When the coronavirus first hit the U.S. two years ago, hospitals quickly realized that the pandemic would play havoc not only with their care capabilities, but also with their bottom lines.

As hospital systems became overwhelmed with patients sick with COVID-19, lucrative inpatient volumes plummeted, and many operators have yet to fully recover. To compensate for oscillating revenue, some hospitals have shifted their focus to outpatient service lines and alternative revenue sources, including investments.

In fact, more hospitals — especially large nonprofit systems with substantial cash pools — are acting more like venture capitalists as they ramp up investments in companies with products they can use and scale, all with an eye toward what might generate a return on investment down the line, according to an analysis conducted by Healthcare Dive.

"They're really doing this because they want to diversify revenue," said Rick Gundling, senior vice president of healthcare financial practices for the Healthcare Financial Management Association, a professional group for health finance staff.

Shifting market sentiment could throw cold water on what was previously a red-hot funding arena for digital health startups. But many expect hospital venture activity to only increase as technology becomes more woven into everyday medical delivery and administration.

"There still in 2021 was an unprecedented amount of money raised in healthcare venture capital to yet be deployed. And that money's going to get deployed somewhere," said Matthew Warrens, managing director of UnityPoint Health Ventures, the corporate venture capital arm of Iowa-based nonprofit UnityPoint Health.

While the pandemic hasn't changed the types of startups and solutions that hospitals are investing in, the pace has picked up in the past two years, data show.

A Healthcare Dive analysis of CB Insights data found that taken as a whole, the amount of large health systems' venture investments jumped significantly from 2019 to 2020, and again from 2020 to 2021, even though deal size contracted slightly.

View more details on the analysis.

Venture funds maintained by large hospitals were ratcheting up their investments even before the pandemic. But the overall pace has accelerated over the past two years

Dollar total and amount of rounds participated in by major hospital VCs, 2010-2021

"We were already on a path to make more and larger investments prior to the pandemic. I think what the pandemic did was allow us to really crystallize and focus on what our themes would be, and how we internally leverage support for our companies," said Akhil Saklecha, managing director of Cleveland Clinic Ventures, the VC arm of academic medical giant Cleveland Clinic.

Jumping on the digital health revolution

Even before COVID-19, venture capital was becoming a more attractive investment option to many operators than real estate or the stock market for a handful of reasons, including low interest rates. Then came the financial volatility of the pandemic, resulting in hospital lobbies calling for billions in federal aid and many smaller and rural facilities facing closure.

Large health systems with better cash reserves and stronger assets were able to pivot better than some of their peers, and increased their investments at a time of acute financial uncertainty. The biggest venture deals in 2020 and 2021 have been from those systems, which took advantage of low interest rates and the acceleration of health tech spurred by COVID-19.

"They poised themselves to be able to take care of that," Gundling said, noting the timing of higher investments despite COVID-19's economic uncertainty actually makes sense. "It seems counterintuitive but it's actually quite intuitive. It's very strategic."

Hospital VCs funneled more dollars to startups during the pandemic — especially nonprofits

Annual venture round activity by large hospital funds, 2010-2021

Hospitals have several paths to fund venture capital. Some invest internally within their own organization, while others partner with venture capital firms. Still, a growing number of systems have begun rolling out their own venture subsidiaries that can focus wholly on venture opportunities, with their own set of governance models and processes allowing them to jump more quickly on potential forward-looking opportunities.

Iowa-based system UnityPoint launched its own $100 million venture capital fund, UnityPoint Ventures, in May 2019.

Though many operators have been doing venture investing through limited partnerships or other vehicles for a couple of decades, the purpose of UnityPoint's fund is the strategic value its portfolio companies provide — "though we absolutely are underwriting and expect strong financial returns," Warrens said.

"The difference between the two is that when you're doing that internally, with your internal lens, and linking it directly to the organization's overall strategy, you are going to be much more likely to pair financial investment opportunity with the companies that are going to bring that strategic value," Warrens said.

The pandemic stoked the digital health investment landscape into a frenzy, resulting in record funding in 2021 that many expect will spill over into 2022. Unsurprisingly, digital health is a major focus area for hospital VCs, as hospitals almost overnight ramped up their telehealth and remote care operations early 2020 and since then, have worked to manage a large, sustained volume of patients clamoring for virtual care.

"There's a much more increased focus on digital health. It's been a very fast-growing part of the industry," Gundling said. "That's probably the biggest numbers and the shift in priorities."

UnityPoint Ventures' Warrens noted the pandemic added more fuel on ever-increasing valuations, which changes venture opportunities.

"What we saw was that early on in our portfolio, we'd made some really good investments in what I would describe as point solutions, like remote monitoring and digital behavioral health. In my opinion, the pandemic expedited the scaling of those solutions, right? It just became obvious that these were things that we had to do as an organization. And so those things got deployed faster," Warrens said.

"The pandemic expedited the scaling of those solutions, right? It just became obvious that these were things that we had to do as an organization."

Matthew Warrens

Managing Director of UnityPoint Ventures

In addition to digital health, systems are also targeting areas like hospital-at-home technology, autonomously or remotely operated medical devices and tools to streamline the consumer experience and back-end administrative functions. Cybersecurity, specialty pharmacy and mental and behavioral health also rank high on the priority list for hospital investors.

The pandemic has also spurred interest in identifying and combating emerging pathogens, leading some hospital VCs to zero in on new methods of therapeutic and diagnostic discovery.

Academic medical centers and large nonprofit systems are also interested in leveraging their VC arms to commercialize internally developed intellectual property.

For example, Cleveland Clinic has spun out almost 80 companies since it was founded just over 20 years ago, Saklecha said. Its fund focuses on medical devices, digital health and life sciences, building off the research and applications developed in the Clinic's research institute and by its physicians.

"How do we innovate on better virtual health programs — not just incrementally better, but really transforming the care?," Saklecha said. "The second thing is, how do we look at patients as consumers of health? How do we create a strategy around interacting with consumers before they become patients?."

Cleveland Clinic Ventures is supported by Cleveland Clinic's treasury funds. Historically, CCV has invested in the low-single-million-dollar range per year into companies. In the last few years, that pace has ramped up to almost $25 million a year into a more targeted pool of startups.

"The venture capital group is really focused on those inventions that have a significant opportunity to impact patients but really based on finding identified white spaces where there's no competition and where there's large market opportunities financially," Saklecha said.

Some early deal data from this year provides a hint into what hospital venture activity could look like as COVID-19 becomes endemic.

Nonprofit VC arms participated in four funding rounds this January totalling almost $238 million, according to CB Insights data of major hospital VCs.

By comparison, major nonprofit VCs in January 2021 participated in five funding rounds totaling a little over $183 million; eight funding rounds totaling almost $185 million in January 2020; and four funding rounds totaling almost $49 million in 2019.

Though deal count in the month has fallen since 2020 and 2021 back to 2019's levels, total size of the funding rounds eclipsed any of the recent periods by far, suggesting an early start to the year. It also implies deal size isn't tied to the prevalence of COVID-19 cases, as hospitals continue to bet big on tech-enabled care.

Additionally, it suggests same types of startups — focused on patient relationships and experience, hospital at home and clinical area of mental health — will continue to nab the lion's share of hospital funding this year.

This January, Kaiser Permanente Ventures was particularly active, participating in funding rounds totaling $235 million, followed by Mayo Clinic Ventures, which invested in one $100 million Series D round for Medically Home.

Deal size hiked in January compared to the same month in past years, though the number of deals returned to 2019's level

Hospital VC investment rounds, January 2022

Questions about the level of hospital venture activity as COVID-19 becomes more normalized are less tied directly to the pandemic as they are to what's happening in the public markets today, experts say.

Currently, the markets are seeing a sharp decrease in valuations of digital health companies, many of which went public during the last two years of COVID-19.

Lowering valuations may imply a shift in investor sentiment that is likely to translate into the private markets as well, and could curb venture activity. Additionally, some investors might redirect their attention from the private markets and back to public ones, attracted by companies with long-term growth potential that may currently be undervalued, making shares more affordable.

"As you think about coming out the other side of the pandemic, it's really less about the pandemic and more about what you're seeing happening in the public markets today, and trying to understand how that's impacting and changing valuations going forward," Warrens said.

Warrens added he doesn't expect UnityPoint's investment pace to change coming out of the pandemic, though the VC does intend to focus more on enterprise-type solutions that impact multiple facets of the organizations instead of point solutions for future deals.

"You'll see that continue," Warrens said. "That truly is much more a reflection of the organizational strategy coming out of the pandemic paired through our lens of what our venture opportunities are."

Hospital venture activity coming out of the pandemic also depends on ongoing investment performance, HFMA's Gundling said.

"It all depends on if they're meeting their goals," Gundling said. "They're going to monitor and see which ones are working. Are they differentiating themselves in the marketplace?... I think they're very optimistic but they're careful as well."

Risky bets and operational speedbumps

Hospitals' venture activity faces some speedbumps, like worries about investment downside and physician uptake. And for nonprofit systems, their high levels of venture activity has sparked worries about a potential clash between profit-seeking and altruistic motives.

Nonprofits' activity raising eyebrows

Nonprofit hospitals typically are more active in venture activity than their for-profit peers, and the gap in venture activity between the two may widen as nonprofits sit on increasing levels of cash.

Large for-profits, with the exception of HCA Healthcare, don't have direct VC arms, while many major nonprofits do. That complicates drawing direct comparisons between nonprofit and for-profit investing activity. Still, nonprofits seem in general to invest more money over a greater amount of deals, though the VC firm representing Tenet, CHS and LifePoint (along with a slew of smaller nonprofits) — the Heritage Group — did have the fourth-highest levels of investments in 2021, trailing Kaiser Permanente, Ascension and Intermountain in terms of deal size.

One of the biggest VCs is run by the Catholic chain Ascension, and has been operating for roughly two decades. In 2021, its total assets under management rose to more than $1 billion, including contributions from 13 other nonprofit health systems partners. Providence, a Catholic health system operational in seven states, launched its own VC fund about eight years ago with $150 million. It now has $300 million under management.

In addition, a growing number of smaller and mid-size systems are launching their own venture funds, including UnityPoint, Cleveland-based University Hospitals — which launched its fund UH Ventures in 2018 — and Intermountain, which spun its VC arm off its innovations division in 2019.

Investment income has always played an outsized role in nonprofits’ financial stability. Nonprofits’ investment portfolios provide a key cushion to absorb any unforeseen operating challenges that could threaten their bottom lines.

Nonprofits say that investment income is important due to thin operating margins, because of the lower reimbursement they get from government payers and losses from uncompensated care.

As COVID-19 dampened hospitals’ operating margins as expenses climbed and volumes dried out, nonprofits have leaned more on nonoperating income, especially from investments. Despite declines in investment income early in the pandemic amid turbulent markets, major nonprofits have benefited financially during the pandemic, giving them access to large pools of cash.

Full-year financial results for 2021 are still being reported, but early signs suggest nonprofits had a banner year mostly due to investment returns.

Soaring net income for nonprofits, along with their increasingly active stance in venture capital (at its core a profit-seeking activity), has raised some eyebrows.

Nonprofits receive generous tax breaks in exchange for providing charity care and other community benefits. Still, there's no federal law stipulating a minimum benefit requirement, which has spurred criticism from lawmakers, market researchers, patient advocates and more that nonprofits aren't doing enough to justify their tax-exempt status.

Some have expressed concern that nonprofits acting increasingly as venture capitalists may clash with the hospitals' most direct mission — to provide patient care, and that altruism may be clashing with financial motivations.

Many nonprofits are sitting on portfolios worth hundreds of millions of dollars or more, but only a small slice of those total investments are principally devoted to nonprofit missions, rather than creating income, according to a KHN analysis of IRS filings.

Those criticisms are somewhat unfair as long as not-for-profit operators are adhering to the tenets of maintaining that nonprofit status, Gundling argued.

Having a VC arm allows hospitals to be more nimble and focused, and expanding and improving the healthcare solutions available in a market could even be seen as improving the health of the community — a key focus for nonprofits — even though not all startups will make it to the finish line, he added.

"We've always counted on hospitals and hospital systems to be developing new clinical practices, new technologies to improve patient care," Gundling said. "It's a different paradigm. When we talk about this venture capital, it's the future, and none of us want to be a patient. So it's really how do you keep us healhy? I don't think we should pigeonhole them that they're not doing their fiduciary responsibility, because they are, though I understand the criticism."

Venture is at its core a risky activity, as investments can remain illiquid for a lengthy amount of time.

According to Correlation Ventures data, 65% of VC investment rounds fail to return their capital, while only 4% return more than 10 times the capital invested. It’s also a long-term bet: VC funds generally invest actively for three to four years before being locked in for about seven to 10, though it can take significantly longer to fully liquidate returns.

Still, investors are attracted by the promise of oversized returns: VC generally delivers returns higher than other investment options, like the stock market or real estate. Hospitals — especially nonprofits — have cash reserves available and their funds say they're generally unconcerned about exit timeline or return.

"We don't invest with a mindset to say that we need to exit from the investment in five years or seven years. I think our goal is really to get the technology to patients," Cleveland Clinic's Saklecha said.

And "it's not too different from the way that personal financial planners tell you — you have your safe investments, and then you get into the stock market and then you kind of build up and have a little bit for innovation," Gundling said. "It's not pie-in-the-sky, but it is riskier."

"It's not pie-in-the-sky, but it is riskier."

Rick Gundling

HFMA SVP of healthcare financial practices

Part of that risk is that startups can fail for myriad reasons. For example, hospitals can subset platforms due to apprehensions about their commercial prospects, or discover the business case for using startups' products isn't a strong as expected. In addition, they may face poor clinician uptake, or become concerned for their budget if a large chunk of cash is tied up in illiquid investments.

North Carolina nonprofit Cone Health disclosed in 2020 it was shutting down a smartphone-based product called Wellsmith, aimed at helping people manage their diabetes, because they didn’t expect it to be profitable in a cluttered digital health market, KHN reported in August. That's despite Wellsmith's promising initial results.

"There's companies where the initial strategy of forming the company and the target market and the opportunity, that didn't end up materializing or the plan changed as the company matured. There's a lot of reasons that companies may not go in that direction or may fail," Saklecha said.

Saklecha gave the example of Renovo Neural, a Cleveland Clinic spinoff founded over a decade ago to fill a gap in the research market for a targeted contract research organization focused on finding novel drug therapy solutions for multiple sclerosis and other neurological diseases.

Renovo was formed to become that CRO, but the market was never a big one, Saklecha said.

"It didn't make sense to continue supporting the company because it would continue to lose money, and ultimately those services could be provided by other vendors in different ways," Saklecha said. Cleveland Clinic ended up selling Renovo's assets to a third party.

It's a vignette of when hospitals acting as venture capitalists goes sour, and illustrates the risks of long-term investing.

But for every Renovo, there's a Centerline Biomedical, a Cleveland Clinic startup that created a surgical navigation tool to maps out the endovascular system, reducing radiation exposure for patients and physicians, Saklecha added.

Centerline's tool is now cleared by the Food and Drug Administration, and is being commercialized and placed in some of the biggest health systems in the U.S., Saklecha said.

"If we were investing in solutions that were widely being adopted today I don't think that those would be the type of companies that would be providing the financial returns that we're looking to underwrite," Warrens noted. "From that aspect, I think it's about finding a blend of those things that you're ready to embrace in certain parts of your organization, with a look or a thought towards wide scaling in the future."

To be sure, venture capital can reap sizeable dividends for early investors. For example, nonprofits including 15-hospital Spectrum Health, Bon Secours Mercy Health, Memorial Hermann Health System and Rush University System saw a significant return in 2020 with Chicago-based fund 7wireVentures when its portfolio company Livongo got acquired by virtual care giant Teladoc in a deal valued at $18.5 billion.

"Healthcare organizations have always moved the ball forward. This is just another way to fund innovation, maybe take it to the market quicker," Gundling said. "This just kind of accelerates that. Not that it won't be without controversy."

Note on data analysis: The analysis includes data from venture subsidiaries of some of the largest nonprofit and for-profit operators in the U.S. provided by market research firm CB Insights. It includes funding data from Ascension Ventures, Providence Ventures, Kaiser Permanente Ventures, UPMC Enterprises, Mayo Clinic Ventures, Cleveland Clinic Ventures, Intermountain Ventures, UnityPoint Ventures, the Heritage Group, Health Insight Capital (HCA's VC) and Jumpstart Nova, a new fund that's co-backed by several health system investors, including HCA, Atrium Health and Henry Ford Health System.

Other major U.S. systems, including CommonSpirit, AdventHealth, Baylor Scott & White, Bon Secours Mercy, Sanford, Avera and Baptist, all invest directly through hospital entities and have no known venture arm. As such, their investments are not included in this analysis.

Ballad Health's Ballad Ventures appears to exist, per a LinkedIn page, but has no known website, and only one employee. It seems to have just launched in 2019.

It's important to note this is not an exhaustive list, but does put some parameters around hospitals activity as venture capitalists, both alone and as a whole.

There some limitations with the data: The round or dollar amount is the entire round's size, and so almost certainly overestimates the total amount of a specific hospital VC's investment in a startup. The analysis uses round size as a proxy for hospital VC investment volume, meaning it's the largest possible amount the fund may have invested in the round.

Additionally, for deals with undisclosed amounts, Healthcare Dive included the deal in annual deal counts but did not change the aggregate dollar amount for a given time period.

CommonSpirit, AdventHealth, Baylor Scott & White, Bon Secours Mercy, Sanford, Avera and Baptist all invest directly through hospital entities and have no known venture arm. As such, their investments are not included in this analysis.

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