Deal-making in the technology and healthcare sectors always has peaks and valleys, but after a recent post-COVID slump, things are looking up again, say M&A lawyers who work in this area.
“I’d say, overall, the situation is improving,” says Aaron Sonshine, a partner with the M&A practice at Bennett Jones LLP. “Look no further than the US and Canadian stock market indices – you see the NASDAQ, Dow, and even the TSX hovering around historic highs. That’s very helpful.”
While healthcare and tech company valuations have bounced off their recent bottoms, Sonshine says that the more “mature” names have rebounded more than those in the small and mid-cap market. “There are still difficulties with finding financing,” he says, though another IPO window is opening soon. “Still, the landscape is looking brighter.”
In the tech space, including artificial intelligence, Sonshine points to Apple’s recent acquisition of Waterloo, Ontario-based Darwin AI, a company that has developed technology for visually inspecting components during manufacturing in various industries.Leger, the largest Canadian-owned market research and analytics firm, recently announced it acquired 51 percent of the shares of Cube A.I., a remote AI-driven advertising test platform to measure advertising effectiveness through metrics like facial recognition and eye-tracking.
Another startup using AI, this time in the healthcare sector, is Vancouver-based Bio Conscious. With its data and predictive technology, the company is developing tools related to diabetes to help patients and doctors better predict when adverse medical events may occur.
On the drug development side of the healthcare sector, UK-based AstraZeneca announced this spring it is purchasing Fusion Pharmaceuticals for US$2.4 billion. Headquartered in Hamilton, Ontario, Fusion focuses on developing next-generation therapies for prostate cancer.
“You’ve got large companies and private equity funds sitting on significant cash reserves, and while valuations have gone up from recent lows, they are still attractive to potential buyers,” Sonshine says.
He notes that many of the drugs made by Big Pharma are soon coming off patent and can now be made by generic drug companies, “so they need to refill that pipeline.” The model has generally been that big firms will buy smaller companies with late-stage drug development.
Alethea Au (pictured above), a partner in the M&A group at Stikeman Elliott LLP focusing on technology companies, says she has noticed more activity in this sector since the beginning of the year. “There seems to be more interest, more exploration in deal-making, so we see things picking up,” Au says, noting that her counterparts south of the border are noticing the same thing, “which is always a good predictor of what will happen here.”
Still, “definitely macro factors are at play,” such as interest rates that are much higher than a few years ago.
“Capital is much more expensive, which also plays into valuation considerations,” she says. “Buyers are a little more reluctant to just steamroll through any potential issue they see, so more due diligence is being done on the legal and financial side of things. Now [buyers] are pausing more to breathe before jumping into a transaction.”
While there may be more pressure on smaller companies that are would-be acquisition targets, Au notes there is still a gap between buyers and sellers. As a result, there is a lot of discussion on how to narrow that gap, be it through earnouts, use of rollover equity – providing that the target company management stays on after the acquisition, or price adjustments if specific financial metrics aren’t accomplished post-transaction. “It just makes sense to want to look under the hood a little bit, so deals may take longer to complete than they did 12 or 18 months ago.”
Au also points to the uptick in interest in AI or AI-adjacent companies, but the technology is still not as mature as other more established technologies. “Everybody talks about AI, and there is a lot of interest,” she says. Still, many potential buyers will need to do their due diligence on the target in areas such as privacy concerns, data ownership rights, and the legitimacy of the AI model.
Joe Garcia (pictured above), a Vancouver-based partner with Blake Cassels & Graydon LLP, says the use of AI technology also reflects the growing convergence of what might be considered “pure” tech, life sciences, healthcare, and biotech.
For example, he points to AI-based software that could improve the efficiency of health-services delivery or be used as an analytical tool to solve an unmet health need. Using AI-based tools, even traditional drug development could be made faster and more effective.
Garcia also agrees that pharmaceutical companies are “back in the game, in acquisition mode,” helping to increase deal counts. As many drugs come off patents in the coming years, Big Pharma is looking for new drugs to replace those money-makers and improve their top line. Some estimates suggest Big Pharma will see revenue drops of US$300 billion from the loss of exclusivity over the next five years.
Garcia, whose firm is working on the AstraZeneca-Fusion deal, says there is “no question that the industry is cyclical. We’ve come through a recent downturn and are on the uptick again.” Large pharmaceutical companies also have access to significant amounts of capital to make acquisitions, with some estimates putting that figure at US$1.4 trillion.
Valuations are also attractive, narrowing the gap between buyer and seller expectations. But it’s not the same for all companies developing drugs, he says, noting oncology is an area of drug development that can demand “very high valuations” if the results of trials are promising.
Garcia points to recent deals in Canada as a “real testament” to the country’s innovation in the life sciences sector.
“There was a time when people thought this industry wouldn’t survive in a competitive sector globally, but we’ve done amazing things and have shown we can create leading technology that can make for ideal acquisition candidates.”
Cheryl Reicin (pictured above), international life sciences chair with Mintz, Levin, Cohn, Ferris, Glovsky, and Popeo, P.C. in Toronto (and who used to be at Torys LLP in Canada), notes that the oldest of the baby boom generation is approaching 80, and many are now confronted with neurological diseases such as Alzheimer’s. “Right now, there aren’t a lot of great drugs for these conditions. So, there is a huge need for innovation.
“It goes in cycles, but there’s always acquisition in the life sciences sector. It can be very profitable but also very competitive.”
Reicin points out that the model for drug development has typically involved Big Pharma teaming up with a smaller company that works on the clinical trials but lacks the marketing and distribution heft to take a drug to market.
While biotechs have a chance to raise money through an IPO, Reicin says the current market isn’t particularly robust. Being acquired is often the easier path if money isn’t cheap. “The easier you can raise money, the less likely you are to want to be acquired,” she says, “because you want to continue to develop the company and increase its value.”
She adds that the relationship often starts as a licensing agreement, describing it as a dating period or “engagement” before an M&A “wedding,” so both sides can determine how the drug and the relationship are working out.
As for the use of artificial intelligence in drug development, Reicin says that while AI development is still in the early stages, she can see it potentially being used to help reduce the time it takes to bring a drug to market and target suitable users. “The promise of AI in drug discovery is that it will help reduce errors along the way and be more precise regarding your target.”
While there is a lot of hype around AI, Reicin notes that many players in the life sciences sector are worried about not being ready for the artificial intelligence revolution and want to be prepared to incorporate it into their technology, even if it isn’t clear where things are going.
Whether healthcare-related M&A, technology-based M&A, or a combination, Mark Mahoney (pictured above) at Dentons Canada LLP in Toronto says creativity is needed to bridge the gap between buyers and sellers.
This can include earnouts based on the target company meeting specific financial metrics, incentivizing the existing management to stay on, and “contingent value receipts,” where an acquirer can pay less upfront for the acquired company but if the acquired company hits specific performance targets in the future, shareholders could receive additional benefits in the form of cash or shares.
He notes that M&A activity in the traditional healthcare sector has increased in biopharmaceuticals, the digital health space, and software companies with subscription models. Mahoney has also seen the pace of deal-making moving quickly because of the growing interest in generative AI.
However, that interest in AI also means greater due diligence is needed when buyers want to acquire companies that say they have developed innovative tools using artificial intelligence.
He says many questions need to be asked: “If you’re an AI company, sophisticated buyers are going to want you to answer questions like: What is the backbone of your technology? What is licensed from third parties? Where are the data you’re using coming from? Do you have rights? Are there privacy concerns? What is the regulatory environment? From a due diligence perspective, there’s a whole new layer of complexity.”
Mahoney says a strong, experienced legal team that understands technology transactions is essential. Part of his job is helping his clients connect with potential targets or buyers, constructing a successful deal, and ensuring good due diligence.
“There is a need to stay ahead of the issues of today and anticipate the issues of tomorrow.”