Breaking the Capital Barrier: Why Canadian Life Sciences Companies Pay More and How to Fix It

Canadian life sciences companies face a harsh reality: they pay significantly more for capital than their global competitors. This higher cost of capital creates a vicious cycle. Companies can't raise the funds they need at competitive valuations, limiting their ability to accelerate growth and scale operations. The result is a distinct disadvantage that threatens not just individual companies, but Canada's position in the global life sciences market.

But why do Canada’s life sciences companies find it challenging to raise capital? And what can we do to create a better environment for Canadian life sciences companies, reduce their cost of capital, and encourage more investment in the sector?

First, some challenges.

A big reason for this in the public market is that these companies are overwhelmingly small cap. And their size creates three main challenges to attracting potential institutional investors.

1. Low liquidity and small market caps limit the institutional participation. At Paradigm Capital, we follow ~70 Canadian public companies, and they have a median market cap of $51M. Some of our small-cap Canadian equity fund clients cannot invest in any company below a certain market cap—and in one example they cannot buy anything less than $40M. This means they cannot invest in a broad swath of the Canadian healthcare universe. Additionally, these companies have a median daily trading volume of ~$15,000, which is not enough for any fund to acquire a meaningful position in the market without raising the market price. This is because they would be buying much more than is usually for sale in the market. On the other end, if a fund buys a deal, it can be challenging to sell if that fund needs to return cash to its own investors.
2. Canadian generalist public equity funds don’t need to have a view on the sector because it isn’t in their benchmarks. This limits buying in the sector from generalist funds. The TSX Composite Index includes no healthcare names. The Venture Composite Index comes out only marginally better with 3 names—Arch Biopartners (ARCH), NervGen Pharma (NGEN), and Biosyent (RX)—out of 128 names in the index. This means that funds don’t need to have an opinion on the sector to either overweight it or underweight it in their portfolio.
3. Biotech and medtech can be highly speculative and investors need to take a basket approach to lower their risk and drive returns. With a shallow pool of companies, it is challenging for fund managers to create a risk-adjusted portfolio where the failures will be offset by successes. Generalist Canadian fund managers that get burned on one or two names turn away from the sector overall, making it harder for the next generation of companies to get attention and access capital from those funds.

Despite these challenges, at Paradigm Capital, we do see both public and private financings getting done by focusing on global sources of capital and working with strategic partners. For example, Aspect Biosystems (private) recently raised US$115M and Conavi Medical (CNVI) raised US$20M with key U.S. investors, and Spectral Medical (EDT) raised US$10M from a strategic partner. These can be important sources of capital and expertise for growing companies but can be harder to access and don’t have the same network effects of local capital. 

Specifically, global funds can be more precarious and more expensive to access than local capital. PitchBook recently highlighted that nearly 80% of U.S. VC investment is now concentrated in coastal hubs—a meaningful change from the less than 70% from pre-2023. The result is that it can be harder to break into these pools of capital for companies not based on the U.S. coasts.

Also, the gains from a successful investment by a strategic partner typically do not get recycled into a fund that can reinvest in the next generation of companies. The result is that we may not get the flywheel effect where the success in the current portfolio helps provide capital for the next generation of companies.

Having local, intelligent sources of capital helps companies more quickly adopt best practices and drive faster company value creation—lowering the future cost of capital. Local capital can also be more resilient in the face of global uncertainty and lower the time and effort needed to access capital for local innovative companies.

Now that we know some of the challenges, what are some ways we can turn things around and help Canadian life sciences companies attract the investment they need?

1. More success stories. Capital flows to where it can generate a return. If the Canadian market does not see a return on the biotech and medtech sector, then it will continue to ignore it. Acquisitions like OpSens or Fusion Pharma help show that there are significant opportunities in the sector. As investors feel like they are missing out on these opportunities, interest will grow.
2. Take advantage of our junior public markets. Getting institutional interest can be a challenge, but Canada is one of the only countries to maintain a junior public board. We don’t expect the TSX Venture or the TSX main board to compete with the Nasdaq, but it can be a viable option for companies to access different sources of capital. 
3. Focus on strategics. In the near term, companies and funds can look to form strategic partnerships to expand their access to capital. We have seen this recently with Lumira Ventures’ partnership with the Terry Fox Foundation to launch The Cancer Breakthrough Fund, and the expansion of venture philanthropy funds at several Toronto hospitals. On the company side, we have seen multiple examples of companies working with strategic partners for capital, development, and commercial support, which can significantly accelerate their progress. 
4. Tax advantages. The 43.5% tax rebate that Australia gives to clinical trial related R&D costs has driven a lot of early-stage trials into that country. Something similar in Canada would certainly benefit local companies as well as the network of CROs and CDMOs that support these trials. It would be good to see an expansion of programs like the B.C. Venture Capital Program to encourage investment into funds that invest in innovative life sciences companies. Finally, flow-through shares have been a perennial ask for the sector. The recent Liberal election campaign included a proposal to expand flow-through into tech, biotech, and other sectors. But this is still only a campaign promise at this point, and there will need to be a lot more work before anything becomes reality.
5. Finally, leveraging pension and other institutional capital. There has been a lot of discussion on pension reform to encourage more local investments across multiple different sectors. We don’t see top-down reform as a silver bullet for the life sciences sector. Some of these funds are active in the space, but their mandates and structures do not fit with a lot of Canadian life science opportunities. Also, pension funds are rightly focused on their core mandate to maximize returns for pensioners. A dual mandate of both maximizing returns and providing capital for local companies would require a robust public policy conversation and clear definitions and governance for if, and when, those goals do not align. A more tangible near-term opportunity is to better understand what the funds are looking for so that they can support the opportunities that are out there.
   
   It’s worth noting that there is precedent in Canada for pension fund participation in life sciences. Several of the Quebec-based funds are both long-term and regular supporters of the sector with people and strategies in place to make investments in local companies.

There's no silver bullet to solving the challenges facing Canadian life sciences companies in accessing capital. Progress will come through hard-won successes that demonstrate attractive returns and shift investor perception.

The question isn't whether Canadian life sciences companies can compete globally; it’s whether Canada can build the capital infrastructure to provide an attractive cost of capital that gives innovators and entrepreneurs the tools they need to succeed.