Hank Plain’s Secret to Success
In late November, a handful of Stanford Biodesign Alumni Association were treated to an early holiday gift: a 3-hour, candid dinner discussion with Hank Plain, one of medtech’s most prominent figures. As a Partner at Morgenthaler, Vice Chairman of the Foundry and a director of Ardian and Acclarent, two of the biggest medical device acquisitions in recent years, Hank knows what he is talking about, and we took full advantage of our time with him, covering a wide range of topics. And, if you keep reading I’ll even tell you what Hank’s secret to success really is.
With the changes in medtech over the past 6-8 years, it is not uncommon to hear the following:
“We can’t do things like we did in the old days.”
“We need to rethink how we approach medtech projects.”
“Medtech venture is dead.”
The first thing we asked Hank was to respond to these statements and give us his opinion on the state of the medtech.
Where’s the money?
With traditional sources of capital for venture funding having dried up and shifted to investment in technology funds, fewer medtech funds have been raised. Venture capital, the traditional staple of funding for early stage medtech companies, has decreased significantly over the past few years (PwC, Falling Behind, Dec 2013). Compounding the lack of money to support venture investment, venture firms with existing portfolios face uncertainty raising additional funds and have been keeping more of their capital in reserves further limiting opportunities for medtech start-up funding from venture.
Fortunately, venture firms haven’t all thrown in the towel, and new funds are still being raised with interest in funding early-stage projects. For his new fund, Hank targets 75% early stage companies and 25% late stage. Hank likes early-stage companies because there is an opportunity to add and create significant value. As he describes it, Hank likes investing in “Swinging for the Fences” type projects with large potential markets as opposed to the “Singles and Doubles”. The reason being, that when playing “Small Ball”, the payout is typically capped based on a limited market size, however the operating expenses may not be. For example, if the FDA decides your 510(k) should actually be a 510(k) with some clinical data (or worse, a PMA), a “Small Ball” market may not be able to justify the costs. Alternatively, with a large market, it is easier to justify raising money for a larger trial or raising additional money for unexpected developments.
While smaller projects may not make sense for larger funds, Hank acknowledged that there is a place for them. LIMO companies (Little In Medium Out) following the model of $10M in for $30-40M out can be great outcomes for entrepreneurs. Also, there is potential for “Small Ball” with the strategic companies if they are willing to put up the money and arrange a pre-negotiated deal. This is an interesting model in theory; however, there are not a lot of examples yet.
While most entrepreneurs these days are not burdened by the problem of trying to figure out which venture capital firm to partner with (as most would be happy to partner with even one), Hank shared some useful tips for fundraising. The first step is to figure out who has money to invest. This needs to be a firm who has raised a fund within the last three years and has some reserves. For a typical ten-year fund, most firms will not invest in an early stage company after year four. When choosing a partner, one needs to feel confident that once the term sheet has been signed, the group will be aligned with the company. It is important to consider future financing and choose a firm who can help raise that next round of investment. When talking to a venture firm, connections are critical. One solid strategy is to connect and cultivate a relationship with a junior-level member and develop an internal champion to push for you.
People still invest in people
With less money available, competition is fierce. Venture funds with money see a lot of deals and can afford to be patient. Now more than ever, projects need to be solid and well thought out. Hank avoids “me too” models and looks for projects with a large market, a defined clinical path and a solid intellectual property strategy. New projects receiving funding are typically funded by a syndicate of several venture groups investing in a serial entrepreneur with a proven track record of success. When investing in a project, Hank is looking for proven performers: “Trust is everything.”
New avenues for funding: make sure your passport is up-to-date
With change comes opportunity. While the ability of the traditional VC model to support the medtech community is diminishing, alternative sources of funding have become more popular and new sources of less traditional funding have emerged. Although the timeline and administrative requirements can be burdensome, SBIR grants continue to be a source of free investment. Offshoring innovation is also a growing trend as foreign governments; specifically Ireland and Singapore are offering great incentives for medtech companies. These incentives include investment money, tax breaks and other resources. The typical requirements are that the company may need to be based in one of these countries or at a minimum have a manufacturing agreement in place to provide jobs. While it is unclear how long these incentives will last, they are viable options for a flexible entrepreneur.
When discussing OUS opportunities one cannot leave out China. Hank is not a big fan of medtech opportunities in China. While the market size is tremendous, and the labor is low-cost, the unknowns related to local politics and intellectual property make China a difficult market to enter. Despite all the challenges locally, Hank still feels that the Bay Area is the “Mecca of Medtech” because it has the community and infrastructure in place to support medtech development. If you can raise the funds, there is no better place to be.
Should medtech start-ups commercialize in Europe pre-FDA clearance?
The EU has become stricter in its reimbursement policy and now requires randomized data. “The good old days of doing a 20 patient clinical study in South America and then selling in the EU are over.” These changes and increasing hurdles beg the question: Is it worth commercializing in the EU before the US? Hank: It depends.
Portfolio companies can struggle when trying to make money in Europe. The company will need to spend money on quality assurance and marketing and could end up spending $5 million trying to make $1 million. Also, EU physicians are data-driven and become frustrated with devices that aren’t perfect, so the idea of entering the EU with a less than perfect device won’t work.
However, gathering clinical data may be a sound strategy in Europe. A strong argument for collecting clinical data in the EU before the US is to learn more about the technology and trial design itself. When asked about lessons learned, Hank pointed to Emphasys and Satiety who both held initial trials in the US. Hank believes both companies failed because the control groups and the placebo sham treatment weren’t understood well enough. For example, one of the control patients in the US-based Satiety study lost 75 lbs. Had this been discovered in the EU, Satiety could have adjusted the trial design appropriately for their FDA-approval trial. So is it worth the cost and time to run a clinical trial in the EU and then another in the US? “If you don’t then you are betting the company on your instinct that you really understand the trial and control outcomes.”
Sales or Data?
Should a company try to obtain quick, non-randomized, less rigorous data and $15 million in sales and then try to sell the company? Or alternatively, should the company focus on proving the technology and get compelling data for an exit pre-commercialization via the “Ardian model”? (Though recent negative results from the US-based, Medtronic clinical study evaluating Ardian’s renal denervation technology will likely put a significant damper on this model).
Again, it depends. Which risk is bigger, market risk or technology risk? Do you need to prove efficacy or adoption? One perspective to consider is that of the strategics. What do they feel is more important; $15 million in sales or good randomized data? Hank actually tested this question at a business development retreat for a strategic company. The resulting answer was 22-0 in favor of randomized data. Again, though it may “depend”; however with this anecdote you can see how the strategics are valuing clinical data.
Where’s the exit?
Perhaps the silver lining with the market contraction is that companies that do succeed may have more opportunity to exit through M&A by large established companies looking to bolster their offerings. Hank believes that the M&A activity is going to pick up. In fact, acquisition demand is high and has increased dramatically over the past three years. Why is this? Hank thinks that because current CEOs at many large medtech companies have been on the job for only a few years, they are only now establishing their business strategy. Beholden to shareholders, growth is paramount and options fall into two categories: market expansion and new technology development. Initially, many new CEOs believe that they can fix R&D and innovate internally, but eventually they realize the challenges with doing this in a large organization, and then re-focus on M&A to drive growth. With this in mind, Hank predicts increased M&A activity over the next few years.
In addition to traditional M&A, almost all of the strategics have active venture arms and are becoming more active in co-investing at Series C and D rounds to help fill the void left by anemic venture capital funds. Some are even exploring funding start-ups with pre-determined acquisition prices, although as mentioned above, few examples exist. However, the fact that it is happening at some level indicates that there may be more funding available for start-ups if they engage with the strategics earlier.
So what is Hank Plain’s secret for success? It’s simple. Surround yourself with the best and brightest people you can find and let them do their job. From finding the right investor partners, the right employees and even the right acquirer, it all comes back to people and making sure that you align yourself with the best and the brightest and learn from them. For all of the aspiring medtech entrepreneurs and innovators out there, Hank’s parting piece of advice is as follows:
“If you have opportunity to be President of a B grade company or Vice President of an A grade company, choose the A grade company. If you are part of a success, no one can take that away from you. You may not be CEO of the first company, but you will learn and be CEO of the second.”
The Biodesign Alumni Association would like to extend our thanks to Hank Plain for taking the time to share his insights with our group and for his ongoing support of the Biodesign program and the Biodesign Alumni Association.
Brandon Felkins has been working in the medical device industry as an engineer and project manager for over 8 years and is currently serving as VP of R&D for Ocular Dynamics LLC, a company that spun out of Stanford Biodesign in 2011 and is focused on treating contact lens induced dry eye disease.