Originally Published MDDI September 2004

EDITOR'S PAGE

Wall Street is taking a renewed interest in the device industry—but only in certain kinds of companies. Others will have to get creative to attract investment.

The financial markets are once again warming up to the device industry. This good news, however, comes with a load of expectations, some of which are foreign to traditional medical device industry product-development and growth strategies. These expectations may reshape the industry and force some firms to seek alternative means of investment and growth. 

The evidence for this uptick in medical-device investment is not hard to find. In 2003, there were no initial public offerings for device companies. But only halfway through 2004, there have already been seven. In addition, large device makers are again interested in snapping up small ones that promise big growth, as shown by Boston Scientific's recent $750 million purchase of Advanced Bionics Corp. 

But as attendees at June's Strategic Research Institute Medical Device Investor & Corporate Development conference in Princeton, NJ, learned, the playing field is hardly level.

First, investors like biotech better than devices. Why? Because Wall Street prefers home runs to singles. That is, it tends to like firms with potential billion-dollar products than those with, say, potential $50 million products—even when the billion-dollar product is a far less sure thing. 

Devices with billion-dollar potential are rare, and the few that have it tend to be combination products. To date, only the largest manufacturers have been significant players in the combination-product market. Small companies wanting to play in this market, therefore, can't stick to the traditional growth pattern: a few rounds of venture-capital investing followed by an acquisition or IPO. To attract large amounts of early-stage investment, they will have to pattern themselves after the biotech companies. This could mean forging a key alliance with a major device or pharmaceutical player. It may even mean doing an IPO before its product is on the market while forging a persuasive case that it has a blockbuster in development. 

Second, those who have used traditional venture capital funding have to wait longer for an exit strategy to materialize. Frank Rahmani of the law firm Cooley Godward LLP (Palo Alto, CA) noted that the 29 venture-backed device companies that exited since 2000 averaged $48.7 million in funding, raised over five rounds of financing. This is much more money raised over a much longer time than was typically the case in the 1990s. The reason is that potential acquirers and public investors, having been burned in the past, are not pulling the exit trigger until they see more evidence that a company's products will succeed. The more safety and efficacy data for a company's product, and the farther along it is in the FDA approval and CMS reimbursement processes, the better chance the company has of being bought out or having a successful IPO.

Third, when Wall Street considers the device industry, it focuses almost all its attention on three popular sectors: cardiovascular, neurology, and orthopedics. If a company is not a player in any of those markets, chances are it simply will not attract significant investment. 

So what if your start-up does not have a product that fits into one of the currently favored criteria for investors? Get creative and be persuasive, for starters. And above all, gather as much evidence as you can about the marketplace need for your product.

There are investors defying the trends and looking for companies with some sort of hidden value. Some, like Ambient Advisors LLC (Los Angeles), specialize in “value unlocking.” They take companies with good technology but financial or management challenges and turn them into viable entities. Other types of investors specialize in seeking out singles instead of home runs. 

No serious investor will seek out a device company based on hype, however. The device company must take the initiative to prove to them that its product can be a winner without having to spend huge sums of money to get it to market.

Raising capital and growing a business isn't impossible for a small device company in the 21st century. But it takes more work than it used to. The industry is full of ingenious inventors. To attract investors, the business side needs the same kind of ingenuity.

The Editors

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