Could this be the best market ever for healthcare investing?

Venture capitalist Hashan De Silva couldn’t be more bullish on the prospects of Australian healthcare. De Silva is so bullish that he argues “This is the best market we have ever seen to invest in healthcare companies.”

The founder and managing partner of KP Rx is taking advantage of the post-pandemic valuation crash in the industry. De Silva notes that the environment has made it far more difficult for Phase 2 biotech companies to raise capital.

“This has presented us with an exceptional opportunity to invest in private and public biotech and medtech companies with promising technologies or assets at highly attractive valuations,” De Silva says.

KP Rx focuses on the Australian and New Zealand space, and with good reason. Despite being a small market, Australia has been ranked one of the top five countries worldwide for healthcare innovation, with biotech and medtech firms supported by government incentives, lower costs and simpler approvals and governance.

In this part of the Biotech mini-series, De Silva shares the big themes in healthcare, why he focuses on Australia and New Zealand and how he assesses opportunities to invest in.

What are the big themes driving healthcare and in particular, biotechnology?

Artificial intelligence and machine learning have been a big trend in the healthcare sector. Some of the applications of it include:

• Design and screening of drugs to speed up getting drugs to trials.
• Enhanced real-time monitoring and automating of complex data analysis to reduce time and costs in clinical trials.
• Use in diagnostics such as reading X-rays, CT scans, pathology tests. We are yet to see any large commercial successes from these applications. The technology is well ahead of the regulatory agencies and payors and this is causing difficulties in commercialising. 

A good example of an ASX-listed med-tech company at the cutting edge of this trend is CurveBeam AI (ASX: CVB). It has a number of AI tools to assist in pre-surgical planning and bone fragility assessment which are undergoing R&D prior to commercial launch.

Are we heading into a biotechnology boom?

Biotechnology and medtech stocks may have recovered somewhat in 2024 but they are well off the peak seen in 2021. We see the IPO market as a key indicator for a recovery and boom, and it has not improved yet.

That said, the recovery in the market is not required to generate very attractive returns in this sector. Unlike with other sectors, the ultimate risk for a healthcare company is largely idiosyncratic. Success or failure in this sector is determined by the actions of the company and clinical trial results rather than larger macroeconomic factors. Neuren is a great example of this which we discuss below. This ~20x increase in share price happened on the backdrop of over a 40% collapse in the valuation of the biotech index (XBI) as the company delivered a positive Phase 3 trial, FDA approval and commercial launch.

The U.S. is often viewed as the centre of biotechnology. Why do you focus on Australian and New Zealand companies instead, and how big is the market here?

Despite its small population, Australia remains a hub for healthcare research and development, reinforced by strong government support over many years. The publication Scientific American Worldview has placed Australia in the top five countries in the world for biotechnology innovation, outranking countries like Germany and the United Kingdom. 

Today, the Australian biotechnology industry has over 1,400 companies employing over 260,000 people.

We see five key factors driving Australia’s strength in biotechnology innovation:

1. Incentives for R&D: Innovation is driven by one of the most generous R&D incentives in the world, with the Australian government refunding 43.5% of R&D spending for companies with revenue below A$20 million.
2. Lower cost: The cost to run clinical trials in Australia is significantly below that of the United States, yet Australia’s ethnically diverse population makes study populations a good match for many Western markets.
3. Much simpler ethics approvals and governance: In Australia, companies can initiate human trials without filing an Investigational New Drug (IND) application. In the US, companies must receive IND approval from the FDA, which requires extensive preclinical animal testing and investment in manufacturing. Instead, Australia takes a decentralised approach, requiring a Human Research Ethics Committee to determine if the trial is being conducted ethically and responsibly.
4. Australia has world-class research institutions such as WEHI, Garvin, and Peter Mac and excellent infrastructure to conduct Phase 1 healthy volunteer studies and Phase 2a trials in patients. Many global pharmaceutical companies conduct early-stage clinical trials in Australia.
5. Stable intellectual property and political environment is an important consideration.

On a ‘purchasing power’ basis, an Australian company can achieve the same outcome with approximately 60-70% less capital than a US peer. In areas such as cell and gene therapy, this difference can be even greater.

A great example of this is Syntara (ASX: SNT) who are conducting five clinical trials at Ph1b or P2a stage with four of these trials funded by nondilutive capital or through partnerships with academic institutions. This level of clinical activity in the US would cost many tens of millions and often not possible for a very small company.

Despite the strength of Australia’s biotechnology market, the severe lack of specialist healthcare investors who can appropriately value R&D stage companies, as well as the severely limited capital dedicated to investing in these companies has led to early-stage biotechnology companies continuing to trade at significant discounts relative to US peers.

These two dynamics are very favourable for a healthcare investor in Australia.

What key opportunities and trends are you seeing across the venture capital space?

Healthcare company valuations experienced unprecedented growth in the bull market of 2020 and 2021. Both private and public fundraisings were hitting records, and the IPO market was roaring. Many companies of questionable legitimacy were also able to raise vast sums of capital at this time.

Fast forward to today, the market landscape has dramatically shifted. Valuations have crashed, and in particular, small R&D stage companies have experienced substantial drawdowns.

This shift has created significant challenges for Phase 2 biotech and medtech companies, as raising private capital has become exceedingly difficult. This has presented us with an exceptional opportunity to invest in private and public healthcare companies with promising technologies or assets at highly attractive valuations.

KP Rx is currently in negotiations to invest in various private and public healthcare companies at a significant discount to their precious capital raise. Often these companies have successfully completed the milestones they promised however, given the current market conditions, must still conduct a capital raise at a significant discount. This is the best market we have ever seen to invest into healthcare companies.

How do you assess opportunities to invest in?

We seek to invest in innovative healthcare companies after proof of concept but before commercial success, where the market has under-appreciated the company’s ability and risk-reward dynamics for successful commercialisation. 

We also need to be able to identify clear milestones and compelling opportunities to unlock significant value.

We generally don’t like to invest in science projects or pre-seed companies. These companies can take decades and many capital raisings to successfully bring a drug to market. Such companies carry substantial risks of failure and there may be no value upside along the way.

Our approach is driven first and foremost by medical data and company fundamentals. We ideally want to have robust human data as part of due diligence and a clear line of sight that the capital we invest will be the final round of capital required for a company to successfully hit its catalysts to unlock material value creation.

We spend significant time speaking with key opinion leaders in whatever disease we are analysing. We aim to build a unique advisory board for every opportunity, made up of the world’s leading experts in the specific disease state that we’re assessing. We believe this is a far more effective approach than having a more generic internal advisory board and allows us to dig deeper into the most important aspects of whatever opportunity we’re considering.

Our research process is very deep and can take many weeks to complete. For one investment, I flew to the US and sat in the car with sales reps to see how the sales rep interact with customers, what the objections were from customers and the dynamics between the surgeons and admin staff. In the past we have completed quantitative surveys of customers and conducted background checks on management teams. 

One example of our approach is Neuren (ASX: NEU). 

Karst Peak Capital originally invested at $1 per share and followed on in subsequent capital raises. In the three years since investment, Neuren successfully completed a Phase 3 trial, trofinetide received US Food and Drug Administration (FDA) approval and launched in the US. Neuren has received 100s of millions in milestone and royalty payments and is now at around $20 a share.

What innovations are you most excited about and have you invested in these?

CurveBeam AI is a company we are very excited about.

It sits firmly within the ‘AI wave’ while also sitting in a big trend in orthopaedics which is ‘function alignment’. Function alignment is about making sure that any new implant is placed so it aligns with the whole body.

CVB’s weight-bearing CT device (the HiRise), in our opinion, is the best method for a surgeon to evaluate functional alignment. The HiRise device is approved in the US, Australia, Europe and most major markets and reimbursement is already built. CVB has signed a partnership agreement with Stryker (NASDAQ: SYK), the world’s largest orthopaedics company, for the US market. CVB is developing various AI-based modules to assist surgeons with pre-surgical planning and assessment of bone quality for the HiRise device. We see CVB as the pivotal inflection point of valuation creation with sales growing.

Another company we are excited about is Syntara (ASX: SNT). Syntara’s lead drug is in a Phase 2a trial in myelofibrosis. The corporate interest in myelofibrosis is high with numerous M&A transactions over US$1b in the last few years.

The Phase 2a trial is fully recruited and we eagerly await the results to be announced at the end of this calendar year. The early data has been very strong indicating that Syntara may have a disease modifying treatment in myelofibrosis compared with other products which are only symptomatic treatments.

Syntara has another four trials that are running all with internally developed drugs. To the best of our knowledge, Syntara is the only ASX listed company, other than CSL, that have an internal R&D capability that has generated multiple clinical stage candidates.

Can you share an interesting or strange thing you’ve learnt or experienced across your time investing in healthcare and biotechnology companies?

When I first started investing, I believed that the most important aspect of a company was the drug/device. That science was paramount, and everything was secondary to this.

Very quickly, I learnt that the people are the most important thing: a bad management team can run a good asset into the ground and a great management team can find a place in the market for a mediocre asset.

Secondly, many people view medical device companies as less risky as they do not need to do large clinical trials. I disagree with this. Getting regulatory approval is often the easiest part of the journey for medical device companies. Everything that comes after is much harder. 

As they have not conducted these clinical trials before approval, it can be difficult to build reimbursement, change physician behaviour or get incorporated into the guidelines. I often see medical device companies get their regulatory approval, raise a large sum of money, hire a salesforce and then fail to commercialise. 

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Karst Peak Rx (KP Rx) is a healthcare investor, backed by Karst Peak Capital, specialising in healthcare and health tech investments in Australia and New Zealand (ANZ). Hashan and the team focus on investments in private and early-stage public companies, with an emphasis on biotech, medical devices, diagnostics and healthtech. Find out more.

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