Sponsors flock to new opportunities in pharma services

Companies providing services to drug-makers are particularly hot. Sales of recent assets have commanded EBITDA multiples in the mid-teens to 20x.

Unrelenting pressure to hold down costs and demand for better drugs has made pharma services a critical market for dealmakers. Competition is stiff and is expected to grow even more intense.

McKinsey reports that total EBITDA in the healthcare services and technology market could grow from $35 billion in 2016 to close to $50 billion in 2021. “These figures suggest a compound annual growth rate of approximately 7 percent, continuing the trajectory these players have experienced in recent years,” the McKinsey report states. “It is not unreasonable to assume that several of the leading healthcare services and technology companies could have earnings above $1 billion per annum within the next decade.”

One subsector drawing strong interest from PE: outsourced services for pharmaceutical companies. Look for ProPharma Group, which PE Hub reported in January was headed to the auction block and poised to attract both sponsors and strategic buyers. The Linden Capital-backed company provides compliance-related services to the life sciences industry.

PE platforms such as Leonard Green & Partners’ WIRB-Copernicus Group or Genstar Capital-backed Advarra could emerge as contenders, one source said at that time. Based in Overland Park, Kansas, ProPharma is expected to produce more than $40 million in 2020 EBITDA, another source told PE Hub.

Sponsors are attracted to pharma services companies because they speed up and improve the efficiency of clinical and pre-clinical studies. These deals allow sponsors to tap into the huge sums of money that go into drug-making without the huge risks that come with investing directly in drug-makers.

Specialized Opportunities

There are other reasons behind investor appetite for such deals.

In a recent discussion on the outlook of healthcare PE investing with Dan Shoenholz, Aaron Feinberg and Slavena Bardarova, who are among leaders of the healthcare practice at Ernst & Young’s Parthenon unit, Schoenholz commented that many sponsors are coming to the conclusion that traditional areas of investment like practice management are crowded.

“As [sponsors] look to pharma services, we could see heightened levels of activity,” said Shoenholz, a principal at the firm. “Traditional pharma is set up as a process industry, but with all of the innovation in specialty pharmaceuticals and personalized medicine, it’s being disrupted. This is leading to opportunities.”

The idea that the value chain is shifting is opening up more of these specialized support services that are good for a range of investors, Shoenholz said. In other words, while some mid-market folks wouldn’t buy a big CRO (contract research organization) company – where growth and consolidation are a little played out – the pool of buyers is greater across the various niches.

Big picture: launching new products requires help with things beyond everything offered by traditional CROs.

From a valuation standpoint, sales of recent top-tier assets have commanded EBITDA multiples in the mid-teens to 20x.

European view

Some pharma services deals are particularly competitive because they draw interest from European PE firms in addition to those based in the United States. There is a shortage of European healthcare deals deemed attractive by European firms sitting on an abundance of dry powder, one dealmaker told PE Hub. For example, firms like Astorg, whose Fund VII closed at €4 billion in January 2019, need to put money to work.

Market observers said one deal that kicked off the flurry of European interest in pharma services was a 2015 process involving a Finnish company called CRF Health. Naturally, European firms pursued the company, with London’s Vitruvian Partners ultimately buying it in 2015 from Nordic firm Verdane Capital.

Next to go was eResearchTechnology. ERT is not technically a pharma services company, but it plays in the same ballpark. It provides software applications and technology consulting services to the pharmaceutical, biotechnology and medical device industries. Genstar Capital sold the company in 2016 to Nordic Capital Fund VIII. ERT changed hands yet again last year, with Astorg, Novo Holdings A/S and Nordic Capital snapping it up in October in a deal with an enterprise value of $3.8 billion, sources familiar with the matter told PE Hub. That equates to an EBITDA multiple of about 18x.

Last year also saw transactions for Advarra and WIRB-Copernicus. In July, Genstar Capital bought Advarra in a deal that sources said valued the compliance-related services company at $1.3 billion and generated an 18x multiple of EBITDA. Just four months later, Leonard Green & Partners won the sales process for WIRB-Copernicus in a deal sources said valued the compliance-related services company in the low-$3 billion range.

Commercialization services

Another segment of outsourced pharma services gaining traction is pharma commercialization services, which facilitate market access and product-launch processes. Because there are many more independent biotech companies than there were a decade ago, these small players need assistance to bring drugs to market. Additionally, many drug companies are manufacturing specialized, novel therapies, so they need help educating the people who need the treatment, payors and pharmacy benefit managers.

In recent activity, Court Square Partners in December snapped up WindRose Health Investors’ Medical Knowledge Group, concluding a robust sales process for the data-driven healthcare marketing and communications firm.  The deal commanded an enterprise value of approximately $330 million, or approximately 13x EBITDA, sources said.

While multiples in this niche may be lower – as these companies trade more like advertising or marketing players – there is perceived to be tremendous white space for consolidation.

Pharmaceutical commercialization is a potentially $150 billion market, and only about 16 percent was outsourced as of 2017, according to contract research organization Syneos Health.

Those that will be differentiators likely have a technology component that demonstrates some level of recurring revenue. Many players are already doing this.

New Mountain’s W20, for instance, offers social media analytics that provide doctors with insights around where they get the most ROI for their ad spend.

Other platforms already focusing on commercialization strategies and analytics for life science companies include Eversana, a portfolio company of JLL Partners and Water Street Healthcare, and Trinity Partners, backed by Parthenon Capital Partners.

Meanwhile, there’s some brewing activity in a related pocket of the healthcare market, outsourcing services tailored to medical device manufacturers. It’s not equal to the surge of investment taking place on the pharmaceutical side – as underlying industry tailwinds and growth levels just aren’t as strong – but there’s still opportunity to be had, sources say.

For example, a private equity-focused auction is well underway for NAMSA (North American Science Associates), which bills itself as a “contract research organization, and the world’s only medical research organization.”

The Toledo, Ohio company offers services to help accelerate the development of medical devices from pre-clinical phases through commercialization.

In 2019 activity, Nordic Capital won the auction for Orchid Orthopedic Solutions, acquiring the provider of outsourcing services in the orthopedic implants industry from Altor Equity. Financial terms weren’t disclosed, but a 12x to 13x EBITDA multiple was anticipated, sources said at the time.

Broadly speaking, medical device makers are quite a bit behind pharma companies when it comes to taking advantage of outsourced service providers, according to Shoenholz.

“The market needs to evolve to be more efficient in R&D,” Shoenholz says. Although it may be tougher to find investment opportunities – given some of these businesses are inherently smaller – the fundamentals are very sound, he adds. “There is real opportunity to do more.”