Why Early Stage Medical Device Deals Aren’t as Bad as You May Think

Mike Carusi is a bit of an odd man out in his line of work. 

At a moment when a number of venture firms are either going away or shifting their focus to later-stage investments, Mike’s investment thesis clearly prioritizes early-stage medtech device deals.

His history of success speaks for itself. As a General Partner and Team Leader of Lightstone Ventures, he focuses primarily on biopharmaceutical and medical device investments. Mike is also a General Partner at Advanced Technology Ventures (ATV), a faculty member of the Stanford Biodesign Emerging Entrepreneurs Forum, and an advisory board member of the UCSF/Berkeley Venture Innovation Program. Some of his representative investments include Altura Medical, Ardian (acquired by Medtronic), EndoGastric Solutions, and GI Dynamics.

Mike estimates that his firm will see up to a thousand business plans over the course of a calendar year. They’ll end up funding four or five. 

Those may seem like steep odds, but Mike assures me that there are still plenty of good deals to be made. 

“Our belief is actually that as the capital in the industry shrinks, the demand, if you will, for our companies will go up because the major players will continue to have a need for innovation,” he explains. “They’re going to be continuing to look for these sorts of opportunities. So, we actually think it’s an interesting time to be investing in the space, but it’s a challenging time as well.”

In this episode of Medsider, Mike discusses some of the obstacles that start-ups face in finding funding and their footing. He talks about the power of disruptive technologies, the benefits of investing early in start-ups, and the importance of persevering and prioritizing personal relationships when it comes to making deals.

Key Lessons from Mike’s Experiences

• Pursue innovative products that have the potential to transform their sectors. The technology itself may be revolutionary, or you may find a new and revolutionary way to apply an existing technology — as Kona Medical did with its ultrasound Renal Denervation System.
• Medtech start-ups can draw inspiration from the worlds of biotech and pharmaceuticals to create advantageous partnerships with investors and strategics early in the development process. One model that is particularly promising is the build-to-suit model. 
• Start laying the table early for a successful exit down the road by prioritizing personal relationships with everyone from investors to strategics. And don’t underestimate the power that clinical data has to persuade payers, clinicians, the FDA, and, ultimately, patients.

Look for Disruptive, Game-Changing Technologies

When you take a look at Mike’s portfolio – his history of success – you’ll notice that a consistent theme runs through the projects he invests in: many revolve around technological and physiological breakthroughs. 

This is key to Mike’s investment philosophy. He favors backing disruptive technologies that have the potential to transform their industries, rather than products that achieve only marginal advancements.  

“When you improve, you can’t do it incrementally. You have to do it in a way that is a leapfrog,” says Mike. “We want to focus in on [the] kind of novel, big, early-stage opportunities that really have the potential to move the dial.”

This strategy at first blush, may seem incompatible with a “fast follower” approach (in which a company quickly imitates the innovations of its competitors to produce a competing product), but Mike points to Kona Medical as an example of a company that was a fast follower in a disruptive way.

Kona’s Surround Sound Renal Denervation System innovates by using ultrasound to treat nerves leading to and from the kidney noninvasively. To Mike, Kona’s renal denervation solution is radically disruptive in a space dominated by catheter-based products.  

Mike’s approach to device investing encourages start-ups to try to introduce some level of novel physiological approach to their markets, instead of just coming up with marginally better widgets.  

“There have been too many incremental ideas that got funded, and as a result, there are things that nobody cares about. When I say nobody, that’s patients, payors, strategics, the FDA. It’s just [the] kind of stuff that is incrementally better but isn’t going to move the needle.”

There are, undoubtedly, risks that come along with this method. Technological innovations don’t always pan out; some failures are inevitable. But the risks are worth it. You’ll have far lower success rates replicating familiar technologies in a market saturated with fast followers. 

And, importantly, when you do succeed, you have the unique opportunity to create a new category and truly own a space in the market.

Invest Early, Consider Collaboration 

At a time when many venture firms are focusing on later-stage investments — i.e., traditional-model investing, in which firms invest after a product is developed in anticipation of potentially buying the company down the road — Mike sees untapped potential in partnering with start-ups earlier. 

He cites the biotech and the pharmaceutical industries as influences, and encourages medtech start-ups to think outside of the box by partnering with companies and the venture community in imaginative ways. 

One particular model that he considers promising is the build-to-suit or build-to-buy paradigm. In build-to-buy projects, small companies and entrepreneurs work closely with large strategics, like Boston Scientific, Medtronic, Abbott from the very beginning. In these instances, a start-up essentially develops technology with the strategic’s preferences and priorities in mind, with the ultimate goal of being acquired by the large corporation. 

Getting creative with partnership models could be one way to manage undercapitalized periods of time. Mutually beneficial partnerships with strategics could create opportunities down the road as strategic players need growth. 

“I think you’re seeing all of these players thinking creatively and trying to partner with the venture community in a creative way, in terms of how do we work together earlier so that we can support one another earlier in the process, filling the funding gap, and  in many ways, helping direct our projects towards things that they truly need,” says Mike.

Making Deals Is About Building Relationships 

So, once an entrepreneur, engineer, or physician has a novel medtech idea, how do they get the attention of Mike and his team at Lightstone Ventures? According to Mike, it’s all about relationship-building and prioritizing people. 

1. Expand your customer base.

Mike encourages start-ups and early-stage investors to expand their definition of “potential customer” beyond clinicians, payers, and patients to include companies like Medtronic, Boston Scientific, and Abbott. While there are certainly times when companies are taken public, more often than not, they are acquired. It’s beneficial to get a clear understanding of what these strategics want, what they feel they need in the pipeline, and try to direct your efforts towards those interests.

“I think the days of showing up with a banker and saying you’ve got 60 days to buy the company are gone,” explains Mike. “I think it’s a game of building relationships at all levels, venture capitalists with the strategics, CEOs with the strategics, other board members with the strategics, etc.”

2. Do your research.

Set yourself up for success by doing proactive research, looking for investors and companies that have an established history with similar technologies in the same space. Mike emphasizes that many investors are pretty transparent about their areas of interest. You can start, for example, by simply going to an investor’s website, and reading through his or her portfolio. 

“I think if you look at the companies that we as a firm, and even we as individuals have financed, you’ll see a theme. We tend to do things that are similar. That’ll give you a sense of whether or not your company is one that might fit with us or not.”

3. Make a personal connection.

In terms of getting the attention of your targeted investor, the old adage is true: It’s best to secure a personal introduction to a venture firm. Mike confirms that a deal that’s been introduced gets more attention than something that comes in cold. 

Keep in mind that, in the early stages of development, a big part of what ventures are investing in is the entrepreneur, the individual. “If we don’t know the individual,” explains Mike, “it’s important that they come highly regarded and highly vetted. So, I would always try and find a qualified introduction.”

4. Patience pays off. 

Once you get that introductory meeting or pitch, remember that there will be many different conversations after it; nothing is decided in one day. These discussions are critical so that investors can do due diligence on your product or idea, but Mike admits that venture capitalists are also vetting the entrepreneur: trying to get a sense of how they think. They’re asking fundamental questions, such as: 

• Can we work together for four, five, or six years?
• Is the entrepreneur realistic in terms of what they know and what they don’t know?
• Does the start-up have the right expectations on what everyone’s roles should be, now and in the future?

“All of that is a process, and it takes time,” concedes Mike. “It requires an entrepreneur to be patient, thoughtful, and mature in terms of what it takes to ultimately build out a big company and a successful outcome.”

5. Perfect your pitch deck. 

While you don’t need to have raised angel money or produced a prototype in order to secure an investor, Mike does recommend that entrepreneurs prioritize their business plans and pitch decks. Too many start-ups come into investor meetings with a great idea, and little else. Your pitch deck should clearly communicate that you’ve considered the market, reimbursement, and who your primary competition is. 

“The product is only one part of it," explains Mike. “So, I do like to see a pitch deck at least to start. It’s a good way to frame a discussion.”

6. Clinical data is king. 

Mike considers clinical data to be the most important metric when it comes to gauging a start-up’s potential — more important than FDA approval or a CE mark. In the past decade, he has noticed a significant increase in the demand for high-quality data from payers, clinicians, the FDA, and even patients. Even companies that have secured 510(k) clearances may struggle to commercialize their products without compelling data. 

Clinical data answers the most essential questions about the efficacy of innovative products. Certainly, there are other significant questions to ask: Can you get reimbursement? What will the market adoption look like? But you have to answer that most fundamental question first.

If you’ve got a really interesting therapy that is moving the needle on HbA1c, or on blood pressure, for example, then there’s a presumption that you’re going to get reimbursement. 

“I think our job is to generate that kind of data and do it right,” Mike says. “Doing so starts to answer a lot of questions in terms of the value of our product.”

Mike notes that clinical data may be more or less important for your product, depending on the therapeutic space you’re in. 

“In cardiology, at least historically, those acquisitions are often driven by strong clinical data or early revenue uptake somewhere,” explains Mike. “If you look at orthopedics, sometimes you need more sizable revenues before those companies are acquired. It does vary by therapeutic area and by the nature of what you’re doing.”

Putting it all together, Mike points to his experience with Ardian to illustrate his investing philosophy in action:

“What we try to do is look to pioneer a space, look for things that are highly novel, highly disruptive — with the belief that if we demonstrate that novelty, hopefully through clinical data, — that that company will get taken out early and that we can make a very good return. I think that Ardian is an example of that.”