Theranos Latest Example of Tech Hype

One of the biggest challenges technology investors face is not getting caught up in the hype. Especially in its early days, a tech company is going to tell you they have the latest, greatest, game-changing gadget around. In some cases they do and, in others, they have more of an idea than a product. Or they could get supplanted by an even newer innovation before they can get their product off the ground.

At any rate, as an investor you have to look at every “latest and greatest” claim with a critical eye, and the myth of the “Theranos sage” is just the latest example. Only a year ago, Theranos CEO Elizabeth Holmes looked like a genius. At just 19 she dropped out of Stanford before completing her undergraduate degree in chemical engineering. She almost immediately founded what was then known as Real-Time Cures, which focused on drug-delivery patches (and was later dropped), which went on to become Theranos.

Holmes and her company appeared set to radically change the way lab tests are done. Using the current technology, most tests require at least a vial of blood collected by a vein stick. Theranos, on the other hand, claimed that its blood testing device called “Edison” could perform many of the same tests using just a few drops of blood collected by a finger stick.

As it stands now, multiple vials of blood are usually collected with every stick. A typical vial holds about 10 milliliters compared to a total of 1.5 gallons of blood in the human body (just over 5,600 milliliters), so there really isn’t much risk that you’ll be bled to death for lab tests. But you often have to schedule a block of time out of your day to go to a lab or doctor’s office to have the blood drawn.

Finger sticks are generally much faster, so if labs could move away from vein sticks they could operate more efficiently and a wider array of facilities could collect blood. Finger sticks are also usually cheaper than vein sticks. For instance, Walgreens (now Walgreens Boots Alliance (NSDQ: WBA)) had partnered with Theranos to provide its blood testing services in its stores. You could walk in, have a stick done and, in many cases, pay less than having a vein stick even without insurance.

As we since learned, problems have since emerged at Theranos. Scientists began to question the results Theranos’s Edison was producing, but the company refused to allow outsiders to validate its technology. That’s a particularly important step, especially in the medical field where lives could be on the line. Then this past January the Centers for Medicare and Medicaid Services (CMS) issued a letter to Theranos saying that it found deficient practices in its California laboratory during a November inspection.

CMS compliance is incredibly important in the medical field because without it, a medical provider cannot bill the Medicare or Medicaid programs, essentially the two largest insurers in the U.S. Theranos either wouldn’t or couldn’t make the changes that CMS demanded and the consequences have been dire.

Holmes was hit with a two-year ban on owning or operating a laboratory last week, taking her net worth from an estimated $4.5 billion to essentially zero. It also dropped the value of Theranos, once valued at as much as $9 billion, to just $800 million. While Theranos wasn’t a public company, it is believed to have raised hundreds of millions of dollars from venture capitalists and other high net-worth investors, who will now be lucky to get pennies back on the dollar.

Unfortunately, history is littered with the corpses of failed technology companies. You only need to look back to the dot-com bomb and tech crash of the early 2000s to find hundreds of examples of companies that seemed to have great concepts, at least on paper, that ultimately nosedived.

It does seem like Theranos insiders should have known sooner that there were problems, but it looks as though they and their big money investors bought into their own hype. Back in 2014, there weren’t many business publications that weren’t producing glowing profiles of the company and people were comparing Holmes to Bill Gates and Steve Jobs. There’s no denying she had a good idea, but clearly there were execution problems.

That’s why when we’re vetting new investment ideas, we try to lift back the veil to see if there really is a viable new technology at the end of the road. If we can’t see an endgame, or if that endgame comes into question down the road, we move on. To win at technology investing, you often have to cut your losses.