EPISODE 10 - Securing Funding, Part II
Adam and Dan discuss:
- Medtech funding trends and how they've changed in recent years
- Investor perspectives on medtech vs. digital health
- How to be build value to make your startup attractive
- Tips for success at the pitch table
During this episode, Adam references some great resources available from Dreamit for startups preparing to pitch.
- The Art of Pitching and Storytelling (webinar)
- How to Create the Perfect TAM Slide for VC Pitches (blog)
- How to Create a Killer Competition Slide (blog)
Adam Dakin: Yeah, I mean, so the reality of where we are today in the funding cycles, in the med tech spaces, the vast majority of investors want to see their money going toward commercialization. So while you might not necessarily be on the eve of commercialization, you haven't hired sales guys, the manufacturing plants not chugging away for spitting out products and in creating inventory for three shifts a day. You might not be at that point, but investors want line of sight to that. They want to believe that my money is going to get you to that point and at least you will be funded for an initial market entry. So that varies widely, right? If you have a very simple widget, with a very straight forward regulatory pathway, it doesn't cost a lot to manufacturer. Then that kind of accompany may very well be interesting. Whereas another company, it's still going to take a lot more money to get to the commercialization point even though it might have it in really compelling market opportunity.
Dan Henrich: Like this kind of an example we started out with. That that has a lot of moving parts, right?
Adam: Right. And market adoption, especially if it has a big digital health component is a big risk, right? Showing that early product market fit in an incredibly competitive environment. That's the other thing we didn't really talk about, but digital health is ridiculously crowded. Because the barriers to entry are so low. Two guys and a laptop can open up a digital health company tomorrow. Can't really do that on the med tech side. There's a certain amount of capital that's required to build stuff, test it, right? That's why the digital health space is just ridiculously crowded with look alike products. And as an investor it's very hard to differentiate what's real and what's not. So as a digital health investor, we almost have to have at least some reference. You have to have some referenceable customers to even be considered by a professional investor. On the digital health side, you actually need real revenue.
Adam: You need one to two million dollars of annual revenue as a general rule to be seriously considered by any professional investor. Whereas the good news on the Med tech side, you can get funded a lot earlier than that. You don't need that one to two million dollars revenue, but you need some compelling clinical data that this works in the hands of real users. So got to offer a little bit of a tangent there, but I think it's an important point.
Dan: Well, speaking of one and two million dollars of revenue, you know, so this last milestone that we have laid out in our outline here is your first commercial sales, right? Who's investing then? Is that where you really start to attract a lot of competition, institutional investors because your acquisition potential is much higher or?
Adam: Yeah. Well that's the time at which ... I mean once you have that line of sight to commercialization, and as an investor, that's where I want my money to go. I understand some of my money will always go to continued product development, more clinical data, product line expansion. That's all good. But I want to be in the market as fast as possible. So I want to believe that in most cases, not always, but in most cases that at least some of that funding will get you to the point of commercialization. Will get you, because that's what the acquirers want, right? They're not going to take a lot of market risk.
Adam: That doesn't mean you have to have a lot of customers. Those could be your clinical trial sites that convert from doing trials to actually being paying customers. Hopefully they like the product, they've already had a good experience with you. Sure. And you've already anticipated taking them through that purchasing process so they become your first customer and your first users. That's a good strategy to use, but that's what acquirers want to see.
Adam: Somebody's got to use it. Somebody's got to be willing to pay for it. We haven't really talked much about the reimbursement piece, but clearly depending on your product, if it's not well reimbursed under an existing code or payment scheme, you might have to get new codes.
Dan: Right, and that's a long arduous proposition.
Adam: That's right. I mean, that is, in our broken, fragmented healthcare system, that is a long slog. Getting any kind of universal coverage for something is no matter how good your technology or platform may be, investors are going to be very ... investors have been burned a lot on great technologies with really compelling clinical data that had a real patient benefit, but took years-
Dan: For [inaudible 00:36:07].
Adam: ... to get universal coverage, including CMS. And no matter how good it is, people won't use something if it's not paid for it.
Dan: Okay. All right. Wow. That's a lot to think about, I think for our listeners, for sure. But maybe we can get into the nitty gritty a little bit more ... like I said, you've been on both sides of the pitch table a bunch of times. And in fact, I think you've written some pretty good articles on what are the do's and don'ts when you're making ... If you get to the point where you're pitching to institutional investors, what are the common mistakes that med tech founders and entrepreneurs make in those pitches?
Adam: Because there's blocking and tackling, right? You need the right content, right? Can't tell you how many companies pitch us. It's like, "Where's your competition slide? Oh that's not here. Left that out. Oh wait, the market size, no slide there either. oh wait, clinical development plan, that's not there either." Those, while not sort of, you know, we call the record scratches, right? Those may not be mortal mistakes. They show that the team is unsophisticated.
Adam: If you haven't thought about these things and put them into your plan, what else haven't you thought about? So it's a little bit of a red flag. That's basic stuff. Have the right content, make sure it's defendable, have references to the sources in your deck. We're going to challenge you aggressively on all your critical assumptions, right? You better have data to back up whatever assumptions you're making, you better have data and sources to back it up. Again, very common mistake.
Adam: A lot of entrepreneurs walk in, we call it the hand wave at Dreamit. The market is this big hands waving, right? Every doctor's going to want one hands waving, and then that comes with a subtle ... I can see the bubble above the entrepreneur's head when we start challenging that says, "If you don't see how big this market is, you're an idiot." Why don't you see the vision that I see and believe what I'm telling you?" Because you're not backing it up with data, right?
Adam: If you're going to say every doctor is going gonna want one, how many doctors did you talk to? How many doctors have actually used it? How many healthcare systems are actually purchasing it? Are you in contracting with a bunch of healthcare systems that convinces us that someone's actually going to want it and buy it. If you don't have any of that, you're just making assumptions with nothing to back those assumptions up and we don't bet on assumptions. Right. So that's a very common mistake I think. I mean it's all the classic stuff, right? I mean, some of this stuff is ad nauseum. Yeah, show us a big market, show us you have intellectual property, show us you're a great team that knows how to execute. Those are all table stakes, right?
Adam: If you don't have those boxes checked, don't bother showing up. Okay. That, that's kind of fundamentals of what every venture investor will tell you. You gotta be a great team, right? Ad Nausea, management, we bet on management. We bet on the jockey, not the horse, all true, although all very cliche, right? At the end of the day though, we form impressions, first impressions, and I will tell you, I've asked multiple venture capitalists this question. They decide within the first 60 seconds, most of the time if you are a venture backable team. So you got one chance, they make that first impression and that's why a thoughtful, cohesive pitch deck and done in the right way where right up front, right at the very beginning you are really making it clear what your value proposition is and how you're differentiated from the hundreds of other deals most investors are looking at is critical.
Adam: Because if you don't do that, I guarantee you they will be reaching for their smart phones within the first two or three minutes and you've been put into the no bucket very quickly. One way to stay out of that no bucket is also make sure you're super well prepared. Again, surprise. It's like go into an interview. Would you go to an interview where you knew nothing about the company or the people who were interviewing you? Well, some people do and they probably don't [crosstalk 00:41:09]. A lot of people do and they don't get the job, I'm guessing, right? I mean, when a company is coming to a venture fund, it is very common at the very beginning for the fund to say, "So tell us what you know about our fund."
Adam: You should be able to say, "I know what deals you've done. I know what stage you invest in, I know what your profile is. There are these other companies in your portfolio that I think are very synergistic." Yeah, we want you as an investor because you have expertise in this space. Oh, I know that two of your partners were on the board of another company that was very successful. We think we can really learn and benefit from folks who have that expertise, right? One, it has the virtue of all being true. And two, it shows that you did your homework before you showed up because a lot of companies answer that with really a morphous, "Oh, we know you're Andreessen Horowitz and you're such a great firm and we would just love to have such a brand." That's a very weak response.
Adam: It shows you're not well prepared. So walk into the fund, do your homework. Know who the partners are, know their backgrounds, know their other investments. Like everything in life, it's all about preparation and then have that pitch tight rehearsing on other people, solicit critical feedback. You don't go to Broadway with your first play, right? Go off Broadway. Pitch friends, family, then take it to investor, you know won't invest. Let them throw tomatoes at you for a while. They're probably not going to invest any way or just call in favors. "Hey, I know you're not going to invest, but would you mind just giving me some critical feedback, point out the holes in our story and our pitch."
Adam: Once you've rehearsed it a bunch of times, and you feel like it's tight and it's game ready, then you want to get in front of the high potential targets who might actually invest in your company.
Dan: All right. So I want to go back to something you said earlier about the importance of being capital efficient early in the process. That's something that we run to a lot when we're talking to early stage med tech entrepreneurs. They want to know that they can get as far as they can on that initial money that might be theirs and their friends and families and that sort of thing. But it seems like sometimes they want to be so capital efficient that they're willing to sacrifice things like speed to market and they want to do an MVP, which is not the same in the med tech world as it is in the digital health world perhaps. How do you view that as an investor, that relationship between when somebody is emphasizing capital efficiency against other factors?
Adam: Yeah. So I think you're highlighting the point that these companies can often be penny wise and pound foolish, right? So capital efficiency is table stakes, but most startups by necessity are reasonably capital fisher, right? They're not paying themselves market salaries, right? They're not renting an expensive office space. They don't have super nice office furniture. If you have those things, that's a red flag. We do. We see companies where the management team is paying themselves ridiculous salaries. And like, okay, that's a red flag. That is probably not a team that we're going to be excited about investing in. Those really are more the exceptions than the rules because most founding teams realize that that capital needs to be used to develop the product, not for other perks. If you're at a startup, you hopefully understand that you're going to be making some financial sacrifices in hopes of a longer term gain.
Adam: But that said, yeah, there are places to spend the money and those places include developing, well, let's even roll it back further. The first step is actually understanding the problem you're solving, right? And it is amazing to me, and I'm sure you guys see this at Smith wise, where a doctor or an adventure shows up with their widget and they're like, "This is going to save the world. This is a problem that I face each and every day and man, I'm just so excited about this." Well that's not necessarily a market, right? Solving one problem for one doctor.
Dan: Great data point. Where's the trend?
Adam: It takes three points to make a trend. I mean, you have to talk to a lot of customers and that may not just be the person who's actually using the device in their hand. That probably includes who's gonna pay for it, right? So the customer and that constellation of stakeholders that will touch your device. You need to talk to lots and lots of those people before you run off. Expend intellectual capital first to understand the problem that you're actually solving and who you're solving it for. Amazing. Like that sort of deep discovery phase. How many companies just kind of skip past that with the assumption that if we build it, they will come. That every doctor will want one. Trust me.
Adam: I think that's ... you can not spend too much time understanding and really coming up with a great problem statement. Great companies generally have great problem statements because I will tell you in any healthcare system, if you're not solving a big, and urgent problem that's on the very short list of problems that somebody high up in the organization, once the south, you're not going to get purchased. You might start the purchasing process, but you won't survive it. It's such a slog. You need so many champions to get you through that process, you will never survive it. So first it starts with really understanding the problem that you're trying to solve ...
Adam: It doesn't cost much to talk to people and really come up with a good problem statement, which of course will also define, well, help inform the features and specifications of the product or platform that you're ultimately going to develop. Now, let's say you've gotten past that and now you are ready to spend some real money on product development. And you're right, the MVP concept, which I think is almost a bad way to describe it. I mean, we tend to think of it ... I like to think of it more as a minimal viable experience as opposed to a minimal viable product because the bar is higher in healthcare. What you might call a minimal viable product into a healthcare system, but if they don't like it, you're done. And you'd be like, "But functionally it's doing everything it's supposed to be doing."
Adam: Yeah, but it took me 24 clicks and it took me 10 minutes to set up your device before I could use it. It's not fitting my workflow. I really don't care if you call it a minimal viable product, it's a bad experience and I'm not using it. I think that concept sends, you know, people have a perception of what a minimal viable product is. That doesn't mean it's ready to put in the hands of potential customers, right. That's a little bit of a divergence, but when you look at the other pieces of the business that are going to be critical. Intellectual property is always critical with medical devices, right? No one's going to fund you if you're not building something that a, they think you'll be able to protect and keep as yours and b, you won't infringe somebody's else's patents. Freedom to operate.
Adam: So, yeah, that's a place that's worth spending money. Expensive lawyers. Yeah. You wanna, you wanna hire lawyers that have experience in your space. If you're an ultrasound device, hire lawyers that have worked on an ultrasound devices. Just makes sense. Regulatory, same thing, right? If you're a ultrasound device, hire regulatory experts that know that space, right? Not only do they have that pattern recognition from all the experience, but they also probably have relationships in the FDA within those people that assess ultrasound technology that's going to facilitate the process for you. Those people are expensive. There's no way of getting around it.
Adam: Entrepreneurs cringe as I. When I hear the hourly rates that some of these consultants get, but at the end of the day, they're actually worth it. So always tell entrepreneurs. Hire the expensive lawyers, hire the expensive regulatory consultants, hire the good product developers who know what they're doing. I mean, there are a lot of product development firms out there that don't really understand the medical side. They're happy to knock out a widget for you, right? But does it meet all the standards? Will it pass electrical testing at the hospital? Will it meet the FDA standards when you finally are ready to put that 510K in? If the answer to those are no, you're not working with the right firm.
Adam: And that's why firms like Smith wise are the places you want to go because you guys understand what those requirements are and yeah, guess what that costs more to develop then going to some generic product design firm that's going to knock out a prototype that's not gonna sort of ... that effort won't be translatable as you continue your development pathway.
Dan: Right. Thanks for saying that, I'll buy you dinner later.
Adam: No, it's really true. Look, I've done a lot of projects with you guys. This is not a paid advertisement. I've seen the difference with firms that do product development with companies that don't have that depth of experience and it's very shortsighted. It is less expensive in the short term. There's an expression, right? There's never time to do it right, but there's always time to do it over. And it's a lot of entrepreneurs who make that sort of mistake.
Dan: Great. Great. And then we're coming up on the end of the time we have set aside for this, but I do you have a question about leadership teams. Because I know that investors look very closely at the team that's going to be guidance thing to market. Often I think we see in this space there's a change in the leadership team as a product approaches commercialization. How do you view that and what are investors, excuse me, what an investor look for at different stages in terms of the skill sets that they expect to be part of the team that's going to be able to bring this product to the next milestone?
Adam: So the vast majority of startups have technical founders, right? That's an engineer, that could be a doctor who brings the clinical expertise. But the commercialization expertise for the most part is not resident within the company during the early days of product development. And as investors, that's perfectly fine. That's what we expect to see. But again, back to the prior conversation that we are all about commercialization. What's it gonna take to get there? What's the go to market strategy when this thing gets to market? Who understands that? Who's going to build that out and execute? We sort of see two scenarios. One is attractive and one is not. The one scenario is, "Hey, we're, the founders, we're the inventors, we're super smart." They probably are. "And we can take this thing, the distance. We'll build it, we'll sell it, we'll do the marketing, we'll figure out the go to market."
Adam: Maybe that's true, but for the most part, those teams don't have that skill set. Okay. So then one of two scenarios plays out. The company makes great progress. That's awesome. It starts to have line of sight to commercialization. Great. And that team wants to hold on and do the execution and the investors say, "Hold up. You're just not the right team." And that can be a difficult conversation to have because at that point, the investors want to bring in outside expertise or senior level management team, even a new CEO of the company to say, "Okay, at this point the focus has shifted. We're focusing away from the development, still very important, but we are all about getting this thing to the market." The better scenario ...
Dan: And so should the technical founders be, right?
Adam: Absolutely. They're exactly right. Their vested interest is in seeing this seat succeed commercially. The better way to position this is for the technical founder to say, "We get that. We're all onboard. We cannot wait for an awesome team that gets ... but we get to that point where we have line of sight to commercialization. We realize we're probably not the team to do that, so we will fully support engage with getting that management team in or those experts on board that can take the company to that next step. Like that's music to an investor [crosstalk 00:55:33] when it's sincere.
Dan: That shows maturity and understanding of the industry.
Adam: Exactly. Because every investor has countless war stories of a CTO or a founder who didn't want to give up the reigns. And it becomes hugely problematic for the company in ways that some are obvious, but some are less obvious, right? It's extremely difficult to raise capital for a company where there's tension between the board of directors and the founders over this issue of bringing in the commercialization team because that's going to become apparent to investors as they go through the due diligence process. And if it becomes apparent that that's an actual diligence issue, it just gives us a reason to walk away very quickly. Like, we don't want to peel back the onion and figure out who's upset? why are they upset?
Adam: We call it founder drama. It happens all the time. They're not getting along. The founder's vision for how this thing gets commercialized is totally different than the CEO's vision or the board's vision. We don't want to figure out who's right and wrong. We don't have the time. We're just going to walk away. So that alignment between, "Okay, we have this awesome technical team, they've really built an amazing product, but now we need to really think about the next step of the company is really important, and you've the board, the founders, the future CEO, they all have to be extremely well aligned.
Dan: Yeah. Great. Well, I think we could continue this for a while, but you have some products to commercialize. So Adam, I really want to thank you for your time and I think this will be really, really good background perspective for our listeners to hear.
Adam: Thanks, Dan. No, it's a pleasure. I'm happy to do it.
Dan: All right. Thanks.