About 10 years ago, when YC was getting started, Paul Graham wrote articles predicting how startups would be funded over the next decade—and it turned out to be accurate. Paul Graham predicts that there will be more startups, they will cost less to start, new types of investors will fund them, founders will be more technical, and founders will stay focused control of the company. All of this appears to have been achieved.
I noticed that raising money for a biotech or other life sciences1 company in 2019 looks a lot like raising money for a tech company 10 years ago. Since then, the power of fundamentals has led to dramatic changes in the financing of technology companies. I see the same forces that Paul Graham wrote about happening now to biotech companies. I believe they will change biotech financing the same way they changed tech company financing.
How funding for tech startups has changed from 2005 to now
In 2005, when Y Combinator was founded, there was already a well-established ecosystem of venture capital firms in Silicon Valley and Boston. But access to these venture capital firms is limited.
Venture capital firms prefer to invest in companies that appear to be a sure winner—in other words, companies that have gone far. They also prefer to fund MBAs with executive experience and shy away from unproven teams with technical founders. Because they have a lock on the funding market, they demand tough financial terms and often replace founders with favored executives. The only model for institutional seed funding was the “business incubator” model, where VCs would fund well-connected founders they knew and incubate them in their offices.
Then the cost of starting a tech company plummeted. Its plunge was due to the creation of new infrastructure: a combination of open source software, modern web frameworks, SaaS developer tools, cloud hosting, and better distribution channels. This means many tech founders who couldn’t raise money from VCs through PowerPoint were able to launch products and attract users with minimal capital. Once they prove their idea has merit, they can use their traction to raise money.
Companies like this can now be started with just a small amount of capital, but there's nowhere to get it because institutional investors don't make small investments. This was a key insight that led to the founding of YC, and a key insight that led to hundreds of institutional seed funds springing up to take advantage of new opportunities. Easy access to flexible institutional seed funding has led to a proliferation of tech startups and is now the default path for tech startups to get off the ground.
Because these companies don't raise venture capital until they are further along and have influence, the balance of power shifts. Founders increasingly retain control of their companies. Investors lose the power to fire founders and bring in favored executives. When they did, they realized something surprising: Despite their lack of experience, founders were often the right people to run the company.
What’s happening to biotech companies now
Today, early-stage biotech financing is dominated by the “venture creation model.” In the venture creation model, the venture capital firm creates the company. They have an initial idea and assemble a team of favored executives (often from entrepreneurs in residence) to run the idea. Startups are often incubated outside venture capital offices. Venture capital firms invest large sums of money up front and take controlling stakes.
Just as venture capital-incubated tech companies made sense when the cost of starting a tech company was high, this model also makes sense when the cost of starting a biotech company is high. Until recently, no one could get anything done until a VC wrote a check for $10 million, so that was the only way to get started.
But that is no longer the case. Just as new infrastructure has lowered the cost of starting a technology company, new infrastructure has dramatically lowered the cost of doing biological research. Today, founders can prove a concept and make real progress for a biotech company for less money (often as low as $100,000). There are some low-cost CROs that do scientific research work for a fee. Companies like Science Exchange can provide small companies with immediate and cost-effective CRO and science supplies. It's easy to rent fully equipped lab space, and there are companies that can help you with storage. Affordable lab robots from companies like OpenTrons make it possible to automate batch experiments, and computational drug discovery from companies like Atomwise allows some experiments to be done entirely in computers. Companies like Cognition IP are reducing the cost of filing patents, and companies like Enzyme are streamlining FDA filings.
Because of this infrastructure, biotech companies often overcome major scientific hurdles in short-term YC projects. Therapeutic companies are often able to prove that their concepts work in animal models. Diagnostic companies can succeed with human samples. Synthetic biology companies successfully engineer cell lines.
I’ll give you a few examples from recent YC companies.
In 2015, Jose Mejia Oneto, MD/PhD, left his orthopedic residency to find a way to use localized chemotherapy. When Jose applied to YC, he had developed the technology in academia but had not yet tried to apply it to animal therapy. When he was admitted to YC, he founded Shasqi. Using only YC funding, he was able to demonstrate in less than three months that his localized delivery outperformed traditional chemotherapy in a mouse model of breast cancer.
Athelas makes a device that uses new computer vision-based technology to run at-home blood tests for oncology patients. Founders Tanay and Deepika started the company while in college, investing just $40,000 to create a working prototype. During YC, they conducted a pilot study on 350 patients, which showed very good results. Their device is now FDA approved and is serving thousands of patients. 3
Of course, conducting clinical trials of drugs is still very expensive,4 and biotech companies ultimately need to raise significant amounts of capital to deliver on their initial promises. But it's not that different from tech companies. The largest YC (software) companies have raised over $1 billion each. Importantly, these companies are able to start with less than $100,000 and de-risk their ideas to raise more money later.
Predictions for the future
Because starting costs are lower, it's now possible to start a biotech company just like people start technology companies. By raising capital gradually, rather than in large sums up front, you maintain control of your company. You get to work on your own ideas, not just those proposed by venture capitalists.
This new path attracted a new breed of biotech founders. Many of the biotech founders we see at YC are graduate students or postdocs5. Previously, their career options were to stay in academia or join a large pharmaceutical company. Starting your own company is now a viable third option.
If things play out like they did in 2005, we will see an explosion of financing options for biotech companies. Many traditional biotech investors are still looking for the controlling legal provisions that fell out of fashion in the tech world in the early 2000s. But as has happened with tech investing, a new crop of biotech and tech/biotech crossover funds has created a vibrant ecosystem of new bioseed investors. As a result, YC Bio companies now typically raise $1-5M per seed round.
Even more exciting, this means we're still at the beginning of an explosion in the number of biotech companies. More of these companies will look like tech companies: they will no longer be run by VCs and hired executives, but by founders who care about their ideas, who will sustain that passion and build what they love and Companies that change the world for the better.
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