When I first set out to raise capital, decision-making in venture felt like a black box. The more time I’ve spent with sophisticated Medtech and Healthtech investors, I, like many others who go through the rollercoaster of fundraising, have refined my understanding of the driving calculus and psychology of venture. As I do so, there are two things that I reinforce my belief in every day:
That black box perception of venture decision-making is particularly pronounced for founders in Medtech and Healthtech, as they are often forced to reconcile their noble ambition to build a transformative company that saves and improves lives with the harsh reality of building a venture-scale business capable of delivering financial returns.
Venture investing is not just about taking risk; it’s about weighing which risks you are willing to take – and that underwriting those risks is driven by a myriad of personal and mandated factors for each fund and investor.
The reality of the former has motivated me to tap into our incredible LSI Alumni community of global investors to help demystify the latter.
With respect to the risks that investors evaluate in their process, some can be deal breakers, as they will almost always kneecap a company’s potential to generate significant financial returns. For example, Dr. Luc Marengere, Managing Partner at TVM Capital, explained that investing in “a so-so” or non-differentiated product “would be very unlikely due to concerns about how to build value in a timely fashion and grab enough market share to drive sufficient value at the time of exit.”
Two of the most consequential, most discussed risks in venture are the founders of the company and the market they’re pursuing. Simply put by Dr. Gal Noyman, Partner at LionBird, “Our goal is always to invest in spectacular founders going after massive markets.”
The importance of a massive market cannot be overstated, as it provides the clearest path for a company to grow to hundreds of millions of dollars in revenue and achieve a meaningful exit. Soyoung Park, General Partner at 1004 Venture Partners and Venture Partner at VU Venture Partners, emphasized that she “looks for substantial market opportunities with exponential growth potential, and higher exit valuations of the companies” in that market, compared to adjacent markets.
On the other hand, as Dr. Josh Makower, Director and Co-Founder of the Stanford Byers Center for Biodesign and the Founder and Executive Chairman of ExploraMed, reminded us, “great people make great companies,” so much so that “companies are named as such because they are a company of people.” In his words, the “energy, enthusiasm, talent and capability of the leadership will directly equate to enterprise value.”
While tremendous weight is put on both the quality of the founders and the target market in venture, what happens when investors are unable to get strong conviction on both? Perhaps they have de-risked the market opportunity or developed a thesis on why it is ripe but are unsure if the founding team has the vision, expertise, and attitude to win.
In an interview between Harry Stebbins, Founder of 20VC, and Pat Grady, Head of Sequoia‘s growth investing practice, Pat articulated their philosophy that the “market determines how big a company can get, but the founder determines how big a company will get.” His investment track record speaks for itself – Hubspot, Snowflake, ServiceNow, Zoom, and Qualtrics, to name a few – but as we know, Medtech and Healthtech ventures behave differently than traditional SaaS. Different exit valuation constraints. Different strategic acquirer sets, with evolving behavior that can limit pathways to liquidity. In many cases, arduous regulatory and market access processes with long paths to revenue. Even in the case of less-regulated Healthtech, enterprise customers are often slower-moving, clinical workflows more entrenched, and the entirety of the go-to-market process more nuanced.
I set out to pressure-test Pat’s wisdom with a diverse cohort of Medtech and Healthtech investors, spanning stage, fund size, timing in the deployment of their fund, domains of expertise, and more. While, at a glance, some of the results were unsurprising, a deeper dive provides a unique window into how these investors think about founders and markets – precisely the goal of posing the question.
At the macro level, Adam Rosenwach, Chief Business Officer at Deerfield Catalyst, aligned with Pat. Adam believes “in always investing in people first.” While that doesn’t necessarily mean he would invest in an idea he doesn’t believe in, he “certainly would never invest in a great idea with a subpar execution team.” From his time spinning out companies from the Coridea incubator, Adam recalled that they “had many great ideas, but the ones that really took off had fantastic leadership.” And, as he puts it, “That’s the key thing here.”
Owen Willis, Founder and General Partner at Opal Ventures, sees things similarly in his effort to partner with generational Healthtech companies in the earliest stages. He noted that his job is about “underwriting risk and, at pre-seed, getting to conviction around an investment is driven by the founding team and their right to win.” Owen’s answer to the hypothetical was clear – “Given the choice between a good founder going after a large market and a spectacular founder going after a good market, [he’d] choose the spectacular founder every time to give [his] investors the highest likelihood of return.”
Armen Vidian, Founder and Managing Partner at Recode Ventures, explained that “especially with Pre-Seed and Seed stage companies, the emphasis in diligence is on exceptional founders who can lead and execute exceptionally well” and that “the strength of other criteria in diligence (technology, traction, etc.) often correlate directly with the quality of the founder.” Kevin Chu, Principal at F-Prime Capital, too, would “prioritize strength of leadership” as doing so “reduces the risk of failure” and “failure, irrespective of market size, typically means [they] lose money on the investment.” David Kereiakes, Managing Partner at Windham Capital Partners, added that while “there is an opinion in venture that market size is the essential predictor of success,” he knows that “a steadfast leadership team is the critical variable.” Soyoung, too, “Would invest in the spectacular founder since we can prepare for the next big wave in the ever-changing economic environment.”
If you’re noticing a trend, it’s for good reason. As Adam broke it down, “When things are easy and going well, an okay leadership team can get things done, but we know that things are never always easy and going well.” In Owen’s view, whether it's “keeping the company capitalized during a downturn or handling regulatory hurdles that crop up, a spectacular founder finds ways to keep the business moving towards their north star.”
While the goal for nearly every early-stage investor is to identify spectacular founders, doing so is both an abstract art and a complex science. As Armen explained, a spectacular founder is someone “people follow into a proverbial fire,” and these founders “appreciate how product, engineering, marketing, and so on, come together to achieve the vision and they can build and lead these teams, though they don't necessarily have deep experience in all of these functions.” Armen added that in Medtech, these founders “have a nuanced view of clinical and regulatory affairs, leveraging both as part of the strategy of the company to create a defensible moat – not just as obligatory obstacles to be overcome to obtain market access.”
Finding a truly spectacular founder is akin to finding a needle in a haystack, as Armen reminded me. “Such founders come along maybe once a fund or every other fund for most venture firms, even very good ones,” a testament to the importance of sourcing the best opportunities and winning those deals. He acknowledged that “very few founders are strong in all of [the aforementioned] functional areas, but if they combine strength in one or two of them with strong leadership skills, an ability to be a student of the market, and a critical self-awareness to ask for help from others with genuine curiosity, including their investors, then they are truly unicorns.”
In this sample, we see alignment between pre-seed, incubation, and seed. However, at the early commercial stage, where TVM Capital specializes, Dr. Marengere explained that the “market and TAM must be substantial” and that “the founder does not overcome the risk of a fuzzy product differentiation (usually linked to uncertain additional clinical validation) or an average/already well-served market.” This is consistent with the differentiation we may expect between early and commercial stage investing, as TAM becomes increasingly important in underwriting a clear and timely path to financial return. While Dr. Marengere reinforced that he still must identify management teams with “in-depth knowledge of the product rationale/fit, clear differentiation versus competition, and a clear understanding of why their product will be adopted and reimbursed,” the “founder effect can be different or attenuated.”
Scott Huennekens, an experienced CEO and medical device venture capital investor via Front Foot Ventures, concurred with Dr. Marengere, acknowledging that investors tend to “overweigh markets versus management, which is directionally correct” since one “cannot fix a bad market in the time frame of a start-up.” Scott’s testimony comes with receipts, as he reflected on his time as CEO of Digirad and Volcano. He recalled that with “a C-minus market, Digirad did okay by adapting and changing as much as possible, but [their] options were limited.” However, when that same management team “moved to Volcano with a much better interventional cardiology market, [they] produced a unicorn and a business that now does greater than $1B in revenue at Philips.”
As expected, given the caliber of the investors tapped for this mental exercise, they pointed out interesting nuances that challenged my thinking (and poked many holes in my proverbial dam, which I welcomed).
For example, Armen, who prioritized the founder above the market, asserted that the spectacular founders in question are generally “savvy about entering large markets, so usually, they have the sense to get into a large market to begin with.”
The “founder effect” that Dr. Marengere previously referred to is crucial. Broadly described as the far-reaching influence a founder has on a startup company, Dr. Makower expanded on its significance, explaining that founders “get a first crack at setting the culture of the organization, and that can be very sticky and powerful.” He asserted that founders “that can set a great culture, and then scale and evolve their roles over time bring the most value to the businesses they have created.” Dr. Marengere affirmed this, as in his view that founder effect can be “a double edge sword at times,” and explained that while “some founders have all the right acumen and are visionary,” they can “at times forget shortcomings of their products or blind spots of their strategy.” Dr. Marengere also cautioned that “should such challenges arise, they tend to be amplified if and when they arise with a strong-minded founder” and that the “key with such founders is to get absolute alignment upfront before making the investment.”
Scott built on this as well, emphasizing the importance of asking, “Is management capable and open to change?” Seeing as the “only constant in start-ups is change” and such a high percentage “end up doing something different than they set out to do, in those instances management is critical to success.” This is where he has seen the founder effect become a hindrance, as “many founders fall in love with a technology or idea and are not willing or able to adapt to evolving market needs and customer demands,” and that the defining quality of elite management “is adaptability to change – the will to win through change versus sticking to an idea or technology that needs a version 2.0 or 3.0 to create a value proposition and successful business.”
These investors brought to light an important distinction between a company’s initial founder and future company management. In Dr. Makower’s words, “not all [founders] are meant to be CEOs – probably a rare few that should be both founder and CEO in the long run,” while also noting that “those organizations that can hold onto their founders in some meaningful, productive role probably have more potential than those that cast their founders out.” As companies grow, they often expand and evolve their management team, increasing the probability that a later-stage investor is evaluating different or broader company “management” than early-stage investors and doing so through a different financial and strategic lens.
Diving deeper into markets, Kevin pointed out that there are more levers to underwriting market risk as an investor than market size alone. One thing he cited that they “always think about is the size of the market opportunity in the context of the capital needs required to de-risk the technology, and the potential magnitude of clinical benefit the technology brings to that market.” In his experience, “if [leadership] can charter a very capital efficient path to significantly de-risk a technology that can have a clinically-meaningful impact, albeit in a more narrow indication, that could create just as much if not greater value (and returns for us as investors) versus an incrementally-better technology that’s going after a big market but requires big, long, expensive studies to achieve regulatory approval and/or reimbursement.” In pursuing a more narrow market or subset of a market, the importance of capital efficiency becomes even more important in the investors’ ability to drive returns, as cited by many of the investors questioned. Kevin has found that the best founders appreciate the interconnected dynamics of market size, clinical impact, and capital and “will strive to optimize strategy to achieve balance across all of these variables, and not overly index on the sheer size of the market opportunity.”
Kevin’s insight on the relationship between founders and their ability to navigate market dynamics illustrated another interesting point – the ways that spectacular founders overcome and expand seemingly limited market opportunities. As Owen explained, “A spectacular founder is someone who understands that while the initial market opportunity is small, the adjacencies create a TAM that drives venture returns.” From his experience in Medtech, David added that “a spectacular founder can take a highly complex concept and solution, succinctly communicate it in a way that anyone can comprehend and repeat, and actually grow the addressable market.” Rather than adhere to a mandate to build in the largest initial market possible, spectacular founders are those who can build and win in a market where users truly need their product and successfully expand to new markets that increase TAM.
Owen also called attention to a quote from Sam Altman, CEO of OpenAI and previous President of Y Combinator, which reinforces his assertion that the best founders thrive in small initial markets (and challenges the “bigger market are best” narrative altogether). In a lecture reflecting on his time at Y Combinator, Sam stated that when he “looked back at [their] data, all of their successful companies started by capturing a large part of a small market.” Contrary to the belief that entering a large market would position the companies for success, Sam noted that “markets that are too big are hard to take over all of,” and companies ought to strive to get “to a point where [they] have high penetration in some specific market.”
To see this in practice in medical device development, we needn't look further than general surgery robotics – a massive market valued at over $7B in 2023 and projected to eclipse $11.8B by 2028, growing at an 11% CAGR according to LSI’s Medtech Market Intelligence team. Appealing on paper to medical device investors, but the entrenched incumbency of Intuitive has created a deep moat, which makes achieving the “high penetration” that Sam seeks a daunting feat. However, “high penetration” is potentially more attainable with a specialty robotic system for a niche or novel clinical indication or by better serving a subset of the market via smaller ASCs and Outpatient Department clinics.
The insights here illustrated the inextricable link between a spectacular founder’s ability to compensate for, thrive in, or expand beyond a seemingly sub-optimal market or even avoid it altogether (raining on my line-of-questioning parade but providing an invaluable window into their thinking).
Dr. Noyman has seen a similar trend, where the best founders “don't limit themselves to thinking about where the market is at now, but constantly think of shortening their sale cycles and uncovering additional opportunities in proximal markets,” and added that in the Digital Health space “it's not only the size of your market but about how you sit within the priorities of your buyer and how you remove the barriers to adopt your solution.”
In totality, I believe Dr. Noyman’s answer to the posed founder-versus-market question sums it up well – “why choose?” Or, as Scott put it, “why settle for less” than excellence in both?
In a game won through outliers, the approaches taken by the players will never be consistent or static. The learnings here indicate that there is not a “one-size-fits-all” approach to investment decisions – rather, a set of fundamental best practices and beliefs that are constantly being refined and evolved fund to fund, investor to investor, and deal to deal.
For more insights like this, visit the new column in LSI’s Insights Hub and join us at LSI Europe ‘24 in Sintra, Portugal on September 16 - 20th, where many of these investors and 150+ more will be onsite to speak and partner with hundreds of other Medtech and Healthtech executives.
Thank you to our guest contributors to this article:
Dr. Luc Marengere, Managing Partner at TVM Capital
Dr. Gal Noyman, Partner at LionBird
Soyoung Park, General Partner at 1004 Venture Partners, Venture Partner at VU Venture Partners
Armen Vidian, Founder and Managing Partner at Recode Ventures
Adam Rosenwach, Chief Business Officer at Deerfield Catalyst
Owen Willis, Founder and General Partner at Opal Ventures
Kevin Chu, Principal at F-Prime Capital
Dr. Josh Makower, Director and Co-Founder of the Stanford Byers Center for Biodesign and the Founder and Executive Chairman of ExploraMed
David Kereiakes, Managing Partner at Windham Capital Partners
Scott Huennekens, Former Medtech CEO/Entrepreneur, current Investor, & Executive Chairman via Front Foot Ventures
Written by Henry Peck.
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