By Christine A. Wu, Senior Research Analyst, LSN

On June 23^rd, LSN gathered a panel of Early Stage Medtech Investors for RESI on MaRS in Toronto. Among a number of topics, panelists engaged in a stimulating conversation addressing common investment and geographical trends in the medtech space; the balance of management team and science in a company; and their final advice to entrepreneurs out there.

Moderated by Gordon Cheung, Partner & Chief Medical Officer of Epic Capital Management, panelists include:

• Charles Bridges, VP, Medical Devices, Cardiovascular Therapeutic Area Expert, Johnson & Johnson
• David Huizenga, Co-founder, President & CEO, TAO Life Sciences
• Garheng Kong, Managing Partner, HealthQuest Capital
• Lisa Boreanaz, Senior Policy Analyst, Ontario’s Office of the Chief Health Innovation Strategist (OCHIS)

Value Creation and Optimization is the New Investment Model

“The days to buy into a device just because they were sexy are largely over,” Charles Bridges (J&J) declared. Value optimization– the assessment of patient outcomes and health economics – is a recurring evaluation when considering investment in the medtech arena. For medical devices especially, there has become a significant focus on evidence generation. While it is true that a benefit of the early stage device market is a fast-track towards commercialization, “if the device is not coupled with important evidence that shows it has value compared to the standard-of-care, then we don’t think the device will have strong likelihood of success,” Bridges explained.

Garheng Kong (HealthQuest Capital) further defined value optimization: “We are happy to invest in the next Nobel Prize, but we are also happy to invest in the next ‘paper clip’ of healthcare – something out there that has been made a bit better and adds value to the healthcare system.” Nowadays, entrepreneurs need to prove their technology with better or similar outcomes at lower cost. Kong further addresses the significant value-add when the innovation removes steps from the current system. “We have found that one – people make fewer mistakes, and two – even if it’s something great and it takes 500 steps to do it, it won’t be adopted.”

Focus on Meeting Patients’ Needs

David Huizenga (TAO Life Sciences) emphasized the investment focus in technology that seeks improvement for patient quality of life. Huizenga addressed the importance of not only the therapy itself, but also the way in which patients can continue to live with a disease or episode –relearning how to walk for a stroke patient for example. This may involve a device that can bring the therapy home to the patient’s personal life. “This makes [the technology] more valuable here and around the world.”

Both Management Team and Science Matter

“You can’t have a great management team with no science and science with no management team,” Bridges stated. J&J focuses on science first, and only if the science is sound, then the next step is the management team. Though in the end, “it really is all the above,” Bridges concluded.

For earlier stage investors such as TAO Life Sciences, Huizenga explains that it can depend based on a thorough risk assessment. If the risk is execution, the management team is the determinant; if competition, the commercial property; if a scientific hurdle, the science and scientists. Ideally, of course, “be good at all of them!”

Yet while management team is a determinant, it makes it much more difficult for investors if the science and underlying technology are not quite right. “We can help the business model and management team, but we can’t actually help mother nature,” Kong pointed out, “no matter how experienced we are as investors, it’s hard to change science on a company.”

Companies should expect their investment partners to be supportive, but should also be realistic of what investors can and cannot do. “We think about the risk we are taking and risk we can mitigate ourselves,” Kong supplied, “We add it all up and apply some judgment on the risk return profile.”

Good Ideas and Geography are not Directly Correlated

“The capital flow doesn’t map onto the good idea map,” Kong described. Panelists addressed that the inefficiency in funding is reflected by where the funds are geographically held.

While this can be seen as a downside for companies outside of the science “epicenters” (i.e. San Francisco, Boston, New York), some investors have found these companies to have a competitive difference in their ability to attract capital, which ultimately can drive a difference in valuation.

Similarly, investors outside of the big epicenters have different perspectives and evaluation measurements. “While the money exists, it’s not used to seeing the types of opportunities that can be presented and the risks and how they look at it are very different,” Huizenga explained. Furthermore, investors based outside of these “epicenters” can bridge the knowledge gap companies stuck in outside regions may have.

Other epicenters are developing, as well. According to Lisa Boreanaz (OCHIS), Canada has seen less medtech companies leaving, largely due to its favorable ecosystem, tax credit, grants and contributions, and overall ability to attract foreign direct investments.

Final Advice

1. Make your pitch credible. “You need to pitch that your team, technology, and market are all credible,” Boreanaz explained.
2. Get a warm introduction. “Warm introductions with somebody that I vouch for or know are the best,” Huizenga stated.
3. Think about your Subject Line. “Because of the amount in my inbox, good subject lines that actually capture my attention are actually pretty important,” Huizenga admitted.
4. Know exactly what the investor is seeking. In terms of working with an investment bank or service provider, “the question is what the filter is. If I know you know exactly what I’m looking for and you’re calibrated to my wheelhouse, then thoughts are that’s a really good reference.” Kong explained.

By Caitlin Kramer, Research Analyst, LSN

Each phase of drug development offers its own unique challenges. The generation of lead compounds that may advance through the pipeline of FDA approval is a costly process, and new molecular entities that are advanced as leads through the process of FDA approval face abundant chances of failure: the likelihood of a given compound making it from Phase I through to approval is only 11.8%*.

Entrepreneurs and researchers developing drugs outside of big pharma will need to understand the costs facing an asset at every stage, and have a plan for how to efficiently structure their capital raises and outreach.

Figure 1 shows a breakdown of FDA-filing costs, estimated costs for each phase of FDA approval, and the likelihood of advancement between phases. The data portrayed in the figure come from the latest (published Feb 2016) in a series of research papers examining R&D costs in the pharmaceutical industry, authored by researchers at Tufts Center for the Study of Drug Development, the Department of Economics at Duke, and the Simon Business School at the University of Rochester. The data comes from a survey of 10 top multinational pharmaceutical firms which conducted in-house discovery and pre-clinical programs. The R&D costs incurred per approved drug in these settings were calculated to be $430 million, a figure which is likely larger than development costs incurred in academic settings. Once an IND is filed ($550,000), each subsequent phase of approval is more expensive. The estimated likelihood of advancement, or success in the phase, is lower in Phase II than other phases, making a Phase II success an important inflection point from an investment perspective.

The LSN Investor database contains data about the phases of development that firms have expressed interest in. A breakdown of this data is shown in Figure 2. Venture capital firms have expressed the most interest in funding pre-clinical and Phase I therapeutic leads. Private equity firms, being more risk averse, express increasing interest in later phase assets. Interestingly, large pharmaceutical and hedge fund firms step in for the riskier Phase II trials while their corporate venture arms are more interested in earlier phases of development. Family offices express similar levels of interest across all phases of development.

Knowing the distribution of capital amongst the different firms can help entrepreneurs plan their raises to bring them through the various phases and hurdles of development.

Distribution of capital amongst investor types at different phases of development