Venture Capital in Healthcare: Changes and Projections for 2024
By Bryan Smith and Seth Edwards
“The logic of valuation is the logic of stewardship and obligation, giving back more than you take, working for future generations, and not confusing outcomes with efforts.”? Mihir Desai in “The Wisdom of Finance,” 2017
Despite the Federal Reserve's commencement of interest rate hikes in March 2022, the healthcare sector continues to feel the impact of years of “cheap money” and rise of venture capital (VC) backed companies. Analysts expect many trends observed in 2023 to continue in 2024.
The value of U.S. VC deals across all industries continued to fall in 2023 with the shift being attributed to declining deal sizes (and valuations) as compared to a lower number of completed deals.[1]?Simultaneously, the number of Initial Public Offerings (IPO) has fallen 85 percent from its 2021 highs of 1,035 to just 154 in 2023.[2]
The combination of higher interest rates and less successful IPOs will slow momentum for funding new start-ups. This scenario may also lead to heightened anxiety among ventures that have yet to turn a profit, as concerns mount amid fears of dwindling funding sources or requiring more favorable terms.
Factors Facing Healthcare
The broad healthcare and life sciences sector faces their own set of challenges. While VC firms have identified markets around an aging population, there are political and economic headwinds that make exploiting this opportunity difficult. The Biden administration’s decision to negotiate drug prices combined with the Bayh-Dole Act of 2023 (which lets price become a factor in deciding how much authority the government has) will likely limit the perceived maximum upside in new drugs.
In addition, the interest in backing artificial intelligence (AI) exploded in 2023 (AI companies received $1 of every $3 invested) [3] and likely drawing funding away from other sectors.?
Areas of Focus for VC Funding
This complex economic environment helps explain some of the activity in three of the most dynamic parts of the market. In addition to heavy interest by VC, these three segments are all being fueled by another common factor – the movement toward value-based care.? The areas are:
·?????? Health Insurance
·?????? Physician Enablers / Aggregators
·?????? Health Tech
Health Insurance
Medicare Advantage (MA) has been available for decades, but the 2010 Affordable Care Act accelerated the program’s growth and helped turn it into one of the hottest areas in healthcare.[4]
This growth spurred interest of private equity investments leading to multiple companies going public in 2021. Several of these emerging companies have not achieved profitability, exemplified by Clover’s noteworthy loss of $82M in the Medicare REACH program before withdrawing. [5]
The MA bubble, fueled by the rapid growth, high margins and valuations appears to be bursting. As John Gorman (previously one of the foremost key executives at the Centers for Medicare & Medicaid Services (CMS) responsible for developing the Managed Medicare program) recently concluded, “Strap on your crash helmets friends. The Gold Rush days of MA are over.” [6]
With the market tightening, decreased outlook, and greater scrutiny of other private equity and insurance arrangements,[7] poorly performing MA plans will have a tougher time accessing capital than they did historically. While larger, successful plans may have the capital to purchase these companies, it may be less expensive to court the beneficiaries that are dropped by the plans. ??
Physician Enablement / Aggregators
There has been profound growth in VC ownership of physician practices, and staffing companies, with a subset labeling themselves “Physician Enablement” (some of which are simply Aggregators) companies. Many of the recent VC backed MA plans in the last section also call themselves Enablement organizations and for the purposes of this conversation, we define this category as those VCs that are making the bulk of their revenue from physician operations and performance on third-party value-based care contracts.?
In Premier’s experience, this segment represents some of the best and the worst of the industry.? The authors of this blog have been a minority owner of a Management Services Organization (MSO) and spent years developing physician-owned health plans. There is undoubtedly value in helping restore physicians at the core of medical decision making. Some VC firms have become adept at this and are working to bend the cost curve.
At the same time there are opportunistic organizations that appear to be using national data sources to cherry pick providers to maximize profits and are adding little value. While most physicians and health systems are tied to a local community, these organizations are free to seek out only the most attractive markets. Some companies look to exploit opportunities in value-based care models compared with a focus on advancing the care of beneficiaries. The authors of this blog have no qualms with organizations receiving revenue from CMS / taxpayers by enhancing the quality and effectiveness of care. Likewise, we believe that changes in the Medicare Shared Savings Program (MSSP) regulations have created an uneven playing field for accountable care organizations (ACOs) that include specialty care physicians and some amount of curation may be necessary. But organizations that are attempting to pull the top performers out of the local ACO without regard to the remaining providers ultimately are working against the goals of population health.
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Health Tech
Unsurprisingly, in a recent survey of deal makers, 52 percent expected Health Tech to show “some” or “significant” growth.[8] At the same time, there is a sentiment that too many digital health companies have been created and many will not receive the funding needed to move forward. Even companies that have made the jump to publicly traded are not immune, with 17 percent of the digital health companies listed on the NYSE or NASDAQ trading below $1 per share for over 30 days at the end of 2023; creating a risk of delisting.[9]?
Over the last few years, Premier has been especially impressed with some of the digital health companies being developed by large Health System Owned Venture Capital Funds such as Northwell Holdings and University Hospitals Ventures (Cleveland). Premier’s Strategic Collaboratives regularly introduce innovative technologies and companies to engage in discussions with members and some of the companies sponsored by these organizations have been among the best received.
Planning Ahead
Despite the decreasing VC spending in 2023, impacts from previous years are still being felt in the healthcare industry. The year 2024 is likely to hold more of the same, especially as these young companies must compete for shrinking pools of funding. Look for consolidation in the MA space (with big plans becoming bigger), more aggressive posturing by the Physician Aggregators (at least those that are not yet profitable) and the emergence of new technology, especially AI enabled. Of course, if the Fed begins lowering interest rates, it may be back to the races.
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[1] “Venture Monitor Q4 2023” published by Pitchbook and NVCA? https://files.pitchbook.com/website/files/pdf/Q4_2023_PitchBook-NVCA_Venture_Monitor.pdf.
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[2] Accessed on Statista, https://www.statista.com/statistics/270290/number-of-ipos-in-the-us-since-1999/#:~:text=In%202021%2C%20there%20were%201%2C035,it%20mean%20to%20go%20public%3F.
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[3] Venture Motion.
[4] “The History of Medicare Advantage: From Inception to Growing Popularity” by Victoria Bailey at Health Payer Intelligence https://healthpayerintelligence.com/features/the-history-of-medicare-advantage-from-inception-to-growing-popularity#:~:text=Part%20B%20services.-,Enrollment%20trends,receiving%20more%20than%203.5%20stars.
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[5] “Clover Health exits ACO Reach” by Rebeca Pifer at Healthcare Dive 12/6/23 https://www.healthcaredive.com/news/clover-exits-aco-reach-medicare/701484/#:~:text=But%20now%2C%20the%2010%2Dyear,and%20%2451.7%20million%20in%202022.
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[7] “A ‘Shadow’ Lending Market in the U.S., Funded by Insurance Premiums” by Maureen Farrell in the New York Times, 10/4/2023 https://www.nytimes.com/2023/10/04/business/private-equity-insurance.html.
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[8] “State of Venture Capital, Private Equity and M&A 2023” by Axios https://www.axios.com/pro/reports
[9] “2023 year-end digital health funding: Brek on through to the other side” by Madelyn Knowles and Mihir Somaiya at Rockhealth.com https://rockhealth.com/insights/2023-year-end-digital-health-funding/#:~:text=Overall%2C%202023%20digital%20health%20venture,t%20tell%20the%20whole%20story.
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