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Want VCs to Show You the Money? Show Them the Market First


After helping fund hundreds of early-stage companies in a variety of fields, financing expert Ron Peterson is setting his sights on the life sciences. The president of investment banking firm Three Arrows Capital and the author of the book, When Venture Capitalists Say ‘No’ — Creative Financing Strategies & Resources, Peterson has had a career encompassing 30 years of Wall Street experience with firms such as Merrill Lynch and Paine Webber, a stint as a Department of Defense budget analyst, and a five-year gig as a radio talk show host. Bitten by the biology bug, Peterson said he’s currently taking biotechnology courses at the University of Maryland and is studying clinical pharmacology and clinical trials at the National Institutes of Health. Peterson is also keeping an eye on the bioinformatics sector, and recently facilitated a discussion for NIH’s internal Biomedical Computing Interest Group on the topic of funding new companies based on biomedical computing assets. BioInform caught up with Peterson last week to discuss financing options for bioinformatics startups.

How would you describe the investment climate for bioinformatics startups right now?

It’s not quite so much the climate for investment as much as the companies that are changing. That is, they’ve found that they need a very different message than they did before, and with that, the companies that you’re seeing are much more interesting and much more investable than they would be otherwise. Everything runs in cycles, so you get the hype associated with bioinformatics, and then nothing proceeds as smoothly or as quickly as you’d think, so a lot of the air goes out of the bubble. Some of the things that people put money in, now they’re thinking, ‘Well, instead of putting more money into this thing to try and keep it floating, we might just as well say goodbye to it.’ But I believe that companies are learning from this exercise, and what we’re seeing is a whole generation of firms that are coming with much better-developed business models than they had before.

The lesson is this, especially because a lot of things are coming out of the lab: Unless you’ve done your homework — as far as actually seeing that there’s a market — people don’t want to talk to you. Of course, with the scientific community, there’s a huge amount of hubris to deal with, so on that basis alone, a lot of the air had to go out of the bubble before reality could creep back in. But on that basis, you’re seeing bioinformatics companies come with models where they’ve already got a contract or two, or have done a really good marketing survey or study, or they’ve got signed letters of interest, and all the other mechanical elements that lead to a more investable proposition than they ever had before. So it’s not really a bad climate.

So early-stage companies in this sector shouldn’t focus so much on the technology, but on proving that there’s a market for it?

Yes, in fact, I think the biggest enemy of technology has been PowerPoint. You go to these briefings, and what happens? These guys are so intent on educating everybody about the elegance of their technology, and the truth is, the average venture capitalist will give you the benefit of the doubt that it will actually work, because if they’re at the point where they may put money into this, they’re going to get vetted up the gazoo anyway. So what an entrepreneur needs to do is convince somebody that there’s a market for it out there. With that in mind, the world starts opening up.

Do you see there being a large enough market for bioinformatics technologies right now?

Yes, but they just have to illustrate how they’re going to work, and be able to put some muscle behind it.

Some of the smaller bioinformatics companies I’ve spoken to who are developing specialty software for niche markets tell me they aren’t even looking for VC funding.

I think that’s very smart because the whole model of getting financing from VCs is a horrible model. All these people out there with business models that rest on incorporating venture capital money — it’s just ridiculous because it’s so hard to get. Instead, I think if these same companies put an effort into generating revenue and proving out their models in different ways, they would be way ahead. So I wouldn’t be surprised if they’re shying away from venture capital money anyway because they know they can’t get it, but that’s okay. It probably means they’re far more mature and better able to make decisions, so I would take that as a healthy thing.

I think if you interviewed the average graduate student about how they would form a biotech company today, they would say, ‘Well, you draw up a business plan and go to a venture capitalist,’ and to me, that’s more of a recipe for failure than for success. This is really not necessarily the community to rely on at all for money. It can be very expensive money from venture capitalists.

What alternatives do you recommend to seeking VC funding?

I’m into studying stuff that worked in the past. So models, for instance, in bioinformatics where you may have developed a particular application in response to a client’s need. That makes sense to me because you’re really proving out something and you’re showing that there’s a client right off the bat for it. If you’re going out looking for professional funding, and you’re able to show that this thing has currency in the market, you’re just so much further ahead than those folks who say, ‘Gee, I know this is wonderful.’ The world is filled with good ideas. And that’s nice, but what we need are effective businesses.

What about finding industry partners who may be willing to make an equity investment?

I’d do that in a second — I’d go with an industry partner as quickly as I possibly could. Typically, you’re going to get treated a lot better [than with a venture capitalist]. And it’s not a universal, but more often than not, these are the people who may not be as much interested in what portion of the company they’re getting for their money as they are in what your technology can do for them — how can you leverage their business model? And that takes a lot more understanding on the part of an entrepreneur seeking cash, but that’s also the reason that I think maybe more investment bankers and the rest [of the investment community] are specializing a bit more now.

Perhaps the economy is playing a role in that as well. Don’t investors have to be more informed now than they were a few years ago?

It’s interesting to take a look at the statistics during the heyday of the Internet, when you still found that the vast proportion of companies that sought capital didn’t get it. It’s reasonable to think that you just passed by someplace and they’d throw money out the window at you. But if you look at the time period, it was still the case that venture capitalists saw so many business plans, and they might fund two out of a thousand or something like that.

I don’t know if you see this in other technology startup areas, but one challenge for bioinformatics companies is that there are so many tools available in the public domain that they have a hard time proving the value of a commercial solution. What do you recommend for startups that find themselves in this situation?

It doesn’t seem that crippling because one of the oldest maxims around is you get what you pay for. A lot of times what you see is that freeware may not do that job that you need to get done. I wouldn’t be that worried, but it’s amazing to me how often you’ll see an entrepreneur who hasn’t really studied the market very well to see what’s out there. To me, it’s scary to think that a person would go out and risk money — and especially risk an investor’s money — and not have done their homework about what could compete out there. To me, that’s inexcusable.

There’s a wonderful fact that I wish every nascent company was familiar with, and that was a study at the MIT Sloan school a number of years ago that illustrated that if there was any one feature that kept coming up about the difference between a successful company and an unsuccessful company, it was that by the number-three hire or so, they had a good marketing person. And I think that too many out of the research community don’t understand marketing, don’t trust marketers, and I think that’s really dumb.

So, what advice would you give a bioinformatics entrepreneur who came to your door right now?

‘Let’s take a look at your business model but, really, who are your clients or who can be your clients? What have you really got? I’m sure the thing does the fandango on skates, but I’m not the element that you need to convince. Instead, the world is very interested in your proving this thing out.’ But I don’t think that’s different for any other industry. It’s the same story. If you want to risk people’s money, have something where you’ve largely wrung as much of the risk out of it as you possibly can, and you do that by incorporating very good and intelligent marketing.

I hope that we see a lot more companies coming along. If they’re bioinformatics companies, that’s terrific, although I’ve seen a number of companies change what they call themselves because they would find that funding was a little bit different if people’s perception was a little modified. But if you can make a reasonable case for a market and revenues, I wouldn’t say, ‘I’m a bioinformatics company,’ or ‘I have a platform for more efficient and cheaper drug discovery’, or ‘I have a platform related to proteomics or glycomics or lipidomics,’ or any of those things. I would focus myself so much on showing a solution to a problem that I wouldn’t care what anybody called me.

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