Tips to Make Your Company More Investable
Jim Kasic, CEO, Boulder iQ
I love medical device startup companies! We at Boulder iQ work with many startups and do our best to help them succeed. Acquiring adequate investment capital during the process is critical. In order to reach that wonderful day when you are revenue positive and self-sustaining, you have to make it through the “valley of death,” that famous period between initial “seed” or “family & friends” funding and adequate capitalization to reach positive cash flow. Here are a few tips from my own experience in fundraising. Please note that in this issue we also feature part one of a two-part article by Colorado serial medical device entrepreneur Larry Blankenship regarding how to increase your company’s valuation. These tips and that article should give you valuable insight.
Below is the list of my seven tips, followed by expanded comments on each.
Our startup company’s product:
- Either does something new, does the same thing for a lower price, or does more for the same price
- Has a clear FDA pathway
- Has reimbursement
- Has a high margin ~ 85%
- Has a high price
- Has IP
- Has a defined market
Before I discuss these tips, however, let’s talk about risk reduction in general. An investor wants to put money into ventures that have a high likelihood of success, with as many of the risk factors as possible already mitigated. Many venture capital (VC) firms only invest in companies that are beyond the startup stage for this very reason. Startups are inherently risky as there’s so much to do to reach steady and growing revenues. For those investors who are interested in startups, you can increase your attractiveness by addressing these factors in your company’s product:
1. Either does something new, does the same thing for a lower price, or does more for the same price
In Clayton Christian’s famous book “The Innovator’s Dilemma: When New Technologies Cause Great Firms to Fail,” he gives examples of established products that are crushed by new entries. One example is the dot-matrix printer. When was the last time you saw one of those? Yet, in the 1980’s they dominated the printer market. Reams and reams of paper with perforated hole-punched tracks on each side were sold in large volume. Laser printers were still early in their development, and expensive. Enter the inkjet printer. As small or smaller than the dot-matrix, full color, less expensive and much quieter (thank goodness!).
If your product does something that the market must have and does it significantly cheaper, better and/or does more, you can have an attractive investment opportunity.
2. Has a clear FDA pathway
Regulatory hurdles can be major risk factors to start up medical companies. Don’t assume that you have a simple, easy way to obtain regulatory clearance if you haven’t confirmed it.
There are many “horror” stories about companies who thought they had a clear pathway and later found otherwise. Among these are drug delivery devices that think they are a simple pumping or transfer mechanism and then find they are classified as a “combination product” by the FDA and have to show that their drug container provides long-term stability for its contents. Now instead of a 510(k), they’re facing lengthy, expensive drug storage testing to confirm that there is no interference between their device and the drugs intended to be delivered. Ouch! Other such stories include devices that try to combine predicates in a 510(k) application which independently have separate indications of use which the new product wants to incorporate. Instead of a 510(k), the company might be looking at a de novo application process which is lengthier and more involved. And don’t assume you will not be required to present a CER, or Clinical Evaluation Report. Some 510(k) products are cleared without clinical data requirements, but certainly not all. To assume incorrectly that no clinical data will be required can lead to a grossly underestimated timeline and budget.
In some cases, when predicate devices have the same indication as your device and have been cleared in recent years without clinical data, you may have a strong case that your FDA pathway is predictable and straightforward. If there is any question, however, at least get an opinion from a regulatory affairs professional, or ask the FDA to classify your device by submitting a 513(g) application.
By paying attention to this area and having a strong, convincing argument that your regulatory pathway is clear and has been properly timed and budgeted, you will reduce one of the major investment risks associated with healthcare products.
3. Has reimbursement
A colleague once told me that all medical devices must satisfy the “3 P’s.” That is, they must be attractive and have advantages to the Patient, the Physician, and the Payer. We all want to create devices that have clinical benefits, but they must also have economic benefits!
A purchasing agent has to justify that your product is necessary and affordable. Even if a physician requests it, it is the purchasing department’s responsibility to make sure that the physician’s need is satisfied adequately at the lowest cost. One way to help assure acceptability is to show how your product can be paid-for within current reimbursement structures. Those include products used to treat payments under DRG (Diagnosis-Related Group) reimbursement and through CPT (Current Procedural Terminology) codes.
A DRG reimbursement is associated with a patient’s diagnosis. Typically, a diagnosis is associated with a fixed dollar-amount of reimbursement. The healthcare provider is expected to treat the diagnosis for this fixed amount. If your product can help them do that for less money, then you may have an advantage in their system.
CPT code reimbursements are associated with the physician’s specific skills and use of equipment and tools to perform a particular procedure. For example, special training and qualification is required to perform cardiac catheterization procedures. The CPT code provides additional reimbursement for the special skills and equipment necessary to perform this treatment. Obtaining new CPT codes is a lengthy process typically requiring two or more years of experience and a number of peer-reviewed publications attesting to your product’s advantages. You may, however, fit within existing CPT codes, which will give you an economic advantage.
The bottom line on this category is that an investor wants to make sure that the market will be willing to accept and pay for your product, thus lowering market risks.
4. Has a high margin ~ 85%
Medical devices are valued based upon the importance they have to a particular procedure, and not so much on their manufacturing costs. If you have a unique advantage and provide excellent value to all of the 3 P’s, the Patient, the Physician, and the Payer, you may be able to achieve high margins between the ASP (Average Sales Price) for your product and its COGS (Cost Of Goods Sold). This gross margin can be in the mid-80% range for excellent returns. Margins above 70% are also attractive. The key to achieving such margins is to provide a unique value.
Uniqueness is temporary, however, as others will try to copy your product unless it is unlawful for them to do so, such as you have a patent or other Intellectual Property (IP – see below). The US and international community grant an inventor a monopoly to profit from their invention for 20 years from the initial patent filing date, after which the patent information becomes usable by all. After that, the aspects of your product covered by that patent can be freely copied by others. Smart product developers maintain their high margins over the longer-term by finding ways to maintain their uniqueness through IP and other means.
Investors are looking for a solid story of why you can expect high margins and how you will maintain those over a reasonable period of time.
5. Has a high price
In the first half of the twentieth century there was such a thing as “penny candy.” For a child to purchase a piece of candy for a penny was fun and inexpensive. But no matter how high the gross margin the manufacturer obtains on that piece of candy, they’re never going to make a huge amount of money. The selling price is just too low.
Most medical products would like to demand a per-use price in the hundreds or thousands of dollars. While there are exceptions, many factors in the medical device field make this possible and also necessary. Look at the number of procedures performed each year that would use your product. It’s probably not in the millions per year as very few medical procedures are performed in such volume, though they do exist. If it’s in the hundreds of thousands, perhaps even in the tens of thousands of cases per year, you have a good opportunity to make a product that can be produced in volume, at high margins and likely demand a price that will provide good returns to you and your investors.
There is also a significant cost in selling a product, that is, convincing the physician and payor to purchase it. Just image that it costs $5000 on average for sales and marketing to convert a customer and your product sells for $5000 with an 80% gross margin. It’s likely that your net profit from this sale will be about 20%. Therefore, you would need to sell 5 devices to cover your acquisition costs and start making positive cash flow from this customer. However, if your average sales price is $500, then you would need to sell 50 devices to cover your customer acquisition costs.
6. Has IP
As discussed in the High Margins section, maintaining uniqueness over a long period is a key to avoiding becoming a generic commodity product. The most common and recognized way to obtain and retain uniqueness if by obtaining one or more patents on your product. There are other ways to retain uniqueness, such as by maintaining trade secrets on how the product is produced, but those are harder to confirm, defend and value. Patents can be analyzed and assessed for their monetary value in a particular market area, so are preferred by investors.
Showing solid IP protection, at least through reviewable patent applications, will be important to professional investors. You’ll also want to present an IP strategy of ongoing innovation and invention to enable an overlapping string of patents.
7. Has a defined market
Who’s going to buy your product, and do they already know that they will? If so, explain why. This is important. There’s such a thing as a “missionary” sales project. That’s where your customer has to be convinced to “believe” in a new product concept, especially one which requires a change in their current procedures. This is very hard to achieve and is also a very lengthy process. The ideal market is a specific medical treatment area or diagnostic process where your product clearly fits into and enhances their current procedures.
Recently, Boulder iQ announced that the startup company CardioScout Innovations, Inc. has been accepted into the Boulder Medical Device Accelerator program. CardioScout’s product concept is a device to access the outside surface of the heart, the epicardium. Many advanced cardiac centers are already performing epicardial procedures, but with tools that were not designed for this use. They’re using them “off label,” meaning in a different manner than their FDA clearance prescribes. Since the epicardium is a significantly different bodily area accessed in a very different manner than in other procedures, using tools off-label is awkward and time consuming. The CardioScout device will make epicardial access much faster and easier, and all of the advanced cardiac centers already practicing epicardial procedures with off-label tools will purchase the CardioScout device as soon as it’s available.
A market that is eager for a device to answer an unmet need, especially if that need is obvious, is the best kind of “defined market.” It has a defined sales call-point, in this case cardiac specialists, it’s used in the OR or Catherization Laboratory, of which there are a defined number in the USA, and we can easily identify where they are, and it will be used in procedures that are already performed. Further, the physicians already know they need a new way to do this. If you can find a similar set of market attributes for your product, you’ll be on your way to attracting investors!
In summary, make your startup company attractive to investors by thinking about the potential benefits of investing from the investor’s perspectives – what’s important to them, and why. Then make sure you have all the key points covered when you interact with them.
This is a great business to be in, with opportunities to help people and our economy. Congratulations to you entrepreneurs who are giving it a try! At Boulder iQ, we’re dedicated to helping you. Please contact us to discuss how we can help you.
Happy and successful fundraising!