Over the recent past, medical technology (MedTech) players have
faced the brunt of exigent economic conditions and a precarious
healthcare environment. The performance of the players was thereby
hamstrung by several macro issues, including sustained price
erosion and procedure volume pressures.
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The difficult macroeconomic backdrop, pricing headwinds, austerity
measures, reimbursement pressure, a still unstable job market and
the impact of health care reform continue to weigh on the medical
devices industry. The situation is exacerbated by Europe's
sovereign debt plight. With fewer patients going under the knife,
accompanied by concerns regarding the overuse of devices, companies
in the cardiovascular and orthopedic domain continue to grapple
with tepid utilization.
The global medical devices industry is fairly large, intensely
competitive and highly innovative. This highly regulated industry
is spread across different segments including cardiology, oncology,
neuro, orthopedic and aesthetic devices. The US medical devices
industry relies largely on an aging baby boomer population, high
unmet medical needs and increased incidence of lifestyle diseases
(including cardiovascular diseases, diabetes, hypertension and
The MedTech industry is challenged by several issues: pricing
concerns, hospital admission and procedural volume pressures,
uncertainty surrounding health care reform, Medicare reimbursement
issues and regulatory overhang. Percutaneous intervention (PCI)
volumes continue to be relatively flat in the US, Japan and Europe
with improvement not expected before the second half of the year on
a year-over-year basis. Nevertheless, several catalysts for growth
exist such as new product cycles, an aging population, geographic
expansion, ongoing transition towards minimally invasive techniques
and emerging markets.
In December 2011, the FDA released numerous draft proposals on the
510(k) process. Devices makers must prove that their devices are
substantially equivalent to a predicate device already marketed to
secure the FDA green signal. While the 510(k) overhaul is still in
process, it may eventually make device approval more complex,
lengthy and burdensome. Moreover, with the expected rise in the
regulatory bar for approvals, medical device companies may be
required to shell out more for R&D.
Given the maturing legacy markets, medical device companies are
looking to expand into lucrative incipient markets. Expansion in
emerging markets, especially those with double-digit annual growth
rates, represents one of the best potential avenues for growth in
2012 and beyond.
The MedTech companies have resorted to the acquisition route to
harness their strengths and diversify their offerings. Major deals
on the anvil include
Johnson & Johnson's
) acquisition of Synthes (scheduled to be completed on June 14th),
which should help strengthen its medical device portfolio. This is
one of the biggest deals (approximately $21 billion) broached in
recent times in the MedTech space. The FTC nod regarding the deal
comes with the rider that J&J will have to divest its system
for surgically treating serious wrist fractures.
The company intends to sell this system (known as DVR) along with
the rest of its product line for treating traumatic injuries, to
Biomet Inc. This deal, on the other hand, would enable Biomet to
expand its Sports, Extremities and Trauma businesses.
Another MedTech major,
Boston Scientific Corporation
), has been looking to expand through acquisitions to counter the
challenges of its core segments. The company's Cardiac Rhythm
Management (CRM) portfolio now includes a subcutaneous implantable
cardioverter defibrillator (ICD), the S-ICD system, subsequent to
the acquisition of Cameron Health.
), catering to the healthcare needs of women, recently announced
its decision to acquire
) for approximately $3.7 billion. This would enable Hologic to
strengthen its foothold in the molecular diagnostics space and gain
access to Gen-Probe's molecular diagnostic platforms of Tigris and
Panther systems. With 61% of revenues from molecular diagnostics
and 35% from blood testing, Gen-Probe is a prominent player in
molecular diagnostics products and services that are used primarily
to diagnose human diseases, screen donated human blood and help
ensure transplant compatibility.
With the proposed acquisition of transfusion medicine business of
) for $551 million,
) will be able enter the $1.2 billion whole blood collection
market. Manual whole blood collection accounts for the vast
majority of the nearly 60 million red blood cells collection
procedures performed annually worldwide.
Healthcare products maker,
) seems to be on an acquisition spree. The company plans to acquire
Israel-based Oridion Systems for approximately $300 million
expanding its portfolio in respiratory monitoring equipment. Other
recent acquisitions by Covidien include superDimension, which
develops minimally invasive interventional pulmonology devices for
$300 million and ventilator maker Newport Medical Instruments for
Going forward, we expect this M&A trend to continue. We also
expect a significant pickup in in-licensing activities and
collaborations for the development of pipeline candidates. Several
MedTech majors, struggling with their core businesses, are looking
to explore emerging therapies with potential.
Healthcare Reform: Tax Fear Grips MedTech
The Government-mandated health care reform in the US -- the Patient
Protection & Affordable Care Act (labeled as "ObamaCare") --
has raised uncertainty for medical devices companies. The reform
has led to a less flexible pricing environment for these companies
and may pressure pricing across the board.
Moreover, the highly controversial proposed tax, representing a
part of the Act, will be a drag on device companies. When
implemented, device makers will have to pay a 2.3% excise tax on
sales of certain products beginning 2013.
The outlay is expected to choke innovation as it will impact
investment in R&D. Moreover, it will lead to job cuts and
higher prices for customers. The federal government expects to
raise $20 billion in taxes over a ten-year period. In response,
device makers have started to take up several initiatives including
headcount reduction and other restructuring activities to counter
costs associated with the implementation of the new tax.
In our universe, we see growth potential in companies dealing with
cardiovascular devices, and neuro and radiation oncology products.
), Boston Scientific Corporation,
St. Jude Medical
With a slew of new products, the Big Three players in the ICD
market (Medtronic, Boston Scientific and St. Jude) are striving to
gain market share, despite the challenging business environment and
several other barriers to growth. These players are also exploring
new avenues of growth beyond the mature pacemaker and ICD markets.
The US implantable defibrillator market continues to bother cardiac
device makers, as reflected by sustained implant volume pressures.
As per estimates, the global CRM market is expected to shrink at
low single digits (at constant currency) in 2012. However, the
silver lining is that the US market is showing signs of
Among the above-mentioned names, Medtronic, the undisputed leader
in the MedTech space, has a diversified presence in cardiovascular,
neuro, spinal, diabetes and ENT and boasts an attractive pipeline.
Despite sustained weakness in its key ICD and spinal implants
businesses, we like the company's efforts to augment/diversify its
product range, expand into emerging markets for growth, and target
to return 50% of free cash flow to shareholders through dividends
We are optimistic that over the long term, stability in the US ICD
market along with a deep pipeline/portfolio -- which includes
CoreValve, Resolute Integrity, Atrial Fibrillation, renal
denervation and peripheral businesses -- will be the driving
factors for the company going ahead.
Of these driving factors, renal denervation, serving a very
significant unmet clinical need in uncontrolled hypertension,
deserves special mention given its immense market potential.
According to the company, this indication alone holds a $2-$2.5
billion market opportunity by 2020, excluding the other potential
applications of renal denervation. During fiscal 2013, revenues
from Medtronic's renal denervation business is expected to almost
double to $60-$70 million.
Medtronic's peer, Boston Scientific is leaving no stone unturned to
stay on the growth curve. The company is looking at improved share
in the global DES market subsequent to the earlier-than-expected
approval of Promus Element Plus in the US (in November 2011), and
the launch of the product in Japan and Canada, both in March 2012.
We are also encouraged with the launch of Ingenio and Advantio
pacemakers and Invive cardiac resynchronization therapy pacemakers
(CRT-P) in Europe in April 2012, followed by FDA approval in May
Although Boston Scientific continues to experience challenges in
its CRM and stents businesses, we believe that the company's
continuous focus on strategic initiatives (including new products
and cost cutting measures) to drive growth and profitability should
yield steady results moving ahead. Some of the other significant
products in its pipeline include the fourth-generation Synergy DES
(CE Mark expected in late 2012 with full launch in 2013 and
commencement of US trial scheduled for mid-2012) and Vercise deep
brain stimulation program for the treatment of Parkinson's disease.
Both these technologies are expected to begin contributing to
revenues in 2013 and substantially in 2014.
For St. Jude, we are intrigued by the company's ability to gain ICD
market share despite the sluggish market conditions. St. Jude is
poised for incremental opportunities in CRM on the back of strong
product momentum. Specifically, the company benefited from the
recent launch of its Unify quadripolar CRT-D system. On the back of
its success with Unify, the company is looking at benefiting from
the Ellipse line of ICDs (the world's smallest high-energy ICD).
The company is also eyeing percutaneous mitral valve repair
technology -- representing almost $1 billion in market potential --
with a launch scheduled in Europe by 2013.
Edwards Lifesciences represents another value proposition. The
company recorded strong Sapien sales in the US in its first full
quarter of launch after receiving FDA approval in November 2011.
The mid-point of the guidance for Sapien sales in the US was
lowered by only $10 million despite the one-quarter delay in
approval for high risk patients primarily due to
better-than-expected ramp up in Sapien sales in US. Approval of
Sapien for high risk surgery patients in US, however, remains a
concern. Edwards has the first mover advantage in the US in the
field of transcatheter aortic valve replacement (TAVR) with Sapien,
though Medtronic with its CoreValve offers tough competition in
Robotic surgery is another fledgling area which is expected to gain
ground in 2012.
) clearly leads the pack with its state-of-the-art technology.
Intuitive enjoys a virtual monopoly in robotic surgery and
continues to deliver forecast-topping earnings. Its sales are
growing at a torrid pace, buoyed by the da Vinci surgical system.
We also believe that cardiac assist devices maker Abiomed
represents another attractive opportunity for investors. The
company possesses a broad portfolio of products that are
life-sustaining in nature and has been able to deliver sustainable
growth in a challenging economy. Abiomed enjoys strong demand for
its Impella cardiac pumps.
Beyond the MedTech majors, we are also optimistic about scientific
Thermo Fisher Scientific
). The leading diversified scientific instrument maker has been
successful in expanding operating margins over the past few
quarters on the back of operational efficiency and cost discipline.
It has strong international exposure and is focusing on
acquisitions and emerging markets for growth. Although the
academic/government market is still fettered by constraints, it
improved on a sequential basis during the most recent quarter.
We also expect fractional flow reserve (FFR) guided therapy and
optical coherence tomography (OCT) technology within the
intravascular imaging market (valued at approximately $500 million)
to offer incremental opportunity for companies such as
) and St. Jude. We expect penetration of the FFR technology to
improve on the back of growing awareness about appropriateness of
stents and for validating stent outcomes amidst a tight economic
and reimbursement scenario.
Still-Cloudy Orthopedic Space
Orthopedics is one of the largest medical device market segments
worldwide. However, this market, valued at approximately $30
billion in 2011, is still struggling as patients defer their
elective procedures given the lingering economic softness. Lukewarm
demand is exacerbated by sustained pricing pressure.
In particular, the reconstructive market fundamentals (pricing and
volume) remain challenging with little or no clear visibility for a
material turnaround in the near future. The joint replacement
market has been hit by patient deferral of elective procedures,
leading to weak demand for hip and knee implants.
Pricing compressions on hips, knees and spine products, which
impaired the performances of most of the orthopedic companies in
2011, remain a key concern at the macro level.
We remain skeptical about companies including
Wright Medical Group
) given the sustained price/volume pressure.
EHR Incentive Payments on a Downturn
CMS incentive payments for electronic health records (EHR) to
hospitals (including both Medicare and Medicaid) declined more than
35% in the month of April 2012. The $116 million in disbursements
made by Medicare to hospitals in April 2012 is the lowest since the
September 2011 payout of $64 million. It was at its highest in
December at $375 million.
Huge fluctuations in Medicare payments ($188 million in January,
$134 million in February, $184 million in March and $116 million in
April) force us to take a cautious stand. As such, we are a little
wary of players catering to the HIT (healthcare information
technology market). Names in this domain include
Allscripts Healthcare Solutions
Additional concerns for Quality Systems emanate from a drop in the
number of signed contracts along with a decline in the proportion
of green field projects. The most recent quarter marked the fourth
straight quarter of declining year-over-year growth rate of the
pipeline. (The company defines the pipeline metric as aggregate
worth of contracts with a 50% or greater possibility of closure
during the upcoming four months). Moreover, as the
government-sponsored EHR program winds down over the next few
years, it is expected to create significant headwinds for these
While the debt crisis in Europe remains unabated, economies
throughout the world are trying to come to terms with myriad
challenges. The May jobs report for the US economy has raised
doubts again about any possible recovery with the unemployment
level climbing to 8.2%. The emerging economies of Brazil, India and
China are also slowing down. Unemployment in the 17 countries of
the Euro-zone stood at 11% in April.
This situation adds to the woes of the MedTech sector as many
companies look for sales from the international arena. So, many
companies are looking at emerging markets for future growth.
Procedural volumes in the US have been hit by a high unemployment
rate, which has resulted in the expiry of health insurance as well
as a decline in enrollment in private health plans. Governments
across several European countries have taken up measures to curb
spending on devices, which is expected to thwart utilization this
year. Volume headwind is likely to linger this year as unemployment
continues to influence procedure deferrals.
Players in the medical device space are experiencing pricing
pressure of varying degrees. Cardiovascular devices companies are
witnessing global pricing pressure in the ICD and CRM businesses.
Although data from the recently reported quarter signal some relief
in the rate of pricing erosion, we believe pricing will continue to
bother given global budget constraints amidst deteriorating