Sitting in a pitch-black room at Stanford, post-doc Chris Contag and I stared at a Petri dish streaked with the genetically transformed bacteria that his wife Pam engineered. Slowly, our eyes adapted to the darkness, and we began to see the faint colonies of glowing green bacteria.
At that instant, I knew we could change biomedical imaging by noninvasively sensing small populations of these genetically labeled cells in the bodies of living animals. Later, as the full implications of this event became clear, I remained awake well into the night.
Shortly thereafter, the Contags suggested we had something that could really pull in grants. “No,” I countered. “What we have is a really good company.”
And with that, Xenogen was born, eventually reaching a $112-million valuation at public offering in 2004, followed by acquisition by Caliper in 2006. Xenogen, with its proprietary ability to noninvasively track infection, cancer, and stem cells down to just a few hundred cells (when millions of cells was the norm), remains the standout leader in optical molecular imaging over a decade later.
So, what made this a biophotonics company and not just a series of grants?
Identify the Market
The first step to a successful entrepreneurial business is to identify your product-specific market. This determines who the customers are, how to build a sales team, and how large the return on investment may ultimately be. You can’t just say, “We address cancer.” Such top-down methods grossly overestimate how your product will be used. Rather, you say, “We address the diagnosis of prostate cancer, for which there are X tests per year costing $.”
If you address a new market, you need to consider how you will induce demand when demand is now zero. Is your idea a one-trick pony, or can it serve as a platform for a series of products, services, or licenses that would support a growing company?
Failing to reach clarity on this issue is the single most common error in business plans from inventors, especially when they try to value their own invention. The specific market is the key. It defines the potential business value—and creates the story line for investment in your business.
For Xenogen, our discovery was directed at a large and growing market, lead selection in drug discovery, which allowed Xenogen to attract the multiple financing rounds required to launch the product.
For FirstScan, my newest company, we started with the market. We first looked only where billion-dollar markets and significant market growth were expected: oncology, women’s health, and age-related illnesses. We next identified an unmet need for the early detection and screening of breast cancer, a product-specific market we estimated at $10 billion per year. Last, we estimated the cost to bring a device to market: $5 million to develop, $20 million to clinically test, and $75 million to launch, leaving a reasonable risk-adjusted return and clear milestones for reducing risk and increasing value at each stage.
Technology Comes Next
Only then did we look for the right technology.
We selected optical spectroscopy with tissue component characterization (fat, water, heme, wavelength shift, and other markers) as being the most robust and closest to clinical use. We identified who had existing technology rights and in-licensed these rights from the University of California, N.I.T., the University of Pennsylvania, and others, collecting over 70 patents directed toward this device and market. With these basics, including a path to exit, we raised the first $5 million privately to build the first commercial prototype and take this to trial.
There are many reasons why technology alone has little initial business value for potential strategic partners or investors. A half dozen or so similar inventions are probably at the same benchtop stage, with little to distinguish them except the inventors’ claims. Inventors are always touting their technology, and the story is always the same: They need a few million dollars to prove their technology, and for this, the inventors will offer certain limited rights.
A technology-only story does little to convince investors or partners to commit to your one particular flavor of invention. Investors worry about betting on the wrong horse or if the problem will be better served using an unrelated technology. In fact, most corporations receive strong financial disincentives for such R&D activities from Wall Street, which rewards them only for sales growth in the prior fiscal quarter, not R&D.
This is not to say that technology has little or no business value. Indeed, proprietary technology that serves a need more effectively or cheaply than others has high commercial value to any company in the field. Controlling that gateway technology protects your company’s market and raises your value during acquisition or public offering.
Find a Mentor
A company, unlike a leading academic laboratory, is no longer about you, the inventor, and your amazing idea. Rather, it changes and matures to focus instead on a reasonably maximized return on the capital received from investors to begin and run the company, which is a market-driven story, not a technology- or inventor-driven story. Managing a company at this stage requires different skills than inventing. It requires fluency in financial terms and deal structures; comfort with the objective metrics that will evaluate your start-up effort; and the ability to manage investor expectations.
Those skills can and do exist at times in one entrepreneur. But if you don’t have sufficient knowledge or the experience for taking a company from funding to exit, you will most likely fail to attract the right people and the capital you need to start the business. Remember, marketing costs dwarf technology development costs. You will need someone who can raise and manage all aspects of a growing business.
The time to start looking for a business-trained partner is before you begin to raise money. Preferably, find a partner who has business experience in your market and someone who will mentor you.
We followed this approach at Xenogen. I was already a physician and inventor and had trained in optical biophysics with Britton Chance at the University of Pennsylvania by the time we glimpsed that glowing bacteria. Similarly, Pamela Contag was a microbiologist, with experience in market and opportunity valuations, and she had independently conceived of the same idea.
Tell Your Story
What we needed now was to better understand the business and to communicate effectively to the venture capital community that an investment with us would be properly managed.
At Xenogen, Pam Contag recruited as co-CEO David Carter, an experienced pharmaceutical executive. What David does best is tell stories, and in many respects, building a business (raising capital, closing deals, talking to strategic partners, and executing public offerings) is all about telling a good story.
The bottom line for entrepreneurs is that it is not about how smart you are, or how well you can describe the technology. Rather, it is about having the right skill set and the right vocabulary.
Entrepreneurs think projects and deep knowledge are exciting, while management eschews distractions and seeks simple, sound-bite clarity. If you don’t think you could tell the same story, day after day, with the same enthusiasm, or look investment bankers in the eye and tell them “We expect the company to continue to outperform the sector for the foreseeable future” with enthusiasm and mean it, then you need a good businessperson at the top.
Investors will buy into a good business story if it has a clear business proposition and excitement regarding the technology. Nevertheless, expect to kiss a lot of frogs before you find your prince. Spectros gave more than 100 presentations and brought in several trial CEOs before securing its first funding.
Focus, Focus, Focus
With the right technology, people, and market understanding in hand, now you can focus on exactly what your product or business will be.
To be adequately focused, you must be able to describe your product and market in a sentence. Some examples: “FirstScan is a women’s health company focused on early molecular screening for breast cancer, allowing for improved survival and reduced treatment toxicity.” Or, “Spectros is a molecular detection company focused on the real-time detection of ischemia, the final common pathway for nearly all organ failure and death in the hospital.”
Use your core mission as a sword (or mantra) to cut through anything that is off topic or tangential. Everyone should start the day knowing exactly what the top priority is. Listen carefully to what comes your way and turn down more opportunities than you accept.
It’s important to show you can be reasonably successful with your first product, but have a backup plan. Few successful medical device companies find success in Plan A. Genentech is a classic example. The first drugs on Genentech’s list were industrial chemicals and food processing additives; none of its first real successes was even on the list.
Although scientists and engineers are traditionally rewarded for a wide array of interesting and diverse projects, businesses view such multiple projects as an expensive distraction—unless they directly lead to sales and market growth. The hardest thing many entrepreneurs must do to remain focused is to say “no” to potential distractions.
If you have a focused plan, proper business involvement, and a clear path to market, it is finally time to raise some funds.
Timing is everything. Green businesses are hotly fundable in 2008, just as biotech was in the 1980s and the Internet in the 1990s. The same goes for exit strategies, so there isn’t one type of plan that works well at all times. The best you can do is to create value for your company at each step. If you weigh each decision along the way for how it builds the company, you will be in the best position for all contingencies, whether raising more funds, doing a deal, or selling the company.
Investors want to see the value rise, and focusing on value will help you achieve this. Of course, this is not always possible. Xenogen was hours away from going public in January 2001 when investor appetite for IPOs of all varieties waned. Similarly, Spectros found its first market dried up when a surgical procedure changed, and its second product was not yet ready. Having an experienced board and mature, flexible investors who have the patience to weather such changes is essential.
One way to build early value is to provide services while your product is in development. Both Spectros and Xenogen provided subcontract services as a way to ensure early income and hone target market skills.
Another route is out-licensing. If done outside of your product focus, both the licensee and licensor can profit. For example, Spectros was the first to demonstrate and patent multi-wavelength pulse oximetry spectroscopy, used to noninvasively measure the concentration of substances in the bloodstream such as total hemoglobin and carboxyhemoglobin. In such cases, Spectros proposed licensing to target firms (such as to Masimo, a biophotonics company that completed its IPO in 2007 and achieved a valuation of more than $2 billion for introducing multispectral pulse oximetry to the market).
Royalties are a good way to reward investors and founders who remain at another corporation or academic center, provided you are willing to protect your license rights in the matter. The royalties for the Xenogen genetic-expression-imaging patent family has generated millions of dollars for Stanford University and the inventors.
Right Career for You?
In the end, entrepreneurship is not for everyone.
There are real risks to your income and your career when you leave a secure academic or middle management life.
Begin by understanding yourself. What do you want and expect out of a start-up? Are you comfortable with rapid change? What will you do if you fail?
When I was in academia, the founder of the glucose-monitoring company LifeScan (still a billion-dollar division of J&J) told me that if I didn’t leave medicine, I would always wonder what would have happened. He was right. Picking your stock symbol and watching it trade, seeing equipment you developed in universities and operating rooms everywhere, and knowing that lives have been saved or improved by what you helped create are experiences that are hard to beat.
Spectros makes advanced molecular sensing and imaging devices that shed light on life-threatening diseases, including cancer and ischemia, a condition in which tissues receive insufficient blood flow. Spectros’ flagship T-Stat® product was the first device labeled by the U.S. FDA as “sensitive to ischemia.” Red Herring recently evaluated Spectros and the ischemia market and estimated annual sales could reach $3 billion in monitors and up to $10 billion in sensors and probes, which dwarfs the mature pulse oximetry market.
Spectros, through its affiliate FirstScan (an alliance between Spectros, the University of California at Irvine, N.I.T., the University of Pennsylvania, and other partners) is developing a molecular sensing clinical device for the early and specific detection of breast cancer and other metabolic diseases, a market estimated at $10 billion per year.
Spectros holds early core intellectual property on an array of biophotonic medical devices, including optical contrast guided surgery, automated tissue classification and identification, multi-wavelength tissue and pulse oximetry, tissue- guided surgical tools, as well as implantable and other physiologic monitors. The company derives income from sales of devices and licensing these technologies. Spectros was profitable by 2007, with revenue growth of 38% last year.
David A. Benaron
David Benaron, MD, is an SPIE member, a founding editorial board member of the Journal of Biomedical Optics, and a serial entrepreneur who has taken multiple medical devices from benchtop to marketplace. Now the CEO at Spectros Corp., he started his first biotech effort in 1992 and has never looked back.
Benaron founded or co-founded Insite (noninvasive glucose and blood pressure measurement and technologies, acquired by Masimo), Xenogen (public 2004, sold to Caliper 2006), Spectros (a market leader in real-time somatic ischemia detection), and most recently FirstScan (early breast cancer screening diagnostics).
He attended the University of California (biochemistry, summa cum laude), Harvard Medical School (cum laude), and M.I.T. (health sciences technology, cum laude). His pediatric residency was at Children’s Hospital of Philadelphia, and he had a physiology fellowship at University of Pennsylvania. His neonatology fellowship was at Stanford University where he founded the Stanford biomedical optics group.
Benaron’s wild cats, a quarter-bobcat/half-cat named “Friend,” and “Zabu,” a wild, mostly African Serval hybrid, follow him everywhere.
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