are aware of the risk and the duration of the project.”

While certainly relevant when pitching to angel investors, this advice is true for our next source of funding.

Venture capital: Biotech startups’ most important funding sources

VC involves investment from firms or funds that provide capital to startups with high growth potential in exchange for equity. These firms often provide more than just funding; they offer strategic guidance, industry connections, and business development support. 

VC firms can provide substantial amounts of funding, which is crucial for biotech startups needing extensive R&D and clinical trials. Like angel investors, VCs bring expertise and mentorship, helping startups navigate the complex biotech landscape. As they operate on a larger scale, VCs offer valuable industry connections that can lead to partnerships, further investments, and business opportunities.

VC is the perfect complement to governmental sources of funding. “Biotech startups rely heavily on both government funding and venture capital. Government money, however, cannot be used for marketing, branding, or business development. So, raising venture capital is essential when transitioning to these phases,” said Stroponiati. 

According to Salako, the trend in VC investment is to de-risk opportunities, making it more challenging for biotech startups to secure funding. “It is fair to say that the funding environment for biotechs has been extremely challenging and thus the bar for venture capital investment, even at the earlier stages, has increasingly crept up. VCs are looking for opportunities that are more de-risked – This could be in terms of greater technically de-risked data or de-risking from the point of view of demonstrating strong product-market fit. Thus, in such an environment, biotech start-ups need to be ready and waiting for any opportunity to put their best foot forward.”

To adapt to this funding landscape, Salako advises biotech startups to be cautious and organized. “They should have a light touch non-confidential deck to send out and set the scene and a longer, more technical non-confidential deck that they can quickly talk to on a call if afforded the chance. They should also create and actively add to a data room once the button is pushed on more in-depth due diligence, and they should map out what inflection points they could reach with different amounts of capital toward a timely exit.” He also advises young companies to check in regularly with potential strategic acquirers to make sure they have their fingers on the pulse as to market sentiment and any changes to the landscape. “Ultimately, the start-up needs to regularly refine its plans and docs in an ever-changing macro-economic market,” Salako said.

Stroponiati explained what she is looking for in a biotech startup when deciding to invest or not: “As an investor, I’m looking for biotech startups with founders who truly understand the market and past solutions. The industry often sees repetitive cycles, with new founders recycling old ideas. I value obsession with solving the problem but also being open to iterating when needed. Are they open to refining their approach based on challenges and market changes?”

With VCs, founders must give up a substantial equity stage in the process. According to Klumbis, biotech startups must however seek VC investment as early as possible. “Startups should look for the entry of VC funding already very early and try to finance most of – if not all – the journey, especially when they are doing something very new and complex. On the other hand, the startups must be aware that, even with a project that means a tremendous opportunity, a solution for a relevant problem, and a great team, without convincing data the probability of success in a VC round will be low.”

Corporate venture capital, a strategic investment

Corporate venture capital (CVC) is similar to VC but involves investments made by large corporations. CVCs provide not only capital but also deep industry knowledge and technical expertise. Investments are often aligned with the corporation’s strategic goals, bringing potential synergies. Startups may gain access to the corporation’s resources, including R&D facilities, marketing channels, and distribution networks.

“Traditional venture capital is focused on returns and providing capital back to the fund’s limited partners (LPs), whilst, for CVC, who have no LPs and whose primary backer tends to be the parent company, they are focused on investing in opportunities strategically aligned with the parent company’s interests,” summarized Salako.

That is the reason why according to Salako, biotech startups need to be mindful of what the parent company’s core business is and whether the start-up offering would be a strategic fit, as the CVC would likely be tasked to invest in this space or spaces adjacent to the parent company’s business areas.

While caution is required, CVCs give considerable credibility to the startup and might have a longer-term vision for the company. “Having a CVC on board would raise the credibility of the company. By implication, the start-up will have passed due diligence and found to provide something that a corporation feels could be beneficial to their market, which in biotech/pharma would generally be a global market. It would signal to other investors that the CVC could potentially be an acquirer of the company, increasing the chance of an exit. It would signal to other potential industry partners that they should consider undertaking strategic partnerships with the start-up, which could provide upfront cash payments and downstream milestone and royalty-driven income, thereby further increasing the value of the company,” said Salako.

Although the goals of the corporate parent company in CVC are usually aligned with the startup’s long-term vision, it may not always be the case and can result in strategic misalignment. The process may be slower when dealing with a larger corporation and heavy reliance on the partner’s resources can be risky if the partnership ends. “Constraints may be imposed upon the company if data starts to emerge from the start-up that could take the start-up away from this strategic direction,” noted Salako

“Corporate venture capital has almost the same impact as partnerships. You can get dilutive money, other resources, and the know-how – usually only for early-stage projects – but they may suffer from the slower pace of a big organization. Traditional VCs in Europe give you more autonomy in the development of the project and finance later series too,” said Klumbis.

In any case, it is important to develop a strong relationship with investors very early on and articulate how the startup’s goals align with those of the VC or CVC.

Strategic partnerships and collaborations

Strategic partnerships involve formal alliances between biotech startups and larger organizations, such as pharmaceutical companies, research institutions, or other biotech firms. These collaborations aim to leverage complementary strengths, resources, and expertise to advance mutual goals, such as drug development, research, and commercialization.

Very much like CVC, partnerships provide startups with access to advanced technologies, research facilities, and industry expertise that may be otherwise inaccessible. Collaborating with a partner allows for the distribution of financial and operational risks associated with high-stakes biotech projects. Resorting to partnerships can also expand a startup’s network, open doors to new market or funding sources, and more broadly industry connections.

“Strategic partnerships are a good tool for the generation of traction of a project, as the partner in general will be seen as a seal of excellence. Furthermore, they can provide non-dilutive funding in the way of cost-sharing and be the start of a future exit. The main risk will reside in the impact on speed as a big partner can slow down the process of reaching the market,” said Klumbis.

While Klumbis sees the risk of being slowed down by a more established partner, Lee thinks it can actually accelerate the timeline of developing a commercially viable product. 

“The applied research process is a collaborative effort that ensures the technology startup is solving an industry problem, working with university researchers, and validating the solution in a clinical setting. Through partnerships with research institutions, health systems, and private companies, biotech entrepreneurs can access resources and expertise that they may not be able to otherwise obtain so early on in the development process. The process utilizes resources from public and private partners to better manage the complexity of product development and commercialization processes that prevent many startups from getting out of the lab and into the marketplace.”

Partnership must be well thought through. Differing objectives and priorities between partners can lead to conflicts, potentially stalling progress. That is why structuring the partnership agreements with the interests and vision of the startup in mind is key and requires careful negotiation and IP protection especially as you might be dealing with considerably bigger companies. Indeed, the trend in biotech is to megadeals, meaning big players in the field are involved more than ever.

Present a compelling value proposition that highlights mutual benefits at the beginning of the relationship. Ensure that your pitch clearly communicates the technology’s potential and how the partnership can achieve shared objectives. When negotiating you should define roles, responsibilities, and expectations from the outset. Establish a clear strategy and performance metrics to guide the partnership. Ensure that the intellectual property rights and financial arrangements are well-documented and agreed upon​.

Debt financing, for biotech startups clear plan to reach break-even

Debt financing involves borrowing money to be repaid, typically with interest, under predefined terms. Unlike equity financing, which involves giving up a portion of ownership in the company, debt financing allows startups to retain full control while acquiring the necessary funds. Common forms of debt financing include traditional loans, credit, and convertible debt, where the loan can be converted into equity at a later stage.

Debt financing involves borrowing money to be repaid, typically with interest, under predefined terms. Unlike equity financing, which involves giving up a portion of ownership in the company, debt financing allows startups to retain full control while acquiring the necessary funds. Common forms of debt financing include traditional loans, credit, and convertible debt, where the loan can be converted into equity at a later stage.

The first obvious advantage of debt financing is that it is non-dilutive, allowing founders to maintain control over their company. Although it does engage your company to repay your financial obligations, interest rates are fixed and the repayment schedules allow good visibility in the long term. 

The startup must have the ability to generate consistent revenue and manage cash flow effectively to meet debt obligations. It is also important, as you would do in any loan, to shop around to find the most competitive interest rates and the most flexible repayment terms.

According to Klumbis, debt financing is an option only for companies with good visibility on cash flow. “In our experience, debt financing only works when the startup already has revenues and a clear plan to reach break-even in a short period of time.”

Funding a startup in biotech, a combination of methods

As Stroponiati said, biotech startups rely heavily on government funding and VC funding, so it is a combination of solutions that leads a biotech startup to being successfully funded. Klumbis shared the journey of his company, Peptomyc. For context, its business model is to bring its compounds up to clinical trial phase 1/2 and then out-license them to pharma companies. 

“We started our journey in 2014, and our first-in-class direct pan-MYC inhibitor OMO-103 is now in phase 1b clinical trial and will initiate a phase 2 trial after the summer. You need strong partners for such a risky, long, and money-intensive journey. In our case, we counted on specialized VCs, an important business angel group, and governmental – Spanish and EU – support, as shareholders or via grants or soft loans. The total investment so far has been €31 million ($33.5 million) of dilutive and €11 million ($11.9 million) of non-dilutive financing,” said Klumbis.

Klumbis also notes VC funding seems to be on track for recovery in the industry. “After the headwinds of VC funding in the last years, we see a certain recovery in VC investment, mainly in preclinical companies, and later stages where the expectations on supportive data have increased.”

Lee identified that a common mistake biotech startups make in their funding strategy is not having a clear path mapped out for commercialization. 

“Biotech startups innovate to find solutions to some of the most complex problems in the medical industry in the hope of improving patient care outcomes and saving healthcare professionals time and money. Without having a product development, testing, validation, and commercialization plan in place, they can’t fulfill this mission.” Lee also advises entrepreneurs to be aware of markets and regions where biotech activity is showing signs of growth, as this is an indicator of where investors are putting their dollars.

According to Salako, it’s a combination of small mistakes and misconceptions that can steer the biotech startup away from funding. “start-ups often focus on investors that may have invested in a similar company to the start-up in the past, but they may not want to invest now in the same space. So a lot of time could be wasted courting the wrong investor when there will be more suitable ones out there. Start-ups often underestimate the timelines and milestones when charting a path to exit, so they should generate a more realistic route with robust contingency plans. Start-ups also underestimate regulatory challenges, so securing an experienced advisor who can help devise a plan, would further decrease the risk to an investor. Making sure the company owns all the IP, as without the IP a company’s value would be greatly diminished.”

The journey to funding a startup in the biotech industry is long and it is not only about the funds but also about the added value investors can bring to your company. The adequate combination of sources vastly depends on your business model but governmental grants and subsidies in addition to VC investments seem to be the way to go in the industry as companies are dealing with long timelines and are rarely able to generate revenue early on.