The UK healthcare industry is one of the fastest-growing sectors for venture capital investment, according to report by KPMG Enterprise and CB Insights.

The research looks at VC investment activity during the third quarter of 2015. Biotech company Immunocore’s $320m Series A funding round is cited as one example of a sector ready to explode in the next 12 months.

The overall picture is also very promising for UK VC activity. UK VC-backed companies raised more than $1bn in 2015 through 90 deals. This accounts for one-third of all value raised in Europe across the period.

The value for the three-month sample is 29% higher than the equivalent period in 2014 but represents a very slight decrease on the previous quarter.

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Further afield there was a significant ramping up of global VC activity in Asia. The total value raised reached $13.5bn – an increase of 38% on the previous quarter.

The US still leads the way with $20.3bn raised and Europe comes in with a respectable $3.5bn. But globally aggregate deal activity fell to 1,799 deals, the lowest volume of deals since Q2 2013 – and substantially lower than the 1,928 deals seen in Q2 2015.

Anand Sanwal, CEO of CB Insights, commented that “the appetite for investment into fast-growing private start-up companies remains insatiable”.

“Q3 2015 marks another dot com level high for funding and this has become the new normal, it seems. Investor FOMO – fear of missing out – continues to be a key driver of mega-financings and doesn’t look to abate any time soon,” he said.

The case for investing in healthcare companies

Former brain surgeon Andrew Elder, now a partner at Albion Ventures, explains why backing growing healthcare companies is a rewarding business.

Let’s face it, we all prefer doing something we are interested in, and when it comes to choice of sector for venture capital investment this rule continues to hold true. In terms of “interesting” sectors there are few that can touch healthcare and we have invested in healthcare for 15 years.

So what makes the sector so interesting to us? From a commercial perspective, no sector can combine the breadth, complexity and strong underlying drivers for long-term growth. For an investor who invests in high-growth companies, but with a balanced approach to risk, these three things underpin its attraction:

1. The breadth of sub-sectors, from care provision through to drug discovery, allowing real diversification within the sector
2. The complexity, which makes it easier to gain competitive advantage at both the investee company level and from an investor perspective
3. The strong underlying fundamentals, driven by demographics, rising expectations and technology-led innovation

That’s not to say that healthcare investing is easy. The complexity and breadth means that choosing which specific sub-sectors to focus on becomes a challenge.

At the lower-risk end, property-based care provision (hospitals, rehabilitation centres, care homes and so on) has enjoyed immense growth in the past 10 to 20 years, driven by demographics, increasing demand and expectations, and fuelled by large increases in both public and private expenditure. While some of these drivers remain, others are coming increasingly under threat, the obvious one being public expenditure that faces unprecedented pressures over the next five years.

Where care services are undifferentiated and an alternative exists, they will come under increasing price pressure. For example, an increasing acceptance of care delivery in the home threatens to reduce the attractiveness of certain areas of residential care. Other areas, however, remain relatively immune to these pressures and so, on balance, remain attractive areas to invest. For example, conditions which in their very nature cannot be treated at home and require specialist input to treat, thus being more immune to fee pressure (certain categories of mental health and dementia for example) are areas of particular interest.

‘Most healthcare companies offer a tangible benefit to people they touch’

The overall mantra in healthcare in future, across the board from care provision to technology, is going to be “improving outcomes for lower cost”. It will simply be impossible to sell a new technology to a hospital or a new service to a healthcare purchaser, unless the economic case as well as the clinical case stacks up. Certain technologies will fulfil this mantra perfectly and it is these that may, ironically, have the potential to be adopted faster than might have been possible before the spending constraints were felt. One example would be diagnostic devices that enable earlier detection of disease at lower cost can enable improved and cheaper treatment outcomes.

What we avoid and why
Capital intensive ventures will find it harder to attract investment as they have long times to market and/or exit. Drug discovery companies and early-stage companies developing implantable medical devices, for instance, are reliant upon buoyant finance markets to raise increasing amounts of capital as they progress along the development pathway. The more money they raise, the more risk they have to take in order to deliver returns for their investors, leading to a high attrition rate.

This goes some way towards explaining why investors in the UK have fled these higher-risk healthcare propositions in droves. Though we do not favour these kind of companies either, both for the reasons stated and because of their highly specialist nature, I will stick my neck out and say that this has to be an area ripe for change in how it is financed. Finding long-term financing models that match drug discovery timelines, offloading commercial risks earlier to big pharma through licensing and taking advantage of more capital efficient models, seem to be just some of the ways that could be used more frequently in future to capture more value from a sector which has fundamentals as strong as any in healthcare.

Healthcare investing has its problems, from strong regulatory constraints to lack of uniformity across geographic markets. However, together with the softer, but nevertheless “interesting” factor that most companies in the sector provide such a tangible benefit to the people they touch, this is an area in which we expect to be taking an even bigger interest.