23andMe's Fatal Flaw | Defying Gravity? | 2

0:07It's March 2023 and Ann Wachitski has won a rare honor. She's no longer merely the founder of the DNA testing company 23andMe. She's now a Barbie doll, too. Tomorrow is International Women's Day, and to mark the occasion, toy company Mattel is honoring seven female leaders in STEM with their own Barbie dolls. Well, at least in their likeness. Among the featured women are the Bay Area Wachitsky sisters, Susan, CEO of YouTube, Anne, CEO of DNA testing company 23andMe, and Janet, professor at UC San Francisco. Wuschitski and her sister's transformation into doll form is part of an effort to encourage more girls to seek a career in science, tech, or engineering.

0:52It's also great advertising for 23andMe. With a new Barbie movie starring Margot Robbie about to be released and 23andMe valued at$1.75 billion, things are rosy. It feels like 23andMe is delivering on the big promises Wuchitski made to investors in its startup days. She said then it would help people discover the secrets of their DNA while creating a valuable pool of genetic data for medical research. And now, that promise seems to have come true. But 13 years earlier, it looked so different. 23andMe lacked customers and was getting heat from regulators for selling DNA tests without approval. So how did Wojcicki go from that to being so successful she's now been made into a doll?

1:42And is this a transformation built on solid ground or a castle made from sand? This is worth pondering because there's a fatal flaw lurking deep in 23andMe's business model. And it's set to bring the whole business tumbling down.

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4:08From Wondery, I'm David Brown and this is Business Wars.

4:38In the last episode, Anne Wuchitsky started DNA testing business 23andMe in 2006 with investment from her then-boyfriend, Google co-founder, Sergey Brin. But after four years in business, it found itself struggling to get customers and facing a federal government crackdown on the sale of DNA tests. Now, it's early 2011, and the pressure's on. Wuchitsky needs to do something big, or 23andMe may end up as nothing more than spit at the bottom of a test tube. This is Episode 2, Defying Gravity.

5:21It's March 2011, and in Los Altos, California, Wuchitsky's opening her latest business, a kid-friendly cafe called Bumble. She's decided her hometown in Silicon Valley is short on the amenities she wants as a new parent. So she's changing that. Bumble's just the start. In the next few years, she'll also open a craft store, an arcade, and an indoor play space. While the community's spirit is laudable, there's a warning sign here. As an entrepreneur, your focus is one of your most valuable assets. To run your business, you have to be obsessional about the details. Wuchitski's now juggling five other ventures besides 23andMe and is investing in real estate.

6:07Her roving, eager mind has always been one of her most notable traits. But is she getting distracted? Right now, 23andMe is in trouble. Five years and several investment rounds on from launch. It's still short on customers. Not many people are willing to pay$400 to dribble into a tube to learn about their personal genetics. At the same time, the FDA is objecting to the company suggesting its tests are useful for health care, which threatens to eliminate a big chunk of its potential audience. And in medical journals, scientists are criticizing consumer gene tests for misleading consumers. So, outside of the cheerful interior of Bumble, clouds are gathering.

6:53But Wojcicki's always working at something. And now, she's working on a new plan to turn 23andMe's fortunes around. In December 2012, Wojcicki secures another round of investment. It's 23andMe's biggest yet,$50 million. That massive cash injection is going to allow 23andMe to make aggressive plays to get sales moving. Price has long been a major deterrent for potential customers, so 23andMe is going to use investors' money to drop the price of its tests to just$99. A price cut like that means a significant drop in revenue. But there is method in this madness. Because Wojcicki now believes that the big money isn't in selling tests.

7:44It's in packaging the results from those tests and selling the anonymized data to researchers. And the more people's DNA it has to sell on, the more valuable that data becomes. So, by selling its kits at bargain prices to millions of people, 23andMe will build a DNA database and hopefully generate big bucks. But it's not just cutting prices. It's also funneling investor dollars into advertising. I might have an increased risk of heart disease. Arthritis. Gallstones. Hemochromatosis. I'll look into that. Stuff we might pass on to our kids. Foods I might want to avoid. Hundreds of things about my health.

8:27Getting my 23andMe results. It really opened my eyes. The more you know about your DNA. The more you know about yourself. And 23andMe's big push for sales is about to get an unexpected helping hand from a Hollywood action movie star. She's battled CIA assassins and evil scientists as a movie star, but Hollywood A-lister and global activist Angelina Jolie is now waging a real-life war against a disease that threatens to cut short the lives of millions of women. In May 2013, actress Angelina Jolie announces she's had a double mastectomy. She made the choice after DNA testing revealed she has a mutation in her genes that greatly increases her chances of developing breast cancer.

9:11And now, she's encouraging other women to get themselves tested. And that increases interest in 23andMe's tests. It looks like sales are primed to take off. It's got major celebrity endorsements, a new low price of$99, and a clear use case for its tests making headlines. But 23andMe's fresh momentum is about to slam right into a wall.

9:43It's November 2013, and the axe has finally fallen. The FDA has been investigating the home DNA test market. That falls under the FDA's responsibility to regulate products that could affect public help. Now, after years of investigation, it's reached a conclusion and it's bad for 23andMe. It orders 23andMe to stop marketing its$99 tests. This is due to the inaccurate results these tests sometimes return that might cause consumers to undergo unnecessary medical procedures. 23andMe can't say it wasn't warned. The FDA had told the company this might happen. But the company failed to engage with the regulator to get approval for selling health tests.

10:30Now, that lack of engagement will cost 23andMe dearly. The FDA's order to cease marketing arrives just as the company's sales move into high gear, thanks to the price cut and the Angelina Jolie effect. Now the company's unable to cash in. 23andMe thought it could work around the rules. But now that that plan has backfired, its popular health tests are off the shelves and it can only offer ancestry tests. And now it'll have to work with the FDA to start offering health tests again by going through the approval process it spent years not engaging with. And that could take months, even years. Look, there's a lesson here.

11:18Silicon Valley's favorite motto might be move fast and break things, but when the thing you're breaking is FDA protocol, that's not disruption. That's just a lawsuit waiting to announce itself. You know, there's a tradition in tech of asking forgiveness rather than permission. But while that might work for software, healthcare and health data is not the place to play that game. Remember, when regulators start knocking, it's not a nuisance. It's a sign your business model might be skating on thin legal ice. In healthcare, skipping steps risks not just a fine or a telling off, but getting shut down.

11:58Entrepreneurs learn the rules early. or risk building a business on borrowed time. While dealing with the FDA shutdown, 23andMe launches its tests in the UK. Laws are more relaxed over there. Even so, there's no ducking the fact that this is a major setback. To make matters worse, Ancestry.com is moving into the DNA test business. Ancestry is building on its huge customer base of people interested in tracing their family histories. It already has more than 2 million subscribers to its website in the U.S. alone. Selling DNA tests to those customers seems like a natural move for the company. And Ancestry's backing its entry into DNA testing with plenty of TV advertising.

12:48Growing up, we were German. We danced in a German dance group. I wore lederhosen. I decided to have my DNA tested through Ancestry DNA. The big surprise was we're not German at all. It's going to be awkward explaining all that time wearing lederhosen now, but maybe not as awkward as 23andMe trying to explain to its investors why the business just got hobbled by the FDA and is now losing market share to Ancestry. And it's going to be a long road back to business as usual.

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16:15In April 2017, and after four years of negotiations, 23andMe finally gets FDA approval to start marketing its health tests in the U.S. again, following a very limited return to the market in 2015. But there's a catch. The range of disease risks it can test for is now much smaller. And the cost of those tests is now$199, up from that sweet spot of just$99. Yet despite that price increase, 23andMe is still losing money. It gets worse. While the company was benched by the FDA, 23andMe's competitors have gained ground. Ancestry's already sold 5 million DNA tests. 23andMe has sold just 2 million. This is the true cost of trying to get around the FDA for all those years.

17:1023andMe had a first-mover advantage, which can be priceless in a new field. And yet, it squandered it. CEO Anne Wachitski isn't deterred, though. She's got her eyes on a bigger prize than helping people with their family trees. Specifically, licensing 23andMe's DNA database to pharmaceutical and medical researchers. She's also about to fight back with support from some very high-profile helpers. starting in Christmas 2017 with a certain Oprah Winfrey. All right, hard to believe it's already that time of year again, time for Oprah's favorite things. That's right. And if you're looking to learn about your ancestry, you can try Mountain View-based 23andMe's DNA test.

17:54Oprah calls 23andMe the ultimate selfie, and it's on her big annual list of her favorite things, right there in between a lunchbox that helps with portion control and a hammock. And an Oprah endorsement guarantees a major sales spike. 23andMe is also getting traction with its plan to sell anonymized DNA data. In 2018, it strikes an exclusive$300 million deal with GlaxoSmithKline. The deal will let the British pharmaceutical giant use 23andMe's growing pool of DNA results for drug research. The medical world sees big potential in drugs that target specific genes. But developing these treatments requires data, the kind of data that 23andMe's collecting.

18:41But it's not all roses. Despite FDA approval, 23andMe is now getting criticism due to the limitations of its disease testing. As an opinion piece in the New York Times points out, FDA approved is not the same as clinically useful. Remember how interest in 23andMe's test increased after Angelina Jolie revealed she'd had a double mastectomy? She'd taken a DNA test that revealed she had a mutation in one of her genes that increased her risk of breast cancer. 23andMe tests these genes for mutations. The test focuses on the BRCA1 and BRCA2 genes, where cancer-linked mutations can occur. But there are thousands of these mutations.

19:27Technological limitations mean 23andMe can only test for three of them. The three mutations it tests for are mostly those prevalent among people of Ashkenazi Jewish descent. And that's a tiny sliver of the U.S. population, just 2%. Because 23andMe's tests don't look for the other mutations, they miss a huge amount of people whose BRCA1 and BRCA2 genes carry a mutation. And it's not just missing them. People are getting false reassurance from their 23andMe results. But to know that breast cancer gene tests aren't all clear requires people to engage with complex topics like gene mutations and medical statistics.

20:15And with attention focused on Lizzo dressing up as a DNA test for Halloween, well, few customers notice the debate about the shortcomings of 23andMe tests. There's worry around 23andMe's business model, too, specifically concern about a fatal flaw that's been baked into its business plan from day one. Problem is, your DNA doesn't change. It's fixed for life. So once you get a 23andMe test, there's no reason to buy another test. It's a once-in-a-lifetime purchase. Now look, one-time buys are rarely great business. It's why some companies build in planned obsolescence, like smartphones that seem to get slower with age, or washing machines that are designed so that they're more expensive to repair than to buy new.

21:04After all, if one washing machine could see us through our entire lives, there wouldn't be much of a business in making them. 23andMe sells DNA tests at a loss, and to consumers who most likely won't buy one again ever, because their DNA doesn't change. You get the problem, right? Well, Chitsky is smart and creative and fearsomely well-connected. But 23andMe is selling snowballs in a freezer. Once you buy one, why would you ever buy another? That's not a customer pipeline. That's a puddle. In reality, the only thing that seems to be keeping the 23andMe show on the road is its investors. This is the Silicon Valley community that Wuchitski seems to have been born to tap into.

21:49She may be a hit with Google and their ilk, but it's getting harder to ignore the fact that 23andMe doesn't really have an answer to that fundamental problem. A one-shot novelty product. Where's the growth in that? This means two things. One, those investors need to exit soon or risk losing everything they put in. And two, 23andMe needs a new business plan, one that can replace the broken business model it's been relying on until now. It's time to pivot, and hard. By early 2021, aided by a near-endless wave of publicity, 23andMe's DNA tests are selling well. The company's gone from around 2 million customers in 2017 to more than 12 million.

22:38But it's still losing money. There are also concerns that the market for these tests might be nearing the point of saturation. With its DNA tests burning cash and the plan to license its DNA database failing to deliver big bucks, Wuchitsky changes direction. 23andMe will now become a pharmaceutical company that'll create drugs based on the DNA data it's collected. The potential seems huge. The pharmaceutical industry is gigantic. In 2021, it's worth$1.2 trillion. But it's also built upon the bones of so many companies that didn't make it. Developing new drugs is tough, so tough, that only around 13 % of all global drug development programs end in approval.

23:29Competition is fierce. Promising drugs can fail in late testing after a decade of work. On average, it takes 10 to 15 years to bring a drug to market. And that process costs billions of dollars, not millions. There's a reason the main players in pharmaceuticals are so big and entrenched. It's one thing to shift your strategy, but pharmaceuticals? An industry where the success rates are microscopic? It's not just bold, it's death or glory. Startups considering this kind of leap need to ask, Do we have the cash? Do we have the patience? And do we have the expertise to survive the valley of death between promise and payoff?

24:13If not, stay in your lane or bring along a partner who knows the road ahead. Still, Ruchitsky's looking low on options right now. 23andMe's main asset is its bank of DNA data, and exploiting that to the max feels like the only way the company can make good on its promises to investors. But to even have a chance of making this work, 23andMe needs access to billions of dollars of capital. And there's only one place to go to get that kind of money, the stock market.

24:54In June 2021, 23andMe joins the NASDAQ, and it gets there using a special purpose acquisition company, SPAC for short. What's a SPAC? Well, SPACs are a route to taking a company public that doesn't involve an initial public offering or an IPO. With an IPO, you sell shares in your business directly to the public. SPACs offer an alternative route onto stock exchanges. They're shell companies that have already gone through the IPO process. These shell businesses don't make any products or offer services of their own. They just exist on paper. And they wait until a private company like 23andMe comes along to buy it in order to go public.

25:37SPACs are a faster and usually cheaper route to get listed on the stock market than an IPO. and they also involve less transparency and scrutiny. There are fewer disclosure requirements with the SPAC, so you're really trading on your reputation. And that's a wave that 23andMe's surfed like a pro since it first launched. 23andMe enters the Nasdaq valued at$3.5 billion, including debt. Wuchitski admits she's been concerned about going public, But she feels that the COVID pandemic has increased interest in genetics. So the moment makes sense. On day one, 23andMe stock rises 21%. At its peak, the stock market will eventually value 23andMe at$6 billion.

26:29But there's a catch. Public markets are far less forgiving than private capital. Once you're listed, you're answering to analysts, not just true believers with skin in the game. Momentum won't carry you. Only your financial metrics will. Lizzo and Oprah, they won't get you across any finish lines in this world. Armed with cash raised from going public, Wuchitsky looks for ways to shore up the company's financials, which will be exposed to all in quarterly reports. In October 2021, 23andMe buys telemedicine firm Lemonade. That's aid as in Band-Aid. Yeah, I know, I probably wouldn't go with that name either.

27:14Lemonade offers online doctor's appointments and prescription drug deliveries. It's an established player. It's the kind of business that can assure analysts that 23andMe's got cash coming in, not just going out, while it tries to make its drug discovery pivot pay off. A month later, in November 2021, 23andMe announces the creation of an internal drug development operation staffed by 100 scientists. The company reveals it's collaborating on clinical trials for one drug while nearing trials for another, and the first drug in development might be used in the field of immuno-oncology, using the body's immune system to fight cancer.

27:5523andMe is also looking into drugs for treating neurological and cardiovascular conditions. But it stops short of giving any more details away. Sounds promising, but too vague for anyone to be sure if it'll pan out. And that's an issue, because the initial high of going public is already starting to fade.