Collapse of Innovative Spinal Technologies was Years In the Making, Sources Say; CEO Responds

2/3/09Follow @wroush

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Schorer persuaded Boston and South San Francisco-based MPM Capital, New York-based Orbimed Advisors, and Panorama Capital (a part of JP Morgan) to put up the $39 million Series B round.

In a 2006 profile of the company, Robin Young, a financial analyst who publishes Orthopedics This Week, called that “one of the largest amounts of capital ever raised by a start-up spinal implant company” and said IST “may well be the first surgeon-originated firm that was spun off to professional management and a who’s who list of private equity firms.” Young called IST’s pedicle screw product “very different from anyone else’s product” and said “we are impressed with this company…we can see JP Morgan/MPM/Orbimed’s money working very hard.”

But IST’s troubles seem to have started just after it raised the Series B round. One source I spoke with—an early employee at IST—said Schorer’s decision that year to move the company from its location adjacent to the Texas Back Institute in Plano to the Boston area was both expensive and ill-conceived. (Like several of the contacts I interviewed for this story and my January 27 story, this one is still working in the medical industry and therefore requested anonymity.)

Schorer’s reasons for the move, according to the source, were threefold: he wanted the company to be closer to the center of the medical-device industry; he was an outdoorsman type who didn’t like living in the sprawling Dallas-Fort Worth-Plano area; and he wanted to hire a veteran medical-device developer named Dennis Colleran as a vice president, but Colleran didn’t want to move to Texas.

Boston is obviously a hub for medical-device innovation, boasting companies like Boston Scientific and DePuy, an orthopedic division of Johnson & Johnson. But the spinal implants that IST was developing needed to be regularly tested, evaluated, and re-engineered by experienced spine surgeons—which the Texas Back Institute has in abundance. “You don’t move a company like this away from its pioneering group of surgeons,” says one source. “And the way the decision was disclosed to the founding surgeons was horribly handled. One surgeon found out in an elevator. The slap in the face, and the difficulty that came in repairing those relationships that were an absolute must for the product to be a success, was something we really never recovered from.”

Hochschuler confirms this part of story. “Scott comes in once he’s raised the $39 million and says, ‘Oh, by the way, we’re moving to Boston,’” he recounts. “It was like someone dropped an elephant on my desk. ‘It will be easier to hire engineers there,’ he said. I said ‘That makes some sense, but you’re losing the whole vision of why we [spun off IST] and how we did it.’”

Hochschuler resigned from IST’s board after Schorer’s decision, because, he says, “I just felt my input had no value.” And he says his fear about the move to Boston—that it would take the company too far away from the surgeons who could best test the spinal implants—came true. “What they had developed was outstanding—they were ahead of the curve” in the field of spinal stabilization, Hochschuler says. “Until they overengineered it, having lost the input they could have gotten if they had stayed here. So they were late to market, and rather than being a leader, everybody else caught up, and they became a me-too.”

I asked Schorer to respond to the assertions that IST’s relocation to Massachusetts had caused problems. He said he couldn’t comment.

Schorer’s second big mistake, in the view of Hochschuler and the two former IST employees I’ve interviewed, was deciding to build a direct sales force to market the company’s spinal implants and surgical equipment, rather than hiring an outside distributor with experience and connections in the medical device business. “We knew that that was going to be far more expensive” than hiring out the work, says the early employee who spoke with me. But the company didn’t know just how hard it would be to get its product into hospitals that had longstanding contracts with other medical-device suppliers. “The barriers to entry were far more difficult than anyone could have expected,” this source said. At no time did the company’s sales staff manage to book more than $100,000 per month in implant or equipment sales, the source says: “It was an abysmal failure.”

Hochschuler agrees that it was a mistake for IST to try to circumvent the established networks of medical-device distributors, many of whom already have longtime relationships with orthopedic surgeons. “In direct marketing, you have full-time employees who cost millions of dollars, and even if they’re not getting any sales, they’re getting a guaranteed salary, so what is their motivation to sell the product?” Hochschuler says. “But if you have a distribution network that only makes a percentage, then you’re not risking anything, and if you are smart about choosing them, they have other things in their bags that are already needed in the OR, and they don’t have to convince surgeons to let them in the door.”

When the company finally gave up on its in-house sales force around 2007, according to another source, it took a year to ramp up distribution through an outside firm. The shift was “significantly mismanaged,” the source says. “Our sales were mostly stagnant throughout that period.”

Asked to respond to these criticisms, Schorer again said he couldn’t offer a detailed response at this time. The decision to create an in-house sales staff “was approved by the board,” he says. “The risks were known. That’s an age-old debate. Everybody can take it either way.”

In the view of several of the former insiders and outside spectators I interviewed, IST’s last big error—one many startups have made, of course—was … Next Page »

Wade Roush is Chief Correspondent and Editor At Large at Xconomy. You can subscribe to his Google Group or e-mail him at wroush@xconomy.com. Follow @wroush

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