Valuation Strategies for Early Stage Medical Device Companies (Part 1)
By Larry O. Blankenship, ©2021 Blankenship Research, LLC, published with permission
Hopes and Dreams
To be an entrepreneur in the medical device field, you must have a compelling vision, a goal, a dream, a passion. But a dream without a plan is just a wish.
You are probably working hard at building your company, perfecting your product idea and making real progress. But a company without funding is just a hobby, and hope is not a strategy.
I’ve had many dreams that were merely wishes and companies that turned out to be hobbies. This article is focused on key steps to bring your dreams into reality and build value in your company to attract funding.
These two words are truly the key to success. You care, but who else? The “who” in the question is of paramount importance. No investor will write you a check unless they’re compelled to do so. Somebody has to care about what your doing – very much. And that somebody needs to truly be somebody.
Investors are people, driven by their own dreams and passions. They’re also driven by trends and data and they look to key leaders to get a sense of where things might be headed. Let’s say you have an idea for a medical device to address what you perceive as a clinical need. Oh yeah? Who are you? You might be an MD, which will give you some credence to be sure, but you’re also the inventor, so you have an inherent bias. Who else cares? The investors will look beyond you to see who else is passionate about your idea – and where they come from.
I’ve found that if I’m pursuing a concept that can truly make a difference in medical procedures and outcomes, I have no problem getting an audience with the best, most renowned physicians in the field. Remember, the top physicians got there by being leaders. They retain their position and their prominence by staying ahead of the field. Investors may not know the names of the physicians, but they’ll know the best hospitals and clinics – household names. If I say my chief medical advisor is a doctor from Podunk State, that’s not nearly as impressive as the chief of the department of medicine at Johns Hopkins or The Mayo Clinic or Stanford. That’s who cares! Now I’ve got the investor’s attention.
Over the years I have developed the following “7 Steps” to increasing a company’s value. I have done this through direct involvement with four medical device startup companies and advisory positions, and observation of dozens of others. While they are executed approximately in order, there is significant overlap, and if changing the order of some of the steps has advantage for your venture, then do it! It is my hope that the suggestions that follow will be of real value to you and your colleagues as you pursue your entrepreneurial path. You are the future of medical devices. You are on a noble journey!
Step 1: Choose the Right Project
There are patterns and trends in healthcare investing. In the 1980s, coronary artery bypass graft (CABG) procedures were expanding from research institutions to community hospitals. Tools and techniques to improve CABG procedures were being developed by many startup companies, including mine, and significant investment money was available. In the 1990s, catheter approaches with angioplasty and stents began taking over the market, followed by drug-eluting stents to reliably open clogged coronary arteries. Today, advanced techniques for congestive heart failure, transcatheter mitral and tricuspid valve replacement, and techniques for control of cardiac arrhythmias are being funded. As a result of these new technologies, CABG procedure volume has dropped dramatically and is expected to continue its decline. Let’s say, however, I have a way to make the CABG procedure better than it is today. That could be an important contribution for the people who still face enduring that procedure, but I would be shown the door of the VC office before I ever got a chance to present my idea. It’s old hat! The future lies in new procedures, methods and technologies.
The moral of the story: Choose an idea that’s fundable!
It goes back to the “Who cares?” question. Investors care about helping patients, yes, and they also care about being trend-setters and investing in expanding markets. So even if you have a good idea, trying to get it funded for a shrinking market will be a very hard sell.
Do your market research! It’s not hard to find statistics regarding how many procedures are done annually or where the key problem areas lie. I’m currently working on a product to help deal with Ventricular Tachycardia (VT). Over 300,000 deaths in the USA annually are related to VT. That’s huge! Today, the primary therapeutic approach is through RF ablation applied through a catheter inserted through the groin and threaded into the heart. But that procedure’s only around 70% effective depending on the specific aetiology, has a relatively high recurrence rate, and almost 20% of the patients receiving that therapy return to the hospital within the first 30 days. Conclusion: Something new is needed! So, let’s work on that problem!
In looking into the possibilities of a new device to help with VT, I and my colleagues talked to some of the leading electrophysiologists in the country – they were universally enthusiastic. We talked to sales companies who serve that market and were told “That’s a gamechanger! If I had that product today, I could sell it today!”
So, if you’re going to put the terrific amount of energy, passion and likely years of your working life into a new project – choose one that receives that kind of enthusiastic support.
Step 2: Protect Your Ideas
When there is significant money to be made, there will be plenty of people trying to take advantage of that opportunity. You will have competition. Competition is not a bad thing; it confirms and validates your market opportunity. As long as you’re going into a relatively uncrowded application area (a so called “blue ocean,” i.e., not yet turned red by all the sharks feeding), a limited number of competitors, each with novel technologies, have the ability to share the market and all prosper. Eventually one or two of the technologies will become dominant and the others will fade away. An example is what happened as CABG was being replaced by other technologies to address coronary artery blockage. Balloon angioplasty with drug eluting stents has captured that market, but other techniques, such as atherectomy, were competing for a while. Atherectomy, which drills out or scrapes away the material clogging the arteries proved not to be as effective, easy or safe in many situations, and is only used today in special circumstances, not mainstream diagnoses.
All of these technologies were/are protected by patents. If you want to design a new coronary artery stent today, you’ll find the patent landscape a minefield to traverse. Finding a way to be novel after so many innovators and companies have spent so much time and money investing in that field is likely to be very difficult. Yet, there are a few new ideas still emerging.
When you get a good idea, make sure you don’t share it with anyone who hasn’t signed a Non-Disclosure Agreement (NDA). And when the idea is developed well enough for you to sketch and describe the approach you have in mind as well as other potential approaches, file a provisional patent. That buys you one year. Only one year before you have to file a PCT patent application (Patent Cooperation Treaty) and/or one or more national applications (i.e., applications in specific countries).
In your provisional, PCT, and national patent applications, it’s important to describe all of the ways and variations that you may use to implement your idea. It’s also important for you to describe other ways to address the problem, even if you do not intend to implement them yourself. Go crazy! List every way you can possibly think of! This is known as a “blocking” strategy. If you have revealed all of these different ideas in your patent, that can block others from patenting those competitive ideas themselves.
While patents are not the only way to protect your ideas, they are the most calculable. One patent, or a portfolio of patents can be analyzed relative to potential competition, strength of claims, and the ability that your intellectual property (IP) gives you for “freedom to operate” in your chosen field. The value of patents can be expressed in quantitative, monetary terms. This becomes part of an evaluation of your overall company value and plays into the potential terms you might be offered by venture capitalists or other investors. Trade secrets and other ways of protecting your ideas are less tangible and therefore hard to value (i.e., worth less value in the negotiations).
Step 3: Address the 4 Key Risk Areas
- Market Risk: If you build it, who will buy it? For how much? Are you sure? Why? What’s the competitive landscape? Can you protect your idea?
- Technology Risk: Will it work? What makes you think so? Who else agrees?
- Management Risk: Can you and your team execute the plan successfully? You must have a plan, at least in outline/bullet form, with cost and potential revenue projections that can be challenged (they will be). What makes you think your team can succeed? Have they done it before? What outside advisory and other help have you secured to help assure your success?
- Regulatory Risk: What’s the regulatory classification for your product? The requirements for approval or clearance? How sure are you? What’s your regulatory strategy? Have you built this into your business plan in a conservative way? Who are your regulatory advisors? Have you talked to the FDA and/or an EU Notified Body? Many companies have been significantly delayed or put out of business by not understanding and managing this risk.
Your business plan and your presentation to potential investors must include all of these factors. The investors know the risks. They want to see how much you understand the risks and how you intend to mitigate them. Once you’re on the market and making money, investing in your company is much less risky, since you have an already proven business model. But if you’re a startup, the risks of ever getting to commercialization must all be considered in detail. There are a number of professional investment firms who are comfortable with pre-revenue and early-stage companies. They are very aware of the additional risks and are looking for how you as a leader and your management team are planning on dealing with those risks. Go in with your eyes open! Know that your investors are experts at understanding these risks, and they’re going to want to see that you are, too.
To be Continued in our Third Quarter Newsletter. The second part will focus on the finding comparables, making progress, getting the word out, building key relationships and managing to persevere. Stay Tuned!
Contact me if I can be of help to you and best wishes for astounding success!