iSight - Ambition in healthcare

MedTech’s future focus

Mergers and acquisitions has been strong in MedTech over recent years, but what does the future hold for the sector. iSIGHT talks to industry experts Ron Dollens, Ivan Pirzada, Renee Ryan and George Montgomery for their views.

In the last five years 3i has invested significantly in the MedTech space across Europe and the US. Sectors of interest range from orthopaedics and cardiovascular, through to aesthetics and novel imaging modalities. “3i’s interest in the space remains high,” says 3i partner Nigel Pitchford, “particularly given the ability to build sustainable businesses within relatively short periods of time and with definable capital; and the attractive exit dynamics these companies can command.”

Overall, the MedTech sector has been a hive of merger and acquisition (M&A) activity in recent years, with more than 30 deals consummated by the 10 largest MedTech corporations in 2003 alone. However, in 2006 that number fell to just nine.



The pressures on MedTech M&A are numerous, including disappointing postacquisition results which have threatened to dilute overall earnings. The M&A environment is also becoming a victim of its own success: the consolidation among MedTech companies has begun to fuel anti-trust concerns, which in turn has restrained activity.

But what will the next several years hold for M&A in MedTech? iSIGHT conducted a roundtable with four industry leaders to predict where the sector is headed. Ron Dollens, former CEO of cardiovascular device manufacturer Guidant, and 3i investment advisor, who shepherded Guidant to an acquisition by Boston Scientific in 2006; Ivan Pirzada, vice president of mergers and acquisitions at banking firm Brown Brothers Harriman in Boston; Renee Ryan, managing director of investment bank Jefferies & Co in San Francisco; and George Montgomery, managing director of Montgomery & Co, an investment bank based in San Francisco; provide their views on the years ahead.



Some figures have indicated that M&A in MedTech is declining as of late. Are there particular reasons behind that? Do you see that as a long-term trend?

Ivan Pirzada: In the venture segment, M&A is cyclical depending upon valuation expectations and the availability of targets that meet the risk profile of the MedTech acquirers. Among the next generation of technologies in orthopaedics and cardiovascular, the new technologies will be coming to fruition in the next two years, which should accelerate M&A activity. Some of the most interesting targets are still in the clinical development stage and haven’t yet reached the commercialisation stage, and that is more of a risk than the acquirers are willing to accept. In certain segments we’ve  also noticed some level of buyers’ remorse and conservatism which has slowed M&A activity in the near term.

This was borne out partially by the spine market, which has seen a lot of consolidation but did not reap the expected dividends. For example, Johnson & Johnson, Medtronic, Synthes and Stryker made substantial investments in total replacement lumbar disk technologies. At the time of the transactions industry analysts believed replacement disks could cannibalise 30% to 40% of spinal fusion sales, which translated into an approximate $2 billion market opportunity. However, the clinical outcomes weren’t as robust as initially thought, which has led to reimbursement challenges and, ultimately, a market opportunity that is a fraction of the opportunity that was once thought.

As a result of these and other examples, medical technology acquirers want to see more robust clinical data from a target’s technology before they pull the trigger on an acquisition based solely on the future potential of a technology.

Renee Ryan: Over the past couple of years, deals like Boston Scientific’s takeover of Guidant have become increasingly rare. However, there have been a lot more private equity buyouts as of late – Biomet, for instance, getting taken out by Blackstone, Goldman Sachs, Texas Pacific and Kohlberg, Kravis & Roberts (KRR) (in a deal valued at $11.4 billion), and DJ Orthopedics (DJO), being taken private by Blackstone – that’s a major trend we’re seeing.

Another is the rise of the mid-market acquirer, such as Hologic and Cytyc, which have been pretty rabid M&A players, buying up three to four companies the past 18 months. As they’re not getting acquired themselves, they need to do some M&A of their own.



George Montgomery: There’s been a lot of turmoil in the stent market, with recent studies indicating that they’re palliative from a symptom standpoint, but they have close to zero impact on mortality. A number of stent companies are reassessing their budgets and assumptions as a result.

Overall, I’m pretty bearish on the MedTech M&A environment for the next six to twelve months, although this will be more of a blip to a pretty healthy market for the rest of the decade.

Much of the M&A activity in MedTech has been in orthopaedics and cardiology – do you see it diversifying into other areas?

Ron Dollens: Orthopaedics and cardiovascular have been such great sectors. I think about the aging population, the emphasis in society about the quantity and quality of life, that people 75 or 80 years old still want functional capacity, and those sectors have helped to get that job done. Trying to guess at what the next sectors to develop along those lines will be, one would have to look at neurology and neurovascular stroke. There are a substantial number of people experiencing these issues, and a strong clinical need to address the after effects. There are reasonable solutions out there, and there are easy methods of reimbursement.

Ivan Pirzada: One interesting area could be pulmonary. There are a couple of companies out there developing interesting disruptive technology. Emphasys, for example, is
developing a plug or valve-like technology to try and seal off part of a damaged lung for patients with emphysema, which prohibits thespread of [further] damage. Emphysema is currently being treated with oxygen therapy or invasive surgical options, which don’t always do the best job in containing the effects of the disease and result in a high complication rate. There is also substantial innovation occurring in stroke therapy. For example, Concentric Medical’s Merci Retrieval System is designed to remove clots following the onset of stroke symptoms.



Renee Ryan: There has been diversification into other areas. One is diagnostics, which has been very, very active. Women’s health has been another area, such as some of the developments in breast cancer technology, and below-the-belt tech, such as incontinence and sterilisation. We’re finally seeing technologies in these arenas coming to fruition and building significant franchises.

The population is aging, particularly in the US and Europe. How do you think that is going to drive future product development?

Ivan Pirzada: The overall favourable demographic trends are driving a lot of investor interest in the medical device segment. Companies are first and foremost attracted to the MedTech sector because of the aging population. Orthopaedics is a prime example, whereby an aging population suffers from more orthopaedic ailments, they are also much more active than before. A 75-year-old would have never considered an artificial hip 20 years ago. Now it’s much more commonplace. This dynamic sustains strong procedure growth.

Moreover, consumer-directed healthcare and the Internet have also helped create an environment that has driven the rapid adoption of new technology. Patients are more savvy, and have much more insight in terms of how next generation technology could improve clinical outcomes. That helps to drive mergers and acquisitions in the sector as physicians want to be able to have access to the best technology as soon as possible, and the large medical device companies need to keep pace with technological change in order to satisfy their surgeon base.

Renee Ryan: We’re actually spending a lot of time in the aesthetics world. There are a lot of Baby Boomers with the ability to cash-pay for aesthetic procedures. We haven’t even begun to see M&A affect that landscape yet. The other area is earlier intervention in things such as congestive heart failure. If you have a heart attack, your chance of getting congestive heart failure is much higher. It’s a very expensive disease, and most of it is spent on the end stages.

There is a movement toward electronic patient records, particularly in the US. How do you think that is going to shape the demand for future products?

Ron Dollens: There is no doubt [healthcare enterprises] are going to pursue, and government is going to support, a thrust toward electronic medical records. The big push won’t be too dissimilar from the Hill- Burton legislation in the US that provided capital for hospital construction (in the 1950s, 60s and 70s). If that happens, there will be a strong impetus for many MedTech companies to pursue those solutions. Some companies are already doing it, but they’re having great success only in isolated instances. Many institutions don’t think they want to make that capital investment. However, if there is some form of financial intervention from the government, that will encourage sector movement in that direction.



Renee Ryan: We’re a long way off from it being truly universal. Behind the whole EMR system as it stands now is a bunch of legacy systems. I do think it’s interesting though: a whole new way to think about data capture. It can be very powerful, but I don’t know how yet it will translate into traditional medical devices.

What other areas of the world do you see as emerging areas for MedTech? What might be driving this? Will China be able to compete and assure its quality control?

Ivan Pirzada: We continue to see robust product development coming from Europe – specifically Switzerland, France and, to a lesser extent, Germany and Italy. From a  demand perspective, the Middle East and Indian subcontinent are promising, but those markets – specifically India – are in the early stages of development. However, we believe that the major medical device manufacturers will increase their efforts in India over the next five years.

China is unclear. In terms of product development, no, but in terms of manufacturing, maybe. With regard to implantable devices quality is far more important in this segment, given the product liability risk, than in other manufacturing arenas, so low-cost is not the most important attribute which may mitigate China’s competitive advantage.

Ron Dollens: The US is generally subsidising the rest of the world. What drives that whole early-stage entrepreneurial emerging company is you have to have the industrial architecture, and a culture of rewarding people who take risks. And you have to have the risk capital community and people who are willing to finance these situations. You don’t have that situation anywhere else in the world. There may be the industrial piece and the research through universities, but there isn’t that culture of risk-takers, although that is evolving in Europe more than anywhere else.

China will be more on the demand side of the equation, although not in technologies where you’re going to need a huge infrastructure. It will be things such as diagnostic tests, with implantable therapies later down the line. In terms of being a supplier, there is always a search for quality, and as a supplier, I don’t have a great sense for that yet.

Renee Ryan: There is tremendous innovation going on China, and there will be real opportunities. There will be distinct benefits in terms of manufacturing there, although intellectual property issues may still need to be resolved.

George Montgomery: From a manufacturing perspective, the biggest issues revolve around intellectual property. Until companies feel this isn’t the wild west and their intellectual property can be protected, there is no way they’re going to put manufacturing into India and China.

Venture capital appears to be flowing into the MedTech sector. Can you say why? Is this seen as less of an investment risk than in other industries?

Ivan Pirzada: There is a lot of interest in MedTech, because the development cycle is shorter than in biotech, and investors are looking favorably at the demographic issues
surrounding the industry. The regulatory and reimbursement environment is also fairly clear.

However, you could view this as a potential bubble in the making, and part of the reason you’re seeing less M&A activity is that the venture activity is driving up target company valuations. Venture investors are overly optimistic, and they are reluctant to sell at a price lower than they think the companies should receive given the availability of private capital on favourable terms.

Renee Ryan: There was continued record investment in the first quarter of 2007 in venture capital dollars and it is not solely for an M&A exit; the investors have a much broader array of alternatives for liquidity. There are also a lot more companies that are maturing, building a sales force and planning ahead before they would think of selling. Ultimately, there are more mature investments in medical device companies.

George Montgomery: There was a pretty bearish period on the private equity side in MedTech between 1996 and 1997. But it’s healthy now, and I think that’s going to be for the long-term. MedTech has usually provided pretty good returns on venture capital. It also takes a lot less capital to get to a product for one of those liquidity exits than for a biotech company. The dollars may not be as large, but the absolute return on capital can be just as attractive.

How do you see the climate for IPOs in this segment?

Ron Dollens: I don’t think it will be the typical exit strategy for the community. The demands for growth from the companies that are already in place are driving that; they will make acquisitions before letting the companies get to the IPO stage.

Ivan Pirzada: It’s been fairly favourable. The notion in the venture community is that if they can’t get the perceived valuations for their companies in an M&A transaction and they can access available capital on favourable terms, they will. However, there is a definite disconnect between what a company could be valued in an IPO and M&A transaction. The corporate acquirers are not going to chase valuations and, ultimately, the IPO market provides a window for a venture firm to elongate their investment on favourable terms, not to achieve a full exit for their investment. George Montgomery: People are holding out for higher prices. I think it will remain companyspecific. It’s not a situation where people are going to be throwing money at MedTech. They’ll be selective, in terms of whether the companies can be strong, independent standalone companies, or are they biding their time as takeout candidates.

Renee Ryan: The summer has been a challenging environment because of the subprime market woes. However, the overall underlying economics are still very solid. If you do a basket analysis, medical device IPO investors are making money, and the stocks are up. There should be an open window for the foreseeable future.

Previous section Next section