As digital health funding slows, startups need to get back to basics — taking a disciplined stance on operations, focusing on unit economics and keeping an eye toward profitability without making getting into the black their first priority, according to venture capitalists.
Securing funding is expected to only become more challenging in the next few quarters, making business execution paramount for startups. As a result, some of the top VCs in digital health are advising their portfolios to be more conservative, they said at the HLTH conference in Las Vegas this week.
“You’re coming out of this market where there was essentially free money,” and how much startups received didn’t necessarily match their value, Oak HC/FT co-founder Andrew Adams said on a Monday panel. Now, startups need to revisit their core mission in order to stay solvent.
“What you should do with your precious cash resources and time in the day is really refocus on those efforts and reprioritize” on foundational priorities like a product roadmap, Adams said.
U.S. digital health funding reached a record high of almost $30 billion in 2021, as the pandemic proved the value proposition of remotely delivered care, addressing the mental health crisis, adoption of real-world evidence and more.
But that tsunami began to slow in 2022, and dollars to digital health startups are shrinking. Valuations have taken a sizable hit this year, and it’s unlikely that market volatility will let up, experts said.
It’s important to lean towards profitability, as the operating environment is only going to get worse, according to Krishna Yeshwant, a general partner at Alphabet venture arm GV. As a result, startups might not be able to get more funding if they need it and, given 2023 and 2024 will also likely be a challenging environment, may have to stretch cash until 2025.
If companies are thinking about raising funds in 2023, “we’re advising them to raise even sooner, because I think things will look worse in  than they do now,” Yeshwant said on a Monday panel, noting many digital health startups don’t even have a plan for eventual profitability. “We’re kind of in a moment where the environment just won’t tolerate that anymore.”
“There’s a shift in terms of where the focus is. I’d say the mood has changed a little bit from grow at all costs, even if you’re burning a lot of money, to be careful — you have to run your business in a very cash-efficient way,” Jacob Effron, a principal at RedPoint Ventures, told Healthcare Dive in an interview.
Founders might have to be willing to do things they wouldn’t have done last year, like accept VC terms that aren’t as generous or cut employees, as they recalibrate to play the long game, said Michael Yang, managing partner of Omers Ventures, on a Tuesday panel.
“It’s ‘Survivor’ at this point,” Yang said. “We’ve guided our portfolio, like, ‘Batten down. Buckle up’.”
Investors said they worry that if companies don’t take a disciplined approach to building their business now, they could run out of money or lose out on strategic opportunities down the road.
But “it’s OK to suck it up for longer-term value,” said Threshold managing partner Emily Melton, arguing startups with a unique business model that gives them leverage in the market should still be able to grow, even during a funding drought. “Scarcity drives innovation.”
VCs agreed that the explosion of funding during the COVID-19 pandemic was good, but the ongoing market correction is good, too. As a result of more due diligence on the part of warier investors, the market will have more certainty about surviving business models.
And companies are still getting deals, explained Missy Krasner, venture chair at Redesign Health. “You just need to be a company that has a great business model and strong unit economics,” Krasner said. Unit economics are a measure of a business' revenue and costs associated with an individual unit, which helps businesses analyze the profitability of their fundamental operating model.
People are “no longer just investing on team and a concept,” Krasner said.
Startups need to ensure their unit economics and clinical outcomes are aligned in order to grow responsibly, though it’s more important to have provable clinical outcomes, investors said.
The best startups will also be able to show they save money for the system, though that can be hard to do when a company is young and being judged on revenue growth, according to Transcarent CEO Glen Tullman, who founded Livongo.
Businesses with that balance of outcomes and growth potential are in areas with suboptimal care and expense today, like palliative care, virtual primary care, mental health and women’s health, according to investors. VCs said they were also interested in startups reinventing insurance, health benefits communication and platforms coordinating care between clinicians and patients.
“Fundamentally, all the trends that got us excited about digital health in 2021, none of them have gone away,” Effron said. “The kind of opportunities that are out there are all still there.”
Overall, a potential recession would result in fewer digital health startups in 2023. But though survival of the fittest might not bode well for founders with a bad business model, it’s great for healthcare innovation as a whole, investors said.
“I’d much rather operate in this environment where you’re looking at fewer things but the bar is better, the mindset is better,” Yang said. “We’re not in la la land.”