The funding landscape for startups has changed this year. Here's what that means for digital health companies

By now you’ve probably seen the headlines about how challenging things have been for tech startups these days; venture capital deals have declined sharply and the ripple effect has been felt across the industry.

But is the same thing happening in digital health?

Well, yes and no.

The healthcare industry has been slower to digitize than other sectors – which means there’s still plenty of unmet need. And those needs have never been more urgent: whether it’s to address the clinician shortage, cut costs or solve workflow challenges.?

“All the trends that got us excited about healthcare are still there,” said Jacob Effron , principal at Redpoint , who noted that the venture capital firm is still active in the healthcare space. “Thematically, we’re focused on very similar areas.”

The numbers bear this out. To the extent that investments have slowed down, it’s only because 2021 was a year like no other for digital health startups. Last year saw 736 digital health deals, a 53% increase over 2020, according to Rock Health , an advisory firm that tracks the industry. Deal value, meanwhile, nearly doubled year-over-year, to an unprecedented $29.2 billion.

This year, meanwhile, is on track to look more like 2020 – which was still a banner year in a decade of explosive growth for the digital health sector.?

But that doesn’t mean the landscape is the same as last year.?

What’s changed is less about the numbers, but who’s getting funded. Amid last year’s ebullience, startups rushed to raise capital, and now anyone who can afford to wait is sitting tight. Only six companies, representing fewer than 5% of deals tracked, raised a Series C round or later in the third quarter of this year, Rock Health found.

Every VC investor I interviewed over the last few weeks underlined the same point: there’s still plenty of activity – but it’s primarily for early-stage startups.

“These later-stage companies, no one knows how to value them,” Effron said. “It’s not entirely clear what these companies are worth.”

Moreover, VC firms are looking for strong balance sheets — startups that are already profitable instead of those in high-growth mode, said Al Sambar , general partner at XRC Ventures .

I met Sambar in the exhibit hall at HLTH USA this year, where he had his eye on at least a couple of promising startups. While XRC invests mostly in the retail and consumer space, its fastest growing vertical is focused on the consumerization of healthcare. One of its portfolio companies, for example, is Stabl , which provides digital tools for people recovering from surgery at home. (Stabl had just won one of the conference’s startup pitch competitions.)

“It’s a buyer’s market,” Sambar said. “If you have capital to invest, the valuations are in your favor.”

So what are VC firms investing in this year?

According to Rock Health, companies focused on nonclinical workflows raised the largest amount of money in the first three quarters of 2022 – a notable change from last year? – followed by on-demand healthcare and research & development. The top clinical areas being funded were mental health (once again), oncology and cardiology.

But every VC investor has their own focus area.?

For Morgan Cheatham , vice president at Bessemer Venture Partners , it’s companies that create community for doctors that get him excited, he said.?

For Effron, meanwhile, it’s companies that can help contain rising healthcare costs or address the quality gap.

“People paint the entire sector as under pressure,” Sambar told me. It’s not.”