Medical products 1998: Industry in consolidation
By CYNTHIA DRAKE BBI Contributing Writer SAN JOSE, California – “The medical device industry is one of the most vibrant in the entire US economy,” said Kurt Kruger, speaking during the 1998 Medical Device Conference sponsored by Wilson Son-sini Goodrich & Rosati (Palo Alto, California). Kruger is managing director, NationsBanc Montgomery Securities (San Francisco, California), and he review-ed the domestic device sector’s merger/acquisition status year-to-date. (Kruger’s comments were deliv-ered prior to the surge of deals the industry experi-enced later in June and on into July.) The industry has experienced a number of very high-profile mergers during the past few years, most-ly with the largest device companies acquiring their most innovative – and smaller – brethren. In many cases, these acquisitions occur before the innovator’s product has been approved for sale anywhere in the world. What are the reasons for the latest deals? What are the acquiring companies looking for? A panel of experts including Kruger; Robert Cohen, group vice president, Sulzer Medica USA (Angleton, Texas); and Jay Watkins, vice president, Guidant-Compass (Menlo Park, California), answered those questions and more for the analysts and company representa-tives at the conference. Kruger reported a summary of trends in U.S. medical device acquisitions, showing the annual total value growing from $2 billion in 1993 to more than $10 billion in 1997. The number of medical device firm transactions hit a high in 1997. Fewer transac-tions had been completed this year at the time of the conference – 10 – but for bigger overall value (about $5 billion through May). Reviewing activities over the last three years, Kruger noted the change in trends. In 1996, big com-panies bought a lot of small companies. In order to acquire technology, Medtronic (Minneapolis, Min-nesota) bought AneuRx (Cupertino, California) and Pfizer (New York) bought Corvita (Miami, Florida). Looking to expand their sales and distribution base, Nellcor Puritan-Bennett (Pleasanton, California) took on Infrasonics (San Diego, California) and DePuy (Warsaw, Indiana) acquired Orthopedic Technology (Tracy, California). In 1997, big companies bought medium-sized companies, again to acquire technology or to expand sales and distribution. Boston Scientific (Natick, Massachusetts) acquired Target Therapeutics (Fre-mont, California), Guidant (Indianapolis, Indiana) acquired EndoVascular Technologies (EVT; San Diego, California) and Sulzer Medica (Angleton, Texas) gathered up Spine-Tech (Minneapolis, Min-nesota). These were were technology-based acquisi-tions, according to Kruger. On the sales/distribution side, Mallinckrodt (St. Louis, Missouri) acquired Nellcor Puritan-Bennett and Tyco (Exeter, New Hampshire) took on Sherwood-Davis & Geck (St. Louis, Missouri). Kruger sees the trend changing, as big companies are buying other big companies. An example of an acquisition for technology was Arterial Vascular Engineering’s (AVE; Santa Rosa, California) deal for World Medical (Sunrise, Florida). The mega-mergers are being pushed, he said, by the need for growth. An example: Tyco’s acquisition of U.S. Surgical (USSC; Norwalk, Connecticut). Why are companies choosing to sell? Why are big companies choosing to buy other big ones? Kruger cited three major forces driving these activities: the increased cost of doing business, the need for sus-tained growth and the explosion of technology. R&D expenses are a major expense for companies in the industry. Surveying a number of large firms and six of the “Class of ’96” newly public firms, Kruger compared R&D expenditures. In 1995-1996, the medi-an big firm spent $70 million to $100 million on R&D. He said that figure will rise to a record median of $250 million in 1999. By comparison, the small companies spend around $8 million – a major disparity. What are the drivers for the company in an acqui-sition mode? Kruger cited technology/product acqui-sition and buying a franchise into a segment of the market. Another major reason to acquire: buying time. With its purchase of Ventritex (Sunnyvale, Cali-fornia), St. Jude Medical (St. Paul, Minnesota) bought time – the time the regulatory process would have taken to see St. Jude enter the implantable cardiovert-er defibrillator sector. Johnson & Johnson (New Brunswick, New Jersey) did the same with Gynecare (Menlo Park, California). Some acquisitions are done to increase the overall size of the resulting company. Kruger cited Tyco’s acquisition of U.S. Surgical, the Nellcor acquisition of Puritan-Bennett and the subsequent Mallinckrodt purchase of Nellcor. There are some firms that have – so far – been able to go it alone, said Kruger, notably Arterial Vascular Engineering (Santa Rosa, California), Novoste (Nor-cross, Georgia), Cyberonics (Webster, Texas) and Safeskin (San Diego, California). “Some companies can get in position to survive in their market niche. In the case of AVE, this was likely a result of their large surge in [cardiovascular stent] sales.” Kruger added, “For the medium-to-small company with a narrow product range, it can really be difficult. But their par-ticular niche of the industry may be fragmented enough to allow them to stand alone.” Cohen explained the strategies involved in Sulz-er Medica’s acquisitions. After its IPO in July 1997, Sulzer Medica had $600 million on hand. Its stated key success factors are: heading a global franchise, maintaining a primarily direct sales force, building full product lines and concentrating on distinctive segments of the market. In Sulzer Medica’s case, the two focused market segments are orthopedics and cardiovascular. As to acquisition strategy, Cohen outlined what his firm expects. A candidate firm must enhance the present segment goals (orthopedics or cardiovascu-lar). The candidate company’s size is not too impor-tant, but the structure is. Sulzer Medica looks for firms with very good management. “We like to retain good talent, and let them run the company in the same way as before the acquisition,” Cohen said. “Sulzer Medica is a kinder and gentler buyer.” Cohen elaborated on Sulzer Medica’s acquisition of Spine-Tech. That company was, he said, in a lead-ership position in its niche and offered very strong potential for synergy with Sulzer Medica’s goals. The combination allowed a broad economic portfolio: a number of products to appeal to the economic buyer in today’s managed care marketplace. Spine-Tech also improved the overall company’s sales and earn-ings growth profile. How does Sulzer Medica expect to find the right deals, the right acquisition candidate? The company believes its now-public status will increase its visibil-ity and allow a “magnet” approach: the deals will come to it. Cohen noted the company’s particular interest in cardiovascular products and in orthopedic biologicals. (It should be noted that Sulzer Medica put itself in the seller, rather than buyer, mode in early June, when the company said it plans to divest its electro-physiology holdings in order to focus its efforts on the orthopedics and cardiovascular prostheses busi-nesses where it holds larger market positions. Four units totaling about 2,000 employees will be affected.) Speaking for Guidant’s Compass Business Devel-opment Group, Watkins noted, “New ventures built our business.” Guidant’s acquisition philosophy is to buy organizations, not technology. Its acquisition can-didates must have value based on that company’s business model. “We retain the good people and build matrix organizations where the left and right hand talk to each other a lot,” Watkins said. Guidant is par-ticularly interested in the clinical disease areas of stroke, congestive heart failure and peripheral vascu-lar diseases. Wilson Sonsini plans to hold this medical device conference on an annual basis. The American Lawyer (April 1998) listed Wilson Sonsini Goodrich & Rosati as the legal firm with the most equity offerings completed in 1997, with proceeds totaling more than $2.9 billion. Summit, Visx dissolve j-v, avert FTC action Summit Technology (Waltham, Massachusetts) and Visx (Santa Clara, California) have reached agree-ment to dissolve Pillar Point Partnership – a joint ven-ture that had come under Federal Trade Commission (FTC) fire as a price-fixing scheme – thereby dodging further agency action against the two companies. The settlement formalizes the companies’ statements in early June that they would break up Pillar Point, which had charged physicians $250 (per eye) for each corrective surgery procedure when using the companies’ lasers (see BBI News, June 11, 1998, and The BBI Newsletter, July 1998), about twice what it should cost, according to the FTC. Visx had received 56% of those fees, Summit 44%. The FTC said that strategy had created a monopoly resulting in $30 million in overbilling, and the firms are prevented from making any agreements concerning future pricing. However, they are not being required to pay any penalties or fines, and they have admitted no wrongdoing. While the agreement does not prevent the companies from continuing the practice of setting fees independently for use of their equipment, those fees are expected to be lower as the natural result of competition. Additionally, the agreement requires that “various rights and information be provided” to those receiving surgery via the companies’ lasers. Summit CEO Robert Palmisano said his company had offered the settlement because the issue “had divert-ed management’s attention from building the business” and had been a financial drain on its marketing and sales activities. Mark Logan, chairman, president and CEO of Visx, said the settlement concludes “some of the private litigation” with Summit over patent rights and will increase “focus and flexibility in addressing the rapidly growing laser vision correction market.” If accepted by the agency, the agreement will be published in the Federal Register, with the usual opportunity for public comment. Summit will receive $35 million from Visx as part of the plan to break up Pillar Point, and the companies now will exchange royalty-free cross-licenses to their laser vision correction patents. Still unclear is the outcome of some unresolved litigation between the two firms. While Summit’s statements have indicated all patent disputes between the two companies will be dropped, Visx con-tends that some issues remain – in particular, “the prose-cution of one patent and the way in which Visx resolved interferences in 1990 on several of its patents.”
Gambro pursues healthcare refocus . . . Incentive AB (Stockholm, Sweden) is now Gam-bro, and the company’s recent name change was accompanied with various moves to underline its refocus on medical technology and health care. Just before the renaming, the company completed two divestitures, selling 60% of its stake in MacGregor, a global marine handling firm, and then spinning off ABB, its power and electrical engineering unit. The majority share in MacGregor was sold to the Indus-trikapital investment fund for SEK 900M, giving Incentive a capital gain of SEK 400M. In the ABB spin-off, the company offered stockholders ABB shares at a discounted price of 55 kroner each, nearly half of its market price. The deal was valued at SEK 6.3B, bringing Gambro SEK 3.8B after taxes. Then, on the day of the name change, a third deal was cut with Gambro divesting itself of a small stake in appliance manufacturer Electrolux AB. President and CEO Mikeal Lilius called the three deals the “final steps” in the company’s transition to Gambro Group AB and its new focus on medical technology, especially dialysis products manufactur-ing and dialysis patient services. As another part of its repositioning, in June the company’s U.S. subsidiary, Gambro Healthcare, signed an agreement to pur-chase the outpatient dialysis program of the Univer-sity of Alabama at Birmingham Hospital (UAB) and manage UAB’s acute dialysis program. Assuming speedy completion of due diligence and government approvals, that deal was set for completion this month. Gambro Healthcare already is the second-largest provider of kidney dialysis services in the U.S. and, combined with operations in Argentina, oper-ates, manages or provides consulting services to 450 centers serving about 33,000 patients. Purchase of the UAB operation will add eight outpatient facilities serving 460 patients. . . . and other firms restructure The Incentive-to-Gambro transition was just one of several reengineering efforts carried out recently by medical manufacturers this summer as companies made changes to streamline operations and boost profits.
* Sunrise Medical (Carlsbad, California), a maker of assistive devices for people with disabilities and patient care products, said it had completed “a re-engineering and realignment” of its operations over a three-year period, with the bulk of changes carried out this year. Restructuring has included a reduction of factory sites from 24 to 13, decreasing the number of data centers from 30 to six, and merging of 13 U.S. sales forces into three. Most recently the company shut down its Simi Valley, California, and Fort Pierce, Florida, factories while completing start-up of a Tijua-na, Mexico, plant. The consolidations have resulted in a reduction of 300 jobs, approximately 7% of the com-pany’s work force. Costs of severance expenses increased the company’s re-engineering costs in FY98 from a projected $24 million to $29 million. Those expenses include the costs associated with the pur-chase of Sentient Systems Technology (renamed DynaVox Systems) in April. A combination of expect-ed sales shortfall and the costs of restructuring will result in the company reporting a loss for both the fourth quarter and fiscal year, it said.
* Conceptus (San Carlos, California), a company specializing in technology for women’s health, has reduced spending by eliminating 53 positions world-wide and decreasing expenditures in several non-per-sonnel areas. The loss for the second half of 1998 will be “approximately one-quarter of the loss for the same period of 1997,” according to President Kathryn Tunstall. Reduction in expenses will allow the compa-ny to continue R&D efforts and clinical trials of its S/TOP (Selective Tubal Occlusion Procedure) device for non-surgical permanent contraception, she said. Conceptus is attempting to find distribution partners for its ERA and Futura Resectoscope Sleeve products and its STARRT Falloposcopy system. Tunstall cited “increasing clinical acceptance” of the company’s products, especially the ERA product, but added, “our challenge has been to build a new channel of dis-tribution in the emerging market of interventional gynecology.” She reported that Conceptus recently broke off merger talks with a private company which would have offered a direct sales distribution net-work in the U.S. and Europe.
* Respironics (Pittsburgh, Pennsylvania) has made several organizational changes to achieve its strategic objectives, the company said last month. Robert Crouch, senior vice president of sales and marketing, will move to the position of senior vice president-new ventures. John Miclot will take over sales and market-ing responsibilities, while retaining his strategic man-agement role in the company’s sleep group. Other changes include software conversion at both the com-pany’s headquarters and its manufacturing locations in Murrysville, Pennsylvania. As part of the system upgrade, Respironics centralized in Pittsburgh all of its domestic customer service processes. The reorga-nization involved no layoffs, the company said. Respironics makes products for obstructive sleep apnea and portable ventilation, plus monitoring devices for newborns, sleep diagnostics and other products for treating respiratory disorders.
* Ion Laser Technology (Salt Lake City, Utah) has sold its inventory of industrial and scientific lasers, plus the rights to service its customers, to a Salt Lake City laser maker and closed its headquarters and manufacturing facilities last month, putting them up for sale. The company has moved to new administra-tion and manufacturing facilities in Lester, Pennsylvania, and an R&D facility in Evanston, Illinois. The sale and other changes represent a movement from general laser development to greater focus on the design, manufacturing and marketing of light-activat-ed and laser-based dental and medical devices used for cosmetic and therapeutic purposes. FDA okays PLC Systems plant In a recent inspection of the manufacturing plant of PLC Systems (Franklin, Massachusetts), the FDA found no deficiencies and said the plant met require-ments of the agency’s Good Manufacturing Practice guidelines, according to a company statement. The plant manufactures the Heart Laser system used in PLC’s transmyocardial revascularization procedure, and the company called the inspection a key step toward the agency’s ultimate approval of that tech-nology. In April, an FDA panel recommended approval of the system, which uses the laser to create holes in the heart for improved blood flow (see BBI News, April 30, 1998). And the agency has approved continued enrollment of patients in a trial in prepara-tion for premarket approval. Thus far, the company reports enrollment of 1,000 patients in that trial. Shareholders file against ATS At least two shareholder lawsuits have been filed against Advanced Tissue Sciences (ATS; La Jolla, California) alleging that ATS and two company offi-cers violated federal securities laws by issuing false and misleading statements about clinical data related to its Dermagraft product for treating diabetic foot ulcers. Dermagraft is a bioengineered, metabolically active skin replacement derived from the tissue of discarded foreskins. The FDA issued a non-approv-able letter for the product on June 12 and said the company must carry out additional clinical trials for reapplication, a requirement that could set back com-mercialization of the product by up to two years (see BBI News, June 18, 1998). ATS’s stock fell 44% the day the FDA announced its decision. The suits cover the period from January 13, 1997, through June 11, 1998. FDA panel turns down CardioPump A panel of the FDA last month recommended against approval of the CardioPump device made by Ambu International A/S (Copenhagen, Denmark) and used for cardiopulmonary resuscitation. The panel is requiring that additional studies done on the device, specifically in-hospital studies to measure its impact on blood flow and blood pressure compared to CPR. Available in some other countries, the device is used by emergency personnel to aid in CPR by pushing and pulling on the chest. The panel said that the studies presented to it were difficult to assess, since they were performed in several countries using a variety of protocols.
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