Health startups need consolidation after pandemic funding ‘sugar high’

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LAS VEGAS — Health startups will likely need to consolidate as funding normalizes following a flood of pandemic-era investment, experts said during a panel discussion at the annual HLTH conference Monday.

The healthcare sector saw a swell of new companies raising money at high valuations in 2021. Now, health technology funding has declined compared with pandemic highs, and down rounds, which is when the value of a startup is lower compared with a previous raise, have increased, according to a recent report by Silicon Valley Bank

Consolidation could be good for the market — and allow companies to add new products and capabilities at a time when capital is harder to come by, said Teresa Lee, managing director at Omers Growth Equity.

“During those COVID years, there’s just lots of seeds planted, you see all these flowers coming up in the garden,” she said. “But when you have too much crowding, things can die sometimes. You need some pruning for things to actually get to a place where you’ve got an ecosystem that’s sustainable.”

Investors look for quality, sustainability after funding surge

During the funding boom, investors poured billions of dollars into digital health startups.

However, some of that investment wasn’t very disciplined, allowing lower-quality companies to reach high valuations without the business models to back it up, said Carmine Petrone, managing director at private equity firm Advent International, during the panel. 

“One of the interesting things about the sugar high of 2021 — when money was free and everything went up and to the right — was a real belief that a total addressable market with a company that had a business plan that sounded pretty good was sufficient to create value. And obviously what we all learned was that’s not the case,” said Ian Wijaya, co-head of financial services firm Lazard’s North America Healthcare practice.

Part of the problem was the pandemic attracted a flock of outside investors to the space, which increased competition among investors and drove up valuations, according to the SVB report. 

These “tourist investors” don’t have a deep background in healthcare funding, and may instead be consumer companies or investors, Megan Scheffel, head of credit solutions for life science and healthcare banking at SVB, said in an interview. 

They might be useful for startups who need a quick influx of cash or want to place products in retail stores. But without healthcare expertise, they likely won’t be able to guide companies on things like the intricacies of the regulatory environment or how payers operate, she said. 

“People who are experts, who have been around for 20 years, you cannot replace their Rolodexes, their understanding of the market, their buy-in,” she said. “[…] The really good ones, their companies tend to get acquired. So it does create a little more of haves and have-nots.”

Now, investors are looking for companies that can show their path to profitability on a quicker timeline, Scheffel said during the panel. Hiring leaders with strong financial acumen early on is also appealing, Lee said. 

But investors can only take on so many portfolio companies, and so far this year few have gone public or been acquired, Scheffel said. One opportunity is for private equity firms to buy up multiple companies to create a platform. 

For companies interested in being acquired by a strategic buyer, they need to have a sustainable business model on their own first — before acquirers even consider potential synergies that could come with a purchase, Wijaya said.