IPO Market Best in Years, Say Analysts

Medical Device & Diagnostic Industry Magazine | MDDI Article Index

Originally published March 1996

Financing

Faster FDA review and the force of the managed-care marketplace are contributing to one of the best financing climates for young medical device companies in the last 18 years, according to industry experts. Analysts point to a variety of reasons for the improvement, but disagree slightly on where the newly available financing is being invested.

"The public market today is more open to early-development-stage medical device companies than I have ever seen in my 18-year career practicing law," says Casey McGlynn, chairman of the Life Sciences Group for the law firm Wilson Sonsini Goodrich & Rosati (Palo Alto, CA). "Investors are willing to take on young companies and to absorb the regulatory and other risks associated with taking them public."

McGlynn says an increased number of young companies have filed initial public offerings (IPOs) since June 1995. That trend has continued through the first quarter of 1996. A significant difference between these filings and those of 1992--another good year for the device industry--is that many companies may be just now applying for FDA premarket approval; previously companies would wait until they had FDA clearance before filing an IPO.

McGlynn sees the improved responsiveness of FDA, especially with regard to premarket notifications (510(k)s), as the major reason for today's good fund-raising environment. "The agency has improved its ability to turn documentation around, to respond with meaningful comments, to meet before filings are made, and so on. All of that creates a great deal of additional clarity with regard to the regulatory pathway for young companies. Also, the speed with which many 510(k) approvals have come has made investors more comfortable with investing in this arena."

Other analysts concur. "FDA lightened up a lot on their barriers to product approval in 1995," says Thomas Gunderson, senior analyst for Piper Jaffray, Inc. (Minneapolis). "In the past, a lot of funding was held up and could not be invested until after a long delay; faster product approval is now making it possible to get funds invested with less regulatory risk."

Gunderson agrees that 1995 was one of the best years in a while for accessing funding. Investors have always been interested in medical devices, he says, and in addition to an eased regulatory environment, there is also a lot of new technology in the marketplace. "Medical device companies have shown good stock market performance over the last year and a half, and, at the other end, companies have moved out of the system by merging with others. From Wall Street's perspective, this has made room for new companies."

The basic need for large companies to fill out their product lines in order to compete in the managed-care marketplace is the reason for the recent and relatively significant number of acquisitions by large medical device companies. This trend also helps small companies by encouraging entrepreneurs and "ensuring their path to liquidity," according to McGlynn.

In addition to the improved regulatory environment, McGlynn points to the fact that more-mature medical device companies are looking again at their product lines to determine what they need in order to capture the managed-care market. He says this brings them full circle, back to the smaller companies where innovative products are being developed.

As always, it is the unique and innovative companies that get funding, says Jack Cumming, senior partner and president of WDI Capital Markets (Hilton Head Island, SC), a health-care advisory and investment banking company. However, in the absence of cost benefits that address the needs of managed-care companies, being unique means nothing. "The easier regulatory environment is not really attracting any more investor interest than usual except for devices that fall into categories that meet specific health-care needs, such as cardiac devices, which have done tremendously well because of the aging population and high rate of heart disease," Cumming says. "Devices that attract financing must be less invasive and provide a cost-effective alternative in a managed-care environment. Groups such as American HealthCare Systems [San Diego], Premier Health Alliance [Westchester, IL], and Sun Health Alliance [Charlotte, NC] are buying bundled contracts and will save some $600 million in vendor costs. Ultimately, this money comes from the providers and the medical device companies."

Cumming says that although the current market is one of the better markets for funding, the number of medical device companies that have gone public in the last couple of years is significantly less than the number of provider-side companies that have done so. He agrees that the financial performance of device companies has been improving, but investment has been mostly in such provider companies as Sterling Health (Coral Gables, FL) and Met Partners (Birmingham, AL), which have both gone public.

"While I continue to be impressed with how well a number of them are doing, I'm sure they recognize that their stock prices won't continue to have this kind of growth. They may continue this way for another year, but then growth will probably be a little slower," McGlynn says.

The entrepreneur has a choice, according to McGlynn. For some companies the public market is pretty open today, and they can get a valuation that's similar to what they could get by selling out to a large medical device manufacturer. In such cases, the company has to make a choice about which of two paths to liquidity it finds most appealing: merger, which is a path traditionally available to medical device companies, or a public offering, which is a path increasingly available even to very young companies.

Innovation is going to continue to drive down health-care costs and improve medicine, McGlynn speculates. He believes that the industry will go through cycles, and that there will undoubtedly be public offerings for companies that are less attractive or higher risk than they should be. "The market may tire of those offerings, and that may cause the window to close for a while; I don't expect that a year and a half from now the market will be as receptive to public offerings as it is today." When that occurs, he says, there will still be room for real quality companies to make good public offerings, but it will be a little bit more difficult for younger companies to do so.--Sherrie Steward