Biotech Values

[DewDiligence]

‘Big Medtech’ is on sale, as one can see from looking at the charts of such
companies as MDT, SYK, and ZMH. The fear outweighs the reality, IMO.

http://online.wsj.com/article/SB123734983291066875.html

›Medical Device Makers Face Healthcare-Reform Pressures

MARCH 18, 2009
By JON KAMP

The prospects of U.S. health-care reform and cuts to medical spending have sparked big worries about a squeeze on medical-device companies, and the sector's stocks have tumbled sharply since the White House's budget proposal late last month.

The fiscal 2010 proposal didn't spell out any direct impact for products like heart devices or replacement hips, but it did inflame long-running worries that pressure on product prices could emerge. While some observers believe the share sell-off went too far, with device companies swept up in a mass dumping of health-care stocks, these worries may prove hard to shake.

"We have entered an extended period of policy and reimbursement uncertainty," said Leerink Swann analyst Rick Wise. Until there's a clear sense of direction, "and until investors can thoughtfully discount these issues, the stocks could remain under pressure."

Mr. Wise also covered device companies in the early 1990s when the health-care reform push under President Bill Clinton similarly hurt stocks amid pricing worries. They bounced back when the reform effort sputtered.

This time around, the Obama administration's recent budget plan was short on precise details, giving investors leeway to fret about how the blanks may be filled.

Investors have telegraphed their concerns. Through late trading on Tuesday, two Dow Jones Wilshire indexes tracking device companies and other medical suppliers had fallen about 6% and 9% since the White House unveiled its budget proposal on Feb. 26, with some losses recouped amid the market run-up in recent days. By comparison, the Standard & Poor's 500 index is flat since the budget came out.

That is poor performance for a sector often viewed as a safe haven in a recession, because serious diseases don't depend on consumer confidence. JPMorgan called the market fallout "way overstated and largely misplaced."

Similarly, Michael Mussallem, chief executive at replacement-heart-valve maker Edwards Lifesciences Corp., said the budget proposal "in no way justifies" the sector's swoon.

People have reacted more to an "imagined" impact than any real, fresh threat, and have lost sight of how the push for reform will really work, Mr. Mussallem said, adding that the budget was still in proposal stage.

But Mr. Mussallem, who is also chairman of the Advanced Medical Technology Association, the industry's Washington-based group, has witnessed how the budget proposal has spooked investors. At recent meetings, investors "were focused on the macro issues," rather than company-specific topics, he said.

"I think the worry is out there that there is some kind of a trickle-down effect" that could hit pricing, he said.

A recurring devices-sector question involves whether manufacturers can maintain high product prices and profit margins. Tiny drug-coated stents that prop open heart arteries, for example, cost around $2,000 each in the U.S, while replacement hips fetch about $6,600.

Overall, companies making heart and orthopedic devices enjoy gross profits in the 70% range, Mr. Wise said. The device heavyweights include Medtronic Inc., Boston Scientific Corp., Zimmer Holdings Inc. and Stryker Corp.

The Obama administration has signaled interest in clamping down on areas such as prescription drug prices and payments to Medicare insurers. In such an environment, pricey devices may become more conspicuous.

"Long-term, current rates of medical inflation are unsustainable, and pricing pressures appear inevitable," Morgan Stanley analysts said in a recent note. They called medical technology the least exposed to the Obama administration's proposals but added that "the 'no impact' view misses the mark, as risks have certainly increased."

The White House currently aims to use a combination of spending cuts and higher taxes to put a $634 billion down payment on universal health coverage.

The government doesn't directly control the prices paid for medical devices, which are typically sold to hospitals. But it can influence prices under a complex system Medicare uses to reimburse hospitals for medical procedures that often include devices. Because elderly patients are major device recipients, and Medicare often sets trends for private insurers, this is a crucially important system.

Industry observers and Mr. Mussallem, however, believe big changes to the Medicare reimbursement system are unlikely in the short term. Moreover, JPMorgan noted that "pricing pressure in devices is almost always a function of competition, and not reimbursement."

Nonetheless, William Peck, who directs the Center for Health Policy at Washington University in St. Louis, sees reimbursement risks three or four years down the road "when it becomes clear the other strategies to restrain costs aren't working."‹