Medical Device Investors and start - ups meet in Lausanne to discuss the funding landscape.
This article represents some of the views expressed by industry experts at the 16th Medtech Investing Europe Conference in late April 2013 in Lausanne www.medtechinvesting.com and the impacts changes in healthcare systems are having on new product innovation.
According to Biotechgate’s April report www.biotechgate.com on lifescience funding, March 2013 was the fourth consecutive month were the total of funds raised by global lifescience companies was below the previous month.
This decline in funding partly explains the growth we are seeing in investor focussed conferences bringing investors and companies together. Medtech Investing Europe is held twice a year and has a large number of Medtech companies pitching for funding to the assembled VC’s and family offices, Biotrinity www.biotrinity.com in May 2013 sees 800 delegates including 75 presenting companies and over 100 investor delegates and much of the activity is about funding and partnering, Bioeurope www.ebdgroup.com in November 2013 is in the same category, so what really is happening in the Medical Technology funding space?
New smaller funds, less exits, tops ups and overruns.
New funds are still being raised with a number of investors I have spoken to recently having just closed a new fund raising or in the process of raising a new fund. These funds are smaller than what we have traditionally seen. Family offices are more coming into this field. They have a long term horizon and since they usually represent a business family, they understand what it's like to build a business. Family offices will stay with the business for upto 20years and have less need to exit and see a return in this traditional manner. They will happily leave their money in the business and see part of their return in dividends from profits.
As described above investments in recent years are still in decline. The numbers of deals and their size is also reducing. Exits are down and funds are topping up their portfolio companies who have not had an exit. The fund therefore has less to invest in new opportunities or if it’s fully invested and a portfolio company can't raise a new round then they may have to use debt as a vehicle to bring cash into the business. Debt can be a useful instrument, it avoids share dilution and can give a timely boost to cashflow and the balance sheet. Investment funds are also having to run over their intended timeframe and their investors, known as ‘Limited partners’ are not getting the returns they were hoping for. We heard in Lausanne of 10yr funds running to 12-15 years because of exits not been achieved.
File a patent and wait for the phone to ring !
We also heard the days of selling a technology company are gone, you need to develop a business and grow it to a scale that is attractive to a buyer, post CE, post launch, sales in some countries and economic benefits demonstrated.
What would traditionally happen with a medical device company would be an exit at a well understood value inflection point. This could be as early as filing a patent but would traditionally be at a proof of principle evaluation, clinical trial success, CE marking, FDA success or the first distribution/outlicence deal being signed. Since there are now fewer exits, trade sales or public offerings onto a listed market then this norm is less common.
If an exit is not achieved in the traditional manner the management team will likely need to decide to build a company to a reasonable size and seek an exit later. This is likely to mean hiring in a new team to grow the company since the skills required to develop and grow a business are quite different to those required to raise cash, manage a product development cycle and exit.
We also heard in Lausanne how it’s absolutely imperative as a medical device start up to seek advice from and talk to everyone, since this is the new way. Syndication is now very much the norm, competitive term sheets are less common and ideally in your first funding round you need investors who can follow on and support future rounds otherwise there will be financial pressure at this point.
VC's are seeking safer investments thus they are tending to come in much later when the company has achieved some of these development milestones, got sales traction and the product has been demonstrated to work and the health cost benefits are more proven.
Ideally now you need to show success in a number of countries post CE or FDA registration to be acquired. Partnering with large companies from a sales and marketing viewpoint can help with this and de-risk your business.
Founder CEO unlikely to remain so.
One other VC commented in Lausanne they were very much company builders, reviewing the assets, the IP and mainly the management in a business. They pointed out that the management can be the weaker area. Not so much in their technical competence but being unrealistic about the future role they will play.
Founding CEO's have to understand that they the technical, surgical, scientific expert but not the business person and that they are unlikely to remain the CEO once some key investors come in. Your business is best served with you as the CTO or CSO. Another thing we observe at Remtec is how the CEO of a start-up changes through the business lifecycle. The initial CEO is likely to be the founder/inventor, after the first round of investment this may change to bring in someone who can oversee further fundraising whilst the founder/CEO manages the product development activity. Once further funds are raised the CEO can change again as the business moves more into a clinical trial, regulatory approval and early commercialisation phase. Finally a different CEO may be brought in to manage an exit or if the business intends to grow and establish itself someone who can lead this process.
Look East for your market but are Western trials still best ?
With the market in Europe for medical technology stagnating where does growth come from? Innovation and emerging markets provide much of the answer. The latter will provide 50% of WW economic growth by 2020 and here per capita healthcare spend is still well below western levels and increasing double digit year on year. These countries have an emerging middle class who want access to 21st century healthcare, They can also adopt state of the art technologies with a high degree of connectivity since they do not have the almost obsolete legacy healthcare structure and information systems of the Western healthcare systems. Their healthcare needs though, are the same as in the West such as an ageing population with CHD, Diabetes, CA, Obesity and more.
One panel discussed clinical trials specifically should clinical trials or pilot studies qualify for inclusion in your technical dossier if they are conducted in emerging markets? The summary was that a clinical trial should ideally reflect the population demographic and clinical practice of the target market and that since this was not always possible in an emerging market then sometimes trials in these markets will have less relevance.
However we heard if you generate high quality data and have a good design, namely reflective of the target market them clinical trials in emerging markets can be valid.
European clinical studies are seen as more robust and better than those from outside.
Medical Device M&A a view from Lausanne
One commentator from a large Medtech company stated that start ups need to think very strategically about which markets they should be targeting. From an acquirer viewpoint their view was its best to have significant presence with sales traction in a small number of relevant markets rather than small one off sales in 20 markets. These smaller market sales would not be seen as ‘quality sales’ and would be discounted from your valuation.
The view of another large Medtech was the development stage of the company was not so important, if the technology is right a deal could be done. Naturally the further from market a product is then the higher the risk to the acquirer. The product is not proven, the regulatory path is not fully understood and this would be reflected in a discounted valuation.
They gave examples of when they had bought to early and they have not taken the product to market. They also warned internally about having a sales person from the acquirer side lead a deal, sales leaders can get over passionate about the potential the new technology will bring to the business, but this does not always result in a good deal.
The buyer is rarely in a hurry, the seller often is.
Is a reduction in healthcare spend the enemy of innovation ?
Medical Technology start-up businesses need to base their business and thus fundraising needs on a revenue model for their business. With some exception this revenue is likely to come from the payers in a healthcare system in the form of the price/reimbursement level for the product. These payers are under increasing pressure to reduce costs and in the absence of sophisticated health economic data this may simply translate into paying less for each product.
With the regulatory requirement to achieve CE mark and FDA registration also becoming more complex and taking longer the development cycle of a medical device could be up to 5-10 years. How does the start- up predict not only the time/cost for regulatory approval but also the market price they can achieve for their product this far out?
If they forecast to low a product price then the time to get cash positive and generate profits is longer. This will also lengthen the time to achieve a suitable return on the investment which in turn may lower the valuation leading to a deal not being viable or to much equity being given away at an early stage.
Thus the healthcare system downward pressure on prices could inhibit the chances of new innovation being developed.
We’ve invested billions in hospitals but we are moving healthcare delivery to the home !
Hospitals are primarily built to treat acute problems, whereas the emerging healthcare need and main cash burner is chronic illness in the elderly who are often treated outside the hospital site.
Since 1992 many UK hospitals have been built under a private finance scheme PFI.
A new report ‘The anatomy of health spending 2011/12: a review of NHS expenditure and labour productivity’ Nuffield Trust March 2013. States that in 2011-12 hospitals spent over £625m making repayments to this scheme an annual increase of 18%. Seven hospitals paid more than 5% of their revenue to a PFI scheme.
As more of these 100 building programmes complete we are left with a legacy of £70bn in payments until 2049. It is likely these expensive assets become more obsolete as the government puts in place measures to have more patients treated in the community or at home.
Good IP, large market, strong management
The general feel of the meeting was if you have the above then you are starting of in the right manner, of course you can always bring in new management and Remtec, a leading European medical device and lifescience recruitment company, can help you with this. There are new funds being raised, there are fresh rounds being closed, its challenging but when was it not!