How to Use Biotech Valuation Multiples for Valuing Biopharma Companies

Valuation of biotech companies, assets, and programs is often required for a multitude of purposes. The biotech valuation multiples is a comparable companies valuation method and it provides a market-based approach for valuing a biotech company based on benchmarking the target company against metrics from similar public peers. Technically, the biotech valuation multiples method is a subtype of the relative valuation methodology, and this article describes how to leverage the multiples for conducting comps analysis (also referred to as comparables analysis) for valuing biotech firms.

Selecting Right Biotech Companies for Comps Analysis

The appropriate selection of comparable public companies is critical when using the market multiples methodology to value a biopharma firm. The peer group selection directly impacts the resulting valuation conclusions. Comparable firms selected should closely align with the target company’s business model, drug pipeline, development stage, size, and other attributes that could affect value.

Specifically, biotech peers should be identified with similar R&D focus and pipeline assets, revenue generation status, reliance on partnerships, and market capitalization. Potential comparables should be segmented by clinical phase to enable apples-to-apples comparisons of valuation multiples across development stages. Although geographic differences do exist, leveraging internationally listed biotech peers provides additional benchmark data for valuation multiples by geographies. Conducting rigorous analysis to identify the closest comparable public biotech companies is of paramount importance when valuing companies using multiple methods, and the process is described in the article on how to select the most appropriate comparable companies for multiples valuation.

Key Biotech Valuation Multiples for Comparables Analysis

When valuing biopharma companies using the multiples method, selecting the most relevant valuation multiples to apply is vital. The most common biotech valuation multiples fall into a few major categories:

Revenue-Based Multiples

For commercial-stage biotech companies generating product revenue, the most widely used multiples are:

• EV/Revenue – Enterprise Value divided by Total Revenue
• P/S – Price/Market Capitalization divided by Sales Revenue

These revenue-based multiples are commonly used for valuing biotech companies with a focus on driving product sales growth. Higher revenue multiples often indicate expectations of faster growth and more pipeline potential relative to peers. Biotech with substantial revenue risk and uncertainty warrant lower revenue multiples.

Profitability Multiples

While less common in biotech, profitability multiples can be used for commercial firms generating earnings:

• P/E – Price/Market Cap divided by Earnings Per Share
• EV/EBITDA – Enterprise Value divided by Earnings Before Interest, Taxes, Depreciation, and Amortization

These multiples apply to the subset of profitable biotech companies. Loss-making emerging pharma and biotechs with negative EPS and EBITDA cannot be valued using these multiples.

Cash Flow Multiples

When valuing profitable and cash flow generating biotech companies, relevant price-based cash flow multiples are more useful and include the following:

• P/FCF – Price-to-Free Cash Flow compares price to free cash flow, representing excess cash available for distribution after accounting for capital expenditures of the biotech company.
• P/CFO – Price-to-Cash Flow from Operations examines market value relative to the core operating cash flows of a biotech business.

These multiples can be applied to projected free cash flows and operating cash flows of the target biopharma company to derive valuation estimates benchmarked against peers. These multiples should only be used when both the target and comparable companies have established histories of consistent and positive free cash generation.

Pre-Revenue Biotech Multiples

For pre-revenue biotech companies without commercial products yet, useful metrics include:

• Price-to-sales – Market Cap based on expected future product sales
• EV/NPV – Comparing Enterprise Value to Net Present Value of pipeline

Price-to-sales ratios derive from sales projections for drugs in development. EV/NPV requires forecasting/projections and computation of risk-adjusted cash flows from the pipeline. Multiples for non-commercial biotech and pharma startups focus on the potential value of drug candidates in the pipeline, and factors such as clinical data and trial outcomes heavily influence these multiples.

Applying Biotech Valuation Multiples for Comps Analysis

After identifying relevant comparable companies and selecting appropriate valuation multiples, the next step is to apply those multiples in the comparables analysis. Here’s an overview of best practices for applying multiples in pharma and biotech valuation:

Calculate Peer Average and Median Multiples

A common starting point is to calculate the average and median multiples for metrics like EV/Revenue, P/E, and EV/EBITDA across the peer group identified. These provide reasonable baseline valuation multiples to use for the target biotech company. Be aware of outlier peers with extremely high or low multiples relative to the rest of the comparables. It may make sense to exclude outliers from the average and median calculations, depending on the reason for the extreme multiple.

Develop Valuation Ranges Using Multiples

A single-point estimate is insufficient to account for the inherent uncertainty in biopharma valuation. Instead, it is recommended to develop low, base, and high valuation ranges using a range of multiples. For example, a base case could apply average industry multiples, while the low case applies a 20% discount and the high case applies a 30% premium to those average multiples. This provides a potential valuation range.

Example of Applying an EV/Revenue Multiple

• Industry average EV/Revenue multiple: 7x
• Range of EV/Revenue multiple: 5.6x to 9.1x
• Biotech ABC Inc. 2022 Revenue: $100 million

• Base case Valuation = 7 x $100 million = $700 million
• Low case Valuation = 5.6x x $100 million = $560 million
• High case Valuation = 9.1x x $100 million = $910 million

So the valuation ranges from $560 million to $910 million. Based on applying the industry average EV/Revenue multiple of 7x, the value is estimated at $700 million.

Biotech Valuation Multiples – the Challenges

While the biotech multiples valuation approach offers useful insights for biopharma valuation, there are limitations and challenges to be aware of:

Lack of Directly Comparable Biotech Companies

The biotech and pharma sector is extremely diverse, and finding companies that are directly comparable across all business dimensions is difficult. For example, two immuno-oncology companies may still have meaningful differences in their pipeline assets, development timelines, and commercialization capabilities that impact accurate comparison.

Early-Stage Biotech and Pharma Hard to Value Via the Multiples

Pre-revenue biotech and pharma startups often lack directly comparable publicly traded peers. Estimating future revenue or profitability for clinical-stage companies with no commercial products involves too much uncertainty to determine reliable multiples. Alternative methods like DCF-based risk-adjusted NPV models of drug pipelines may be better suited for early-stage biotech valuation. Multiples analysis is generally more applicable for commercial-stage biotech and pharma companies.

Accounting for Premiums and Discounts

Determining the suitable premiums or discounts to be applied to multiples based on qualitative factors is a subjective process that involves more creativity than scientific analysis. It is not uncommon to have different opinions on the extent of multiple adjustments that should be made, depending on the company’s pipeline, management, or other subjective factors.

Impact of Accounting Standards

Accounting standards are different in different parts of the world. For example, the US uses GAAP, most European countries use IFRS while other countries have their own national standards. If the peer group has companies that use different accounting standards, then applying multiples to the target company is likely to introduce some value distortion when using comparable company analysis.

Sum-of-the-Parts Analysis Often Required

Larger pharma and biotech companies may have partially or fully integrated business divisions across biologics, small molecules, consumer healthcare, and devices. In order to value using the multiples method, different multiples are likely to be appropriate for each division, requiring sum-of-the-parts valuation versus straight comparable companies valuation multiples.

Evolving Competitive Landscape

As new competitors enter the biotech space, the relevance of identified comparable companies may decrease. It is wise to continuously monitor the competitive landscape and update the peer comparable group as market dynamics shift.

The comparable company analysis is a market-centric valuation approach that can be used to estimate the value of biotech companies. However, it is important to be aware of its limitations, such as the lack of directly comparable companies, the difficulty in valuing early-stage pharma and biotechs, and the subjectivity of adjusting multiples for qualitative factors. By carefully selecting comparable companies, applying the right multiples, and making prudent adjustments, one can improve the accuracy of the valuation but it is crucial to use this approach in conjunction with other valuation methods,  to get a more complete picture of the value of a biopharma company.