Digital Health Laws and Regulations Report 2024 A New Era of Investing and Diligence in Healthcare Solutions
Investing in emerging biotech and healthcare companies is a unique venture that requires knowledge and understanding of both the technology and the team behind the science. Here, we address themes for what makes a startup-investor team productive and how these themes lead to valuable companies. These themes should be considered by investors and founders alike (and their legal counsel) to consider each role in the bigger picture. This helps both sides’ understanding of what their counterpart considers and how they can shape their strategy to maximise the team’s output.
Invest in the team
Investing in the team, not necessarily the tech itself, is often a predictor of success. In healthcare, it can be hard to predict the value of something that may have a binary outcome – i.e., an approval of a drug, diagnostic, or device. So, investing in the team can drive success. Second-place teams are not exciting.
Entrepreneurs frequently undervalue the significance of storytelling. Good investors can dedicate days to hearing pitches. A large number of these pitches immediately delve into technical aspects, market, and product innovations, but they neglect the entrepreneur’s background. It is more important, especially at an early stage, for the founders to articulate why they are the appropriate individuals for this venture at this moment, and how their unique experiences have brought them to this point. Successful entrepreneurs convey their journey to investors effectively. Consequently, it is worthwhile to invest time in creating a compelling narrative that will not be overlooked or forgotten.
Another key factor in finding a founder capable of going the distance is grit – the relentless determination that fuels a founder to persevere through challenges. It is a joy to work with exceptional founders who are achieving their visions in challenging conditions. Startups are tumultuous, and success is hard-earned. Grit is a key attribute that propels founders through these tumultuous obstacles, changes, and uncertainties. Gritty founders view hurdles as opportunities and setbacks as progress.
Non-dilutive funding
In the current funding environment, pursuing grants is a viable strategy that all founders should consider. Unfortunately, many founders and their investors overlook significant opportunities, failing to capitalise on these non-dilutive resources. A lack of commitment to non-dilutive funding can be a red flag for investors and, if it is not, it should be.
Applying for grants does more than just infuse much-needed capital into startups, extending their runway. It also serves as a testament to the resilience of the founders, as navigating the grant application process can be a challenging endeavor.
Moreover, securing a grant provides a form of market validation to all stakeholders. Grants are competitive. Receiving a grant implies that the startup has been evaluated and deemed worthy by a third-party organisation. This can enhance the credibility of the startup in the eyes of potential investors.
The use of active investors and board
Years ago, when speaking with a well-known venture capitalist (VC) about the scientific advancements of a local startup, the VC remarked that the technology was not scalable or interesting for his firm. Ironically, this was a company where he had led the investment and served on the board. His forgetfulness raised questions about the value of VCs sitting on numerous boards if they cannot recall the companies or their operations. Picking the wrong investor can be dead-weight to the company. However, the right investors can open doors, give advice, and help scale the company. Investors with real-world experience in the healthcare space can be invaluable resources to new companies that may not have the expertise or connections beyond their scientific sphere.
Thankfully, the healthcare sector is experiencing a healthy long-term correction. The departure of unfit VCs is beneficial, making room for new funds and allowing the good ones to shine. Despite a slight recession and the presence of a peculiar bubble filled with “zombie VCs” – those who take meetings without the intention to invest, those lacking dry powder to invest, or those intentionally slowing down to observe the situation – there are still great investments to be made. The emergence of specialist investors is driving this healthy transition. The pools of capital and the finances are taking a little longer, but startups that prioritise getting validation data and a pathway to quality clinical data have been rewarded. Sticking to these fundamentals has been a blessing for this space.
Being an active investor
Productive investors are able to speak the language of their founders. It is not merely about understanding scientific jargon; it is about appreciating the journey of discovery, acknowledging the challenges, and articulating the transformative potential of biotech inventions. This ability is crucial in fostering collaborations and driving the commercial success of biotech innovations.
Productive investors also understand the underlying legal, regulatory, or commercial aspects needed for successful commercialisation. It is a common occurrence for large funds to seek outside input on common issues. The fact that these large, well-known funds reach out for outside advice indicates a lack of internal expertise. It suggests that they do not have someone within their organisation who can provide insights or make sense of these agreements.
This lack of in-house expertise is concerning, especially considering the size and reputation of these funds. It is alarming to think that these organisations, which manage substantial assets, do not have the necessary knowledge to fully comprehend the intricacies of these assets. This includes understanding the intellectual property (IP) and data associated with these assets.
It is important to note that this is not the case with all investing groups. Some organisations manage these aspects exceptionally well, demonstrating a deep understanding of the assets, the associated IP, and data. The experience of a founder can vary significantly depending on the investing group one is dealing with. It is a trade-off, and the level of expertise and understanding can fluctuate from one investor group to another. So, while some situations can be concerning, others can be quite reassuring.
Focus and understanding of IP
Founders must understand and appreciate two things: the IP behind their innovations; and the data (where relevant) that fuels innovation. A crucial lesson learned is the significant role that the technology transfer of IP and data from a university plays. An incorrect agreement can hinder future financing, obstruct the signing of commercial agreements, and gradually lead to the demise of a company. Furthermore, while private grants can be excellent sources of funding, understanding the IP policies governing these grants is crucial to avoid costly licence fees.
The advice consistently given is that for any transaction to occur, it is not only important for the founders to understand it, but they should also be very thoughtful about where the IP goes and how it is shared. This is even more important than the transactional value of the deal because if the IP is not fundamentally secured, it could set the company up for failure in future agreements or other types of arrangements. This approach extends to data as a property right. The lack of understanding of data (and associated trained models) can lead to bad arrangements that serve as a hurdle to further development.
In the biotech world, for instance, if an asset is not secured – if there is not a solid composition-of-matter patent, or if the company is attempting to repurpose someone else’s invention without success – it can lead to numerous complications. These issues might not seem significant when the company is small, but any degree of success or financing can instantly jeopardise the company if the foundational elements are not solidified.
Often, these are the reasons why companies fail. It is not necessarily because the technology was not good or the team was not competent. More often than not, it is due to overlooked aspects like these that catch people off guard. Therefore, it is imperative to address these issues early on to ensure the long-term success of the company. Exclusivity is king, and IP and data are two sources of exclusivity, particularly when pre-revenue or pre-launch.
Data rights
An increasing amount of energy is being focused on data-related matters. Who owns the rights to use, transact, and commercialise data and data sources is an important matter to address. Currently, more often than not, neither side of a deal possess a sufficiently sophisticated understanding of data-related matters. How data rights can be partitioned in order to serve both parties requires sophisticated understanding of (1) what the data contains and how the data could be used, (2) what levers exist to partition data, and (3) what implications exist for these decisions. What can, and often does, occur in a data (or data-related) deal, particularly in the healthcare and biotech sectors, is that there is a set of circumstances that can satisfy both sides, but neither side knows how to articulate and memorialise the language necessary to achieve that satisfaction. Instead, each side fights over everything (including the mundane), primarily based on the fear of “missing something”.
As with many negotiations, one side, often the larger entity, will lead off with very one-sided data agreements, as they should. This is a negotiation. The problem occurs when smaller entities (i.e., startups) assume that partnering with a large company would be a dream come true, and sign without giving it much thought. That is the worst case. A more standard case is when both sides dedicate a vast majority of time to the legacy concerns, including up-fronts, royalty structures, milestone payments, and IP ownership. That can often come at the expense of sufficient focus on data rights. This can also lead to problems, particularly for the startup, that often needs the data as part of their platform or business model, but are not sufficiently experienced in data transactions.
This highlights why IP due diligence on data rights is important. There cannot be an assumption of knowledge in the investor community or on both sides of a transaction. Often, there needs to be someone who acts as the adult in the room. There have been instances when outside counsel for one party must educate both sides before negotiation starts. Without this, the resulting imbalance can lead to issues in getting a deal done.
Differences between traditional tech IP and bio/pharma IP
The intersection of technology and biology, particularly with the advent of Machine Learning and Artificial Intelligence, presents unique challenges due to the differing business models. The importance of IP in biotech, given its long time-window from conception to ultimate approval, contrasts with traditional tech where IP becomes less relevant as newer versions emerge post-patent issuance.
To this, generally speaking, legacy technologies (tech, biotech, automotive, food, healthcare, etc.) are well comprehended within the legal community. However, when these technologies are merged, the ability to proactively address issues that have not yet surfaced is not a natural tendency for the legal community, which are typically reactive rather than proactive. This is especially evident when tech and biotech, with their distinct business models and philosophies, are brought together.
In biotech, IP is paramount as it could potentially be the only asset for a decade while waiting for a molecule to reach the market. On the other hand, in tech, the transient nature of innovation means that by the time a patent is issued, the focus may have already shifted to the sixth version, rendering the first version, covered by the patent, less important or not important at all.
Further, when these ideologies are merged, whether led by tech or biology, there are inherent deficiencies due to the starkly different cultures. This is particularly true when meeting in the middle, where neither side fully understands the other. A common assumption is that larger companies, such as those that focus on traditional tech or biology spaces, possess more sophistication on a subject. However, this is often not the case when venturing into an emerging or converging space outside of the legacy space. In such situations, it is harder for a large company – an aircraft carrier – to maneuver compared to a small company – a speedboat. During negotiations about a technology unfamiliar to the big company, the small company often assumes a level of knowledge on the part of the big company. This creates a paradox where the large company must project confidence while simultaneously grappling with ignorance, making negotiations even more challenging.
Despite these challenges, numerous effective solutions have emerged. Looking ahead, key developments in biotech, digital health, precision medicine, and diagnostics over the next five years paint an interesting picture. Reflecting on the past few years, it is clear that regardless of how good a solution is, understanding regulatory policy, IP/data strategy, and care delivery is crucial. Recognising that startups cannot operate in isolation and that federal government decisions impact their operations has been an enlightening realisation. Consequently, more companies are becoming conscious of this reality, which was not a common consideration five or six years ago. Additionally, due to market trends, more pitches are being received where people are already contemplating exit strategies and transactions, adding another layer of complexity to the landscape.
It continues to be an interesting world. As more legacy technologies merge, we will all become more effective in proactively addressing issues on the horizon. However, we are currently in a nascent state of convergence technology. Issues are new. Strategies are evolving. In this uncertain time of innovation and economics, having the right team around you to address these futuristic issues will put you in great stead as your company or business grows.
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