Revisiting Healthcare Markets on the Internet: Dot-Com or Dot-Gone?

Originally Published MDDI July 2001

Despite the disappearance of many of the Web-based medical exchanges in the past year, surviving medical technology dot-coms continue to make progress, quietly fulfilling their promises.

Cliff Henke

What a difference a year makes—especially in cyberspace. In an article that appeared in these pages just a year ago, about 40 Internet-based marketplaces for medical technology were billed as up-and-comers. Within months, the count in many published reports had swelled to 70 sites.

A year later, however, many such exchanges have fallen by the wayside, casualties in the dot-com bust. Yet as the following pages reveal, all was not baseless hype. Indeed, some of the survivor companies offer great promise for the future of the Web-based medical exchange.

THE FIELD THINS

How the mighty have fallen. Perhaps the most dramatic example is Promedix (Salt Lake City). Its owner, Ventro, was one of the earliest of the Internet initial public offerings. In its Chemdex site, Ventro had what seemed to be the model all other business-to-business dot-coms might follow. But last fall, after posting dismal third-quarter earnings and operating-loss data, the firm announced a complete change of strategy. It said it was selling off Promedix and Chemdex, getting out of Web-based marketplaces and concentrating instead on selling its own software and consulting services to others. All this after Ventro reportedly spent more than $50 million to build its sites.

Meanwhile, other companies have changed and consolidated in different ways. Embion changed its name to Encounter Care Solutions, then went on an acquisition spree. Similarly, empactHealth.com was bought up by Medibuy.com, which in turn started to partner with a variety of Web technology companies— such as supply-chain infrastructure firm Commerce One—to beef up its capabilities in the face of intensifying, increasingly sophisticated competition.

Some of that competition has come from industry-led and industry-funded sites, either organized by associations or by groups of manufacturers and distributors themselves. These projects are not focused on profits, which is particularly threatening to the dot-coms; price is not as great a concern and they can thus undercut the commercial exchanges.

But that strategy has not been a guarantee of market success, either. In a bid to sharpen its focus and gain better identity, one of the industry sites, the distributor-owned New Health Exchange, decided to change its name—it became HealthNexis at the end of March, just as it went live for the first time. The new name reflects the company's vision of uniting healthcare through powerful information and technology solutions. The company's transaction clearinghouse went live March 31, 2001, connecting several companies to the HealthNexis exchange: AmeriSource Health Corp., Cardinal Health Inc., Fisher Scientific International Inc., McKessonHBOC Inc., and Bergen Brunswig Corp.

"The name HealthNexis communicates our unique role in the healthcare supply industry," says David Hurley, CEO of the exchange. "Nexus means 'that which unites' and 'a means of connection.' Our quest is to unite the healthcare supply chain by providing a centralized infrastructure and technology platform to enable more-efficient, lower-cost interactions among health industry trading partners."

Founded by these five firms—among the nation's largest healthcare companies—HealthNexis aims to provide infra-structure and technology solutions that streamline the complex business processes necessary to transmit, process, aggregate, verify, and maintain product and contract data. The company will offer a single point of access to an integrated set of products and services including a transaction clearinghouse, product data manager, contract data manager, and data services. HealthNexis released its transaction clearinghouse in March; its product data manager was scheduled for release in early June.

Meanwhile, the manufacturer-led Global Healthcare Exchange (GHX; Westminster, CO), which is owned by nearly a dozen medical device and pharmaceutical giants, is slowly and deliberately developing its presence, yet still has not gone live. Support for the project continues to build within the medical device supply chain. For example, Siemens Medical Systems (Iselin, NJ) just announced that it has become the 11th equity partner in the exchange.

GHX is open to all healthcare provider organizations, buying groups, distributors, and manufacturers and suppliers of medical and nonmedical products. It has been conducting live transactions in pilot sites since October of 2000, and has conducted several transactions, with order confirmation and product shipment occurring in all of them.

The company is putting its chief focus not on early deployment but on the quality of its infrastructure. Officials say that soon the system will be able to handle up to 500,000 transactions per second, far more than the transaction volume anticipated in healthcare. In addition to running pilot-site transactions, GHX will continue to test the system at maximum ca- pacity to ensure that it can handle any conceivable healthcare transaction volume.

Officials at GHX say that its solution will be the result of an industry-accepted, standardized, normalized catalog—one combined with integration to the broadest array of suppliers, manufacturers, and distributors. GHX is also establishing partnerships with channel partners, primarily independent software vendors serving the healthcare industry, to make its offering as complete and easy to integrate as possible. This approach is designed to help provider organizations gain additional benefits from their existing legacy systems.

WHY HASN'T ON-LINE DISTRIBUTION CAUGHT ON?

The demise of so many dot-coms can be attributed to much more than the rapacious competition. After all, several of the competing companies should eventually emerge as clear winners, yet that hasn't happened in Internet-based medical technology supply-chain management.

The potential remains, of course. The healthcare market has several characteristics that make it well suited for an Internet-based marketplace solution—its large size, high degree of fragmentation, significant inefficiencies, industry cost pressures, and highly complex supply chain.

The last characteristic includes a broad, heterogeneous list of healthcare providers: manufacturers that range in size from the small start-up struggling to develop one device to multinational research-driven medical technology companies spanning multiple markets; both local and national distributors; aggressive group-purchasing organizations (GPOs); and rapidly evolving multispecialty, multisite managed-care integrated-delivery networks (IDNs). Internet-based marketplaces and exchanges aim to significantly improve business processes within these organizations; first they must get broad agreement on some basic practices, however, a task that is more difficult than it seems.

According to the most recent estimates, the healthcare supply chain (i.e., the buying and selling of healthcare supplies, equipment, and services) is a $200-billion-a-year industry in the United States. From 10 to 15% of that annual spending is wasted on inefficiency, redundancy, and poor data and pricing information. The result: nearly $11 billion of the $83 billion spent on medical, surgical, and pharmaceutical supplies is attributed to redundancies and inefficiencies within the healthcare supply-chain process.

Collin Brink, an analyst with the on-line magazine eMarketing.com, gives one important example of the daunting challenge. He says that for the Internet to gain traction in business-to-business healthcare procurement, it will have to demonstrate that it can surpass legacy payment systems. All the levels of distribution mentioned above have existing computer systems and are obviously concerned with recouping returns on those earlier IT investments, and thus demand that any new applications are interoperable with their existing infrastructure.

Brink also cites the complexities of medical device order entry, which is far more complicated than pharmaceutical purchases. The result is that far more drugs are purchased on-line than are devices.

Frustrated by the disparities in computer infrastructure and recognizing that something must be done about it, some leading healthcare GPOs and e-commerce companies formed the Coalition for Healthcare eStandards (Ann Arbor, MI) in June of 2000. The Coalition's goal is to ensure that the cost savings promised by e-commerce will not be compromised by multiple, inconsistent data standards in the industry. It is focused on creating, driving, and adopting e-commerce standards throughout this huge economic sector, which totals well over a trillion dollars annually in the United States alone. If it is to achieve success, however, this standards push must significantly broaden its efforts to include all the above-mentioned stakeholders.

Nonetheless, progress is being made. In April of this year, HealthNexis joined the coalition as a core member with a seat on the board of directors. In addition to HealthNexis, members now include Consorta, empactHealth.com, Healthtrust Purchasing Group, Insource Health Services, MedAssets.com, MedCenterDirect.com, medibuy.com, Neoforma, Novation, and Premier Purchasing Partners. The group represents nearly 70% of the healthcare providers in the United States. (Visit http://www.CHeStandards.org for more information.)

The signing on of HealthNexis is significant because of its nonprofit, member-supported orientation. "HealthNexis brings e-business expertise and an understanding of the issues and complexities involved in making e-commerce a reality for the healthcare supply chain," says Joe Pleasant, coalition chairman and chief information officer at Premier. John Burks, coalition board treasurer and senior vice president of Novation, adds that HealthNexis will help the coalition "develop and drive adoption of data standards that are the basis for more-efficient interactions between healthcare trading partners."

TRANSACTION VOLUMES

Most analysts agree that the chief barometer for measuring future success of e-marketplaces is the transaction volumes. The chief barrier to achieving the volumes anticipated by most healthcare dot-coms is the difficulty of tying together the broad variety of legacy and new information technologies. As healthcare providers and suppliers conduct more transactions with more trading partners through electronic marketplaces, they realize increasing value—lower technology, connectivity, and process costs for successive new customers; greater visibility of spend data and purchasing habits; and on-line collaboration among trading partners. These features of on-line offerings are known as network effects, and follow the principle of increasing returns. They are the chief reason why stock valuations of Internet companies are largely based on future earnings, particularly since so many of them fail to make money currently.

A classic example of how the success of on-line distribution systems is tied to legacy systems and transaction volumes is the experience of Neoforma Inc. (San Jose). "Neoforma's financial success is directly tied to the gross transaction volume of our marketplaces," says Dan Eckert, the president and chief operating officer of the firm. That's because the company's revenues are derived from volume-based fees. Eckert adds that the company will meet another important milestone—achieving cash operating income profitability—by the first quarter of 2002.

Eckert points out that Neoforma is now on track to meet its stated gross transaction volume and net revenue projections. Company gross transaction volume was estimated at $150 million and net revenue totaled $4 million for the most recent quarter available. "As we connect additional hospitals and suppliers to our marketplaces, we continue to drive gross transaction volume," Eckert says. "We delivered on our targets in the first quarter and we're confident in our ability to do it again in the second quarter." Neoforma reported $80.8 million in gross transaction volume in the first quarter of 2001, exceeding previously announced estimates by 21%.

In Neoforma's largest marketplace, the hospital-focused Marketplace@Novation, a percentage fee is guaranteed. "Less than halfway through the year," says Eckert, "we already have enough healthcare providers and suppliers contracted to participate in our marketplaces to achieve our projected $1.3 billion in gross transaction volume for the year." Currently, 407 hospitals and 80 manufacturers and distributors—including industry giants Abbott Laboratories, Allegiance Healthcare Corp., McKessonHBOC, and Owens & Minor—have joined Marketplace@Novation. Of the hospitals under contract, 174 have been connected. Novation, the nation's largest GPO, manages $15 billion in annual purchasing for more than 2000 members and affiliates of VHA and University HealthSystems Consortium, and for more than 5200 members of HealthCare Purchasing Partners International.

Neoforma operates two other marketplaces. They include the Canadian Health Marketplace for Medbuy, Canada's largest group purchasing organization, and NeoMD, for the alternate-site healthcare market.

Neoforma has also worked on the important legacy-systems barrier with fervor. In January, the firm announced a partnership with i2 Technologies, a major provider of marketplace solutions, to improve its Internet supply-chain software. The deal comprises a three-year software license agreement and a joint marketing and support arrangement, in addition to revenue sharing. i2 also took a minority stake in Neoforma.

"Our partnership with i2 is unique and exciting for Neoforma," said Bob Zollars, chairman, president, and chief executive officer of Neoforma. "We expect to generate new revenue streams and reduce technology expenses through aligned 'go-to-market' and development strategies. By leveraging i2's industry-leading R&D machine, we expect to accelerate the introduction of new marketplace solutions."

Neoforma and i2's joint solution is aimed at reducing or eliminating supply-chain inefficiencies. Neoforma brings its healthcare expertise, established alliances, and proven customer track record to the relationship.

Meanwhile, in May of 2001, Broadlane Inc. (San Francisco), another on-line provider of supply-chain services to the healthcare industry, announced that its private e-commerce exchange has successfully processed more than 3500 hospital purchase orders since its debut on April 10. In that short time Broadlane handled 35,000 purchase-order line items from 53 Tenet Healthcare hospitals that bought medical supplies from Owens & Minor, Medline, and Tri-Anim. Owens & Minor is a major distributor of healthcare supplies in the United States; Medline and Tri-Anim are suppliers of a variety of medical-surgical supplies. By the end of May, Broadlane executives said, they expected to have completed the integration of 100 Tenet hospitals with Owens & Minor, the firm's primary distributor for medical and surgical products. It has also signed up managed-care giant Kaiser Permanente. Broadlane currently counts among its customers 572 acute-care hospitals and 2335 subacute healthcare facilities.

CONCLUSION

Despite the demise of so many companies in such a short time, the surviving medical technology dot-coms continue to make progress, albeit more slowly than originally anticipated. All that remain recognize the daunting challenges of standardizing the complex flow of goods—and money—through the medical and healthcare supply chain.

While it remains to be seen whether the companies that want to compete in this game will be successful, important efforts to overcome the significant obstacles are well underway. Medical device firms should encourage them; they may well be the future of distribution. As Intel founder Andy Grove recently said, "The Internet is real and it's here to stay."

Copyright ©2001 Medical Device & Diagnostic Industry