Every venture firm’s looking for many multiples when it comes to returns – but in reality, they expect things to shake out a little differently. Seth DeGroot, a managing partner at boutique Minneapolis investment firm Brightstone Venture Capital, spoke on what the firm’s expectations in potential investment targets – and how startups can avoid pesky problems like, say, overinflated valuations.
The firm has $25 million under management in its current fund, and has deployed about 40 percent of that capital. The firm tends to invest about $250,000 on the low end, and $1 million on the high end – with up to $2.5 million into any one deal. The 25-year-old firm’s focus is in tech, energy and medtech – and of the eight deals its entered in this current fund, medtech startups account for three. It’s looking, in particular, at precision medicine, regenerative medicine, telemedicine and healthIT.
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Startup advice
Brightstone looks at life sciences companies that aren’t in the earliest of stages – they need to be out of the R&D phase, and preferably in the market – with revenue. It tries to avoid a lot of the inherent risk of whether or not a company will achieve FDA approval. The firm’s ideally targeting an exit within two to five years.
“Our sweet spot is right when a company is coming out of R&D and is marketing a product,” DeGroot said. “We usually participate in that first institutional Series A – a $5 million to $10 million range with a syndicate is where we like to play.”
Also, it’s sort of a 50-50 intermix of startups approaching Brightstone and vice versa.
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“We see a lot of startups coming in here who are too early stage for venture capital,” he said.
Rather than approaching VCs directly, startups really need to bootstrap and chase angels first – otherwise their valuations will get outsized, and they’ll never deliver. But a warning: In healthcare and the life sciences, there’s a trend toward overpricing some of these early rounds.
“We have companies coming in here that are pre-revenue, and pre-FDA approval – and they’re saying they’ve got a $60 million valuation,” he said. “What causes this: They’re raising angel rounds with unsophisticated investors that are valuation insensitive.”
So by the time they’re ready for an exit, they’ve got to sell at $600 million to bring any real value to the investors. And that’s rare.
On venture returns
“We’re looking for 10X wins across the board,” DeGroot said.
Realistically speaking, however, neither Brightstone nor any venture investor actually expects a portfolio company to perform so powerfully. Ideally, firms are looking for a 30 to 50 percent return to its limited partners.
If say, six companies are in a portfolio, the shakeout tends to be: Two have great teams, and don’t really need much involvement from the venture side “to go straight to the moon,” DeGroot said.
Two of these may be just utter flops – “no matter what we do to help, there’s no turning those deals,” DeGroot said. “Companies fail. That happens.”
There’s a mid-tier of startups, however, that just need direction, advice and investors to make the right connections for them. These are the startups that can gain the most value from a strong relationship with the venture team, DeGroot said.
On Minnesota
“I think we’re in one of the best healthcare sectors in the entire country,” DeGroot said.
With Mayo Clinic and University of Minnesota, there is good research that catalyzes a robust startup scene – which in turn serve as feeder stocks for the behemoths like Medtronic, St. Jude’s and Boston Scientific.
“Those three companies represent great strategics – and potential acquirers,” he said.
MiroMatrix
When it comes to a company like MiroMatrix, for instance, the firm’s approach could go in a lot of directions. MiroMatrix is working on building lab-created organs with organ scaffolding technology that can be transplanted into the body. It’s also doing work in hernia and wound care. Brightstone is one of many investors in Miromatrix, and it holds a lot of stock in the Minnesota startup’s promise.
“They have a lot of hype around what they could be, and a lot of meat on the bones of what they actually are,” DeGroot said.
They might make a good IPO, he said. But the “holy grail organ transplant market is just sitting out there,” as well as individuated interest in wound care and hernia mesh products – so there’s chance for M&A, selling off the startup piecemeal, for companies that might want a portion of MiroMatrix.