As any radiology entrepreneur who has ever attempted to launch a new business surely knows, it takes money to make money.

What they may not consider, according to business authorities, is that first-time entrepreneurs err by drawing on personal assets or resorting to a bank loan for the cash necessary to successfully launch their venture.

“When you do that, you are using your own money,” says Cherrill Farnsworth, president and CEO of HealthHelp Inc, Houston. “That is a mistake for entrepreneurs. When you use your own money, the tendency is to try shielding it at every turn. You shy away from taking manageable risks, and that results in missed opportunities to prosper the business.”

The remedy is to employ what is euphemistically known as OPM: Other People’s Money. Arguably the most advantageous and ready source of OPM for radiology entrepreneurs is venture capital, many experts assert.

“Venture capital offers radiologists and radiology administrators seed money to start an enterprise while, at the same time, reducing the risk that the new business will fail,” says Bill McPhee, managing partner of Medical Imaging Innovation and Investments (Mi3), Wellesley, Mass, a venture capital firm.

Money invested in radiology entrepreneurs by venture capital firms ranges from amounts of as little as $250,000 on up to $50 million, experts report. For the most part, this is money that venture capitalists procure from institutional investors (such as endowments, college foundations, and public and private pension funds), corporations desiring a means of establishing or extending a presence in a marketplace, and individual and family fund investors eager to put their savings to productive use.

“What we attempt to do with this money is identify worthwhile fledgling enterprises that we can in turn invest in,” McPhee says, noting that Mi3 was started with $5 million from Indiana University’s Radiology Practice Plan.


In the field of radiology, venture capital currently flows most abundantly to start up businesses intent on establishing or taking over imaging centers. “Imaging-center companies appeal to venture capitalists because these are businesses that are likely to grow, given the increase in applications of the technology, and become successful in a relatively short period,” says Laura Pearl, general partner in the venture capital firm of Frontenac Company LLC, Chicago, which invests in, among other areas, information technology companies, telecommunications concerns, and health care entities.

Also receiving attention from venture capitalists these days are radiology-oriented managed care companies, in particular those that promise to reduce radiology provider costs through any number of quality and efficiency improving initiatives. One such enterprise is Farnsworth’s HealthHelp, a radiology quality assurance and utilization management company that has taken in a cumulative total of $13 million in venture capital funding thus far.

“The venture capitalists who have supported me have done so because they recognize the market demand that exists for a company that can reduce payors’ costs by ensuring that providers offer the right test at the right time in the right place rather than by recontracting the physicians at a lower reimbursement rate or requiring preauthorization screenings,” Farnsworth explains.

Farnsworth is no stranger to business building, having launched several companies since the 1970s. The first time, she turned to a bank for a loan. “Back then, it was much easier to borrow for purposes of launching a business than it is now,” she recalls. “Today, you need collateral in order to obtain a loan, and very few entrepreneurs have the necessary collateral to qualify. That is why venture capital is the way to go.”

Echoing those sentiments is Jim Pell, president and CEO of a Los Altos, Calif-based radiology device manufacturer that has relied almost entirely on venture capital to take wing. “We elected to seek venture capital because we knew our product would be an expensive technology to develop, requiring tens of millions of dollars in order to bring it to market,” Pell explains. “A loan was out of the question, since at our founding we had no product, no revenues, and no assets to use as collateral. We then considered the option of seeking a corporate joint-venture partner, but ruled that out as well. Corporate partners want intellectual property rights, which we were not prepared to share.”

Also rejected was the idea of raising capital by going public and becoming a company whose shares are traded daily on one of the nation’s stock exchanges. “A problem with being a publicly traded company as a start-up is the volatility of the stock’s valuation,” he says. “It can plummet on even a groundless rumor of bad news. If enough traders become frightened off by that sort of thing, you can find it impossible to raise needed capital in subsequent offerings of your stock. For us, clearly, venture capital was the only workable option.”

Pell says his company was founded in 1993 to implement a body of research amassed by the University of Chicago on computer-aided detection of breast tumors and other tissue abnormalities. One year later, the company received its first infusion of cash from venture capitalists, approximately $3.5 million, followed by additional sums on three subsequent occasions. “With that money, we applied for and received Food and Drug Administration approval of our product and assembled a sales and distribution network,” he says. “Our future looks very bright indeed.”


Of course, venture capitalists never give money without expectation of receiving something substantial in exchange. Mainly, they are interested in gaining a significant cash payoff within 2 (but rarely more than 10) years after their investment.

The amount of return-on-investment that venture capitalists expect from a start-up varies, but generally is in the range of 40% to 50%, amortized over the life of the investment, experts say. This is how the arrangement normally transpires. Venture capitalists buy shares of stock in the company they agree to fund, much as investors on Wall Street do when acquiring interest in publicly traded businesses. On Wall Street, a stock’s price is set by demand. However, in a venture capital arrangement, the price is established by agreement between the venture capitalist and the entrepreneur, experts tell. Later, after the start-up has grown and appreciated in value, the venture capitalist firm liquidates its holdings by selling them either to other types of investors or back to the entrepreneur.

“It is really up to the entrepreneur to decide how many shares of stock he or she is willing to part with in exchange for needed cash,” Farnsworth says. “The more shares sold to the venture capitalists, the more revenue generated.”

And therein lies the downside to venture capital. By selling stock to venture capitalists, entrepreneurs surrender autonomy and dilute their control over the operation of the business, experts say.

“As a condition of funding, the entrepreneur can expect to be contractually prohibited from making any major moves such as putting the company up for sale, acquiring another company, paying dividends, or obtaining a loan without first consulting and obtaining written consent from the venture capitalist,” Frontenac’s Pearl says.

Still, the direct involvement of venture capitalists in directing the course of the business, while perhaps discomfiting to the freewheeling entrepreneurial spirit, carries with it significant benefits. “The biggest benefit is the expertise of the venture capitalists,” Farnsworth says. “They have built companies numerous times and know well the path to success, the pitfalls and how to avoid them, and how to fix problems that can destroy a young business.”

Quite true, says Wende Hutton, general partner of Mayfield Fund in Menlo Park, Calif, an early-stage venture capital firm that has backed several companies making neurointerventional radiology devices.”Among the expertise Mayfield Fund provides is help in shepherding management through regulatory approval processes and market launch issues,” Hutton indicates. “We can anticipate the problems a company is likely to face when it is growing quickly, and then provide the expertise and guidance to overcome them.”

McPhee adds: “One of our most important functions as venture capitalists is in the realm of risk reduction. We try to remove as many of the potential causes of new-business failure as we can so as to give the start-up its best possible chance of achieving success. But a venture capital firm will always want to be able to intervene as necessary to protect its investment in the event things go awry and are beyond the entrepreneur’s ability to remedy.”

That is a primary reason why venture capital-backed firms survive, grow, and reach their goals at a rate 10 times greater than start-ups bereft of such backing, McPhee contends. One of the fundamental mechanisms by which venture capital firms seek to reduce entrepreneurs’ risk is by providing them with a hand-picked board of directors (and, in certain cases, a management team) that knows the ropes and can guide the young firm safely through the shoals of business.

EDITOR’S NOTE: “Raising Venture Capital, Part II: The Art of the Deal,” will appear in the July/August issue.


Rich Smith is a contributing writer for Decisions in Axis Imaging News.