Timing MedTech fundraising
Updated: Oct 2, 2020
There is no shortage of advice on what startups need to have in their pitch decks etc. However, I repeatedly encounter early stage MedTech startups who mistime their funding activities. Many start late. They may in fact be fundable, but underestimating the time required to raise funds, they either run out of cash or, in desperation, give up far more equity than necessary. Why does this happen? How to avoid problems?
Why does this happen?
A common scenario is a team working on a promising medical technology funded by an early grant. The funded project timeline has lots of lines, particularly around the technical activities. And then, right at the end, there is one short line called “raise next round”, no details, but it’s scheduled to occur just as the current funding runs out. Without a breakdown of what’s required to achieve a milestone, it's easy to see how a startup can miss it. The following chart outlines the key tasks required to raise a round, assuming angel investors as the funding source.
It’s easy to see how completing an angel round can consume many months. Even with reasonable planning the actual duration required can vary quite a bit from the planned duration. Hence it's desirable to build in a safety margin and not leave fundraising to the latest possible start date.
How to avoid problems?
Network and develop a good investor target list early.
Long before you start pitching, you can start compiling a list of angels and groups who might be a good fit. In addition to seeing what types of companies they have invested in previously, networking with angels can be fruitful. Some angels are happy to take a look at a company before it's ready to raise and give advice on what a given angel group may want to see, recommend other groups who might be a good fit and provide opinions on realistic valuation and deal terms.
Encourage the early investors.
Securing the first few $100k of a round can make it easier to attract the rest. Some angels are reluctant to be the first to invest and find the fact that others have already invested reassuring. Sometimes, those who invest early in a round are rewarded by receiving a slightly sweeter deal than later investors. In some cases, the due diligence conducted by early investors can reduce the due diligence time required for later investors.
Prepare for due diligence
About 70% of what angels will want to review in due diligence is foreseeable. One way to compress the fund-raising period is to invest time up front to prepare this material. I’m often shocked at how, after a successful pitch and angels eager to complete due diligence, some startups completely drop the ball. The foreseeable information which angels likely to want to review is not ready and it takes forever to be prepared or is put together in a confusing manner. Not only does this cause the due diligence to drag on, it creates a negative impression, and some investors may lose confidence in the startup and back out.
Well organized material on a cloud based site that is easy for investors to navigate and anticipates the topics and detail they will want to see can go a long way toward accelerating the due diligence process. Additionally, you come across as being well organized, knowing what you’re doing and just the kind of startup anyone would love to invest in.
Assess your fit with the funding source’s risk tolerance
While the most common mistake is starting too late, I have encountered Medtech startups who start too early, or at least too early for the funding source being pitched. Figure 1 shows some typical sources of funding for early MedTech startups and the common sequence in which they invest.
Funding sources with lower risk tolerance often require more rigorous validation that there is a market for the product, the business model is feasible, and the management team has the strength required to execute.
Institutional grants may depend as much on an applicant’s reputation as on the rationale offered. Federal grants will likely need some early technical proof of principal. Angels will likely want testing of an evolved working prototype (e.g. animal trials). Venture investors may require FDA clearance.
Occasionally, when a startup seeks investment from a source with a lower a risk tolerance than the startup represents, this can be offset by reducing the valuation. However, if the mismatch is too great many investors just elect not to invest, regardless of any adjustments made to the valuation. Like climbing the back of a wave, fundraising when the mismatch is too large is self-defeating. Fundraising can consume a huge proportion of a startup's bandwidth. It’s better to focus that bandwidth on de risking the company and/or change the funding source e.g. rather than pursue angels, pursue federal grant funding.