New Funding Cycle for Digital Health Begins on Cautious Note

For digital health startups, the first two months of this year were a welcome departure from 2022, when high inflation and other economic challenges caused investors to press on the brakes and proceed with caution.

Some optimism returned early this year, but an unexpected curveball in March—the regional banking crisis—was a sobering reminder that our country’s economy is not out of the woods yet. The challenges that beset every kind of business last year, including digital health companies, are still very much in play in 2023, and there are new challenges ahead as well.

Our friends at Rock Health have pointed out that last year brought the end of a macro funding cycle for digital health, and 2023 marks the beginning of a new cycle that should feature plenty of upside for the sector. And while this thesis remains intact, the first quarter of this year offered a cautious beginning. However, even with certain headwinds still blowing, digital health is showing clear signs of resilience and vitality.

By the Numbers

U.S.-based digital health startups raised $3.4 billion in 132 financing deals in the first quarter of 2023, which is roughly the same amount that was raised in the first quarter of 2020. However, the figure is well below the $6.1 billion raised in the first quarter last year and the $6.7 billion that digital health startups raised the first quarter of 2021.

However, the total was higher than the $2.7 billion raised in the fourth quarter of 2022 and the $2.2 billion raised in the third quarter of last year—which speaks to the assertion by Rock Health that one cycle has ended and a new one has begun.

The first quarter of 2023 saw the return of megadeals (funding rounds of more than $100 million), which made up 40% of the total fundraising. There were six in all, including $375 million in growth capital for in-home kidney disease management company Monogram Health and a $300 million funding round for healthcare staffing technology company ShiftKey. The megadeals indicate that the most established players in digital health—including more mature startups and larger investment firms—are driving most of the action so far this year, Rock Health analysts said.

But change could be on the horizon. Bill Evans, founder and general partner at Rock Health Capital, tells us that valuations and deal terms for pre-seed and seed-stage companies are “rationalizing” in 2023 after a year that saw these figures rising. If earlier stage companies are being valued more reasonably—and the terms of financing deals reflect this—we may see dealmaking pick up for earlier-stage companies this year, he said in a Rock Health Market update.

Other Considerations

In addition to investors’ cautious approach to funding, digital health startups are facing regulatory changes in the year ahead that will significantly impact many businesses. The Food and Drug Administration, Medicare, the Drug Enforcement Administration and the Federal Trade Commission are all making policy changes that will affect which patient populations can access which digital health services, and under what circumstances. Telehealth reimbursement, controlled substance distribution, the pricing of healthcare services and the management of patient data are just a few of the issues that government agencies plan to tackle this year.

These considerations, as well as an exit market that remains temporarily paralyzed, help explain why digital health investors are still cautious when it comes to writing checks. They also explain why many are advising their portfolio companies—especially those that are yet to prove out their business models or bring in recurring revenue—to extend their runways for as long as they can by conserving cash.

This year is likely the beginning of a strong rebound for digital health. The need to improve our healthcare system is as pressing as ever, and innovators continue to develop novel solutions. But the challenges in the banking sector, even if they are contained or short lived, are a reminder that we are still finding our new economic footing out of the latest slowdown and that a bigger economic upswing won’t happen without some bumps along the way.

Brighter days are ahead for digital health—and sooner rather than later—even if there are still a few storm clouds in the sky.

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