Resetting the Scales: Navigating Valuation and Financing Expectations in 2024 | LSI USA '24

This panel covered the tough times for healthcare companies in 2023 and the panelists discussed better spending habits, realistic valuations, and new ways to raise money in 2024.
Dave Mildrew
Dave Mildrew
, BioQuest
Rik Vandevenne
Rik Vandevenne
, RC Capital
Rebecca Raabe
Rebecca Raabe
, SPRIG Equity
Matthew Schopp
Matthew Schopp
, Zimmer Biomet
Paul McCreadie
Paul McCreadie
, Arboretum Ventures

Dave Mildrew  0:04  
Well, I'll get started. I'm Dave Meldrew, managing director with bio quest executive search firm. We're proud to be back here for the fifth year of our sponsorship of LSI, USA, and really happy to be here. The growth of this conference is amazing. I understand it's been 25%, year after year growth since they started the fund or the not to fund the conference five years ago. So congratulations to Scott and his entire team for what they've done. So get started on it, make sure we introduce the or introduce themselves. The panelists up here we've got a great group of investors, who are going to talk a little bit about what they do, what their areas of focus are first, so you get a better understanding for the CEOs and founders in the room. Exactly what they're looking at when they do invest. So if I could start here, Rick,

Rik Vondevenne  1:01  
thanks, Rik Vandevenne, one of the managing directors at RC Capital, formerly known as river City's capital funds. We've been actively investing in health care companies for the last 30 years. Medical devices healthcare services healthcare IT, we are growth equity, which means we like the companies to typically have a couple million in revenue at the time of our investment. We help them scale up the business from there.

Rebecca Raabe  1:26  
Great. Hi, everyone. My name is Rebecca Raabe, and I am co founder and investment partner at SPRIG Equity. I've been working the last 20 years in healthcare and specifically the medical technology segment as an operator consultant and an investor. As an operator spend time with big companies and private companies having spent time with Abbott Laboratories and their individual cardiology, division and strategy marketing roles, and on the private side have been a part of two acquisitions when an orthopedic company and one in the setup company. As a consultant, I've worked at spread consulting, which is our sister organization, as spread consulting as a strategy and commercialization consulting firm that really specializes in working with private medical technology companies. And as an investor, I was part of the Abbott ventures corporate team, where we made equity investments off of its balance sheet part of m&a activity for Abbott's portfolio. So together with my two partners, Evan Norton, who led Abbott ventures for a decade, and Katie Arnold, who's the CEO and founder of spray consulting, we started SPRIG Equity about a year ago. And our fund is focused on late stage venture and growth opportunities within the medical technology space are real big point of differentiation is our relationship with spray consulting, which allows us to have some off market deal flow. We started last year we did our first close in October. We've made two investments today and actually close to doing our third investment in the next couple of weeks. So happy to be here today.

Paul McCreadie  3:03  
Hello, everybody. My name is Paul McCreadie. I'm an investment partner with Arboretum Ventures. Arboretum is broad, invest broadly and healthcare we're based in Ann Arbor, Michigan, we're actively investing from a six Investment Fund, which we were fortunate to close just last summer. So with the exception of biopharma, we have a fairly broad footprint in healthcare, traditional medical technologies like devices and diagnostics. Along with health IT tech enabled services, and life science tools are our primary areas of focus, by most definitions, generally a pretty early stage investor, so a lot of series A and B investments. So companies that if it's a regulated technology could be in a clinical process or a regulatory application with the FDA, or just launching or near commercialization. We invest broadly across the US but certainly have a concentration of some of our investments in the middle part of the United States. So glad to be here. Looking forward to the panel today.

Matthew Schopp  4:05  
Good afternoon, everyone. I'm Matthew Schopp. I work for Zimmer Biomet in the Business Development Group. We we at Zimmer Biomet, cover both venture investing as well as acquisitions through our business development team. So we're one of the largest orthopedics companies in the world, covering both sports large joint extremities, little thoracic, some neuro as well. And we look typically both enabling technologies, pure down the middle orthopedics as well as some adjacent technologies as well.

Dave Mildrew  4:45  
Terrific. So to get things started, I wanted to start with a question. So in 2023, we saw a major reset of valuations across all investment areas, in particular, med tech in Some deals saw a 50%, decrease in value from 2021. And the number of deals down 30% Over the last three years. So I'd like to start with Rick and maybe, Paul, if you could address what happened? What were the macro issues in the economy that in impacted this and got us here where we are today?

Speaker 1  5:25  
Yeah, so I mean, I think you have to rewind the clock and go back in time. And remember, the amount of uncertainty that there was in the market, right, the Fed rate was going up, we weren't sure how far it was going to go up. And whether there was going to be a really hard landing, right, everyone thought that 23 was going to be, you know, recession. Now. You know, hard landing now we're thinking maybe soft landing, maybe no recession. But what did that cause it caused the IPO markets to really shut down, right. So there was no med tech IPOs in 20, to 23. And so far and 24, we had one in fractal that's sort of a quasi biotech med device company. That's, you know, they're down, I think 45%. And so no IPO market. And that leads to and I'm sure, Matthew, you can speak to this, the strategics having, frankly, more time to evaluate companies, right, there's no sense of urgency that these companies are going to go public. And so that allows them to kind of, you know, poke around and wait. And, you know, so that caused a lot of the portfolio companies for later stage med tech, now, companies that we thought were going to sell at 30 40 million in revenue, they're not selling, and so we're having to focus on our existing companies and funding into those. And so that leads to just less activity in the earlier stages.

Speaker 3  6:49  
Oh, yeah, I might just add to that mean, Arboretum, when we were raising our six fun lived through a bit of this, because some of the public market turmoil and resetting that occurred in 2022, you know, cause the limited partners that invest in venture funds to pull back a bit because it's, it's a little bit of a, you know, food chain, because venture capitalists are raising new funds from their limited partners. And, you know, a lot of investors that had supported us were in a position of over allocation, meaning, you know, their private or their, their public portfolios were down considerably. So all of a sudden, the investment that they've made in privately held companies, which, by the way, had been marked up quite a bit in recent years, were out of whack. I mean, an investor who might have had eight or 10%, and alternative asset classes, all of a sudden, is that 14 or 15%. So the idea of making new commitments to funds was was a very difficult thing. Funds, startup companies that were raising capital are sort of living off a lot of the dry powder in funds that were raised in the years prior. But a lot of this just sort of caught up. Because, you know, one of the factors certainly was the significant reduction in new VC funds being raised and slower deployment. So I mean, those two factors alone really led to this becoming a fairly difficult market for startup company financings. And I know, we're going to talk about more of those specifics. But, you know, in our we were fortunate that we ultimately got to a target fund size we were hoping to achieve, but it did take us probably six or eight months extra, because of some of these allocation issues, and limited partners having very little liquidity.

Dave Mildrew  8:30  
Thank you both. So that leads to the question of how did this play out across different kinds of investments? And, for example, strategics versus, you know, later stage growth. Maybe Rebecca, you could comment on this? Yeah,

Speaker 2  8:45  
yeah. So just to give a little bit more context, my perspective, I mentioned, we're focused on late stage venture, which we define, everyone defines it something different, but we defined it later stage clinical, so ID and your pivotal trial. And then the other half of our portfolio is growth. So we kind of play in between this stage of early stage investing and growth investing in terms of how this resets been felt across these different investment types. I think across the board, you've seen this flight to quality, as investors are really looking towards opportunities that have been de risked, or at least those opportunities that don't rely on big areas of risk that for their success. So an example of that would be like reimbursement, we all know for reimbursement, it can take a very long period of time to establish, especially for a new therapy. But I do think it's probably fair to say earlier stage companies often have a higher risk profile than later stage companies. So I think this reset was felt most strongly with earlier stage companies, but I think it's really the company profile itself and their risk profile, regardless of the stage and that's our job as investors is to identify that risk, and within this invite Are many of those key areas of risks that I mentioned, like reimbursement or other things that lead to long periods of time? It can cause, you know, slower delay in terms of accessing capital. And then that slows down the ability to mitigate those risks, which can lead to lower valuations.

Dave Mildrew  10:20  
I'm curious, Matthew, I think Rick alluded to this as a strategic, how did you see things play out in 2023? And as you look ahead here,

Speaker 4  10:30  
yeah, I think if we, if we go back a couple of years, right, the the, the theme, and the mantra was growth at any cost. And then, you know, last year, and as Rick alluded to, with interest rates going up, as investors were being more sensitive to the risks, we saw the transition back to growth at a reasonable cost with a plan to get to profitability and having a sustainable business. So it's, it's always tough to look at an early stage company and just assume that it's going to continue to be funded. And, you know, it's great if you get bought early, but you need to make sure that you have a pathway to keep going on in the future. And so as the shift from growth at any cost to a sustainable business was taking place. Now, we're at a point where I think that has has mostly been priced out in the market and companies that are quality and have a path forward or are still around and doing well. As a strategic, it's now a, what do we see as the potential for it? And are you going to hit your new plan of having a sustainable business and, and continuing to grow and not just pushing the goal line out and getting towards profitability and having a sustainable business?

Dave Mildrew  11:57  
Is there anything you would add Ricker? Paul, to this question?

Speaker 1  12:00  
Yeah, I mean, I think that the, you know, sort of the gogo days of 2021, you know, the euphoria of, you know, high valuations and a lot of exits at high valuations. That was, you know, a very unique time period. Right, I think we're seeing a reversion to the mean, back to sort of, you know, where the way things were in 2017 2018 2019. And that's sort of more reasonable and appropriate valuations. And so what has happened with growth stage companies is that raise money back in that time, a lot of those investors are sort of kicking the can down the road for as long as they can over the last, you know, six quarters. And at some point, either the companies have kind of grown into the prior valuations. And so they could have a flat round, right, then the, you know, flat is the new up, kind of saying, or they're realizing that they, you know, have to take a down round or a structured round. And so, you know, we're seeing a lot more of that happening this year. And, you know, and I think that investors are a lot more active this year than they were last year, you know, we've got two companies under term sheet we're excited about about those businesses. And I think we're seeing a lot of that happen. And, you know, from a strategic perspective, you know, you go to conferences like this, and you hear the strategics. And I think there's, they're more upbeat about, you know, their acquisition strategy and wanting to, you know, acquire really high quality, good assets.

Dave Mildrew  13:31  
Paul, anything you would add to that topic,

Speaker 3  13:34  
maybe just a bit of an anecdote, just because speaking from our existing portfolio, so companies that we've already made investments in that are now out in the market. And Rebecca touched on that a bit. And that is the earlier earliest stages, I think, are facing this downward pressure. A bit more, there's, there's more uncertainty in the future capital availability, and the amount needed. A lot of the valuation resets have basically put, you know, Series C, or D companies at prices of series A or B deals. So they're competing for dollars, and when you're raising capital to potentially become profitable, or there's much more of a path and certainty around access to that money. It makes more sense, and hence why I think a lot of the earlier stage companies this this pressure is being felt more acutely, we're just counseling our portfolio companies a lot about you know, cash preservation, extending runway and planning for a lengthier fundraising timeline.

Speaker 1  14:30  
I think it shows out in the numbers, right. I mean, I think that something like 48% of rounds, were insider led rounds. And then I think that it was the highest percentage of non value announced rounds that happened right to where a round was happened, but it wasn't announced that it was a flat or up round. Right. It kind of implying that probably 60% maybe or more were down rounds and maybe another 20% were flat rounds.

Speaker 3  14:58  
I mean, we had to invest Once in our new fund that in fortunately, we were able to join extensions of prior rounds that were closed up to even two years before. So it may be it's not a down round, but call it forward. It is right. It's two years of additional progress and extension be just because milestone might have been missed, or there was just a gap to close before going out to the market.

Dave Mildrew  15:23  
I'm curious between different healthcare segments. Rebecca, what about? You do a lot of med device med device? Diagnostics? Any differentiation there?

Speaker 2  15:34  
Yeah, no, I think, between medical devices diagnostics, it's really a similar scenario, which is different specific risks that you're evaluating for these different opportunities. You know, when we first started our funding, we were looking, Paul and I were just talking about this more healthcare IT UP opportunities and think with that one, you know, for us, the biggest risk is who's the ultimate buyer gonna be? And if there's any uncertainty around that, just preparing yourself for having to fund the company. And so cash flow, breakeven and take on more dilution and what that will be to valuation. So I think that's one segment that probably had a little bit more different behavior over this past year. But first device's diagnostics. That seemed to be a similar scenario.

Dave Mildrew  16:17  
Matthew, anything you would add to that? Yeah, I

Speaker 4  16:20  
think even within, you know, we talked about and if you're outside of the medical device world, and you talk to folks, and they say, Oh, well, medical device, it's, you know, the dynamics are probably the same within all medical device. And you need to really go deep and understand that what you're trying to accomplish with your with your, your company, and who you're trying to sell to your customer, and what clinical area you're selling into whether it's cardiac or orthopedics or or neuro, right, even within each of those, there tends to be specific areas that are are really highly valued, whether it be ease of use, whether it be clinical data, whether it be reducing cost, reducing complications. And so understanding what is your company really trying to accomplish with its product, and understanding the target audience with target customer? And understanding? What's the ultimate end game, whether it's, you know, selling to a strategic or whether hoping that you can IPO, you know, where are you going to drive the most value? And how can you focus and make sure that you're getting to that end goal. Rick

Dave Mildrew  17:39  
and Paul, I think you both invest in health care IT related companies, as well as tech enabled med devices, any comments about those areas?

Speaker 3  17:51  
Sure, right. Historically, that's been an area of focus for Arboretum, we would call that the unregulated side of our portfolio. So health IT tech enabled services. And I think that sector of healthcare is one that in the 2020 2122 sort of timeframe, valuations really were out of control, there were there were a lot of non traditional healthcare investors that might be SAS investors, or wanted to cross into healthcare. So there was more, there was an abundance of capital really bidding up prices. And I think that there was really, in our view, a scarcity of appropriately valued assets there. And so we've taken a little bit of a step back in recent years in that sector, although we still think it's very important. I think that that's, that's one of the sectors where the valuation reckoning is going to be even more significant. Just given me some of the reasons that have been mentioned here. But I just I think that the valuation pressures are even more acute, because in the heyday, those were a lot of the companies that were bid up even more significantly than maybe traditional medical technologies.

Dave Mildrew  19:02  
Rick, anything you would add to that? Yeah, no, we

Speaker 1  19:04  
call those the tourist investors, right, that came in and kind of bid up prices. But yeah, I mean, I think a lot of things that were tied to COVID, obviously, you know, and there was a lot of remote patient monitoring and a lot of excitement and hype around that. And so, you know, the there's been a little bit of a shift in area of focus and interest and, and in valuation then because of it, but yeah, healthcare, I t's down, you know, 50% I mean, I think where there's interesting applications of AI and healthcare, you know, there's certain certainly, you know, some hype around that that's sort of bleeding over from the pure tech side of things. But, yeah.

Dave Mildrew  19:42  
So, Rebecca, as a new fund, currently fundraising, and you started in 2023. How is this playing out for you?

Speaker 2  19:52  
Yeah, I think Paul touched on this as well, just with arboretum closing their fund last year, but you know, touching on A food chain that this has been difficult across the board. And, you know, I like to say to founders and companies, when we meet with them that we feel your pain, it's been a really hard year, probably the most challenging year to raise capital and just put some numbers behind it from the fund perspective. Now, in 2021, for med tech venture funds, there was $7 billion raised for 2021. That was down to 4.3 billion. So you can just see the amount of capital coming into this space is definitely decrease. And then Paul hit on as well, just the number of med tech venture funds that closed in 2023 was half that number of 2021. So it spread equity, we're very proud to be part of that small number that made it through that close last year. But it's certainly been challenging across the board for companies and funds in this space. You know, I think another interesting shift that we've seen to the landscape as it relates to funds over this last years, who's investing in funds, and specifically emerging managers who think in the past, you've seen institutional investors play in this space and dominance and bigger institutions. And right now, it's predominantly family offices, high net worth individuals. So it's created a shift, especially when you think about, you know, the average check size that comes from these different investors. But I will say, you know, being a quarter into 2024, we're already seeing a big change in momentum, as it relates to fundraising. And I think we'll talk about this more, but it's really encouraging to see that appetite from LPS increase. So I think that's great.

Dave Mildrew  21:37  
I'm curious, Paul, Rick, what can founders and CEOs do today to navigate through this period? That they've just survived in 2023? And moving into 2024? What, what can they do to improve situations for themselves?

Speaker 1  21:54  
Sure, yeah. I mean, the obvious one, we talked a lot about this, right? I think over the last couple of years, people have been forced to be a little bit more capital efficient, not growth at all costs. So you know, really understand the metrics of your business and what moves the needle don't hire in advance, right, we see that a lot where people go ahead and hire, you know, 20 salespeople, and just kind of really put the fuel on the fire and just go, go go. And, you know, that sometimes works, but when it doesn't, puts you in a real bad situation, right. So experiment, do frequent small experiments and look at your data and understand them. And then when it's right, you know, put your foot down the gas and go, you know, get closer to profitability, I think strategics are, you know, again, not willing to take on a company that's burning 20 million a year, that's less, you know, exciting for them, they want them to be creative within a certain period of time. And so that's important as well.

Dave Mildrew  22:52  
Ball, anything you'd add,

Speaker 3  22:53  
I would say that really being precise about the critical milestones that you're looking for in your fundraising activity is very important. I mean, that that level of precision and focus, you know, to just understand what's on the critical path. And you know, really focus on that it's, it's often a case, like a platform type technology, we've got indication one, and we've got two other things that are going to follow. Well, you know, the best and highest use of that capital is probably to advance your lead program lead asset. So we've really been working with our companies to make sure that they're raising the right amount of capital. And you know, even for those that have closed around and have some Runway Left is really just extending that and making sure that they're focused on the, you know, the highest value creating activities, I think some of the companies that are going to be in the toughest spots are those that are, you know, high burn rate, a very difficult inability to be able to modulate that or, you know, to put in any austerity measures to extend runway, because the message is, you know, start early, start raising capital early, it's going to take a bit longer. And I do believe 2024 is going to be that way, you know, for the remainder of the year. It's a tricky spot, because sometimes raising capital earlier means that you might not have some of the milestones checked off that you're planning to raise off of. So it's kind of a delicate balance. And we've really been kind of counseling our companies on that about when it when is the right time to go out and raise but generally speaking earlier is better because it may take you, you know, three plus months longer than you might anticipate.

Speaker 2  24:31  
And just to add to that, I think it's all about this. It's very highly highly dilutive financing right now. So how can you avoid that? And I think another thing to consider is just non traditional sources of capital, you know, strategic partners. I think this is a great time to work with strategic partners, and I'm sure Matthew can talk about this more but coming from my experience at Abbott ventures, I think it's fair to say that strategics tend to be less price sensitive, so that can be positive in terms of dilution. I think also looking at some other creative opportunities for financing, whether that's vendor financing. If you have a part, you know, in your company that you're depending on a vendor for and they're dependent on you, there could be opportunities for financing or lower rates, we actually have a company that we've invested in that recently did this with a vendor that is getting access to the healthcare channel during this cut through this company. So it allowed them to negotiate lower rates, which helped the burn, and then even thinking about other partners like family offices. I think they're obviously being inundated right now, as I mentioned, being the sole providers of capital for funds. So it might be a long response time hearing back from those groups, but they definitely have a big appetite for direct investments as well. So I think just thinking about some of those non traditional sources of capital can help as well.

Dave Mildrew  25:55  
Matthew, how about you any advice? As we look ahead to 2024? Yeah,

Speaker 4  25:59  
I'd say we saw a ton in 2023, I think, almost every company that I talked to, and certainly far more than I had ever seen in my career. Almost everyone said, our we're looking at doing convertible funding. And using structure and looking at creative ways and, and raising some convertible debt can be great. If you're looking at it in the right vein, it's great when you need to get to that next milestone to maybe have the valuation and the real power behind your fundraise. But it's not so great if if you're you're doing it because you don't want to accept the fact that times have changed and, and you just want to keep your valuation where it is. And, you know, hopes not a strategy, but hope that there'll be a recovery when you go to fundraise next, you know, as a strategic, and I'm sure as as a venture investor, looking at from the outside in at a company, you know, it's it's hard to look at someone who who is that, you know, ladder type of convertible raise where they're just kicking the can down the road and hoping that it gets better. I think I'm hearing less about convertible now than I was 12 months ago. So I think I think that that change has really already taken effect. And I'm excited about 24 Because I think I think we have reset a lot of expectations. And, and, and we have a lot of momentum to go forward from here.

Dave Mildrew  27:36  
I'm sure a lot of the smoke company CEOs love hearing that there is a change. Rick, you're gonna say something, but what kind of what kind of prognostication can you do for the balance of 2024? And what were you going to say? I'm sorry?

Speaker 1  27:51  
Yeah, no, I, you know, I was gonna add on that, you know, there are there are a lot of companies that are seeking capital right now. And I think with that dynamic of an overfunded at high valuation dynamic that we saw in 21. If you're an investor, and you're having you know, a number of of opportunities come across your desk, you know, there are times when it almost makes sense for you to work with your board to come up with what an appropriate valuation would be that you'd be willing to take and, and have an understanding of that. And not necessarily that that's, you know, putting it out there as like we'll do, we'll do this at this price. But at least, you know, showing that you're reasonable and realistic, because we've passed on plenty of deals where we know that it's just that there's been, you know, really high expectations from two years ago, and that those are probably still gonna be the same. And so like, why go through the brain damage, when other people are willing to, you know, have more reasonable expectations?

Dave Mildrew  28:50  
Any looking in the future here? For up more optimism, any comments about that other companies that are undergoing acquisitions now some past m&a experience that has happened recently? Yeah, I

Speaker 2  29:04  
mean, I think definitely the overall sentiment is that m&a activity is going to increase in 2024. And I think there's a couple of things driving that. If you think about the predominant source of inorganic growth for large players, it's through m&a. And they've been sitting on the sidelines, but I think they're going to be forced off the sideline, because they can only put that off for so long. And you combine that with the fact that prices are where they are, they're very attractive for assets. I think you have people more open to structured opportunities. And then interest rates, there seems to be a lot of optimism around that. So it just makes it easier for the master workout for these large players when they're looking at a return on capital. So I think all of these drivers are definitely going to lead to more m&a activity this year.

Speaker 1  29:48  
And I think that there's a healthy IPO pipeline of really good quality companies that when they go out we'll get people excited again about this. In the old you know, fear It will turn into greed kind of dynamic. I think we'll see that.

Speaker 3  30:03  
You know, Rebecca commented on fundraising perspective, and I'm glad to hear some of your experiences that the limited partners investors and venture funds are, you know, showing some uptick in activity. It's the only, I mean, that's terrific, it's just going to take some time for that to to flow through because it's the funds, and then it's the availability of capital, I do think that 2024 is still going to be a difficult time from a valuation perspective. You know, Rick mentioned the opening of an IPO window, which has a very positive effect, even on m&a Because, you know, there are other sources and other paths to liquidity. It's just going to take a little bit of time, and a comment that was also made earlier, just about insider rounds. Last year, a huge proportion of them in med tech that were either bridges or extensions. I mean, you can only live off that so much. So I just our experience has been certainly from the new investment side, and with our portfolio, is that valuation pressures are still there. And I think it was a good point you made Rick up to about signaling to CEOs and management teams about open mindedness to you know, market setting prices, because there are definitely times where we just feel that we're not going to engage, because there's just an absolute inability to, or willingness to consider a different valuation. So optimism, certainly for moving forward, but it's going to take some time because of the considerable backlog of companies that need financing.

Dave Mildrew  31:33  
Terrific. Well, I think that's pretty much our presentation for today. Anything else anyone wants to add here at the end? Well, thanks to the audience for listening and being here with us today. Thank you


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