In the venture capital community, the ongoing debate about what matters more to investors — profitability or growth — appears to be as much about balance as it is about preference. Notably vocal on this subject is Cathy Gao, a partner at Sapphire Ventures, who argues that the conversation is far more nuanced than meets the eye.
Timing-wise, Gao sees a shift from the 2021 mindset, which was largely about “growth at all costs”. “Now, there’s definitely a level of renewed focus on profitability,” Gao mentions in a recent interview at the ViVE Conference in Los Angeles. This sentiment does not necessarily suggest a tipping of scales, however. Investors continue to place higher emphasis on growth, yet are less forgiving of companies that grew but remain steeply unprofitable.
Two critical components of consideration, as per Gao’s perspective, are particularly related to digital health investing due to the nature of their business operations. First, the significant service components involved, either on the delivery or implementation side, often negatively impact margins during periods of aggressive customer onboarding and growth, negatively affecting profitability metrics. This nuance likely needs investors’ keen understanding.
Furthermore, growth of digital health startups often takes the form of “stair steps” rather than a linear trajectory due to significant contracts followed by periods of stagnation. Even when sales cycles are compressing, they can still be quite lengthy, thus contributing to this pattern.
According to Gao, many debates have arisen about whether traditional healthcare IT companies fit into the venture capital model. “Venture capitalists were all trained to look for a J curve — that hockey stick growth that people talk about, which you often see in fast-growing SaaS companies. But digital health is a different ballgame,” she stated.
While startups don’t necessarily need to present fully fleshed out profitability metrics to secure venture capital funding, a complete lack of a profitability plan is viewed as a red flag in the eyes of investors. The investor community, as Gao observes, seems to remember the sagging performance of certain healthcare companies that went public in 2020 and 2021.
What remains clear, however, is that a fine balance between growth and intention towards profitability is crucial in today’s fundraising environment, especially for digital health firms. As captured in the above perspectives, the lens through which this balance is assessed is proving to be as interesting as the debate itself. For more, you can access the full interview at MedCity News.