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Krist Werling was interviewed by Becker's Orthopedic and Spine Review on current trends and issues for orthopedic and spinal device manufacturers. The interview addresses a wide variety of issues for ortho and spine manufacturers including the impact of healthcare reform on spine and orthopedics, changes at FDA and the impact of new physician transparency requirements. Read the interview here.
In two prior posts regarding, we addressed various questions for a seller to consider when selecting an investment bank to help the seller achieve its transaction goals. Those questions, as well as those below, are just a handful of questions that we suggest companies consider . Ultimately, if you determine that working with an investment bank makes sense for your transaction, a bank can help you move a transaction along in an efficient, low stress and financially rewarding way if you are able to find the right bank for you.
Is the magnitude and type of transaction exciting to the investment bank such that it will keep the bankers’ attention and keep energy focused on pushing the deal through to completion? In other words, does the deal fall within the bank’s sweet spot? Deals that are at the larger end of a bank’s typical transaction size may mean that the bank has fewer contacts with the types of investors/buyers that should be targeted. Deals that are in the smaller end of a bank’s typical transaction size may not keep the bankers’ attention to drive the deal efficiently toward closing.
Will the investment bank be willing to follow your management’s lead on the key deal terms (including which targets are contacted, how the various stages of the process will run, etc.)? With the seller management team, does the bank have strong relationships with one or a few leaders that you perceive would be favored over other seller leadership? Alternatively, do you as the seller prefer an investment bank that will lead you through the process and is the investment banker able to do this for you?
Are the bankers willing and able to provide significant research and insight into potential buyers? For many sellers, choosing a buyer turns on not only the purchase price but on the buyer’s reputation and own strategic goals as well. This is particularly true when all or some of the seller management team will be staying with the buyer going forward. Most investment banks have research teams who can provide the desired information, but if in-depth information relating to the buyers is important to you, this is one aspect of the bankers’ services that should be discussed.
Does the proposed timing and track of the deal process proposed the investment bank make sense to you and work with your needs and goals?
Finally, what do the bankers’ clients have to say about them? The bankers should offer the ability to contact references from current and former clients. Discussing your questions with these references, particularly former sellers, may prove to be very enlightening as to the road ahead.
As a follow-up to our prior post on the topic, below are a few key additional questions that sellers can consider when evaluating investment banks in order to find the bank that will ultimately meet the sellers' needs. These questions are excerpted from a recent article authored by Krist Werling, Scott Becker and me.
One additional question sellers should ask ia How many investor/buyer targets does the investment bank intend to contact with the request for proposal? More specifically, how many potential investors/buyers does the investment bank intend to contact at each stage of the process? Investment banks can very greatly in their philosophy of which and how many targets to contact. Some believe in disseminating the RFP to as many possible targets as are available in the industry whereas others chose to limit distribution to a few select potential investors/buyers that they believe would have the most interest and that would be the best match for you. You should ask how many targets does the bank intend to initially contact and sign confidentiality agreements, how many will receive RFPs, how many will be invited to management meeting and with how many will the bank negotiate offers/letters of intent? Investment banks can very greatly in their philosophy of which and how many targets to contact. Depending on your own sales philosophy, this is another way that you can distinguish among investment banks.
Within the spectrum of investors/buyers that the investment bank intends to contact, how many strategic buyers vs. financial buyers such as private equity funds will be targeted? Strategic buyers are existing players in the industry that may seek to purchase or invest in your business in order to expand an existing business in a strategic fashion, and this may be a more or less attractive option for you as a seller depending on your relationships with your competitors in the industry, your willingness to divulge confidential information to competitors, etc. Financial buyers often will be willing to ultimately pay a higher price for the business where strategic buyers are often more stream-lined in their acquisition methodology and thus more likely to close the deal quickly and efficiently. To this end, challenges can arise with investment banks when they have too high a comfort level in one part of the market vs another. For example, in one healthcare transaction for a small specialty hospital chain with outstanding earnings, a client hired an investment bank for the principal purpose of seeking financial buyers. There, the bankers spent the great majority of their efforts with strategic buyers seeking, in the client’s view, the easier close but not necessarily the maximum price. Ultimately, the client perceived that it already knew each of the strategic buyers and that pricing from the strategic buyers would not permit a deal.
Do the investment bankers understand why your company is ready to sell at this time? Have they worked out the background story of the sale – essentially explaining why, if the business is such a great thing, you now want to part with it? Buyers will want to know why you are selling and your story about why you want to sell thus becomes an important part of the process.
Do the bankers believe you need to take significant measures to get the business more fully in shape to sell at a maximum price and are you willing to takes these steps?
What is the investment bank’s philosophy with respect to the completion of due diligence and negotiation of the form of purchase agreement/investment documents before signing a letter of intent? In other words, is the investment bank comfortable with signing a letter of intent before diligence is substantially complete and before at least a rough form of purchase agreement is agreed upon? Investment banks have different philosophies on the wisdom of signing of letters of intent early vs. further long in the process and it is important you be comfortable with the bank’s intended approach although the determination of which negotiation approach will likely be as dependent on the negotiation power of the seller (i.e. on the strength of the seller’s business and interest it generates) as it does on the investment bank’s own philosophy.
What are the fees to be charged by the bank? Most banks will charge a retainer fee (which will be treated as a deposit on payment of the full fee) as well as a sliding scale fee based on achieving targeted outcomes.
Who at the investment bank will be contacting the potential investors/buyers? In other words, will be bankers that you meet with during the initial selection process and works with most closely at the senior leadership level actually be contacting the targets and doing much of the ground work? Likewise, will those particular bankers be present at management presentations and at other key discussions with potential buyers after initial contact is made?
What does the investment bank believe is the range of value for your business? Specially, what assumptions of earnings are used to generate the value range, what multiple of earnings do they anticipate an investor/buyer paying? Within the total purchase price, what does the bank anticipate will be the buyer’s split of cash and debt financing? Although it is important for you to know that the investment bank values your business and will strive hard to achieve the most lucrative deal possible, it is also important to insure that you are working with an investment bank that sets aggressive but reasonably achievable targets.
In addition to the questions raised in Part I of this discussion, these are just a handful of questions that we suggest companies consider when assessing the value of various investment banks. In Part III we will discuss a few remaining issues for sellers' consideration when making this important decision.
This blog post is the second in a series examining the potential impact of health reform on medical device companies. The first post can be accessed here.
1. Payment Reductions. The Healthcare Reform Act did not include direct payment reductions that apply to specific types of medical devices, however there are provider payment reductions that will indirectly affect medical device manufacturers. For example, total payment reductions to hospitals during 2011 are expected to be in the range of.35% less than 2010 payments, according to the American Hospital Association.The Congressional Budget Office estimates that this will amount to $112.9 billion in hospital payment reductions over the next ten years. These reimbursement reductions will directly affect hospital budgets for certain types of capital spending and for spending related to devices that are not reimbursed as part of a Diagnostic Related Group. Device manufacturers should understand their customers’ budgets so they can anticipate whether their hospital and other provider customers may decrease their budget allocations for device purchases.
2. Stricter Fraud and Abuse Scrutiny. The Healthcare Reform Act amends certain federal fraud and abuse laws. Specifically, the Act amended the False Claims Act (“FCA”), the Anti-Kickback Statute (“AKS”) and the Federal Sentencing Guidelines. The FCA subjects a person to monetary penalties and/or imprisonment for knowingly and willfully falsifying, concealing or covering up a material fact, making materially false representations, or using a document known to contain any materially false statement. More significant to medical device manufacturers is the elimination of the FCA’s “Public Disclosure Bar.” The Public Disclosure Bar prevented a qui tam plaintiff from using publically available information as the basis for a claim against an entity suspected of violating the FCA. The removal of this bar will increase the potential financial reward for certain qui tam plaintiffs. Therefore, the number of claims brought against medical device manufactures will likely increase significantly.
3. Shared Cost-Savings Reimbursement Programs. The Healthcare Reform Act sets forth certain reimbursement programs focused on rewarding providers for reducing the cost of care, including the formation of so called accountable care organizations, or “ACOs,” and extends an existing gainsharing demonstration program. An ACO is essentially an organization of physicians and other healthcare providers that is assigned a population of Medicare beneficiaries and is paid a share of savings achieved through coordinated care efforts, provided certain quality standards are achieved. Additionally, the Act authorized extension of the gainsharing demonstration program. While ACOs and gainsharing programs are not expected to have an immediate impact on medical device manufacturers, if these types of organizations gain traction, the utilization of certain devices and procedures may decrease. Device manufacturers that are preparing future sales projections should be aware of the development of these organizations and the potential impact thereof.
4. Medical Device Innovation Funding. The Healthcare Reform Act included funding for grant monies to spur medical device innovation. The grant program, called the Cures Acceleration Network, enables the Director of the National Institutes of Health to award grants in order to promote innovation in technology supporting advanced research, development and production of so called “high need cures,” including through the development of medical products. To receive grant money, an entity must submit an application containing detailed information about the project for which the entity is seeking the grant, contribute non-federal funds to the project in the amount of $1 for every $3 awarded under the grant, and must also issue a final report at the end of the project describing the project outcomes. The award maximum is $15 million per project for the first fiscal year that the project is funded, with the possibility of receiving additional monies of up to $15 million in the subsequent fiscal year. Currently, Congress has authorized $500 million for the program for fiscal year 2010. In addition to the grant program, the Healthcare Reform Act authorized the Qualifying Therapeutic Discovery Project, which grants a tax credit for any taxable year in an amount equal to 50% of the investment in any qualifying project.
5. Pay for Quality. The Healthcare Reform Act includes numerous new initiatives pursuant to which provider reimbursement will be increased or decreased depending on the quality of care that providers are able to demonstrate. For example, Section 3008 of the Act provides that hospitals in the top quartile with respect to national rates of hospital acquired conditions will have their Medicare payments for all discharges reduced by 1%. Similarly, Section 3007 of the Act directs the Secretary to develop and implement a system where physicians are paid additional amounts for providing quality health outcomes for Medicare beneficiaries at a lower cost. These changes to payment systems will occur over an extended time period, but demonstrate that the CMS is moving toward a system focused less on payment for individual services, and more on paying for efficient, high quality, low cost care. Even more so than in the past, to successfully market devices, manufacturers will be required to demonstrate that hospitals and healthcare providers can improve efficiency, quality and value through the use of their medical devices.
As investors consider potential investments, it is important to take into account the future impact of the recently passed health reform legislation. This blog post is part I of an itemization of 10 areas of the health reform bill that will likely have an impact on companies that manufacture medical devices and supplies. Some of these effects may be positive and some may be negative – but any investor in a device company should be aware of these areas of the health reform legislation.
1. Expanded Coverage. The primary purpose of the Healthcare Reform Act was to expand coverage to a broader range of patients in the United States. In part, the Act accomplishes this expansion through a significant broadening of the eligibility criteria for enrollment in Medicaid. Specifically, the Medicaid expansion enables most individuals with incomes of less than 133% of the Federal Poverty Level to enroll in the Medicaid program. Additionally, the mandatory insurance requirement and broader availability of health insurance through Health Benefit Exchanges will help to ensure that there are more patients that have access to health care. Increases in access to care may result in a positive near-term impact on some device manufacturers, as a result of the increased demand for medical services.
2. Future Cuts? The Act does not contain significant changes to reimbursement methodologies or major decreases in reimbursement for healthcare providers. Therefore, Congress will likely be back at the table within the next three to ten years to address the cost issues that are attendant with the expansion of availability of healthcare services. It is unclear how Congress will address these cost issues, but one possibility is that it will decrease reimbursement in the future. Device manufacturers that are in high-tech, high-cost niches should begin to plan for potential reimbursement reductions in their sector. Additionally, it will be important for all device manufacturers to be able to differentiate their products as providing true clinical benefits instead of simply building a “better mousetrap.”
3. Medical Device “Tax”. The Act included new “industry fees” or taxes that are applicable to pharmaceutical and medical device manufacturers, insurance companies, and pharmacy benefit managers. The medical device fee is effective 2012, and manufacturers of a medical devices will be required to pay 2.3% of the sales price for such device as an industry fee. The definition of a “taxable medical device” includes any device that is defined in Section 201(h) of the Federal Food, Drug and Cosmetic Act and is intended for human use. A limited number of medical devices, including eyeglasses, contact lenses, hearing aids and any other device that is determined by Centers for Medicare and Medicaid Services (“CMS”) to meet the “retail exception,” are exempted from this fee. Unlike the pharmaceutical fee, the medical device fee applies to all manufactures, regardless of size and revenue levels.
4. Comparative Effectiveness. The Act laid the groundwork for future inclusion of comparative effectiveness measures when CMS makes payment decisions by funding a new independent entity called the Patient Centered Outcomes Research Institute (“PCORI”). The PCORI will study the effectiveness of various services, products and therapies and will issue reports regarding their effectiveness. The reports that are generated by PCORI may be relied on by CMS or other third party payors making decisions about payment, coverage and treatment.
5. Physician Payment Sunshine Act. The Healthcare Reform Act included the Physician Payment Sunshine Act. This will require covered manufacturers that make a payment or other transfer of value to a physician or teaching hospital to report such payments annually in electronic form. Payments or transfers of value include consulting fees, payments for clinical trial participation, charitable donations, royalties and a variety of payments that may be made to physicians and teaching hospitals. There are some payments that are exempted from the disclosure obligations. These exempted payments include annual aggregate payments to a recipient of less than one-hundred dollars and individual payments of less than ten dollars, payments that are made entirely through market research organizations, and the provision of samples to a physician or teaching hospital for the benefit of patients.
We recently had the opportunity to travel with Amsino International to visit several of Amsino’s medical device manufacturing facilities located in and around Shanghai, China. The experience prompted two key observations regarding the global health care system and its impact on medical device manufacturers. Investors in medical device companies would be well served to factor these two key issues into plans and projections.
1. The “China Price” is Not Just Labor Cost Driven. Many commentators have spoken about the importance of the “China Price” in driving lower cost of medical devices, pharmaceuticals and medical supplies. At the same time, there has been concern expressed about whether the “China Price” will remain low if labor costs increase significantly in China. This has particularly been a concern as recent protests at auto manufacturing plants and other activities have shown that the Chinese government and Chinese workers may push for higher compensation, and benefits for Chinese workers. However, in talking to medical device manufacturers in China, it is clear that the “China Price” is not just driven by low-cost labor. Instead, many manufacturing districts in China have organized in such a fashion that they are able to deliver extremely low-cost and high-quality medical products due to the mix of resources that is available in these manufacturing districts.
The resources include the availability of supplies and suppliers, the availability of low-cost machines and tooling, access to transportation, expertise in manufacturing, quality control, and other necessary inputs. Shanghai in particular has organized itself around manufacturing and delivery of low-cost, high-quality goods with its convenient port access to the Yangtze River and the Pacific Ocean. It is clear that although labor costs may rise in China, the other factors that elevated China into a manufacturing hub will not soon change. Therefore, even if labor costs go up, there will still be significant value that Chinese manufacturers can deliver.
2. The Growing Middle Class and China’s Version of Health Care Reform Will Significantly Expand the Market for Medical Devices, Supplies, and Pharmaceuticals in China. The second observation that one immediately comes to in traveling around Shanghai is the amazing growth of the Chinese middle class. This increasingly fairly compensated group is demanding more from their government class in the form of health care and other essential services. It is this growing middle that has pushed the government in part to announce last year an ambitious health care reform plan that will “fix the ailing medical system” and “insure fair and affordable health services for 1.3 billion citizens”.
Over the past year the Central Committee of the Communist Party of China and the State Council have expanded on what China’s version of health care reform will encompass. Most importantly, it will include the spending of approximately 850 billion Yuan ($124 billion US dollars) over the next three years. One of the cornerstones of this reform is the construction of an astounding number of new hospitals and health care facilities throughout rural China. Each of these new hospitals will require initial equipment purchases, as well as a new source of medical supplies and pharmaceuticals. These health care reform activities will clearly drive increased utilization in China.
Now more than ever, it is critical that anyone contemplating investment in a healthcare sector carefully review the target company’s compliance protocols. We have always strongly recommended that investors analyze the company’s compliance program, as well as efforts at adhering to the program requirements, in order to better gauge the company’s overall goals and philosophy regarding compliance. Understanding a company’s compliance culture can help the buyer assess the risks it may be taking with investment in the company and what challenges, if any, may be on the horizon for the company.
Now, under the Patient Protection and Affordable Care Act (the PPACA, more commonly referred to as the healthcare reform legislation), certain healthcare providers, as a condition to participation in Medicare, must have in place a compliance plan that meets the requirements to be laid out by the Secretary of HHS. The PPACA lists several detailed requirements for the compliance plans of skilled nursing facilities (SNFs), likely due to the industry’s historical scrutiny and highly publicized investigations from the SNF industry in the past few years. SNFs must implement these compliance plans pursuant to the requirements of Section 6102 of the PPACA within 36 months following passage of the PPACA, and regulations must be issued by the Secretary of HHS for SNFs with additional guidelines no later than two years following passage of the PPACA.
By contrast, the Secretary of HHS is mandated with determining which provider types must have compliance plans in place and what those plans must entail. HHS has informally indicated that it would likely roll out the compliance plan requirements on an industry-by-industry basis. It is likely that the requirements for most industries will closely follow the key components of the DHHS Office of Inspector General model compliance plan published for healthcare providers in 1997, which has subsequently been updated.
For healthcare providers without compliance plans that wish to make early moves toward a full compliance program, or for buyers who seek additional comfort through early implementation, an article entitled “A Practical Compliance Plan Approach for ASCs” authored by Scott Becker, Melissa Szabad and myself is available here. Although this article speaks specifically to the ambulatory surgical center industry, it has practical implications for most healthcare providers.
On April 6th, US-based biopharmaceutical company Cephalon, Inc. (NASDAQ: CEPH) acquired all of the outstanding capital stock of Ception Therapeutics, Inc., also a US-based biopharmaceutical company focused on developing novel products to address areas of unmet medical need, for $250 million. The transaction resulted from the January 2009 purchase by Cephalon of an option to acquire the Ception stock. Cephalon heralds the merger as a unique opportunity to expand its biologics pipeline, including the anticipated introduction to the market of CINQUIL™ (reslizumab), which is currently in Phase III studies and is intended to treat eosinophilic asthma. 
In the transaction, Barclays PLC served as financial advisor to Ception and is credited by many with helping to achieve optimal pricing for Ception. For Ception, like many healthcare companies facing the sale or refinance of their business, finding an investment bank that fits its needs, philosophies and goals was an important component for success. Utilizing an investment bank is not necessary for all companies in all transactions, but an investment bank can help the seller successfully market the business and attract the right potential investors/buyers and ultimately can result in not only a more lucrative deal but a resulting transaction that otherwise meets the seller’s goals. Assessing which investment bank is right for a seller can be a daunting process, but there a few key questions the seller can pose to its leadership when evaluating the various banks in order to find the bank that will ultimately meet its needs. In future posts we will discuss in greater detail these key questions.
The Patient Protection and Affordable Healthcare Act (commonly known as the "healthcare reform" bill) includes significant new transparency and disclosure obligations that apply to physicians, hospitals, and medical device and pharmaceutical manufacturers.
Some of these transparency and disclosure obligations are based on legislation introduced by Sens. Chuck Grassley (R-Iowa) and Herb Kohl (D-Wis.), which was previously entitled ‘‘the Physician Payments Sunshine Act of 2009.’’ The transparency and disclosure obligations have been included in the Act in an effort to reign in costs of expanded health care availability. The premise behind the obligations is that ‘‘sunshine’’ on physicians' financial relationships with industry will reduce conflicts of interest by deterring industry from spending excessive amounts of money on such relationships and consequently reduce the negative impact such relationships have on prescribing practices. The transparency initiatives impact physicians, pharmaceutical and medical device manufacturers and PBMs. For a full description of each new requirement, please read this article by Krist Werling and Holly Carnell published in BNA's Health Care Fraud Report.
These new initiatives will impact healthcare investors in two ways. First, investors should be aware of added burdens on target investments. For example, for medical device manufacturers, these disclosures will require added infrastructure to address tracking and reporting requirements. Second, investors may find opportunities in these burdens. Software, web services and consulting services have sprung up to assist physicians, pharmaceutical manufacturers and device manufacturers in remaining compliant with new obligations.
Senate Majority Leader Harry Reid (D-NV) has said he will take up the package of changes shortly. The bill will be considered under the reconciliation process, which will allow Democrats to pass the bill with a simple majority and preclude the possibility of a Republican filibuster. Today, the Senate parliamentarian will meet with Democratic and Republican leadership to discuss the rules for this procedure. Under the Byrd rule, all provisions of the bill must have a budgetary impact. Republicans are likely to object to provisions of the reconciliation bill under this rule, and if the provisions are found to be in violation of the Byrd rule, they will be stricken from the bill. There will likely be at least two days of debate and two days of votes, which means there could be a vote in the Senate as early as Friday or Saturday.
The healthcare sector saw a significant decrease in the number of private equity transactions completed last year. Pitchbook reported that approximately 125 deals were completed where private equity funds invested in healthcare companies in 2009. This is down from 233 in 2008. This reduction takes into account both general economic conditions which saw declines in almost every sector, the overhang of healthcare reform where many investors saw tremendous uncertainty in the healthcare sector due to the potential for healthcare reform and the concern that some funds were over-invested in healthcare. Interestingly enough, much of the over-investing in healthcare resulted less because sponsors increased their percentage of investment in healthcare but more due to significant reductions in the values of the other investments which left their overall percentage of investment in healthcare higher both on the equity or debt side and thus over invested in healthcare. 2010, however, has already seen significant pickup in healthcare investing and new interest in the healthcare sector.
Fellow McGuireWoods attorneys Krist Werling, Scott Becker and I recently published a short article discussing the following four key concepts relating to healthcare investing:
1) Types of buyers from the perspectives of goals and strategies;
2) Types of target companies from a compliance orientation perspective;
3) Healthcare diligence issues; and
4) False claims recoveries issues.
It is critical for any investor in healthcare to have a firm understanding of each of concepts. The more knowledgeable the investor in these areas, the more capable they will be to evaluate risks of investment.
Will healthcare reform help or hurt medical device and medical manufacturers? That is the question on many device managers’ and shareholders’ minds. At first blush, many stakeholders assume that healthcare reform will drive down margins and include new regulations that will hurt device manufacturers. However, a contrary argument says that healthcare reform (at the outset) will dramatically increase patient numbers in hospitals and physician offices around the country.
McGuireWoods hosted a Medical Device Symposium in November and two industry leaders shared the following thoughts:
This debate will continue into the coming months and years as the details are filled-in on healthcare reform efforts.
Amber Walsh focuses on healthcare transactional work and regulatory matters. Her experience includes representation of various types of healthcare providersMore...
Kristian Werling concentrates in healthcare transactional work and regulatory matters for all participants in the healthcare and life science industry.More...
