From the Expert: 2 Magical Elements & 11 Questions
Robert Friedman, a managing director
of Burnham
Securities Inc. and director of the firm's health care practice, has been
involved in investment banking and health care since the early 1970s.
He has served in nearly every capacity — research analyst, venture
capitalist, and investment banker — for companies and funds on both
sides of the Atlantic.
During his recent trip to Israel, the Trendlines team
enjoyed an "up
close and personal" working breakfast with Friedman. He started with
two different case studies; took us through a successful, yet unusual success
story; and wrapped up with the questions he asks when presented with a promising
new technology.
Case Study #1: Good IP Is Only the Start
The company: A biopharmaceutical company with an "interesting
technology for Alzheimer's disease." (The company had the
license to market the technology from the person who had conducted the
research.)
Status: Very early stage.
The positive: The company had "good intellectual
property (IP) and strong management."
The negative: "Too long to an exit!"
What’s the Lesson?
Friedman explained that after the heyday of the Internet
bubble, the venture capital community in the United States has shifted to
a more conservative stance. "Even if the technology is good," he
said, "[the
VCs] won't go near very early stage companies." VCs
are looking for quick turnarounds — meaning a liquidity event within three
to five years. As a result, it has become very difficult to fund
early-stage companies.
Friedman noted that it is much easier to raise money
for a biopharmaceutical company which has already licensed its technology
and is in the midst of Phase II trials. This led to the question: Who
will finance very early stage pharma companies?
Friedman's reply:
"Good question. There is no government funding or funding
from foundations. Even the pharma companies themselves don't invest
in pharma. Merck and Pfizer, for example, have their own investment groups.
They will invest in devices that help the pharma industry, but not in
drugs themselves."
So, what does the VC community want from early-stage
companies? "They
want clinical data." This data, he observed, usually requires an
investment. In the case of the biopharma company described above, the
base technology was of interest to some funds, but they were looking
for a company that was further along its product development cycle.
Case Study #2: Great Technology, Uncertain Timeline
The company: Information technology company (algorithm) that
can determine whether a new drug will be successful.
Status: Early stage.
The positive: Contracts with numerous leading pharma companies.
The negative: Time element (not a fast ramp-up), technology was not FDA-approved.
What's the Lesson?
The VCs thought this was "great technology, and necessary,"
but the timeline was uncertain with regard to FDA approvals. The company
could not raise money from the VC community because of the reluctance
on the part of VCs to fund early-stage companies.
The company did a reverse
merger and raised money by going public.
Why are VCs not interested in
early-stage companies? Once again, Friedman explained it quite simply. It
all comes down to the time value of money, which translates into
two things for the VCs: quick exits and strong returns. These two
things are not guaranteed when it comes to early-stage investments.
Lessons along the Way
Breaking Out of the Traditional Marketing Mold
Friedman spoke about a super success in the anesthesia market: Augustine
Medical (now Arizant Healthcare Inc.). In the late 1980s the company
developed the Bair Hugger® temperature management system,
the industry standard for preventing hypothermia in surgical patients.
With extremely strong IP, Augustine lifted its
marketing strategy straight out of the book for pharmaceutical companies.
In fact, it actually developed the market by taking its technology to physicians
and getting them to write papers about the technology. Augustine built
a brand image of a company founded on strong clinical data.
The unusual strategy was very successful. The company has an 85% share
of the market, even with major competitors such as Tyco and Smiths Medical.
How did management raise money? From family and friends. They used the
money for formal clinical trials and studies, which were published. Friedman
noted that they actually used their IP as an "offensive weapon." He
also added that only a very few device companies use this approach.
What does Friedman do when presented
with a promising new company or technology? Over the years,
his tactics have changed. "Now
I always do what I call 'pre-marketing.'"
He sends the business plan — or selected sections — to a very
small circle of trusted, respected VCs.
If the feedback from the pre-marketing round is negative — or even
lukewarm — it
is highly unlikely that Friedman will continue the process. He has enough
experience to know that the technology won't go anywhere.
If the pre-marketing feedback is positive, Friedman then starts his own analysis.
What "major tool" does he use? A SWOT analysis.
A
SWOT — a
company's strengths, weaknesses, opportunities, and threats — clearly
shows how and where a company stands in relationship to the market. If the
analysis shows that there are too many weaknesses and threats, it indicates
there is a problem, and Friedman will not pursue working with the company.
Tipping the Balance
What Is Founder's Syndrome?
Briefly, this occurs when a company
is unable to shift how it is run and managed. The company is then managed
according to the personality of the founder, not necessarily according
to the way that best serves the market and customers.
What are the magical elements that bring a sparkle to Friedman’s
eye? IP and management.
IP. Is the IP strong? Does the company had patents?
Is it working on additional patents?
Management. Friedman
emphasized that "the
technology is not as important as management." VCs and private
equity will focus on the management team. Who is actually running the
company? Is the management capable? In a crisis, will they respond?
Is the company suffering from Founder’s syndrome? (See box at
right.)
Friedman's 11
Pre-marketing. SWOTs. Magical elements. For Friedman, it boils
down to 11 questions. He shared the 11 questions he asks — and
answers —
when he starts his review of a company.
At Trendlines, Friedman's "sensible financial projections" (#7)
fall into what we call the "test of reasonableness." Read more
in the article "In
Defense
of Reasonableness" in
our newly updated Raising Money II publication.
Is the presentation professional? (Not only the in-person presentation,
but the business plan and other deliverables too.)
What is the company's business definition?
Does the company have a game plan and go-to-market strategy?
How strong is the IP?
How large is the market opportunity?
How easy is it to get distribution?
Do the financial projections make sense?
What is the competition and how much do their solutions dominate the
market?
Does the use of proceeds make sense? Can the company accomplish all it
hopes to accomplish with the funding being sought?
What is the anticipated exit strategy?
Will the device create a new standard of care?
Friedman knows what will fly. "When the field is crowded, especially with the
'big guys,' I won't fight an uphill battle. The technology
must truly set a new standard of care."
