GRAND RAPIDS — By creating a $100 million venture capital arm, Spectrum Health joins the ranks of U.S. health systems that invest money in companies developing new ways to treat patients and maintain health.
The Grand Rapids-based health system, which for years has tried to cultivate a national reputation and become a destination for specialized care, launched the initiative as more than 40 other health systems have started directly investing in new medical technologies, products and services that promise to improve patient care.
Spectrum Health Ventures LLC will partner with other health systems and venture capital firms to co-invest in emerging innovations at a time of rapid transformation in health care.
The corporate venture capital arm can position Spectrum Health to access new technology, health analytics and molecular medicine at a time when “science and technology is at one of those critical points,” said Roger Jansen, chief strategy officer at Spectrum Health.
“It allows us to get even further on the cutting edge of where health care is going and where health is going. It moves us from just being a ‘health care company’ to being a ‘health company,’” Jansen said. “If we have an opportunity now to be on the side of health and well-being, not just injury and illness, it opens up a different avenue to taking care of the community.”
Spectrum Health Ventures will pursue investments totaling up to $100 million over the next seven to 10 years in companies commercializing new ideas that improve health care and the health of patients and help drive down costs. The health system committed to the funding but did not actually set aside the money into a separate fund. It instead will allocate money for an investment as deals come through and get approved, Jansen said.
The amount pales in comparison to some of the large health system-backed venture funds in the nation and is “really on the small end,” Jansen said. He notes that Sacramento, Calif.-based Sutter Health has an investment arm of more than $1 billion.
However, the commitment can at least get Spectrum Health into the field, he said.
“In order to play in this space meaningfully, most funds are at least a hundred million,” Jansen said. “The advice we’ve been given and what our experience lends itself to is that you need to show you’re serious about this, that you’re not just dabbling a little bit. (You need to prove) you’re really serious about making an impact as a partner and resource in this space, and to do that you have to have some money behind it.”
ELEVATING THE BRAND
In making a commitment of financial and intellectual capital, Spectrum Health begins to join a league of U.S. health systems that are known for their clinical care and innovation, said Mike LaPenna, principal of the health care strategic consulting firm The LaPenna Group Inc. in Grand Rapids.
“It takes them up to a different level,” LaPenna said.
By getting involved in venture capital investing, Spectrum Health brings to bear a deep bench of clinicians and professionals that can contribute expertise to vet and validate innovations, judge their market potential, and advise companies in which the fund invests, he said.
Hospitals and health systems involved in venture capital investing also offer innovators the clinical settings to test and put innovations to use, LaPenna said.
“The idea is there are lots of people out there with innovations and if a hospital or health system can get in on the ground floor, they have a huge base of pathology and a testing laboratory,” he said. “They can test it across a broad range of services, and it’s a dream for a developer to able to align with somebody like Spectrum. They have all sorts of areas where these things can be proved out.”
The largest health system based in West Michigan, Spectrum Health operates 12 hospitals and 180 ambulatory care locations and employs more than 25,000 people. The organization includes a 1,400-member medical group and the health plan Priority Health. In the 2016 fiscal year that ended last June, the health system had total operating revenue of $5.22 billion with net operating income of $269.7 million.
PUTTING BRAINPOWER TO WORK
Spectrum Health Ventures is among a growing number of about 45 venture capital funds or investing units across the U.S. that are run by health care systems to drive and access innovation, according to Jansen.
Among them is Clayton, Mo.-based Ascension Ventures, whose 13 limited partners include Ascension Health, the parent company of Borgess Health in Kalamazoo, and Livonia-based Trinity Health, which owns Mercy Health in West Michigan. Ascension Ventures has $800 million in capital under management and its limited partners run 86 hospitals in 21 states.
To scout the nation for prospects, Spectrum Health Ventures joined Chicago-based Avia, a network that works with 20 member health systems that collaborate on digital innovations.
Investment arms like Spectrum Health Ventures have long been the domain of the largest health systems in America, such as the Mayo Clinic in Rochester, Minn. and Renton, Wash.-based Providence Health & Services, said Derek Baird, vice president of growth at Avia.
Mid-sized health systems have gotten involved only recently in investing in innovations, whether directly from the operation or by setting up a separate venture capital unit, Baird said.
All of them have similar strategic plans and a need to diversify revenues, as well as a desire to access new technologies for patient care and put their “brain power” to work vetting innovations, Baird said.
“There are lots of reasons this makes sense, whether you’re large or midsized. The need to innovate and change the way they do business is not optional anymore,” he said. “If you want to be on the leading edge and pushing the envelope of these new, emerging areas, having a venture fund is consistent with that and helps support that goal.”
A venture capital arm can give a health system first access to an innovation to use in patient care and offers a way for it to diversify its revenues, said Allan Baumgarten, a Minneapolis, Minn.-based health care consultant. For example, a new product or service that makes it to the market can generate royalties or licensing fees, he said.
LEVERAGING INTERNAL EXPERTISE
If successful, the Grand Rapids-based venture capital fund also could begin to put Spectrum Health’s brand alongside “that upper level of hospital systems that are pursuing traditional strategies and being investors in technology with an eye toward proliferating that technology,” Baumgarten said.
“There is an element of prestige to being associated with that kind of innovation and to be able to bring it to the market with your brand associated with it,” he said. “It creates the possibility that Spectrum will enhance its presence or expand its presence well beyond West Michigan.”
The obvious downside: A investment can become a money loser if the innovation doesn’t work out, Baird said.
“It is venture investing, after all,” he said.
However, because of the expertise health systems bring to the table, they do have the ability to mitigate the risk and analyze a prospective investment perhaps better than traditional venture capital funds, according to Baird.
“I think health systems in many ways are better positioned. Unlike others, they know how provider organizations think. They know what’s going to get nurses, physicians and administrators excited, and they know what the challenges are within their health systems. By extension, they probably have a pretty good idea what the challenges are across the country,” he said. “The premise is, ‘Hey, we know what we and other health systems need better than those guys out in Silicon Valley, so why shouldn’t we be in venture investing?’”
Becoming involved in investing in health care companies represents a natural next step for academic and research-based health systems such as Spectrum Health, Baird said.
Since the 1997 merger that created the health system, Spectrum Health has built a sizeable clinical, research and academic base in West Michigan. The health system also developed an innovation arm, Spectrum Health Innovations, that works to vet and commercialize ideas from its clinical staff and prospective local entrepreneurs.
The innovation business unit gives Spectrum Health the experience in working with innovators and young companies that’s needed to enter venture capital investing, Baird said.
“This isn’t the first time they’re going to be bringing in early-stage, outside companies to work with the health system,” he said. “For Spectrum’s profile, the thinking behind it wasn’t surprising. It all made sense.”
‘GUARDRAILS CERTAINLY STILL EXIST’
Key to health systems operating an investment arm is for them to “acknowledge there are going to be failures. Not every project is going to be a success,” Baird said. They also need to take care that the risk that goes with venture capital investing doesn’t bleed into their risk-averse clinical operations, and that innovations are fully vetted before getting tested in a patient setting.
“Those guardrails certainly still exist, and for obvious reasons that are very, very important,” Baird said.
Spectrum Health Ventures plans to invest up to $2 million per deal, and perhaps more with follow-on investments, Jansen said.
It will focus on five “big” areas, Jansen said: artificial intelligence and cognitive computing to understand disease and how to prevent it; behavioral health and well-being; genomics and personalized medicine; digital innovations for consumers; and population and health analytics.
“We’re thinking that with all of the dynamic nature of health care right now, it’s really important to be on the front cutting edge of some of the new technologies and therapies and interventions that are going on,” he said. “One of the ways to do that is to start looking at who you partner and invest with around those things. You have so many entrepreneurs in non-traditional companies entering (health care), it’s creating a revolution of care in how we think about not just ‘sick care’ but really the wellness and health side and how do we capitalize on that.”
FILLING A ‘DESPERATE’ NEED
One West Michigan medical innovator praised the formation of Spectrum Health Ventures as an investor in the medical device industry.
Dr. Tim Fischell, a serial entrepreneur, CEO of Kalamazoo-based Ablative Solutions Inc. and a member of an inventive family that holds more than 200 patents for medical devices, said the number of venture capital groups investing in health care has “diminished over the last decade.” That has “created a definite seller’s market if you’re a VC” and made it harder for startup companies in health care to secure funding.
Fischell describes a “desperate” need for capital in health care innovations, especially for medical devices.
“There is a real need, if not a vacuum, if you will, for medical technology investors and capital,” he said. “So if you’re a startup today, it can be very challenging because of the lack of capital. There’s still quite a bit of demand, but the supply is quite limited.”
Ablative Solutions developed a catheter system for what’s called renal denervation to treat uncontrollable hypertension. The company is seeking to raise another $5 million to $6 million as part of a $20 million round to support a third U.S. clinical trial. Fischell has had difficulty raising the money, despite the participation of two major strategic partners in the company.
“It’s been very frustrating to me,” he said. “It’s been very tough.”
Research from Pitchbook.com shows investments in the U.S. life sciences sector, as a percentage of overall VC activity, steadily declined from about 22 percent of all deals in 2009 to about 11 percent of all deals in 2015. It edged upward to 12.5 percent in 2016.
The amount invested in the sector fluctuated during the period, from a high of nearly $17 billion to a floor of $10 billion in 2014, according to Pitchbook. In 2016, venture capital investors put just less than $12 million into life sciences firms.
STILL EARLY DAYS
According to Jansen, Spectrum Health Ventures remains in the “very early” stages of its formation. Spectrum Health filed state paperwork to create the Spectrum Health Ventures entity just before Christmas. Work now continues in determining how best to prospect for deals, manage deal flow and develop metrics for grading potential investments, he said.
Spectrum Health Ventures does not have a timeline for making its first investment, or a specific goal for the number of investments annually, although Jansen expects two to four deals per year. The fund already has looked at prospective deals “that have just been opportunistic and have come in,” he said.
The venture capital fund hired Scott McLean, a CPA and one-time CFO, to manage its investments.
Spectrum Health Ventures will make investments as a Series A or Series B investor and generally won’t lead deals. Investments will go to companies generating initial revenue of $2 million to $10 million, McLean said.
The fund also will consider investing in companies that are more mature, but that are still supporting the health system and could use the cash and the partnership to improve their efficiency or to scale the business, he said.
“It’s more of a private equity approach than a venture capital approach with those types of investments,” McLean said.
The rise of corporate VCs: Spectrum Health Ventures is one of four corporate VC funds based in Michigan. The others are The Dow Chemical Co.’s $100 million Dow Venture Capital in Midland; General Motors Ventures; and Battle Creek-based Kellogg Co.’s 1894 Capital that formed last summer and will invest up to $100 million in new ingredients, foods, packaging, and technologies.
Corporate-backed funds have been one of the fastest-growing areas of venture capital nationally, said Maureen Miller Brosnan, executive director of the Michigan Venture Capital Association.
Across the U.S. in 2016, corporate VC funds put $30.3 billion into 1,069 deals, according to Pitchbook.com. That represents a decline from the $31.2 billion across 1,268 deals in 2015 after four straight years of growth, although the 2016 total still well exceeds any other year going back to 2006.
The corporate venture capital funds generally have a specialized focus and target innovations for commercialization within their particular industry to drive product development and business growth, Miller Brosnan said.
“They work really hard at attracting ideas from within their own corporate community, and a lot of them now are stretching and reaching outside of their corporate boundaries to attract ideas,” she said. “It provides great opportunity for some startups.”