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Getting to Conviction in Health Tech
Or how I learned to stop worrying and love the complexity
“If you're not confused, you're not paying attention.”
― Tom Peters, Thriving on Chaos: Handbook for a Management Revolution
Health tech is a uniquely challenging space to build a venture-scale startup. The combination of complex stakeholder dynamics, traditionally high costs, and opaque revenue-generating opportunities make it difficult to assess the space, let alone build within it.
For those same reasons, investing in pre-seed health tech startups is similarly challenging.
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The challenge for investors comes when trying to align excitement for a founder with a thesis around the opportunity and dynamics in the space. One or the other can develop on its own, but the unique challenges of healthcare in the US make bridging this gap to arrive at conviction an order of magnitude more complex.
Through my time as an early-stage operator, community builder with On Deck Health, and investor, I’ve developed a straightforward approach for bridging this gap and getting to conviction in health tech.
At a foundational level, I’m looking to build conviction that an opportunity could be venture scale by looking at three interconnected areas:
Total Addressable Market (TAM) and Exit
The order of these is important.
Company paradigm drives the choice of business model, which in turn dictates both TAM and exit opportunities. These, along with founder-market fit, enable me to find conviction and make an investment, even with the limited available data at pre-seed.
While there are examples of venture-scale companies across different types of opportunities in healthcare, the path to reaching scale is littered with investments that took the wrong lessons from previous successes in the market.
The dynamics of health tech companies differ greatly and require a strong alignment between the founding team and the opportunity they’re looking to solve. Some of the types of companies with the potential for venture-scale exits include:
Tech-enabled healthcare services
Description: Platforms that provide varying levels of services, driven by technology, to diagnose patients prescribe medication, and manage symptomatology
Opportunities to target: Chronic conditions or diagnoses that are either visible or taboo to discuss, require treatment over multiple years, and that affect more than 10% of their patient population. Eczema, menopause, and endometriosis are examples of conditions that fall under this umbrella of chronic conditions
Business drivers: Minimizing complexity of operations, maximizing customer LTV through a focus on long-term conditions
Things to avoid: Moving into primary care, inefficient usage of clinicians within operational processes, becoming the next Cerebral
SaaS provider solutions
Description: Software tools that increase access to care for patients and augment providers’ ability to bill for additional services/care
Opportunities to target: Increasing per-patient billable services, enabling clinicians to operate at the top of their licenses, utilizing AI to streamline internal processes and reduce overhead
Business drivers: bottoms-up sales approach, the ability to clearly demonstrate value through metrics, business model generating revenue from multiple sources
Things to avoid: competing directly with Electronic Health Records (EHRs), system complexity for users
Healthcare payments and billing
Description: Products that increase financial access to healthcare and/or help providers get paid faster
Opportunities to target: Price transparency and managing costs for the minimally insured, Medicare/Medicaid billing, optimization of healthcare billing (especially around high-cost oncology treatments), bespoke insurance products
Business drivers: Accelerating provider payments, variable fees on transactions
Things to avoid: SaaS-only business models
Market Comp: Cedar ($3.2B)
Brick-and mortar-healthcare providers
Description: Software and infrastructure that brings access to care and can serve as a front door to large payer/provider networks
Opportunities to target: Hard-to-reach demographic groups including immigrant populations, college students, and rural communities and/or affluent urban/suburban patients looking for convenient access to care
Business drivers: exceptional operations and logistics founding team member, significant access to capital
Things to avoid: referral-only contracts with payers and providers, healthcare real estate deals (as an investor)
Additionally, there are important considerations to make when thinking about the mechanism for delivering value and the audience you’re looking to solve. For example:
Algorithmically-driven health tech companies require strong data around algorithmic performance, a thorough understanding of regulatory requirements (and work within them to get to market as quickly as possible), and a defensible business model that doesn’t exclusively rely on data from Epic and other EHR solutions.
Women’s health startups often have a unique opportunity to build the largest dataset around the problem that they’re solving due to the significant lack of research and funding around women’s health beyond fertility. This data can be used to expand the patient offering, drive referrals, or support with drug discovery. This also means that it will take longer to build the clinical evidence base, meaning that the founders’ ability to continually raise capital with limited data is critical to success.
Payer-focused startups often have high seasonality in their business. In the most extreme cases, 90%+ of revenue comes within 1-2 weeks. That long feedback loop makes it exceptionally difficult to build a venture-scale business and creates significant risk. It’s critical for founders and investors to understand those cycles and what drives them if they choose to invest in that space.
These insights have been earned through my own experience scaling Osmosis to more than 100 institutional partners, my community of 300+ health tech founders and operators, and experts with leadership experience at organizations like McKinsey and Company, CVS Aetna, and Carbon Health.
Business Model and GTM
Very few businesses in healthcare, even good ones, are venture-scale companies.
In fact, there’s a limited number of business models that are both venture scale and supported within the healthcare system. They include:
B2B SaaS (if you’re lucky)
Consumer subscription/membership fees
Fixed + variable fees on transactions
Each of these models has its own dynamics within healthcare and targeted use cases. Transaction fees, for example, make sense for companies that support claims factoring or financing on the provider/patient side. Subscriptions on the other hand are the preferable model for tech-enabled healthcare services startups over a strict fee-for-service approach.
Whatever the chosen business model, it’s critical to have alignment between the aptitude of the founding team, the target audience, and the specific company paradigms outlined in the section above. Any misalignment there will hinder growth and potentially prevent companies from finding their wedge into the market.
Note: One GTM red flag for me is selling directly to employers. It’s often a sign that the founder doesn’t understand the dynamics of the market they’re selling into. HR providers at small and midsized companies, overwhelmed by the number of benefits available in the market rely on benefits brokers to make decisions. These brokers have a stranglehold on the market, which makes it exceedingly difficult for startups to break in. If they do get into the market, they are often not allowed to interact directly with the customer to onboard and support them, despite renewal being driven by usage. Unless the founder has a benefits broker as a co-founder, it is highly unlikely they will be able to find a wedge into this market.
TAM and Exit
The goal with any venture capital investment is to back companies with the highest possible likelihood of a venture-scale exit with the limited information available at the earliest stages of building. There are two types of markets to consider when thinking about Total Addressable Market:
A large market opportunity already exists and is currently underserved (Example: Electronic Health Records)
Market and technology tailwinds indicate that new, large market opportunities are likely to emerge (Example: Hospital at Home)
As an investor, I’m looking at opportunities in both of these areas and using diligence to understand what has to be true for a new company to have success in pursuing them.
For startups pursuing large, existing opportunities, it’s important to understand the market that they’re entering, the incentives driving both the incumbents and purchasers in the space and how that drives capital requirements for building. For example, if someone were to tell me that they’re going to take on Epic, but don’t have access to hundreds of millions of dollars in funding plus top hospital system leadership, that’s a non-starter.
For startups building in emerging spaces, I’m especially interested in finding opportunities where there’s evidence that the TAM is under-measured. A number of factors can contribute to this, including technological limitations, societal taboos, or systemic bias. I’ve found that building in these spaces requires personal experience in the problem being faced and the ability of the founder to begin building and stay capitalized as they build out their success metrics.
In both cases, I’m utilizing my proprietary network of 300+ health tech founders and operators across the US to gain critical insights that help define TAM:
Regulatory Experts: Understanding the changes and updates made by organizations like CMS that either unlock or restrict types of care via billing requirements
Payer Executives: Understanding the internal aptitude for supporting emerging services and unlocking pathways for startups to reach their patient pool
SDOH Leaders: Unlocking access to healthcare trends across demographic groups to get a macro understanding of patient-facing opportunities
Healthcare Data Experts: Digging into the challenges that the founders will face around access to and integration of healthcare data, ways to mitigate, and reduce reliance on legacy EHR players
Provider Executives: Learning about what is keeping them up at night, what incentives drive product adoption, and how they learn about new offerings
Clinicians: Working closely with existing providers across specialties to understand both on-the-ground workflows, diagnostic trends, and where medical training is creating blind spots for clinicians
Through these conversations, I’m able to develop an initial thesis around a market opportunity, understand whether there are positive macro drivers, unlock a GTM approach, and identify potential blindspots that will enable a founder to build with lower potential for competition from incumbent players.
Finally, I look at the potential exit opportunities for the startups in which I’ve developed conviction through the diligence process. The relative probability of potential exits (via public or strategic acquisition) is driven by the type of business the founder is looking to build.
In the women’s health space, for example, Tia (valued at $600M) started as an in-person care experience for women that has become the front door for broader provider networks. Their most likely exit is an acquisition by a large provider or payer network that they’re currently contracting with to gain exclusivity. Maven (valued at $1B) began as an employee benefit for new mothers. They’re now the platform layer that drives health benefits for their employer partners. Maven’s most likely exit is going public as they transition from provider to managed marketplace for employers.
The mini-thesis below on community hospitals and rural care is a sample of how I use the factors outlined above to develop conviction around a market and opportunity and find founders who are already obsessing over solving the same problems.
Note: While I’m not investing in companies for their acquisition potential by PE firms (health tech PE investing has grown significantly over the past decade), a high ownership target with earned pro rata means that any PE acquisition above $250M will return a small pre-seed fund. An example of a company with high PE acquisition potential that I would not invest in is a niche EHR product for eye care practices. Even though the acquisition potential is high, the TAM for this product is far too small to generate a venture-scale return given the dynamics of the market they’re building in.
Mini-Thesis: Community Hospitals and Rural Care
Community hospitals are the lynchpin of healthcare in rural communities and they’re dying out. Access to healthcare in rural America is in serious jeopardy.
These hospitals serve the more than 46 million Americans who live in rural communities and their decline means that 14% of the population lives in two-thirds of the primary care health professional shortage areas (HPSAs) in the country.
While the pandemic, along with state-level policy decisions, specifically around Medicaid expansion, are accelerants of this decline, business model and operational efficiency are the primary drivers of the increase in hospital closures.
Fortunately, CMS changes around hospital-at-home billing, driven by the COVID-19 Pandemic, have enabled community hospitals to adopt a model that reduces costs and increases the number of patients served. Specifically, increasing elective surgery throughput at these community hospitals is key to reversing this trend, increasing profitability, and expanding access to healthcare in rural communities.
Startups are taking different approaches to tackle this multifaceted opportunity.
Orchestra Health, for example, is working to increase patient conversion through the pre-op processes. Mishe has built a cash-pay-managed marketplace to bring price transparency and competition to elective MSK procedures. Matter has decided to go all in and reimagine the community hospital model through acquisition and change management. [Note: I have earned allocation in all three of these companies.]
There’s no silver bullet to solving the challenges facing community hospitals, but the winners in the space will have several characteristics in common:
They‘ll clearly drive an increase in revenue for the community hospitals
They’ll enable hospital staff to serve more patients with the same number of staff
They’ll generate revenue from at least two sources (payors, providers, and/or patients)
While the most dramatic community hospital improvements will happen in rural areas, similar challenges impact the more than 3,300 community hospitals in urban settings. Overall this market is responsible for serving more than 220 million Americans.
There’s an opportunity to build large companies in this space. Included Health, formerly Grand Rounds, is a startup that built its business supporting community hospitals by providing software tools that optimize care navigation for clinicians and patients. It was most recently valued at $1.3B and merged with Doctors on Demand, a telehealth service valued at $820M in 2021.
Depending on the chosen approach in supporting the increase in surgery throughput, capturing as little as 4% of this community hospital market could result in a $100M ARR company, while expanding access to care in rural settings and improving hospital operations for clinicians and staff.
Pre-seed investing in health tech is both high risk and high reward. Finding the correct balance between a thesis-driven approach aligned and founder-market fit is the best way to peel back the layers of systematic complexity in healthcare and de-risk investments in the space.
The process of bridging the gap between founder-market fit and thesis to find clarity around conviction is a right-to-win for investors earned through hands-on experience and deep relationships built over time.
At the end of the day, I believe that everything in venture capital revolves around three core principles: respecting risk, nurturing relationships, and maintaining a beginner’s mind. Arriving at conviction on investment opportunities in health tech is no exception.
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