This article was first published in Forbes. It is co-authored by Nikhil Sahni, Bob Kocher and David Cutler.
The way physicians practice medicine is changing, and investors are betting that this trend will accelerate. In the past few years, venture capital money has moved from an almost-exclusive focus on developing new therapies to a portfolio that now includes healthcare information technology (HCIT) and services companies. The intent of this strategy is to alter fundamentally the nature of medical care provision, focusing on improved physician care, increased labor productivity, and reduced use of hospitals and other facilities. The combined impact of these changes for physicians and the facilities in which they practice could be profound.
How early stage investing works
While healthcare investments follow the same general capital process as other industries – a Series A after demonstrating an initial vision for a product, and a Series B/C to scale the business – the use of capital varies widely by type of business. For example, a consumer technology company such as Facebook, the capital required is generally less than for a heavy R&D endeavor such as a life sciences company. For a HCIT or services company, the capital required is closer to a Facebook scale than a life sciences investment.
The time to market also differs based on the type of company. A life sciences company has a much longer investment period than a HCIT or services company. This results in more “risk capital” than “growth capital” for life sciences companies in order to finance the long product development cycle before the product earns significant revenue. For a company, risk capital is much more expensive than growth capital in terms of required returns.
Flow of money
We analyzed the last decade of seed, Series A, and Series B investment rounds for US-based healthcare companies (Figure 1). From 2003 to 2013, $39.9 billion of capital was invested across 2,732 healthcare companies in 4,467 deals. We grouped the data into two categories: devices and therapeutics (pharmaceuticals and biotechnology); and HCIT and services.
In 2003, devices and therapeutics made up 85% of deals and 87% of capital invested in healthcare, leaving a small proportion to HCIT and services. Over the next half decade, the proportion made up by devices and therapeutics increased even as more overall dollars flowed in. By 2008, only 6% of healthcare venture capital was invested in HCIT and services companies.
In 2008, the economic and political landscape changed. Starting with the Great Recession and continuing through the HITECH Act and the Affordable Care Act (ACA), an emphasis intensified on reducing costs and practicing more efficiently, which corresponded with a shift in investment strategies towards healthcare IT and care delivery models that improve productivity. Between 2008 and 2013, the share of capital invested in devices and therapeutics fell by 10 percentage points. For HCIT and services companies, in contrast, annual capital invested grew by 150%, and the number of deals increased by 157%. The share of venture capital dollars in HCIT and services more than doubled between 2008 and 2013, reaching $660 billion invested in 2013.
What type of companies receive investment
These investment trends portend significant changes for how physicians practice. Table 1 summarizes a view of HCIT and services: there are three stakeholders in the system—consumers, payers and providers, and IT can be delineated into enterprise software and apps (services are generally grouped as a whole).The investments across this table generally reflect one of three strategies: physician practice enablers, physician substitutes and high-cost facility cost savers. Physician practice enablers are often enterprise apps and services that aim to increase physician productivity. This includes companies such as Kyruus in the upper right box, an HCIT company which improves the clinical appropriateness and capacity utilization of referral and scheduling workflows, and Aledade in the bottom right box, a services company which provides tools and services to help providers become successful ACOs. These companies are not looking to replace physicians, but rather believe providing physicians with the right tools about scheduling and administrative needs will improve productivity.
Physician substitutes companies are focused on taking certain tasks out of physician’s hands. Many apps fall into this category such as sensors to aid in the diagnosis, management and treatment of disease, ranging from Omada for type 2 diabetes prevention, HealthLoop for monitoring pain control and complications for patients after surgery, Cell Scope for ear infections and DermoScreen for melanoma screening. Companies in this group believe that, depending on the algorithms, replacing or reducing the use of physicians has the potential to be more evidence-based, lower cost and more convenient for the patient.
High-cost facility cost savers are focused not on the physician, but reducing the use of facilities like hospitals, post-acute facilities, and emergency departments. Companies in this space include capitated physician groups like CareMore and Iora Health, high-touch primary care models like One Medical, video telemedicine services like Doctor on Demand, transparency tools like Castlight and start-up health plans like Oscar which include tools like video telemedicine and transparency into their benefit design. Companies in this group believe that better primary and preventive care coupled with the use of technology will reduce the use of high-cost facilities or shift care to higher value providers and facilities. Investing in these types of companies is attractive in part because they are synergistic with new payment models and health benefit designs that reward cost savings.
What this means for physicians
It is natural, indeed inevitable, that tight budgets and concerns about quality in healthcare will lead to investment in new business models. Productivity in healthcare is notoriously low, and we have examples of technology innovation successfully improving productivity in other sectors.
To the extent that early adopters of new HCIT tools and services models gain market share or perform better economically, these innovations will spread. Furthermore, they are likely to spread more rapidly than evidence-based medicine or care guidelines have since the economic incentives are more potent. As these innovations spread, the roles of physicians, other clinicians and healthcare administrators will change. In some cases, the change will be disruptive, as some roles and responsibilities will be marginalized or eliminated entirely. But that need not be the case for all providers. Indeed, physicians are in a relatively good place compared to institutional providers such as hospitals and home healthcare. While some venture capital money is focused on replacing physicians with less expensive technologies, a good deal is focused on enhancing the reach of physicians. This is not true for hospitals and other facilities, which are invariably a target for cost savings.
Of course, it is too early to know how any of these bets will pay off. Still, tracking the flow of early-stage venture capital money can help reveal the trends that are occurring in healthcare and allow physicians time to prepare and adapt. Knowledge of this type of investment can also help predict the implications and duration of major policy changes, such as the ACA. If venture capital is any guide, physicians should prepare for an era of greater change, faster and cheaper technology adoption, and wide-scale practice transformation.