Aug 11, 2021

CHV invests exclusively in seed, Series A and Series B companies in the medtech space Venture capital used to be a cottage industry, with very few investing in tomorrow's products and services. Oh, how times have changed! While there are more startups than ever, there's also more money chasing them. In this series, we look at the new (or relatively new) VCs in the early stages: seed and Series A. But just who are these funds and venture capitalists that run them? What kinds of investments do they like making, and how do they see themselves in the VC landscape? We're highlighting key members of the community to find out. Josh Phillips and Darshana Zaveri are the founders and managing partners at Catalyst Health Ventures . Phillips has led investments in the medical device, life science tools, molecular diagnostics, and biopharma markets holding fourteen board seats, including a leading role in six M&A exits. Josh is currently a Director at  Conformal Medical ,  Brixton Biosciences ,  Sera Prognostics ,  Saphena Medical , and  Cruzar Medsystems . Prior to Catalyst, he was a Manager at the Lucas Group, a boutique strategy consulting firm, where he led engagements advising healthcare, life science, and technology-based companies. Prior to entering business school, he co-founded and built a new business unit at Russelectric Inc, a privately held company producing power control systems. During his five-year tenure, revenue grew to $5M and headcount expanded to 15 engineers and technicians. Previously Josh held a project management position at Pratt & Whitney Aircraft focused on control system hardware/software integration for the world’s first fly-by-wire jet engine, now powering the USAF F-22 Raptor. Phillips received his B.E. in Electrical Engineering and Mathematics from Vanderbilt University and an M.B.A. from the Harvard School of Business Administration. Prior to Catalyst, Zaveri was an Investigator at Vertex Pharmaceuticals and an integral part of their drug development programs in oncology, metabolic disease, and immunology. Previously she worked at Genome Therapeutics, a Massachusetts-based biotechnology company, at the Dana Farber Cancer Institute and completed an internship at the United Nations. She has authored several publications and scientific journal articles. She currently serves as a  Catalyst  of the Deshpande Center for Technological Innovation at the Massachusetts Institute of Technology, as a Board Director of  Tie Boston  (The Indus Valley Entrepreneurs) and as a lead advisor to the  Portfolia  FemTech fund. Zaveri received an M.P.A. from Harvard University, a M.S. in Cell and Molecular Biology from Boston University, and a B.S. in Biochemistry from Bombay University in Bombay, India. VatorNews: What is your investment philosophy or methodology? Darshana Zaveri: We are an early stage, medtech focused fund. So, we operate within the broader healthcare ecosystem but we do not invest in drugs or biotech. We focus on medtech, which primarily includes medical devices, and then we do some diagnostics and some digital health; that's within the scope of our investment strategy, but a large portion of our portfolio is focused on medical devices. We're pretty early stage investors so we, generally speaking, are the first institutional investor in a business. That could be seed, Series A, or Series B, just depending on each individual company. From a development perspective, we’re generally pre-regulatory approval and, more generally, even pre-clinical. So, we invest in companies that have shown some proof of concept, maybe a pre-clinical animal model or a benchtop model, and then we go fund at that stage and take the company through clinical regulatory approval and then into the market. We're also lifecycle investors, so we don't end our investment at the first investment: we continue to invest in every subsequent round, and, generally, through exit. So, the way we look at it is we are really partners with the companies. We invest in in a long term relationship and we are prepared to spend several years developing the company. VN: What’s exciting about the medtech space right now? Why is that your focus? Josh Phillips: First off, there's a tremendous amount of innovation and there's a tremendous amount of clinical need out there. We're looking for products and companies that are addressing major unmet needs in medicine and there are many. So, what we're seeing is quite a bit of innovation going on, continued innovation that we've seen over the years, in addressing these needs. Some examples are in areas like structural heart where there is a big opportunity in terms of bringing devices into play where drugs don't work. So, there are a number of diseases where drugs might be a first line treatment but then, as the disease continues down its progression, drugs stop working. That's where you need things like devices, particularly in cardiology and other areas. We see devices and medical technologies now coming into areas like oncology that, traditionally, have not been areas for devices. It's been the domain of big pharma and biotech, but there's a need for devices to work either with drugs or as standalone options in therapy. So, interventional oncology has become a very interesting area over time. There's also the marriage of tech and medtech, or traditional devices, and AI and digital therapeutics and things like that. While they're buzzwords, there're actually interesting combinations of things that are coming out, even new areas and sectors of the medtech market that are being created by these combinations. So, there's a lot of interesting things going on. We're seeing really compelling opportunities across the board for those different areas. VN: There’s push toward digital therapeutics putting more control into the hands of the patient. Is that something that you're betting on? Are you betting on devices that are pushed to the consumer? DZ: No, at the core of our strategy is we're looking to address unmet clinical needs, so we start from there. What is the unmet clinical need? Is there a big market, a big opportunity, and a true unmet need from a therapeutic perspective? That's where we start. And then we look at the technology and say, "Does this technology or this product have clinical utility in that area, in that need?" Sometimes that means that it's a change in the care delivery paradigm; you're going straight to the consumer, sometimes that's in a hospital treatment, sometimes that's an outpatient treatment. Sometimes it's taking something that was traditionally in hospital and turning it into an outpatient procedure, which is a lot less expensive and a lot more convenient for the patient and a lot more beneficial for the doctors as well. So, we're looking to invest in any and all of these different types of business models, so long as there is a true unmet need that is being addressed and the product that we're investing in is truly going to change the paradigm of care and outcomes for patients. VN: What's the big macro trend you're betting on? JP: In terms of macro trends, I guess we're not really betting on trends; as Darshana said, we're looking for very clear products that are addressing unmet needs. I would say one thing about your question regarding consumers: because we're going after unmet needs in medicine, we are generally working within the construct of a doctor, or some clinician who is guiding care, and who is going to be making the decision in terms of what types of therapies are brought to the table. So, we tend not to be as interested in consumer-facing technologies because, if we're really changing the paradigm of care, pretty much all the time there is a clinician involved in that. That's where we are mostly focused. There may be elements of consumer awareness or consumer demand that we might include in something but generally these products are going to be prescribed or utilized by a doctor with their patients. VN: What is the size of your current fund and how many investments do you typically make in a year? JP: Our current fund is $75 million and we typically do two, maybe three, deals a year, in new companies. We're very selective and we have a very specific strategy. I think at this point we're on pace for nearly 800 or 900 deals that we'll be looking at this year and we might do two. We're very careful about doing things that meet these criteria and that are a fit for us. VN: What stage/series do you invest in and how much is that in dollar amount for you? DZ: We're anywhere from seed to Series B. In this portfolio we've done Series A deals, we've done Series B deals, and in the past we've done seed stage. We would rarely do something that is already clinically or FDA approved. We're doing things that are pre-FDA, pre-regulatory clearance. From a dollars perspective, we generally do about $2 to $3 million in the first round, preserving about $6 to $8 million over the life of the company. VN: Seed to Series B is kind of a big range, so what kind of traction does a startup need for you to invest depending on the stage? Do you have any specific numbers? DZ: Actually, there's a reason why we have that range. We focus a lot on what we call “mechanical solutions for mechanical problems,” and one of the examples we like to give is that if you have a hole in the heart, there's no drug that can cure it. It's a mechanical problem and you have to have a device-based solution. That's not an across the board profile but that's generally what we like to do. If what we're investing in is a purely mechanical device, where the product works in an animal model, like a dog or a sheep or lamb, there's really no reason why it should not work in a human because it's a mechanical device. It should really work in the same way. So, these are products where the translational risk between pre-clinical and clinical is very, very high, meaning that the clinical risk is pretty low. We are pretty comfortable getting into those companies at a really early stage, even when they don't even have clinical proof of concept. Then there are some companies where we want to see some human data before we invest because the device may not be purely mechanical. It might be an electromechanical device or devices where there's not a very clear animal model. There, we want to see some human data before we make an investment. So, that might be a slightly later stage, and a lot of those companies tend to be funded through friends and family money in the first couple of rounds and then the institutional capital comes in, typically at the Series B stage, where some of that early risk has been taken out. So, it really depends on the nature of the technology that we're investing in. JP: We've also invested with entrepreneurs with whom we've had previous success. We did a company formation round, so it's a little misleading. I mean, it's the first investment in the company, it's a Series A, and it's in conjunction with forming the company. However, we worked with them for a year and a half before forming the company, doing all the diligence together so that we were ready to form the company and go. So, technically that's as early as it gets, it’s company formation, but that's with somebody that we know very well, we've had success with, and we were involved in that process from the start. VN: So it sounds like you will invest pre-product. JP: Yes. If accomplishing a certain thing with a device has a predictable outcome in terms of a clinical value, then we're willing to start earlier where that translation from benchtop and animal testing into humans is very clear. It's not always the case. In some cases, as Darshana said, you want to wait and you want to see the first five human trials and see did it actually do what it's supposed to do, because it's not quite as translatable. VN: What do you look for in the team? DZ: We generally like to invest with entrepreneurs that can wear multiple hats. There's a lot of elements of what we look for in a team and, particularly, in the entrepreneur themselves, if it’s a single founder. We're looking for someone who has really sound knowledge of the technology itself, but is also able to wear multiple hats in terms of clinical, regulatory, reimbursement, some sales and marketing. So, these entrepreneurs are just tremendously accomplished, they're obviously very good at the engineering aspects of things and the technology itself, but are also able to do a lot of other things and keep the overall cost of the business level, and then hire consultants on an as needed basis to supplement their knowledge. What we found is that at the early stages the risk of losing your money is the highest, when the product is still being developed and tested. Where we want to be really capital efficient is at that early stage and we don't want to put in too much money, we don't want to go out and hire a team, we want to keep the company as capital efficient as possible, bring in consultants for specific projects or tasks, outsource as much of the development possible. The only way to do that effectively, and well, is if the founders are really good at managing all of those different components. So, that's a very important quality of what we look for in an entrepreneur. Secondly, I always like to say that this is a marriage, and we look at it as a long term play. We're going to invest at the early stage, we're going to continue to invest as the company makes progress through thick and thin and then all the way to exit. So, that's a really long relationship and it's also a pretty intense relationship. We typically are talking to our founders and our CEOs multiple times a month, sometimes multiple times a week, at the early stages. We have to like them, and they have to like us, and we have to be able to grab coffee together and lunch and dinner and so on and so forth. So, there is this aspect of a personality fit where we look for that temperament and personality that we like. JP: One thing that comes to mind, and it goes to the marriage concept, is that we do very deep diligence on every one of these companies and, to some degree, it’s us learning but, to some degree, it's also how we work with this management team. Are they forthcoming? Are they transparent? Do they bring to your attention things that they don't yet know and say, "we're going to learn this," or, "we have to figure this out." Or do we have to dig that out of them? A really, really key area here is that teams need to be transparent with us in, and we with them, and we learn that over the diligence process. If we have to keep digging to uncover something, that's not really a good sign. That transparency with each other and honesty goes both ways: we've had conversations with founding CEOs where we say, “You're not going to be the CEO two years from now. The better you do, the faster that day comes when we need the next person and you need to know that now.” It's that willingness to work together,  and to bring it up if there's a problem, because that's going to happen. Things will go wrong and if you have a team that says, “Let's keep that from the investors and figure it out and not tell them,” that’s not a good situation. VN: I want to ask about valuations, which I think it's a really interesting question because of COVID. There was some fear among venture capitalists that they wouldn't be able to deploy their capital, and that obviously did not happen since there was a record amount of funding in 2020. So where are valuations now, particularly in the medtech space? DZ: You're right, there was a record amount of capital that's been deployed last year, and we see that in many different ways in our environment. We find that lots of deals are getting done, and we see that the rounds that are raised are larger in size than they were before. Also, we’re seeing that deals that are getting executed and completed in a record amount of time, so it’s a very short time from diligence to a deal. and so these are all new trends, particularly the medtech sector, where this wasn't the case before. Perhaps it was true of tech or biotech but not medtech, but those trends are starting to come in here as well. Because of that, you're starting to see some higher valuations than you saw before because there’s a lot of money and there's a lot of capital chasing the fields. So, you're seeing a trend towards higher valuations. We still don't see sky high valuations like you see in other sectors; that hasn't been the case so far but we are seeing an upward trend in valuation. More important for us is just how quickly these deals are getting done from start to finish, that's been the most important, interesting thing. VN: That is interesting because medtech has a bit of a reputation of being very long cycles. Like, this is not a chat app, you're not going to invest in it and then it’s going to go out in six months. You have to go through the FDA and all the regulatory issues. So, what does that do to the space if deals are getting done so quickly? What does that extra pressure do to the entrepreneurs, and to the product, if it has to get out quicker than it previously would? DZ: My initial impression is that there's a lot more exit opportunities than there were before, so five years ago you didn't hear of medtech companies going public and now do you. You hear of pre-revenue companies going public, which didn't happen before in the medtech sector. There's also this rise of SPACs, which are another avenue for a company to get acquired. And so, given the number of avenues that have become available to medtech companies to exit, there is pressure. The pressure is, “There's all these ways you can get out and create liquidity for your early investors, so go out and do it.” Some of that pressure is definitely there. However, healthcare, by its very nature, is restricted and in how quickly you can exit. As you pointed out, you have to go through the FDA process, you have to go through the clinical trials, you have to get approval, you have to get reimbursement. It just takes its time. The good thing is that the FDA has become much easier to work with in recent years than before. It's predictable and turnaround is faster, so that has given some impetus and tailwinds to the industry overall. So, perhaps you're going a little faster than you did before, just because there's a lot more back and forth with the FDA and easier avenues to get regulatory approval than you had before. JP: Another thing to think about here as well is there’s a record amount of venture capital being deployed, but it's important to think about how it’s being deployed. Venture capital is a pretty broad spectrum and if you look at early stage medtech, we've been doing this a long time and it's been relatively out of favor. But if you look at where the money is going, the vast majority of medtech venture capital is post-regulatory approval and growth capital. While it's still called venture capital, it's really growth and later stage financings. We've seen a lot of deployment in crossover pre-IPO rounds, because now the IPO market is available to companies in this space; they raise $150 million, and then three months later they go public. Technically that's venture capital, but it's not a Series A round in a medical device startup that's trying to get a prototype done. So, it's important to think about that as well. We have seen an uptick, definitely. We've seen non-traditional medtech investors coming to the space because they have money; perhaps because they've done so well in the public markets and they’re now looking for where to put some of that money. As we look at our potential investments, what we're looking for are the teams that value us and our experience, having done this now for 15 years without departing and going to other things, but being dedicated to this. Digital health or AI healthcare companies who are saying, “We realize that we're going to be a medical device in the eyes of the FDA, and we want a medical device investor to lead our rounds.” They value the diligence, they value what we bring in, and when that happens, the valuation discussion is not that big a piece of the deal. They recognize what they're getting, and they want that. So, that's what we're looking for and, as I said, we don't do many deals a year; we're trying to find a couple where that is a good fit for us. I'm not saying we're not exposed to an increase in valuations, but we haven't seen it be as big a deal for us. VN: There are many venture funds out there today, how do you differentiate yourself to limited partners? DZ: It always starts with the returns. As Josh said, we've been doing this for 15 years together, we're a consistent team. We work together, which is pretty rare in this industry, and we have generated consistent returns. So, it always starts there, number one. Number two is we are playing in what’s traditionally been an underserved area of investment. So, there's a lot of opportunity on the one hand, a lot of unmet need, a lot of innovative, but, traditionally, very few investors that play there. So, we get the pick of the deals, we see everything, and we've been able to make some really, really good investments. Finally, the third one, and this is a really important component of what we do, is the social good, if you will, the patient outcomes. We find that the investors who invest in us are interested in healthcare, they’re interested in improving outcomes for patients, they're interested in lowering the costs. There’s a whole element of doing good that appeals to them. Those are the three most important things but, of course, it has to start with returns. Being continuously dedicated to medtech for 15 years, it's very rare. I mean, you're going to see a lot of late stage medtech investors, a lot of biotech investors, a lot of digital health investors, but you won't see investors that have continuously invested in early stage medtech for that period of time, which has given us tremendous access to really good entrepreneurs. Now they know us, and we know them, and we have long term relationships with them, and we have honed in on that ability to find the winners. VN: Venture is a two-way street, where the best entrepreneurs can pick their investors, and the investors also have to pitch themselves and show what they can offer. How do you differentiate your fund to entrepreneurs? JP: I don't know that we've ever had to do that pitch, so I guess I'll answer it a little bit differently because I've never had a CEO ask us that question or have to make that pitch. First off, again, medtech is very different from tech and biotech and there are very few dedicated firms to this space, so it's not really that scenario and what we do. But, what I alluded to earlier about building a relationship through due diligence, I will tell you that when a management team presents to us, they will consistently comment on how good our questions are, how insightful they are, and they appreciate that. That only comes from having done this in this space for a long period of time. And so, we've never had to pitch ourselves to an entrepreneur; we simply meet with them and engage with them and that has done the trick for us. DZ: As Josh put it, through the diligence process we are bringing a lot of value to the entrepreneurs, even before we have decided to invest. So, we'll bring our clinicians, our advisors, and we'll introduce the clinicians to the entrepreneur, so now they have more sites to do clinical trials. We might introduce experts to them. So, we already are bringing value to them before we make the decision to invest and they appreciate that. And then, I said this before, but they have to like us and we have to like them, and there is a big component of the likability factor. So, when we go in and actually sit down with them and talk to them and spend the time to really understand things, they really appreciate that and it makes for a good long term relationship. The good entrepreneurs, the folks who understand that the good times aren't going to last and they're going to go through the down times, and they need a partner that's going to stick with them, it becomes obvious. VN: What are some of the investments you’ve made that you're super excited about? Why did you want to invest in those companies? DZ: We love them all. We think of them like kids and we love them all. I'll talk specifically about one that we've exited, so we can tell you the full story. The founder of nVision Medical , at the time when I met her back in 2010, she was a young woman, all of 23 years old, out of Silicon Valley with a bright idea. To your question of if we invest pre-product: yes, this was pre-product. This was a PowerPoint presentation and a business plan, but it was a brilliant business plan addressing a big unmet need, which is ovarian cancer. So, the product itself was a diagnostic tool, so not not a test but a tool, to diagnose ovarian cancer early in women who are at high risk. As you may or may not know, there's nothing out there to diagnose ovarian cancer today and, as a result, most women are diagnosed at stage three and four, and the mortality rate is very high. So, it was a brilliant idea, a huge $6 billion market, very neat technology, but an unproven and young and inexperienced founder. And so, we worked with the founder for almost two years asking questions, adjusting things, bringing value, as we covered here, introducing her to experts, but, most importantly, questioning the principles and making sure that she had thought through every aspect of the business plan. She really appreciated that. At the end of it, we ended up making a very tiny $250,000 investment in a seed round to help the company off the ground, and then she went out and developed the product and proved that it could actually work the way it’s supposed to work in a clinical model. And this is one of those founders who can wear multiple hats; the entire team, when we sold the company it was seven people but, to begin with, it was one person. We led the Series A round, which was $4 million, and we did half of that, which allowed her and her team to complete a small 10 patient clinical trial and finish product development and get FDA clearance. And then she did a $12 million dollar Series B round where we had a new investor come in and led the round but we participated and I continued to be on the board. So, through this time, we have had a board seat. And, as you can imagine, over five years of investing, as well as two years before that, I've developed a really close relationship with this founder, and then we ended up, at the end of a 50 patient trial, with really good results. We ended up selling the business to Boston Scientific for a really nice deal value, $275 million, so it was a very nice exit for us. What we got out of it was not just a product that hopefully someday will change a lot of lives, but also a relationship with a founder that was very young and was at the beginning of her career and has many more in her so, hopefully, we will fund many more of those ideas as they come out JP: The only thing that Darshana didn't mention there, which I think is important because this is consistent in a lot of our companies, is the founder was in Silicon Valley and had gone to virtually every VC and angel group there out there on the west coast and not one would take it, not one of them would invest. And it wasn't until Darshana, who led it here, convinced us to invest that the company got going. You can say that nVision would not exist if not for Catalyst, and that is actually not the only case: there are numerous companies in our portfolio that wouldn't exist if it wasn't for us. We have a company, Sera Prognostics , that completed an IPO a couple of weeks ago. We were the first investor in that company, the first institutional investor in their seed round back in 2010, with one of our advisors who sourced the deal for us and became a board member. Together, with him, we revamped the entire company to position it for a Series A with additional investment from a big firm, and we were the only investors. I'm on the board 11 years later despite the fact that the company did a crossover round, lots of big rounds with corporations and others, like the Gates Foundation. Yet, I'm still on the board now as a public company. If you talk to Greg Critchfield, the CEO, he’ll tell you that company wouldn't be here if it wasn't for Catalyst, because having us involved with them got the company structured the way it needed to be, and enabled us to attract capital and we were the only investor that invested in every round that company. Not the IPO, but the very round leading up to it. And there are others, like Aria CV , who are in the same situation. There are multiple companies in our portfolio that don't exist if not for us. VN: What are some lessons you learned? DZ: Number one, really, don't make a bad investment! (laughs). I wish we had the foresight to know which one was going to be bad. JP: A lot of people look at early stage medtech and they see a lot of risks: they see risks in technology, risks in regulatory, risks in getting paid, risk in all these things. Truly, those are all risks, so in the due diligence process we do our best to try to address them. But the lessons that I've learned go back to the team and to trustworthiness and transparency and how a team works together. Where we have had our poor outcomes, it hasn't been because the technology didn't work, it's not because the FDA was difficult, it's not because there was no reimbursement in place. It was because the team somehow was dysfunctional. When I say “team,” it means the relationship between the investors and the management team broke down and didn't work, so that you either had a CEO doing their own thing, not listening to investors, or the investors speaking with different voices and not being on the same page. That's, to me, the biggest risk that we face. And it's why we tend to be the ones who keep that all together. So, if you think about where we spend most of our time, it’s that role of being the central person between the investors in the team and keeping everybody aligned on where we're going. The biggest risk, by far, is when you lose the cohesion of a board and a team and things start to break down. DZ: I 100% agree with that. I'll just add to it that, looking back, the two times that it totally broke down was both in companies which were not in our core strategy. So, when we try to do something that is tangential, or a sector that we don't fully grasp or understand, that can lead to this problem because you can't quite play that central figure if you don't have enough of an understanding. Whereas, when we are doing our core medtech investing, it comes much more naturally to us, and it’s actually part of an evolution for us where we, as we do our new fund, we focus a lot more on our core strategy. JP: Playing that role is not something a lot of people want to do. It can get uncomfortable when you’re talking to somebody and you’re telling them something they may not want to hear. Venture capital has become asset management, in a lot of ways, and people, instead of doing the hard work, they might just decide not to invest anymore and move on, reallocate capital somewhere else. What you've heard from us is a conviction around our companies that we really believe in what they're doing and, as long as we believe in that, we're going to do everything we can to make them as successful as they can. That includes playing that role where most people would rather not do it, and just say,“We've got to change the CEO? Darshana, why don't you do it? Because I don't want to do it. It’s uncomfortable, it’s too much work for me.” But we think that's a really, really important role, and not many are willing or able to do it. VN: What excites you the most about your position as VC? JP: I love to learn new things and every day in this business I learn something new from really smart people, who are far smarter than me, who feel they need to answer my questions because I might invest money in their company. So, I get to talk to people who are way above my pay grade in terms of their intelligence and their accomplishments and I can learn, literally every day, something completely fascinating and new, and I love it. DZ: Ditto. That's exactly what I love about this. JP: When we look to hire either interns or members of the team, they have to be inquisitive. They have to want to learn something new. I mean, it's just fascinating. Today I'm learning about cardiology and tomorrow it's epilepsy and the next day it's cancer and I'm like, “Geez, I should have paid attention in biology.” (laughs) VN: Is there anything else that you think I should know about you or the firm or your thoughts about the venture industry in general? JP: At the end of the day, we're really excited about where the industry is going and the opportunities here. Having done this a long time, you see a lot of things come and go and it continues to be a great opportunity going forward. DZ: The one thing that is important to us as we look at medtech is you can have medical devices that are literally nuts and bolts, things that are screwed on; there's a lot of things that fit into the broad category of what medtech is. What we do, and what keeps us really excited and motivated coming to work every day, is the therapeutic nature of devices that we invest in. These are really exciting techologies that are going to save lives and enable a type of intervention that never could have been done. So, that's the element within this broad sector called medtech that we're so excited about. That's what we want to communicate. There's a really exciting part of medtech that is all about saving lives and bringing new innovation to play.