Accelerating Biotech Funding

Guest article

By Andrew Stewart, CEO; Charlie Veeneklaas, Business Analyst; and Tom Baldry, Credit Analyst, Endpoints Capital.

This article was originally published in the Australiasian BioTechnology April 2025 magazine, page 26-28.

The impact of Research and Development Tax Incentive finance on cost of capital and shareholder value is an important consideration.

Australia has a world-class life sciences ecosystem of researchers, scientists and service providers delivering cutting-edge innovation. Despite its strong research and development (R&D) capabilities and best-in-class clinical practices, life sciences companies have faced significant funding challenges in recent years.

For early-stage and clinical research companies, equity can be expensive and extremely dilutive. These funding challenges ultimately affect enterprise value and long-term sustainability for many companies. This article has stemmed from the many hundreds of conversations we've had with business leaders, founders and investors in biotechs, medtechs and other life sciences companies about these challenges.

R&D finance has been shown to reduce equity dilution by more than 30% through the clinical development lifecycle, preserving more value for shareholders and founders. For institutional investors, it improves return on equity and enhances the overall attractiveness of this asset class.

This article explores key financial concepts and valuation methods in the life sciences context. It demonstrates how R&D finance strengthens a company's financial position, enhances investment appeal and supports sustainable growth.

The Australian R&D Tax Incentive scheme

Most life sciences companies depend heavily on the Australian Government's R&D Tax Incentive scheme, which provides cash refunds of up to 43.5% on eligible R&D expenditures. While these incentives are invaluable, companies often have long delays in receiving the rebate after they incur these costs - sometimes up to 18 months.

R&D finance bridges this gap, enabling firms to unlock funds in advance, mitigating cashflow constraints and reducing reliance on dilutive equity rounds. So, how much of your R&D refund could you access today? Before you answer that, let us ask you this:

Is your R&D tax asset on your company's balance sheet?

Many companies are not acutely aware of the R&D tax asset that is accruing monthly on their company's balance sheet. For eligible R&D companies, as these R&D costs are incurred, the R&D tax asset is actually increasing every month!

The universal law of accounting is that assets equal liabilities plus equity. Put a different way, assets are funded by debt and equity. Expanded again, assets are a combination of fixed assets (land, buildings and intellectual property) and working capital (cash, receivables and inventory).

In summary, a company's balance sheet is: fixed assets plus working capital funded by equity and debt. Congratulations, by reading this far you are now certified to practice as an accountant (almost).

Understanding the cost of capital and its impact on biotech valuation

All investments should yield a return relative to the risk an investor is taking (compare government bonds and the roulette wheel in the casino). The pricing of this risk-adjusted return on each investment is calculated by understanding its cost of doing so. This cost of capital is the return a company must achieve to justify the investment. It consists of two primary components:

1. Cost of equity: This concept has been the cornerstone of investing for more than 60 years, with the Capital Asset Pricing Model (CAPM) developed by Nobel Prize-winning economist William Sharpe in 1964. This "cost" or "target return" for an investment is calculated using the cost of debt, plus a risk factor relative to the market of all investments (beta) and a market risk premium. The return expected by shareholders for biotechs is typically a lot higher than for other asset classes (Biopharma Vantage, 2023).
2. Cost of debt: This is the effective interest rate on borrowed funds, which is lower than equity, plus it is tax-deductible (CFA, 2024).

These two inputs yield a company's Weighted Average Cost of Capital (WACC), which reflects a company's overall financing cost. Lower WACC improves company valuations when using a discounted cash flow model, as future cash flows are discounted at a lower rate, increasing their present value (Frank & Shen, 2016). Additionally, a lower WACC allows biotech firms to allocate more resources to R&D, rather than diverting funds to expensive capital costs.

Why equity costs more for biotechs

Biotechs face higher cost of equity compared to other asset classes due to several factors, including:

• Prolonged development timelines: Many firms invest in R&D for years before generating revenue (Rottgen, 2018).
• Inherent risk: Success depends on clinical trial outcomes, regulatory approvals, and market adoption (McIntosh et al., 2022).
• Market volatility: The biotech sector is highly sensitive to industry trends and trial results (Haak et al., 2024).
• Equity dilution: Raising capital through share issuance reduces ownership stakes and affects long-term shareholder value (Fernando, 2024).

Given these challenges, biotech firms must optimise their capital structure to minimise financing costs and reduce dilution to enhance valuation. High equity costs often push companies toward issuing more shares, resulting in dilution that erodes long-term shareholder value. In contrast, R&D finance provides a non-dilutive and significantly cheaper cost of capital.

R&D financing: a cost-effective solution

Endpoints Capital specialises in R&D finance for biotech, providing clients with a structured alternative to conventional equity funding. This financing model offers several advantages:

1. Non-dilutive capital: Unlike equity financing, R&D loans provide funding without diluting ownership of shareholders.
2. Lower cost of capital: Loans secured against government-backed R&D tax refunds reduce lender risk, leading to more competitive interest rates (Biotechgate, 2023).
3. Improved cash flow management: Companies can access funds up to 18 months earlier, sustaining operations without financial disruption (White & Arora, 2022).
4. Lower WACC: By securing lower-cost financing, firms reduce their WACC, leading to improved valuation metrics (Mauboussin, 2023).

In addition, R&D finance provides flexibility in financial planning. Unlike traditional bank loans, which impose rigid repayment schedules and stringent covenants, this form of financing improves and accelerates a company's cash inflows. This allows biotech firms to allocate capital efficiently to research, trial costs and regulatory approvals without immediate financial strain.

For companies pursuing partnerships, investment, or acquisitions, a healthier financial profile-reinforced by R&D financing-strengthens their balance sheet and negotiating position. Investors favour firms with a lower WACC and a well-structured balance sheet, which signals sound financial sustainability and stewardship.

R&D finance is a transformative funding solution for biotech firms, offering an alternative to traditional financing methods, such as dilutionary equity rounds. By leveraging the government-backed R&D rebates, R&D finance enables biotechs to secure necessary funding while avoiding dilution, ensuring ongoing innovation and therapeutic breakthroughs without disruptive funding gaps.

Please visit www.endpointscapital.com.au to download the full white paper.

References

AusBiotech (n.d.), Australia: A thriving life science hub with global reach. AusBiotech. Retrieved 9 March 2025, from www.ausbiotech.org/biotechnology-industry/fast-facts

Australian Government Department of Health (2022a), Biotechnology in Australia strategic plan for health and medicine, Australian Government Department of Health. In Australian Government (p. 6), Australia Government, www.health.gov.au/sites/default/files/documents/2022/03/biotechnology-in-australia-strategic-plan-for-health-and-medicine.pdf

Biopharma Vantage (2023b, October), Master Pharma & Biotech Discount Rates: Biopharma Valuation, Pharma and Biotech Discount Rates: Key to Accurate Biopharma Valuations, www.biopharmavantage.com/pharma-biotech-discount-rates

Biotechgate (2023, February 24), The Current State of Debt Financing for Biotechs - Resource Center, Biotechgate.com; Biotechgate. https://resourcecenter.biotechgate.com/2023/02/the-current-state-of-debt-financing-for-biotechs

CFI (2024), Cost of Equity, Corporate Finance Institute. https://corporatefinanceinstitute.com/resources/valuation/cost-of-equity-guide/

Deloitte Access Economics (2023), Economic impact of the Research & Development Tax Incentive for the biotech industry, www.ausbiotech.org/documents/item/789

Fernando, J. (2024, July), Return on Equity (ROE) Calculation and What It Means, Investopedia. www.investopedia.com/terms/r/returnonequity.asp

Frank, M. Z., & Shen, T. (2016), Investment and the weighted average cost of capital, Journal of Financial Economics, 119(2), 300-315. https://doi.org/10.1016/j.jfineco.2015.09.001

Haak, R., Robb, A., Biloglav, A., & Lima, F. B. (10 January 2024), Private capital: Financing trends to expect in 2024, Ropesgray.com, www.ropesgray.com/en/insights/viewpoints/102iwmk/private-capital-financing-trends-to-expect-in-2024

IBISWorld (2014), Biotechnology in Australia - Market Research Report (2014-2029), Ibisworld.com. www.ibisworld.com/australia/industry/biotechnology/1901

J. Mauboussin, M. (2023), Cost of Capital: A Practical Guide to Measuring Opportunity Cost, in Counterpoint Global Insights. Morgan Stanley. www.morganstanley.com/im/publication/insights/articles/article_costofcapital.pdf

Kenton, W. (July 2024), Capital Asset Pricing Model (CAPM) and Assumptions Explained, Investopedia. www.investopedia.com/terms/c/capm.asp

Lintner, J. (1965), The valuation of risk assets and the selection of risky investments in stock portfolios and capital budgets, The Review of Economics and Statistics, 47(1), 13-37. https://doi.org/10.2307/1924119

McIntosh, D., Byron, M., Zhang, J., Kramer, R., & Kimmel, L. (March 2022), Life Sciences 2024 Dealmaking Trends & Outlook | Insights, Ropes & Gray LLP. www.ropesgray.com/en/insights/alerts/2024/03/life-sciences-2024-dealmaking-trends-and-outlook

MTPConnect (2020), MTPConnect COVID-19 Impact Report 2nd edition, www.mtpconnect.org.au/images/COVID-19%20Phase%202%20report.pdf

Nantell, T. J., & Carlson, C. R. (1975), The Cost of Capital as a Weighted Average, The Journal of Finance, 30(5), 1343-1355. https://doi.org/10.2307/2326659

Rottgen, R. (2018), Biotech Valuation Idiosyncrasies and Best Practices, Toptal Finance Blog. www.toptal.com/finance/valuation/biotech-valuation

Sharpe, W. F. (1964), Capital asset prices: A theory of market equilibrium under conditions of risk, The Journal of Finance, 19(3), 425-442. https://doi.org/10.1111/j.1540-6261.1964.tb02865.x

White Ark (2022), Industry Report: Biotechnology in Australia, https://static1.squarespace.com/static/5f251c861a3dc74c86c18048/t/639163d70044d75a95a9e5c2/1670472667162/Industry+Report_Biotechnology_in_Australia.pdf

We're here to help

Get in touch for more insights or direct support - we are here to help. You can also find news, webinars and resources online, and contact us on (02) 8999 1199 for all your tax, accounting and advisory needs.