Pulse: medical technology report 2015
Year in review
The year ending June 30, 2015 provides a Rorschach test for medtech. A record number of IPOs and a healthy M&A market offer reasons for optimism. But equally, the sector’s single-digit revenue growth, dwindling interest from venture capitalists and a tougher reimbursement environment could prompt a more pessimistic view. Optimists and pessimists could even point to the same medtech metrics – the total amount of capital raised by industry in the year, or a rising number of premarket approvals (PMAs) – and see completely different things.
In the current value-focused era, medtechs, because of their iterative product development cycle, are particularly susceptible to market access restrictions that may depress new product sales. Given that breakthrough innovations arise only rarely, the uncomfortable truth is that this scenario makes growth difficult to achieve.
The most recent financial performance metrics underscore this point: unimpressive top-line gains at the sector’s largest players resulted in an overall growth rate of just 2%.
This is the second year of low-level organic growth and underscores the strategic importance of M&A as one vehicle to accelerating the top-line.
The year ending 30 June 2015 saw its fair share of large M&A deals, as well as a spate of spin-off deals and two massive acquisitions: Becton Dickinson’s purchase of CareFusion (US$12.2 billion) and Danaher’s deal for Pall Corporation (US$13.8 billion). In an encouraging sign, the average deal size for non-megadeals (transactions valued at less than US$10 billion) reached a four-year high in 2014-15 and sellers captured more of an acquisition’s up-front value, as the percentage of structured payments declined year-over-year.
Meanwhile, medtech has increased its R&D spend for the fifth year in a row, and returned less cash to shareholders via dividends and share buybacks. It may be that this uptick reflects changing priorities and a realization that investing in innovation – and demonstrating the value of that innovation – is essential for medtech’s future growth prospects. The increase in the number of products using the more challenging PMA regulatory pathway could be a sign that therapeutic device players are shifting toward backing their products with better evidence of value. However, it may also point to an industry forced to generate more and better evidence for the same kind of iterative innovation that has driven it for years.
The active M&A climate, as well as megadeals from the prior year (Medtronic/Covidien and Zimmer/Biomet) led to a record year for debt offerings, which totaled nearly US$41 billion. Together, Medtronic, Becton Dickinson, Zimmer and Boston Scientific raised US$35 billion in debt between July 2014 and June 2015, while another 16 medtechs each raised at least US$100 million in debt. Low interest rates help fuel this debt bonanza, but skeptics will wonder at the sustainability of the strategy; more than 80% of the nearly US$50 million in financing medtechs raised in 2014-15 was via the debt market.
A deeper dive into the yearly figures also reveals a troubling dichotomy when it comes to the venture capital environment. During 2014-15, venture investment in privately-held medtechs held steady at around US$4.7 billion. This total reflects a new, lower normal that comes as venture investment in the US across all industries is robust. Indeed EY’s analysis suggests medtech is not a priority investment arena, attracting only 5.9% of all US venture dollars in 2014. Even more concerning, venture investments in earlier-stage medtechs now make up a smaller share of this smaller pie due to the retreat of several stalwart medtech-focused VCs at a time when corporate venture investors have yet to fill the gap. Indeed, only 29% of medtech venture investments in 2014-15 went to companies raising seed, Series A or Series B rounds. That is an 8 percentage point drop from the year prior.
The difficult medtech venture situation raises the question of whether the persistent vacuum of early-stage capital will create a subsequent innovation vacuum that will further undermine the industry’s future growth.
More positively, the medtech industry outperformed the broader market during 2014 and the first half of 2015, largely as a result of investors’ warm feelings toward biotech companies. As a result of this surge in the public equity markets, the window for initial public offerings (IPOs) remained wide-open, enabling 43 US and European companies to list on public exchanges. Those start-ups raised a cumulative US$2.3 billion, up 57% year-on-year.
But IPO windows close as quickly as they open, and this one will be no exception. Investors aren’t as adventurous as they may look at first glance – four out of every five medtechs to go public in the US from July 2014 to June 2015 were already generating revenues. For medtechs, at least, products and real revenue, not the promise of future earnings, appear to be required to attract sustained investor interest.
The ramifications of the financial performance, financing, and M&A trends remain a matter of perception. Although there are significant opportunities to transform health care via medtech, delivering on this promise will require innovation across the medtech value chain.