1999 Business Outlook: Competing in a Complex Market

Medical Device & Diagnostic Industry Magazine
MDDI Article Index

An MD&DI March 1999 Column

BUSINESS OUTLOOK

Despite new concerns, executives remain confident.

Even as El NiÑo ushered in a year of wild weather and unprecedented natural disasters, events at home and abroad engendered a global business climate in 1998 that was one of the most tumultuous and unpredictable in recent memory. The deepening crisis in Asia devastated regional economies, did profound damage to newly emergent socioeconomic patterns, and brought an abrupt halt to accelerating investment and development plans. Then, like one of the medieval plagues spreading westward, the contagion reached Russia, where the ensuing collapse buckled financial markets around the world and cast its shadow on Brazil and other countries in Latin America. In the United States, this scenario was played out amidst unprecedented political scandal, momentous mergers and antitrust actions, and a high-flying but extremely volatile stock market. Despite the tumult, the domestic economy proved to be exceptionally resilient, so much so that its continued growth seemed to some the product of an entirely new set of economic rules. Responding to this underlying strength and to ongoing improvements in the regulatory environment, the medical device company executives who provided information for MD&DI's seventh annual business outlook survey were remarkably positive about current conditions. In fact, as shown in Figure 1, 60% of top executives described conditions as excellent or good—the highest rating since the survey began in 1993. Only 6% characterized conditions as poor, equaling last year's record low.

Figure 1. Respondents' rating of current business climate for the medical device and diagnostic industry as a whole.

Conducted exclusively for MD&DI by the independent research firm Readex Inc., the mail survey drew upon the responses of 242 device company executives contacted from October 23 to December 8, 1998.

Figure 2. Executive ratings of device industry business climate, 1993–1999.

The confidence reflected in this year's outlook extends a notably optimistic trend over the past several years, starting from the low point of the 1995 survey, when only 37% of executives rated conditions good or excellent, and 23% considered them poor (Figure 2). This year's numbers are even stronger for large companies, with good or excellent conditions reported by 80% of firms with more than $50 million in 1998 sales volume. A mere 2% of these large companies found today's climate to be poor.

Figure 3. Expectations of respondents for business conditions in the medical device and diagnostic industry, 1993–1999.

Although expressing satisfaction with current circumstances, executives were less confident in predicting conditions for 1999 (Figure 3). Reacting to an innate caution or perhaps to the realization of just how complex today's market has become, the percentage of respondents expecting conditions to improve over the next 12 months actually declined a point from last year's survey—from 26 to 25%. More significantly, those anticipating that business conditions will worsen rose to 13%, compared with 8% a year ago. Among companies reporting 1998 sales of less than $1 million, 16% judged conditions likely to take a turn for the worse, as opposed to only 4% of the largest companies. Nevertheless, like last year, a majority of executives—59%—predicted that conditions would remain about the same in the year to come.

THE CHALLENGE OF GROWTH

In this year's survey, 52% of all respondents reported that their companies had experienced an increase in sales compared with 1997, whereas 7% reported a decline. As in the past, this performance failed to live up to the expectations of executives, 74% of whom had anticipated gains. Again, larger companies posted the most impressive overall numbers, with 82% of the biggest companies claiming growth. The strongest performances were achieved by firms based in the Northeast (61%) and South (54%), while those in the Midwest (49%) and West (46%) fared less well.

Table I. Both sales gains and expectations have moderated over the past several years.

The median increase in actual sales volume for all companies was 8%—the smallest jump since 1995 and the first time that this figure has descended into single digits (Table I). Looking ahead to 1999, 65% of device company executives—and 100% of large-company executives—forecast increased product sales in 1999, but the predicted 13% gain is the most modest on record.

Of course, even companies that do experience growth find it creates its own challenges, derived from both internal and external sources. One executive noted the difficulty of "expanding our manufacturing capability to keep pace with rapidly increasing sales without adversely affecting overhead and diminishing our competitive advantage." Another commented on how hard it is to "maintain sales and income growth at historical levels given factors such as pricing pressures and foreign market instability."One measure of an industry's commitment to future growth is the level of spending devoted to research and development. For 1998, the portion of total medical product sales earmarked for R&D was 10% (exactly what executives had predicted), up from 8% in 1997. Although small firms generally lead the pack in R&D allocations, this year companies with sales between $5 million and $49 million reported the highest median R&D expenditures, at 12%. However, almost 1 in 5 of the smallest companies (<$1 million) dedicated 30% or more of total sales to R&D—double the number of medium-sized companies and nearly 10 times the percentage of the largest firms reinvesting at this level.

Y1 FOR FDAMA

During the first several years of MD&DI's business outlook survey, the responses from top executives proclaimed one overriding theme: that inconsistent, unpredictable, and repressive FDA policies were stifling innovation and threatening both the viability of the U.S. medical device industry and—by extension—the well-being of the public.

In 1994, for example, 69% of executives questioned had encountered one or more FDA-related problems, and 46% stated that their business had suffered as a result of FDA attitudes and procedures. The prevalence of these sentiments among survey participants began to diminish as the agency's reengineering efforts made some headway in cutting premarket review times and paring down the backlog of pending applications—even before the enactment of the FDA Modernization Act of 1997 (FDAMA). Now that the comprehensive reforms written into FDAMA have been on the books for one year, has FDA lived up to its statutory requirements, and has the new law brought about tangible benefits in the eyes of device manufacturers?

Table II. FDA-related problems encountered by respondents during the past 12 months.

Results of the current survey indicate the answer to be a qualified yes. Certainly, real progress has been made. Only 21% of companies experienced premarket notification (510(k)) clearance delays in the last year, and only 6% suffered delays in premarket approval (PMA) or PMA-supplement decisions—the lowest figures in the history of MD&DI's survey (Table II). For the first time, the overall statistical incidence of FDA enforcement actions, such as injunctions or seizures, registered as 0%. Quality-system and MDR problems were reported in frequencies equal to the lowest on record, despite a substantial 44% of the largest companies acknowledging QSR inspection difficulties.

All told, just one-third of executives related that their firms faced one or more FDA-related problems during the year, and thus two-thirds encountered none at all. As in past surveys, this is one area in which company size is evidently not an advantage. Smaller companies—with fewer products and less-complex operations—presumably present a smaller target, and have fewer problems with FDA.

CDRH's fiscal year 1998 annual report, the first of the FDAMA era (released on November 1, 1998, during MD&DI's survey period), summarized accomplishments in FDA's premarket review, postmarket, compliance, and international harmonization programs. Among other improvements, the report noted that average total time to approval for PMAs was reduced by 25%, from 16.6 to 12.4 months. Average total time for 510(k) clearance was cut by 12%, from 130 to 114 days, while average FDA 510(k) review time decreased to 89 days, down from a peak of 184 days in 1994. The report also emphasized that, for the second year in a row, there were no 510(k)s, PMAs, or PMA supplements overdue at the close of the year.

When MD&DI asked how the implementation of FDAMA had affected business in 1998, a majority of medical device executives (59%) said that their business had not been affected. However, 12% cited improvements in business because of the legislation, and only 3% claimed that business had worsened. This was a significant change from 1997, when 17% of executives claimed that business had gotten worse over the course of the year as a result of FDA policies. One quarter of those responding this year did not know the effect of FDAMA on their companies.

Individual responses from executives reinforce the impression that FDA is no longer perceived as "public enemy number one." When survey participants lamented the complex and overly burdensome nature of the regulatory hoops they are forced to jump through, they were as likely to be talking about international or market-driven requirements as about those imposed by FDA. A typical response cited the difficulty of "introducing new products in an ISO 9000 and CE mark system environment. Ensuring timely introductions with these more-involved development systems in place is a challenge." Another commented that "it is clear we are becoming more involved in a one-world market and that European requirements and standards are becoming the dominant form of standardization."

Perhaps the most telling comment came from an executive who wrote about the pressures to move manufacturing operations out of the United States. In the past, the rationale for such a move would have certainly been the perceived antibusiness practices of FDA. Now, however, the dilemma was "U.S. manufacturing remaining in the U.S. in the face of corporate tax initiatives in Europe (e.g., Ireland) to set up or transfer operations."

To be sure, there remains much uncertainty and even suspicion about the ultimate outcome of FDAMA-mandated reform. Concerns have been raised, for example, about the extent of FDA collaboration with its "stakeholders"; about dispute-resolution procedures; about reviewers in the field not following the spirit of the new law; and about the adequacy of the agency's budget and the latest reincarnation of the user-fee proposal. There is new leadership in the commissioner's office, and at the head of CDRH. Nevertheless, this year's survey clearly supports the notion that the device industry and FDA may have finally closed a long and bitterly contentious chapter in their relations.

A WORLD MARKET

The question of international regulations brings up the matter of the geographic markets in which the medical device industry is selling its products. These generally adhere to the same pattern reported in last year's survey, with the United States (84%), Europe (62%), and Canada (60%) named as the leading current markets (Figure 4). Without fail, the larger the company, the higher the likelihood of its involvement in a particular market, including the domestic one. For the first time, China was listed as a separate market, with 21% of all companies and 51% of the largest companies selling to the Chinese market. Although this change in the survey makes the abrupt plunge in the number of large companies involved in the "other Pacific Rim" market somewhat less dramatic, the decline from 100% to 52% certainly reflects in part the greater exposure and sensitivity of large firms to the economic crisis in Asia.

Figure 4. Key markets of the medical device industry for 1998, as indicated by survey respondents (multiple answers permitted).

When asked to name the markets representing the best opportunities for sales growth in the coming year, 78% of executives cited the United States, followed by Europe (54%), Latin America other than Mexico (22%), Canada (22%), and Japan (20%) (Figure 5). Once more, the largest companies showed the most significant shifts in strategic thinking: the estimation of the U.S. market was up 15% compared with last year, even as the "other Pacific Rim" market dropped 18% over the same period (and a whopping 41% from 1997).

Figure 5. Expected key markets of the medical device industry for sales growth in 1999, as indicated by survey respondents (multiple answers permitted).

If executives of big device companies have cooled on Asia, they seem to be heartened by prospects of sales growth with our closer-to-home NAFTA partners. Thirty percent of executives whose companies sell more than $50 million annually named Mexico as a key market for 1999, compared with only 6% in last year's survey. As for Canada, a mere 1% of big-company executives were excited by the growth prospects of the Canadian market last year, a figure that has since jumped to 23%—despite the country's adoption of a more comprehensive regulatory structure based on the American model.

Overall, 40% of responding companies have some sales or distribution outside the United States. This rises to 62% for large companies, a substantial number of which also conduct manufacturing (60%), assembly (58%), product design (54%), packaging and labeling (54%), product R&D (46%), clinical trials (42%), and initial regulatory approval (32%) abroad. By contrast, with the exclusion of distribution and sales (40%), none of the other business activities is conducted abroad by more than 13% of small companies.

BUYING AND SELLING

The comparatively limited resources of small companies are evident in the responses provided by device executives to the survey question regarding direct purchasers of products. As shown in Table III, small companies are much more dependent on the services of distributors, and many small-company executives see injustice in what they maintain is the exclusion of their firms from group-purchase contracts. Claiming that it is rare for a small company to get a fair hearing from entities like GPOs, one respondent wrote that national accounts "are awarded only to the large companies. Improved quality and competitive pricing are not important anymore, and innovation has little value." A second executive puts the matter in legal terms, complaining of a "continuing restraint of trade by the group buyers and the large medical companies. Two percent of the companies are approaching 70% of the total purchasing nationwide. This continued strangulation of smaller medical companies is indeed monopolistic and anticompetitive." Yet another states flatly that "as a small company, we cannot wine and dine purchasing agents to obtain significant contracts."

Table III. Direct purchasers of medical products manufactured by respondents (multiple answers permitted).

When queried to identify the factors imposing significant difficulties for product sales, price competition was named most often, by 55% of respondents (Figure 6). As might be anticipated from some of the above comments, the largest companies cited pricing pressures nearly twice as often as the smallest ones. Other significant barriers to growth were an increased number of competing products and the expense of gathering clinical or cost-effectiveness data to support new prod-uct introductions, reported by 30% and 24% of executives, respectively.

Figure 6. Factors expected to impose significant difficulties for product sales in 1999, as indicated by survey respondents (multiple answers permitted).

A great deal of attention has been given recently to reimbursement issues and the alleged shortcomings of the Health Care Financing Administration (HCFA). It is therefore surprising that—statistically at least—executives responding to MD&DI's survey are not even more concerned with factors such as inadequate HCFA reimbursement levels (19%), delays in HCFA reimbursement decisions (14%), or delays in HCFA payment for covered products (7%) (Figure 6).

Individual comments regarding reimbursement range from pure invective—"I honestly believe HCFA people couldn't hold a job in private industry!"—to attempts at analysis: "Being a new product development company, [the challenge is] getting beyond the financial squeeze caused by managed care, which is not incentivizing new product development without healthcare costs being paid by the government, insurance, etc. A huge amount of cash flow is going to bureaucratic gatekeepers who impede and redirect money to middlemen who have no interest in healthcare."

Figure 7. Factors expected to significantly impact the medical device industry in 1999, as indicated by survey respondents (multiple answers permitted).

As far as more general economic conditions are concerned, executives rate global economic instability and device industry mergers and acquisitions as the factors most likely to significantly impact business in 1999 (Figure 7). A potential slowdown in the U.S. economy, consolidation among providers and payers, and volatility in the financial markets were also specified by 20% or more of respondents.

Understanding the full implications of successive mergers and partnerships involving both competitors and customers can be a difficult task. One executive noted "the uncertainty of the makeup of the healthcare market and the continual changes (acquisitions, mergers, etc.) in the companies delivering products." Another cited the necessity of "defining marketing partners to help compete against competition mergers," while a third called attention to "low-balling from newly merged companies going after market share in our long-time niche areas of business."

Cited by surprisingly few respondents (8%) was the possibility of increased competition from a unified Europe. Device executives evidently consider the formalization of the European market and establishment of a common currency as more of an opportunity than a threat.

CONCLUSION

In many ways, today's medical device market is the most complex and demanding in history. Its worldwide reach, constant hunger for technological innovation, multitiered regulatory requirements, and intense competitiveness pose extraordinary challenges amid a global climate of transformation and recent upheaval. The level of confidence displayed by executives in this year's business outlook survey will be an important attribute in helping them take advantage of the opportunities that await.