19 min reading time

Got a $10-million idea? Who cares!

That’s essentially what a panel of experts told me this month at the IN3 conference in San Francisco. We were discussing financing options for medtech startups.

Apologies, the audio on this video is suboptimal, but you can download the entire transcript for a quick – and highly relevant – read.

Click to download the transcript.

From the November 6, 2014 panel at IN3:
Tips and Best Practices from Serial Entrepreneurs: The Art of Innovation – Inventing, Financing, and Leading New Medical Device Companies

Joe Hage: Thank you all for lending your expertise to our panel today. What question, when people figure out what you do for a living, what question is it the one that you are asked most frequently?

Trevor Moody: Yeah I think that probably pretty easy. How do you raise a Series A round from venture capitalists?

Joe: Okay, fair enough.

Scott Wolf: So well thanks for having me. I’ll take the second question is – or what people ask after that question – “What do I do now?”

The brief answer is persistence. You get a thousand no’s and you have to get up and just shake it off. Because all you need is one yes. As Churchill said, “Success is the ability to go from failure to failure without any loss of enthusiasm,” so I live by that.

Joe: Danny?

Danny Sachs: I’m also asked how do you raise money but, just so I’m not redundant, I’m sometimes asked what are some hot therapeutic areas? What’s interesting to you?

Joe: Okay. When we spoke beforehand, Danny, you said something about how founders sometimes fail to look past Series A rounds. Would you elaborate?

Danny: Yeah. I hear from entrepreneurs that they don’t like getting money from venture capitalists because venture capitalists are cheap so they have to sell a big chunk of their company in day one and it’s better to go with angel investors. My view is that that, at least in the role that I play where it takes, a 510(k) is $30 million; a PMA, that’s $80 million. You can’t fund that with angel money.

And I wouldn’t overreach on valuation expectations on day one. Because if you start out with a very high valuation on day one, then it’s difficult to raise the Series B and the Series C.

Have a long-term view when you’re raising money.

Having a deep pocket on day one is nice, it really mitigates your financing risk.

The brand of the VC that you partner with is important because the VC does a lot of heavy lifting, he makes introductions for you on the Series B and Series C.

He has a portfolio of companies that’s always interacting with the strategics.

You can rely on him to open doors for you. Just don’t take the best financial deal that comes along.

Joe: Does what Danny just said resonate with you?

Audience: He scares me to death! [Laughter.]

Joe: On a related note, thinking about the A round, the A team, the early team, do you find it best to have the founding team be on set of individuals and then when you go to commercialization, do you often find that maybe there gets to be a shift in talent? May I start with you, Scott?

Scott: Sure, I guess the question that always comes up is, “Does the founding team have a different set of skills than the commercialization team?”

So yeah usually there’s a difference in skillset. Sometimes the person who can get up every morning, go face the trials and tribulations of getting a company from an idea to first use, is different usually in skillset from somebody who can build a sales force.

A lot of times in the first meeting with a venture capitalists, venture capitalists will ask you, and Trevor has asked this question before but I’ve been asked it many times, “So what are your plans for the company?”

They ask it in a very mild manner but a good answer is, “I want to do what’s best for the company.” Know that this is an issue comes up.

Trevor: In some ways I’m the least qualified on this panel of esteemed entrepreneurs. Danny and Scott have had good fortune to work with a number of great entrepreneurs. In terms of thinking about the team, one misconception I think entrepreneurs have often is that there’s a VC wanting that desire to change things and change that management and so forth.

Sitting on VC side, it’s really the last thing you want to do.

As a board member or chair or major investor, changing out a CEO it can be a disaster. More often than not, it’s very, very hard to do.

Certainly if you’ve got someone like a Jeff Bezos as the founder who can take it the whole way, and the skillset and desire to do, then you’re great. That’s absolutely fantastic. As Scott says, though, often times it’s just the skillset. The experience, sometimes the desire, is just not there. The best situation when this stuff happens is that we’ll get a decision amongst the investor and the founders to make that change. It doesn’t always happen but that’s the best thing.

Scott: If we can bring the question to Danny, how far do you usually take your startups?

Danny: So, my model is a little bit different. I’ll spend a year or two trying to bake an idea and get it funded, but I do not plan to be the CEO long term. I’m the initial CEO but I tell the CEOs from the get-go that I’m looking to hire and I’m looking for your help to recruit a star CEO and I’m thrilled to hand the baton to the CEO and then I’ll serve on the board from time-to-time, but I’m looking for someone who can run circles around me.

In terms of the ideal spec, I agree that a sales and marketing person probably is not the ideal person for a pre-clinical stage company or even a clinical-trial stage company. That said, decisions that you make very early on have implications that you’re going to market and sell in the future.

The design specs, the data you collect in the clinicals, the political process. It takes years to get a CPT code and coverage policies and you need to lay the groundwork early on. Finding doctors who will be your champions; the PMA.

I don’t really do this as an early stage guy versus a later stage guy. My ideal CEO is someone who has earlier in their career a technical background. An engineering role, they were an R&D person, but then they’ve transitioned to a sales and marketing person later. I would say I’ve had the best luck with those sorts of people.

Joe: I’m really intrigued about how you state up front, “I’m not your long-term CEO.” I’m intrigued to know how early in, ideally, do you identify the person to whom you’ll hand the baton?

Danny: Well, in an ideal world, on day one you get a star working alongside you. The reality is you’re not going to get a star to quit their job and come work for you when you don’t have any money. [chuckles]

So it takes a good year or so for you to bake the story where you have the panelized data mapped out, the reimbursement path mapped out, the regulatory path mapped out.

Ideally I have a term sheet in place so when I go after the CEO I say, “Look it’s almost a funded deal,” and it’s far less risky to recruit that star.

Joe: Interesting. Any comments?

I’ll tell you, as the leader of the Medical Devices Group, I have a lot of questions that I don’t publish and a lot of questions on the side, “Joe, this group is so large so surely you know someone who will invest in my concept,” and, of course, it’s not that easy.

It’s very difficult to look at a sentence or two and then say, “Yeah, you should talk to Trevor, he’s got a lot of money.”

How do you all screen ideas and say… How do you identify in the early stage and say, “This is something that I can see spending some time and resources and capital.” Trevor, may I start with you?

Trevor: Sure yeah and there are the typical diligence items such as market size and intellectual property and regulatory path, reimbursement, etc. I do spend a lot of time on those.

Personally it’s areas that you like. I grew up in cardiology, and pacemakers and defibrillators and I naturally I’m drawn to that and love that industry. It’s almost as personal what people like, but I think angel investors will tend to have area that they’re drawn to. You have to be sensitive to that. Ideas that may be terrific but they just don’t fit with that person; their desires.

I think one thing that I’ve become more and more sensitive about is in the diligence when talking with docs and key opinion leaders… this is still an incredibly important part of “due diligence.” That when you’re talking to those folks that it’s an intuitive positive response to a concept.

They get it. It’s not a hard sell to convince the why this might be helpful in their practice or whatever. What is important is not just in the diligence you want to get something positive but, play it forward, when the company’s out there recruiting patients or docs agree to be part of a trial and then when you go commercial. Also when you’re trying to raise up money down the road. You want that diligence exercise to be interesting. I’m very sensitive to that.

It’s too much of a sell in terms of convincing the physician that this is something they might really need then you know that it’s going to be a challenge all the way through the company’s life. Sometimes those get through and those are the big changes that you’re going to recognize those are going to be difficult.

Scott: You have to be able to answer the top questions of reimbursement, regulatory and market and intellectual property. Answer those questions just knock them out of the park from day one.

Assuming now that ideas meet those criteria, the main question I ask is, “Is this meaningful?”

Will this be meaningful? If we can make this work, is this a big product, is this an obvious big market change? Last company [inaudible] was Zeltiq (note: Scott is a founder), I was brought in and the question was, “Is it meaningful if you can non-invasively remove fat from someone’s body?” That was not a difficult question to answer so taking on some technical risk [was appropriate for a big market idea.]

Trevor: I’ll just add on to that because Zeltiq is a great example, when you’re doing your due diligence, Scott founded the company, we backed him [inaudible]. When you’re doing your due diligence… he was using cold and using it in a very special way to remove fat. It was actually my own reaction for when he described that was like, “Oh yeah, why didn’t I think of that?” kind of reaction which was really nice because it just speaks to when you’re actually commercializing… talking to lots of people it’s going to be a “pull,” not a “push.”

Joe: Scott, define big idea. Our mutual friend Tom Clement in the audience, say hi Tom, has what I think is this very big idea, but the market size is not “collosal.” Is the question, “How much money can I make,” or “Is it that’s a really good idea for an unfilled need that may not be huge but it’s low risk?”

Can you talk us through that?

Scott: I think in terms of realistically reaching a sales goal of over $100 million in five years, something in terms of that you really get to, get to (big sales?) [inaudible]

Joe: Let me ask the room, is there anyone here with an idea that you don’t project five years out it’s 100 million? Maybe it’s 50? Any less than $100 million ideas in the room?

I’m asking because, while not a lot of folks raised their hand, there are those who may read this transcript or watch the video.

What about the guy who has the $10 million idea or the $20 million idea, where do they go?

Do the VCs say, “I’m sorry it’s too small.” Do they go to angel funding? What do you do? Maybe I can start with you Dan.

Danny: Pick another project. [audience chuckles]

I mean, you’re going to spend as much time and sweat on a $10 million idea as a $500 million idea, big idea.

Scott: I think we all basically agree with that. There’s only one way to exit on an idea for investors or founders to make money on an idea and that is to sell to a big company.

Big companies aren’t interested in $10 million ideas unless they fill some specific niche that you’re not going to go after and invent. It’s just too hard to turn that into investor returns.

Joe: Trevor, are you, in fact, in violent agreement?

Trevor: Actually I’ll take a contrary position. I’m not in violent agreement. I think there are some situations where, with a small amount of money, you can build a product line and find a market abroad to make some money.

I will do a different high level of caution that you’ve already identified this fits in perfectly in Carefusion’s – just like we talked about – Carefusion’s particular product line. There are some really good insights that you have that make that fit, versus “it’s just a project you want to do” because you like it and you’re giving a pass on the market size.

I do agree market size is incredibly important. There are some exceptions but you’d better really know what you’re doing and not be fooling yourself.

Joe: If you are looking at something, you have to have that really serious end game. Where you identify “that guy” who’s really good that “this,” integrate the product into their “that,” … I’ve already got it all planned.

Trevor: Yeah.

Joe: So I’m assuming that none of you here… an idea that somebody pitches you for $10 million, beyond potentially “I know the guy,” friends and family help them out… here’s a few thousand… love him… that’s about the extent of the interest. And that’s all that person can reasonably expect: Friends and family. Beyond that… [shrugs]. “Dot dot dot…”

Panel: Yeah.

Joe: It’s sobering because I personally when I get these questions I want to be as helpful as I can and a lot of them are at that “dot dot dot” stage and I don’t want to just say, “Hey sorry man, you’re out of luck.”

Danny: I think actually that is being helpful.

Trevor: Yeah.

Danny: You don’t want someone to sink seven years of their life into a project that’s not going to go anywhere.

He’s got to attract people to his team – all his team members are going to care how big his market is.

He’s got to attract money – the VCs are going to care how big the market is.

He’s got to attract strategic interests at the end of the day – they care about market size.

It’s not like there’s a lack of large market opportunities.

Just steer them in another direction.

Joe: One of my favorite books of all time is a book called ‘Influence: The Psychology of Persuasion’ by Robert Cialdini. And he talks about ways to influence people including social proof; namely, who else is in on this? Who have you already got, who have you already attracted? And if you can say, “I’ve got Jeff Bezos,” well, he doesn’t just throw his money around.

What would you advise someone: I’ve got this really great idea, yes, it’s got that potential. I’ve got a lot of interest and everyone is telling me. I will build as soon as you have that first investor, that first one who’s put their money in and I see who they are but it’s like a Catch-22 because I haven’t got that other guy yet, so everyone else is waiting for that guy to respond.

Do you have any strategy that might help someone in that situation?

Scott: I’ll take that and it’s incredibly important and very very helpful to get somebody involved who’s put money in early on. It doesn’t have to be a lot of money so maybe making it attractive and easier sell to that main person, that somebody who knows about this particular device or is a big name medical devices… getting them in or just giving them common stock. Just try and make their “yes” easier.

Danny: I think it’s really helpful to have an industry insider who can seed his reputation alongside the deal.

For example, Respicardia, I recruited Bobby Griffin who used to be the president of the pacemakers business at Medtronic as an angel investor. He put in an amount for himself, maybe $100,000, but, boy, that lent a lot of credibility when I went to the VCs: “Oh, wow, Bobby Griffin’s on the deal.”

With Mainstay, it’s an active implantable to neuro-stimulate for low-back pain, I invited Andy Weiss to join the board. Andy used to run the neuro-stim business for Medtronic so that lent credibility to the project.

And I’m not using them for window dressing. They are really helpful and have an awful lot of wisdom – but the window dressing helps!

Joe: Thank you. Let’s talk about different sources of financing and which ways are best to approach these different investing entities. Perhaps first I’ll start with you Trevor. Do you have advice for the group: How do you best approach a VC? Is there a way to get in?

Trevor: That’s the number two question I get. This is “101” but it still happens all the time is it just never, ever, ever do cold-call without some sort of introduction. It’s just a waste of email; it’s a net negative. It may sound obvious but people still do it and it’s always a bad thing.

So always get an intro. In 10 years of Frazier we did about 80 deals and I don’t think there was one that didn’t come from a close referral. So referrals are really important.

Best is another investor that’s doing the deal – but that assumes you’ve got another VC – and if that’s not the case then look at their advisors, they put all that on the Internet. Connect with those people; get someone who’s going to give a warm, valuable introduction.

Don’t bother asking another VC who just passed for an intro – for obvious reasons – but it still happens all the time.

Joe: That’s funny. “I know you don’t see any value in this idea but do you know anyone who might see value in this idea?”

Trevor: No, it’s common, surprisingly, it’s common.

It’s an obvious question, I understand, but it just doesn’t bring any value. I think it’s the warm introductions from… If it’s an entrepreneur…. Probably the best is if it’s an entrepreneur that has made money for the firm so, “this deal just had a 10x exit” and the CEO of that company is, by default, going to be loved the partners and their venture capital firm.

Joe: Is there a way for someone to find out who they are or go back in the past and see the history of who…

Trevor: Yeah, and I the easy way is most firms on their website have advisors, venture partners, operating partners, whoever. And we all have LinkedIn. I think there’s the assumption that on the VC side that the entrepreneur is going to be able to an effective job and get that intro smoothly and in what looks like a seamless fashion. And if it’s not happening, it’s kind of a bad sign.

Joe: Danny?

Danny: I would also be very deliberate about who you want to get to at a VC firm.

If you ask for an introduction at a VC firm, say do you know “Bobby Smith” at this fund.

Don’t just ask for an introduction to the fund.

And then, how you pick who you want to go to at the fund, you look at the deals they’ve done, and if they have experience in your particular area, they’ll probably “get” your story.

If they’ve made money in your area, they might be more receptive to your story.

Look at where they are in their careers. If they are the older guy who raised the fund 10 years ago and he’s kind of floating on the work of the younger guy, he might not be as hungry. Maybe you want to go after the principal, the guy who’s been there just a few years who wants to make a name for himself. He’s going to be hungry to do a deal.

You also want to look at how many deals they’ve done this year. My guess is if they’ve already done two deals this year, they’re less likely to want to do another one. They don’t do more than two or three deals in any one year.

Joe: Scott, your personal experiences? What did you find?

Scott: What I’ve found in the startup world is there’s no elegant way of doing it. There’s no systematic way.

Taking into account what the panel has said, you just have to go and iterate and try… everybody you talk to… your attorney, your… just start to get as many referrals as you can and try to get in that way. It’s not a one-time shot… when you talk to your regulatory person ask them… just keep trying and iterating through the process to get in.

The other thing I would say is that when you see your investors for the first time, you’ve got to be ready. Do as much as you can for as little money as possible.

You can make your presentation look like you’ve spent a lot of money into animals and doing IP work. Do as much as you can to show you’re far along. You’d be surprised how much you can get done for not a lot of money if you really try.

Every question that comes up you need to be able to knock it out of the park and you know the questions they’re going to ask you in advance. Go to friendly people who know this stuff to ask you those questions in advance.

Joe: Are there any questions from the audience specifically about VCs, what works, what doesn’t? Hey, Vizma.

Vizma Carver: Hi Joe. This is a question regarding the approach, but also the resumes of the folks on the team. I have friends who are investors and some of them have a cut-and-dry “I don’t take a team unless the CEO has a certain degree of experience” so do you have [inaudible] a quick assessment of who the entrepreneur has on the team [inaudible].

Joe: I’m sorry, I had a hard time understanding you.

Trevor: I think I understood the question to be how an investor should think about who should be in your team and who shouldn’t be?

Vizma: Right as well as what the entrepreneur that is bringing the potential investment opportunity to you, what is that CEO’s credentials or experience that makes you more favorable to that investment opportunity and what makes it less favorable?

Trevor: I’m sure there is. Obviously folks who’ve made money demonstrably, of course, not everyone’s done that.

Don’t underestimate how big a deal that is. Maybe it doesn’t have to the CEO as Danny pointed out. Someone who checks that box but isn’t in an operating role, it’s not as good but I think, from an investment perspective, that’s very helpful.

I think it will be a long discussion now about who we would like to see on the team, showing you’ve been thoughtful about who is on the team and you’re getting a good range of expertise, you’re getting complementary expertise to yourself. If you, as an entrepreneur, are very technically oriented, if you started to think about at least getting some advisors with sales and marketing types involved. Things like that are important.

The problem is, early on, there’s only so much you can do and a lot of it is going to come down to the entrepreneur.

Joe: Next question? Please introduce yourself.

Don: My name is Don Conway. I’m from the Amos Tuck School of Business at Dartmouth College.

To the panel, could you think back to when you entered the industry and look at the evolving role that reimbursement… the importance of the role reimbursement has played up to today and what you see for the future.

Scott: 20 years ago we were looking for big markets and big ideas and we assumed anything would get paid for. And it did.

And 10 years ago we really worried about regulatory as FDA was… how long are they going take to get it approved. Now we concentrate fully on reimbursement and how things are going to get paid. Now we assume nothing, we assume it’s going to be a fight and it’s really come to be the top question that needs to be answered.

If you answer all those other things in the past people would say, I think would say, “Okay this is so good I think we’ll pay for it.” Now that’s not the case.

You have to assume a five-year process of getting a new code with multiple randomized clinical studies involved.

Raj: Hi, everybody. I’m Raj Nihalani, I’m the CEO of OncioMed. As an entrepreneur, I am looking more to start a company going the angel [investor] route, bypassing the VCs, and going straight to the public markets. What are your views?

Joe: So what are your thoughts about bypassing VCs and getting some angel funds and then going straight to the public markets, is that your question?

Trevor: I’ll take a stab at it. I think I will step back from the specific question just a little bit.

In this environment, there’s really no default plan that everyone should be following. It strikes me that every deal, getting funded, and being successful has taken a different path.

Joe: Is this, “Get money wherever you can?”

Trevor: Get money where you can, so sure, if you can get angel funding and take it public on London Exchange or something that funds your company sure.

Joe: There are four more sources of funding I wanted to touch upon. How best to approach angel investors?

Scott: The angel group is the most amorphous, most difficult to approach in any systematic way.

That is word-of-mouth there’s around here [in San Francisco] there are a number of groups of licensed angels, North Bay Angels, Silicon Valley Angels, I think. There are groups that you can go to that have regular presentation nights.

That’s one way, otherwise in the specific angels who can actually write checks for investment, it’s word-of-mouth, it’s asking for referrals. It’s also looking at who’s investing in other companies.

Joe: Thanks Scott. Next is how best to approach strategic partners. Danny?

Danny: Sure. My advice is the strategics care about what their customers think.

If you’re figuring out who the user is for the JNJ product or the Medtronic product and you get to know them first, and it’s not just a single meeting, it’s building up a rapport first. Then get them excited about what you’re doing and then, if they are excited about what you’re doing, they’ll be happy to tell this development guy or the president of the division that “you need to know what these guys are doing.”

Joe: Thank you. How about alternate sources of financing such as non-dilutive monies, grants, etc.?

Trevor: Yeah, I’ll take that. I wouldn’t focus too much on non-dilutive but there is money around for that.

I’m up in Seattle and we have a life science development fund. It’s tobacco money that’s being repurposed for funding early stage companies. It’s not large, it’s a couple hundred thousand but it’s made huge difference to a number of early stage startups. Those exist in different forms in different places so.

Joe: How might you find them?

Trevor: Networking, asking around.

If they’re doing their job, they know the community. They shouldn’t be that hidden.

I think alternatives: I’m spending a lot of time right now, I’m managing director for a fund in Australia looking at North American medtech.

We come with some complexity and it’s more complex to raise money from overseas then from a group here. But in the spirit of everyone being creative, there’s a lot of receptivity in that. There’s funders from Canada, funders from Singapore, funders from Europe, and Asia of course.

My observation as someone who I think I feel comfortable saying I’m fairly in the flow of deals that are getting done and what’s going on and I’m still regularly surprised by the make up of syndicate of new investors in medtech deals. It’s hard to predict where the money will come from. It’s persistence and looking under unusual rocks to find the money because it’s not the beaten path.

It’s really finding money wherever you can.

Joe: Last one, I’ll ask about your thoughts on crowdfunding. Any thoughts on that?

Scott: I’m going to go and try it. It sounds like a good idea.

Joe: Okay. That’s quite an endorsement from Scott.

Danny: I’ve never done that.

Trevor: I haven’t either. I think it’s a good idea if it works.

Joe: Okay. Show of hands anyone who tried or presently using crowdfunding? Okay.

Danny: You have a question down here.

Joel: My name is Joel Steinberg and I’m with Navigate Surgical Technologies. I wondered if you could speak to the notion of “raising to milestones.”

For example, we’ve raised funds at a point of doing a successful [inaudible] surgery. We are six weeks away from medical device licensing in Canada.

We found it to be an interesting experience to [inaudible] VC valuation. There’s the risk that you don’t do what you say you’re going to do and don’t hit your milestones.

I’m just wondering what your thoughts are. Take the money when it’s there? Do you feel that this is a sane approach?

Danny: You’re asking if we should agree with you with tranche financing, is that your question?

Joel Steinberg: Yeah the notion is to finance incrementally as you achieve milestones.

Danny: In an ideal world you raise all the money upfront but it’s not an ideal world and the VCs … If I was a VC investor I want tranche financing also because you’ll show me the data before I put more money at risk.

I’ve taken two deals that were tranche financings and we were nervous we weren’t going to hit the milestone. My advice is to make sure you have a cushion because things go wrong you don’t anticipate.

Also check out the reputation of the VC because that’s a great opportunity for your investor to be opportunistic. The VC may know that you’re not funded to your milestone. God forbid you don’t hit it, they may come and want to renegotiate a deal.

Trevor: Check out the group you’re dealing with. Do they understand the zigs and zags and medical device development and how are you going to react if and when you miss a milestone – and milestones get missed sometimes. How are they going to behave? Are they going to be willing to work with you? That’s very important. It’s common.

Danny: Or are they going to crush you?

Trevor: Or are they going to crush you.

Joe: Let’s hear it for these gentlemen.

[applause]

About the panelists:

Trevor Moody • TM Strategic Advisors

Over a decade as a lead investor at multi-billion healthcare firm

Led/syndicated 37 equity financings of over $700M

Secured FDA clearance for three new medical devices

Scott Wolf, MD

Founder and CEO, Aerin Medical

Founder, Zeltiq Aesthetics, Endogastric Solutions, Cardiac Dimensions

Former Partner, Prospect Venture Partners

Former VP, Frazier Healthcare Ventures

Danny Sachs, MD

Co-founder Respicardia, Kspine, Mainstay Medical and Amphora Medical

Raised $118 million in combined venture capital

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Paul Goeld
pgoeld@gmail.com
The absolute size of the opportunity isn’t the only issue. It’s the ratio of the investment (in terms of both time and money) to achieve that goal. Do you prefer making $1 million on a $1 investment for one day’s work or $100 million on $99 million investment that takes 5 years? In absolute dollars, there’s almost no difference. But in terms of return metrics, risk and the time value of money, the difference is huge.

A $10 million idea may be perfectly fine and can have a wonderful exit if it can be developed for a reasonable price over a reasonable period of time with few (and small) investors. I know several inventors who have done well by selling incremental product improvements to acquirers. No, you probably don’t have a sufficiently large opportunity to attract large venture firms, but a small exit may be perfectly acceptable if it can be achieved at a smaller cost.

If you have a blockbuster idea that can create or revolutionize an industry – for example, the recent and ill-fated renal denervation opportunity – then you will need a lot of time and money to demonstrate its value. But that large exit opportunity will attract the big money venture firms, too.