Following regulations: Med device entrepreneurs must leap a higher hurdle

Like other startups, medical device entrepreneurs need to demonstrate a market for their products or services.

Then there’s another obstacle to clear before most investors will write a check: reimbursement.

As health care reform and hospital consolidation change the industry landscape, investors are increasingly looking for proof that new product will be reimbursable through Medicare and insurers. That takes more research, data and time.

“You may have physicians all day long tell you they love your device,” but with purchasing groups and regulators all around, “you’ve got constituents well beyond the actual provider of service,” said Mark Olesnavage, managing director at Hopen Life Sciences Ventures LLC, a venture capital firm in Grand Rapids.

Purchasing groups wield a lot of power now, whereas 20 years ago all a surgeon had to do was say a product was needed and it would be ordered, said Chris Williams, president of Grand Rapids contract manufacturer Medbio Inc.
“Just because you provide a better outcome anymore doesn’t guarantee a product is going to get in if it’s more expensive,” he said. “Twenty years ago, you could pretty much charge the moon for it.”

Meanwhile, U.S. Food and Drug Administration approval is more difficult to obtain than it used to be as worries about overly speedy approvals come to bear. At the same time, the health care industry at large is looking to reduce the use of unnecessary, expensive tests.

It’s little wonder that investors aren’t as trigger-happy for medical device companies as they were 10 years ago.

“It’s the perfect storm in the wrong direction,” said Phillip Torrence, managing partner at Detroit-based law firm Honigman Miller Schwartz and Cohn LLP‘s Kalamazoo office.

Torrence works with about 20 medical device companies in and out of Michigan. “The risk appetite for venture investment has shifted much further to the right,” he said. “Compared to 2002, it’s just totally different.”

Also weighing on the industry is a new 2.3 percent excise tax on sales of medical devices, put in place by the Affordable Care Act.

The tax on top of the uncertain regulatory environment and more stringent reimbursement hurdles has made for an unholy mix, in the view of one investor with decades of experience in the industry.

Medical device startups usually look for a payoff in the form of an acquisition, not an IPO, said Mike DeVries, managing director of Ann Arbor-based EDF Ventures.

But the tax has caused many of the industry’s big acquirers — Kalamazoo-based Stryker Corp., Minneapolis-based Medtronic Inc., Abbott Park, Ill.-based Abbott Laboratories — to make cutbacks. So now the well has run dry at both ends.

“The medical device world is looking at itself and going, ‘Holy crap!’ ” DeVries said. “No buyers of technology and no funding — it’s a worrisome time.”

A common line of thought is that this too shall pass. Health care is hardly a stagnant market. The regulatory challenges, irritating or even unfair as they may be, won’t stop doctors, inventors and manufacturers from trying out new innovations in a growing market.

“They just have to tighten up the screws a bit, to the tune of 2 to 3 percent. It’s not going to stall the industry,” said Kevin McLeod at the Michigan Medical Device Accelerator in Kalamazoo.

“I don’t talk to anyone on a daily basis who says, ‘The FDA is just too hard, I don’t want to do it anymore.’ ”

If health care reform does what it’s supposed to, then that will mean more customers, said John Kerschen, managing director of the Grand Rapids-based Michigan Accelerator Fund I and M&A advisory firm The Charter Group, which is managing a new Kalamazoo-based venture firm, Novus Biotechnology Fund 1 LP, targeted at medical device companies. McLeod is a general partner in Novus and the target fund size is $15 million.

It also means opportunity for companies that help health systems reduce costs and actually benefit from the tightened reimbursement guidelines, he said. Those will be the ones to look for.

“Yes, the medical device excise tax is an issue, and Obamacare and things like that are issues, but I would counter that by saying we have a huge population in the U.S. that is reaching high consumption years,” Kerschen said.

“Baby boomers are in their 60 and 70s — peak years in terms of medical services and products.”

Health care reform, and the millions of newly insured it’s supposed to bring, hasn’t kicked in yet, but medical device companies are paying the tax now.

“We all just need to buckle down and hold our breath and hope we can see the finish line here,” DeVries said. “(In) a decade, we’ll all look back and say, ‘Yeah, it was one more blip.’ “ 

Oct. 13, 2013 | Crain’s Detroit Business – New Michigan Deal Supplement