Financing Correlated Drug Development Projects

34 Pages Posted: 21 Nov 2020

See all articles by Andrew W. Lo

Andrew W. Lo

Massachusetts Institute of Technology (MIT) - Sloan School of Management; Santa Fe Institute

Kien Wei Siah

Massachusetts Institute of Technology (MIT)

Multiple version iconThere are 2 versions of this paper

Date Written: October 4, 2020

Abstract

Current business models have struggled to support early-stage drug development. In this paper, we study an alternative financing model, the mega-fund structure, to fund drug discovery. We extend the framework proposed in previous studies to account for correlation between phase transitions in drug development projects, thus making the model a more realistic representation of bio-pharma research and development. In addition, we update the parameters used in our simulation with more recent estimates of the probability of success (PoS). We find that the performance of the mega-fund becomes less attractive when correlation between projects is introduced. However, the risk of default and the expected returns of the vanilla mega-fund remain promising even under moderate levels of correlation. In addition, we find that a leveraged mega-fund outperforms an equity-only structure over a wide range of assumptions about correlation and PoS.

Keywords: Securitization, Capital Structure, Biotech, Drug Development, Healthcare Finance

JEL Classification: G11, G17, G24, G32, I11, C15, L65, O31

Suggested Citation

Lo, Andrew W. and Siah, Kien Wei, Financing Correlated Drug Development Projects (October 4, 2020). Available at SSRN: https://ssrn.com/abstract=3704655 or http://dx.doi.org/10.2139/ssrn.3704655

Andrew W. Lo (Contact Author)

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

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Santa Fe Institute

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Kien Wei Siah

Massachusetts Institute of Technology (MIT) ( email )

Cambridge, MA
United States

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