(UPDATED: See below.)
New Enterprise Associates bills itself as a VC firm that delivers “performance at every stage.” Increasingly, the firm appears to consider mature, slow-growing industries a viable “stage” for venture investment as well.
When NEA announced earlier today that it had plunked $50 million into a Tennessee distributor of diabetes-testing supplies called Simplex Diabetes Supply (our coverage is here), I couldn’t help scratching my head. What in the world was one of Sand Hill Road’s finest doing taking such a large equity stake in a low-tech, relatively low-growth (at least by tech and biotech standards) distribution business — particularly one that plans to use the funding specifically to acquire other distributors?
The reasoning still isn’t entirely clear to me — among other things, the NEA partner responsible for the Simplex deal, Chip Linehan, hasn’t responded to an e-mail request to discuss it. But it turns out that this particular investment isn’t exactly unique. In fact, it seems to be part of a broader effort at NEA, and quite possibly at other venture firms, to pump money into mature industries that don’t really fit traditional definitions of venture business, but which the firm thinks can generate substantial returns through “growth on a large scale,” as NEA euphemistically puts it on this page that describes its philosophy of “venture growth equity.” Oddly enough, that concept — which seems to have generated about half its deals in healthcare and the life sciences — seems awfully close in spirit to private-equity deals.
For starters, Simplex has virtually nothing in common with your garden-variety venture business except for the fact that it’s a startup, one founded in a Nashville suburb just this spring, according to CEO Larson Douglas Hudson. Rather than focusing on developing a new medical-device or drug technology, however, Simplex simply intends to acquire small mom-and-pop distributors of diabetes supplies — the glucose meters, test strips and lancets diabetics use to monitor their blood-sugar levels — in order to make itself of the top three providers in the industry. (The company has already made several such acquisitions and now claims to serve 24,000 diabetic patients, although it declines to identify its targets.)
Consolidation plays aren’t unusual in the broader world of finance, but they’re still pretty rare in venture capital, perhaps because most people think consolidation doesn’t actually work all that well in the IP-intensive world of Silicon Valley. (You know, the old saw about your most valuable assets walking out the door each night and all that.) Here, though, NEA apparently figured it to be worth its while to back Simplex’s aggressive expansion plans in a market that is certainly growing, although not at the sort of rate that usually makes VCs’ eyes light up — overall, the diabetes market is forecast to expand at an annualized rate of 5.9 percent or so over the next five years. Simplex’s Hudson told me that he thinks the company can borrow against (“leverage”) NEA’s $50 million stake to snap up companies worth a total of $200 million.
Which, not to put too fine a point on it, makes the Simplex deal look a lot like a traditional private-equity play: Buy in, load up on debt, restructure, then sell or take the company public and pocket the proceeds. Obligingly enough, Hudson noted that several other consolidated distributors in the testing-supplies market have been drawing high-priced attention. In August, for instance, Medco agreed to pay $1.5 billion for PolyMedica, a similar distributor that claims to serve almost a million diabetics — a payout, Hudson notes, that amounts to roughly $1,500 per patient (a formula, oddly enough, that would value Simplex at only $36 million). Another major distributor owned by private-equity firm Warburg Pincus, CCS Medical, has filed to raise $184 million in an IPO. Should Simplex grow as quickly as Hudson seems to think it will, no doubt NEA figures it will benefit handily should a similar acquisition or IPO deal materialize.
As I noted before, the Simplex deal isn’t the first sort of deal like this NEA has done. The firm is also an investor in health insurer Bravo Health, which recently raised an undisclosed sum specifically for the purpose of acquiring other health plans (see our coverage in the third item here). Similarly, NEA’s list of “venture growth equity” investments also includes CHG Healthcare Services, a Utah holding company for a portfolio of health-related staffing businesses presumably assembled via acquisition (see a list here). NEA’s site says CHG has since been sold to the private-equity firm J.W. Childs Equity Partners; I called CHG for confirmation, but they insisted on bumping the query up to their CFO, and I didn’t hear back prior to posting.
Given the complications VCs have faced getting out (“exiting”) from traditional venture investments over the past six or seven years and the outsized returns private equity has pulled in, at least until recently, I guess it was inevitable that some venture capitalists would eventually start aping their putative betters. But this sort of asset-shuffling is certainly a comedown for VCs long celebrated for spotting technological trends with the potential to truly revolutionize business and daily life — something even the Simplex deal’s biggest fans would be hard pressed to attribute to it.
UPDATE: I reached NEA’s Chip Linehan an hour or so after posting this item, and not surprisingly, he took issue with the basic thesis. NEA has been actively investing in healthcare services for 25 years, he told me, and M&A has always been a significant part of those businesses. As for Simplex itself, Linehan argues that “organic growth” — as opposed to acquisitions — will be an important part of the business going forward. (That more or less directly contradicts what Simplex’s Hudson told me, but let’s let that lie for now.)
“We’re focused on company building, not financial engineering,” Linehan said. “We expect to see organic growth from anything we buy.” Bravo Health and CHG Healthcare Services, he added, primarily grew from the ground up and not from M&A, although both companies have made acquisitions.
All of which is fine so far as it goes. NEA’s strategy in these cases still hews closer to private equity than to traditional venture investment, particularly in the case of these funding rounds that are specifically allocated for acquisitions at both Simplex and Bravo Health. I’m also not entirely sure it really counts as “organic growth” if you happen to buy a company that’s already growing quickly on its own, as Linehan says Simplex has done — that’s still buying growth, not, um, growing it. And, of course, there’s that whole matter of the “venture growth equity” label NEA slapped on these investments, which Linehan described as a kind of “shingle” the firm hung out to distinguish its big-money deals from everything else that’s out there.
That said, though, the private-equity comparison is easy to take too far, and I have no desire to do that. Meanwhile, for more on NEA and its past big-bet strategies, see these previous pieces by Matt Marshall here and here.
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