Q&A: Where digital health financing could go in 2023

After a year of mega-towers, skyrocketing valuations and a parade of growing digital health startups, the investment landscape has much warmer in 2022.

But there are still plenty of opportunities for startups, especially for companies that can demonstrate their value in a tough economic environment, said Dr. Sunny Kumar, partner at GSR companies. Kumar sat down with MobiHealthNews to discuss digital health funding this year and its predictions for 2023.

MobiHealthNews: What are some of your key takeaways as you think back to digital health in 2022?

Dr. Sunny Kumar: 2022 has been a transition year and a healthy reset year, where we’ve seen the exuberance of 2021 wane and, honestly, expectations normalize in the form of a combination of macro factors – be it the rate of interest, what happened in Europe with the conflict between Russia and Ukraine, what is happening in Asia with “zero-COVID“, the supply chain – affecting the entire economy, including the healthcare ecosystem.

Investors, startups, large corporations have all taken a step back and reassessed the ecosystem saying, “Where are we actually creating value?” And I think that’s the question we all ask ourselves, especially the investment community.

Ultimately, digital health can create absolute, even potentially revolutionary value. But in some cases, it may have been a bit overhyped over the past few years, especially during COVID times. Not to pick on any of them, but you’ve seen some companies, maybe in technology services, telemedicine companies like Teladoc, that have peaked up to 25 to 30 times the multiples of income. And most people will tell you today that was probably too high.

Today, these companies are trading at 2X, 3X earnings multiples on public markets. It may be too low, but that’s where we are today. I think what we’re seeing now is markets resetting, realigning.

As we look to the future, I think the question now is, where are we going to create real value? And I think that’s what the future will be. Where is this high return on investment? [return on investment]? Where do we have the evidence of clinical validation? Where will we be able to deploy the technology to create transformative results?

MNH: Do you think any of that was predictable last year?

Kumar: Some of them are always easier to see in hindsight, of course. Some of the signals were definitely there. I think some of the investors have probably gotten a bit ahead of our eagerness to invest in some of these companies.

I will give you some examples of these signals. Historically, we took our time diligently, making sure we knew the ins and outs of the businesses and understood not only the whole ecosystem, but the specifics of the businesses. Some of these practices have started to be reduced.

You started to see companies going out to raise funds and term sheets being issued sometimes within a week or two, sometimes even days after companies started fundraising. So when you start to see signals like that, I think that’s when you start to see indications that we may be entering a little hype cycle.

That doesn’t mean the companies themselves were bad or doing the wrong things. But that could have been an indication that we were a little too excited.

So I think you’re just starting to see some of that coming back. If you look today, there are still financings going on, still big companies. But you’re starting to see a normalization back to normal cycles of diligence, people doing the work.

We’re lucky we don’t have another Theranos in healthcare – at least we don’t see it on the same scale. We won’t have another FTX on the health care side. But I think you see more of that when you don’t have that full due diligence process, when you have people who are maybe so eager to get into businesses that they don’t do all the work they could have done otherwise. They don’t require the full business oversight that you might otherwise have in a more normal environment.

MNH: So we know that funding for digital health has dropped significantly this year. How did this affect your decision making? And how have you advised the companies in your portfolio or the companies in which you plan to invest?

Kumar: It definitely went down. I think it went down to a relatively normal level, so it didn’t crater at all. If you compare it to 2021, it’s absolutely down – there’s no doubt about it. But if you compare it to 2020 or 2019, it’s comparable to those levels.

But in the end, it hasn’t been a massive change, massive to the point where there’s panic in the markets. That said, he changed his behavior. Even before 2021, there was a mindset that businesses needed to grow, and to some extent “grow at all costs.” Growth was the first thing that was valued.

From a startup perspective, what’s changed today — and it’s mostly seen in public markets, and it trickles up into private markets — is to grow, but to grow optimally. This means that while growth is valued, you shouldn’t prioritize growth over everything else. You need to ensure that your growth occurs at a responsible rate relative to your other costs.

Do you have a plan to achieve profitability, or at least break even cash flow? And what’s interesting is that you see that [question] at increasingly earlier stages. It used to be common for most companies to go public long before profitability. And you won’t even hear the words “give a path to profitability” at a Series C or Series D stage. These days, it’s not uncommon to hear investors ask a company to series A or series B to raise funds, “Do you have a profitability plan? And I think some might say that’s a bit of an overcorrection. But I think overall it’s healthy for the environment.

MNH: What do you think the investment landscape will look like in 2023? Do you think it will improve compared to 2022? And what do you think will be some of the attractive therapeutic areas and value propositions next year?

Kumar: I think if you look at it on a run rate basis, the total dollar amount will probably look like 2022. From a run rate where we ended up in Q3, Q4, I expect actually to us bouncing a bit above where we end up at the bottom of Q3, Q4. So I actually think it’s probably going to be the overall market lull.

If you look at who is out there in the ecosystem today, valuations continue to correct. Some people are still normalizing, with public markets correcting versus private markets. And I think that’s very normal. Valuations have gotten very, very high, multiples have gotten very, very high in 2021. A lot of companies have gone for funds, and I think some of that is still spilling over into the private markets.

Many companies that raised in 2021 did not feel the need to go to private markets to raise funds again. We’ll start to see a lot of these companies come back into the market in 2023. And I think that will kick off another round of fundraising. If you look at the data, there are still actually quite a few companies raising funds in the seed and Series A stages and to some extent Series B. But you haven’t seen that many in the Series C and Series D stages. I think these companies will start to come back into the market in 2023, especially in mid-2023 and later. So overall, I expect things to normalize and then start to come back, especially in the second half of 2023.

If you look at specific sectors, I think there will be a number of areas that will be interesting. But I think the biggest drivers of focus areas will be where there’s a high ROI and value proposition. It is very, very likely that the United States and the world will enter a more restrictive period. It’s likely that we’re going to have a recession, and that’s probably going to affect health care.

So if you look at all the buyers — whether it’s health systems, payers, the pharmaceutical industry, even consumers themselves — they’re all going to be a little more conscientious with their spending. So what we’ve already seen is that anyone selling to these customers needs to ensure that their solution is either mission critical or driving an extremely high value proposition. So if you’re generating $5, $10 back for every dollar spent, that’s something that will be able to justify those expenses even in this contractionary environment. If it’s nice to have, generates a 10-20% return on investment, or has a very long payback period, those are solutions that I think will be a bit more difficult in the short term .