The chasm in med-tech fundraising: the seed round
Launching and financing a med-tech company in Baltimore isn’t easy. Outside of the major med-tech hubs of Massachusetts, California, and Minnesota, Angel investors are rarely privy to the nuances of med-tech ventures, and more commonly, they aren’t tolerant of the risk profile and timeline that are inherent to the industry. Fortunately, getting med-tech ventures off the ground is getting easier. With the existence of programs such as TEDCO, the Coulter Foundation, and Small Business Innovation Research Grants (SBIRs), accessing early research capital for technical development is feasible. But there is still a problem: these programs are designed to strictly support research, which preclude grantees from using funds for rent, IP costs, licensing, legal expenses, consulting work, and other common essential costs of doing business. So where does this leave you? If you’re lucky, you have resources for prototyping, possibly salaries, and hopefully some early animal experiments and a provisional patent. What does your average Angel investor want? Clinical data, issued patents, FDA approval, and ideally paying customers. This is the chasm in med-tech fundraising.
The fact that this chasm exists does not make it impossible to cross, but it adds another time-intensive hurdle to the already arduous path of building a med-tech business from the ground up. Everyone will tell you that fundraising for any start-up outside of The Valley, and possibly Boston, is a challenge. The additional challenge that med-tech entrepreneurs face is that they are fighting for the same dollars as a tech company that already has a product built, numerous customers, minimal costs, and needs the same bolus of funding to simply grow their existing business. This, confounded with the inflated valuations at venture financing and huge exits for tech companies, makes it easy to see why an investor might prefer investing in an unregulated app over a new piece of medical technology.
This doesn’t make raising a round impossible, but rather a steep uphill battle. Your pitch must be polished and so crystal clear that viewers can’t resist the opportunity. They need to know that if they pass up on this opportunity, they’ll kick themselves about it later.
Critical elements of Sonavex’s presentation and past work that enabled our initial investment included thorough customer and market research, compelling early data and professional validation and detailing of the timeline and requirements for regulatory clearance. The first two items can be achieved with hustle and successful use of research funding. The last item is not so simple, and further corroborates the paradox of early stage med-tech fundraising. How is the young company supposed to be able to finance these large expenses prior to raising a round? That’s up to the entrepreneur. Sonavex’s founders didn’t have the personal financial resources to cover these costs; fortunately, Sonavex was able to bring in enough unrestricted cash via awards from a series of competitions. If we didn’t have this luxury, it’s tough to say if Sonavex would have been able to reel in any private funds. This is one of the reasons why small, but very early stage investments can help young companies cross the chasm. The first, and most obvious reason for the importance of this cash infusion is to enable critical company activity. The next is purely psychological. After the company receives its first investment, you’ll immediately notice two major changes. First, once the first investor moves, others begin acting like lemmings. The assumption is that in order for the first investor to act, they must have performed the time-consuming (and often expensive) diligence work on the company that no one really wants to do. It also puts a time pressure on the investor. All of a sudden, the start-up is hot and investors don’t want to miss out. The second change is the company’s psychological shift. Initially the company feels as if it’s begging anyone with an extra nickel in their pocket to invest. Once the first investor is on board, the company gains confidence and leverage. The company is now able to select its investors, rather than vice versa.
Even though Sonavex routinely received stellar feedback for our work to date and presentation, it didn’t make people reach into their pockets. One would think that after winning some major awards and securing large federal grants might give the extra push to garner enough excitement among investors, but we experienced otherwise. What did it take to get our initial investor on board? Six months of routine triweekly meetings with a member of a syndicate, which ultimately led to a presentation in front of the entire group. Once the presentation was reviewed and well-received, Sonavex had about eight 1-on-1 calls with individual members of the group. Following these calls, Sonavex submitted dozens of pages of diligence materials. When it was all said and done, a total of 8 months later, Sonavex received its first check. Concurrently, Sonavex pursued this same path with about 40 investor groups or individuals: initial interest calls, follow-up discussions, and in-person meetings. Most investors won’t ever give you a hard “no”. They never want to close the door, just in case something changes and they change their mind. The investor mantra is: “your venture looks great, but it’s a bit early, let’s keep in touch periodically for the next several months and I’ll continue to consider an investment.” This becomes almost crippling for the entrepreneur.
All in all, after about 120 calls and meetings with investors, exhausting the Angel community in Baltimore, and traveling to New York and Palo Alto, which comprised 10 months of hustle, Sonavex was able to close its seed round.
So what does all of this mean? Finding that first investor is brutally challenging. It’s time consuming, distracting, draining, and can get expensive. There is a major gap in early stage financing for young med-tech companies. I believe the power of a small initial investment is undervalued, both for entrepreneurs and Angels. A little bit of money in and of itself will not take a med-tech company to revenue. However, it will enable the company to continue standard operations, and equally as important, it will open doors to critical follow-on dollars. I certainly wish that A-Level was active when I first began my raise. The void that A-Level fills for med-tech companies is much needed. A-Level can become the entity that helps start-ups cross the chasm.