The Eyes Have It

COVER STORY

Few medical device executives know what it is like to start a new company that already has 2000 employees and half a billion dollars in revenue. Fewer still are executives like James V. Mazzo, chairman and CEO of Advanced Medical Optics (AMO; Santa Ana, CA), who has had the thrill of presiding over the gathering momentum of an industry powerhouse in the making.

Following its 2002 spin-off from Allergan Inc. (Irvine, CA), AMO hit the ground running and hasn't looked back. Over the past six years, the company has doubled in size, both in terms of revenue and employees. Doing so has required a blend of sizable strategic acquisitions, as well as the development of a robust in-house research and development (R&D) function. Noteworthy acquisitions since AMO's spin-off have included its $450 million purchase of Pfizer's ophthalmic surgical business in 2004 and its $1.3 billion purchase of Visx Inc. in 2005. And, just last year, AMO acquired WaveFront Sciences Inc. (Albuquerque) and IntraLase Corp. (Irvine, CA), further strengthening its product pipeline for years to come.

Today, AMO is a major player in multiple ophthalmic technology sectors, including cataract removal and implants, laser vision correction, and contact lens care. Establishing market leadership in multiple segments has not been without its hurdles. According to Mazzo, however, virtually every challenge AMO has faced over the years has provided an opportunity for the company's leaders to refine and strengthen their vision for the future. Despite last year's setbacks—including a massive recall of a contact lens solution and an unsuccessful bid to acquire eye care giant Bausch & Lomb Inc. (B&L; Rochester, NY)—Mazzo says AMO has never been as well positioned for sustained growth as it is today.

In this interview with MX editor-in-chief Steve Halasey, Mazzo discusses AMO's evolution since its spin-off, as well as the company's strategy for continued growth across all stages of the vision care life cycle.

MX: In 2002, AMO spun off from Allergan Inc. (Irvine, CA), where you served in several executive-level roles. What technologies did AMO bring with it in the spin-off, and how has its technology base evolved since then?

James V. Mazzo: At the time of the spin-off, I had been with Allergan for 22 years, and I'd been living overseas for about 12 years. At that time, I had dual responsibilities. I was president of Allergan's Europe–Africa–Middle East business, and I also ran the company's global marketing for its surgical and eye care divisions.

During an off-site meeting of our management team, the company's leaders discussed the fact that Allergan had both a pharmaceutical and a medical device business under one roof. And as you know, they're fundamentally two different businesses. They're run differently, their regulatory landscapes are different, and even the analysts that cover the industries are different.

We discussed various avenues for separating the two businesses—doing an initial public offering (IPO), doing a spin-off, or even just selling the medical device franchise. We had already decided that Allergan was going to stay in the pharmaceutical business, especially considering its blockbuster products, such as Botox.

We decided the best move for shareholders was to create a tax-free spin-off in which we would essentially cleave the company into two separate public entities. Most people are more familiar with an IPO than with a spin-off, in which two completely separate companies are created. When you do a tax-free spin-off, the resulting companies can't have any affiliation. So it truly creates a new entity with a new board of directors and a new management team.

How did you come to take on the leadership role at AMO?

I left that initial meeting thinking, 'Good luck to the individual that takes on that new role.' And then David Pyott (Allergan CEO) and the Allergan board of directors asked if I would be interested in becoming the CEO of the spin-off. Obviously, I was very interested. Being able to lead a company of that size—with a global presence and about $500 million in annual revenue—certainly has its merits. And I had spent 22 years in that business, so I knew everybody quite well.

At the end of January 2002, the Allergan management team announced to the rest of the company and to the external community that we were going to create two separate companies through a tax-free spin-off by the end of June that year. Obviously that was no small task.

AMO has done a lot of acquisitions over the years, and people often comment on how difficult they think that must be. I tell them that if you're able to create and populate a company in six months--everything from choosing a name to filling the board of directors and various structures across the globe--acquisitions are not that hard by comparison.

How were the initial phases of the spin-off accomplished?

Our goal was to turn on the lights in all of our facilities on July 1, 2002. For any given facility inhabited by both Allergan businesses, whichever entity had a larger presence got to stay. The other had to find a new home. Globally, in more cases than not, Allergan's pharmaceutical side was larger. But in several cases, that side had to find a new home.

About 80% of AMO's employees came over from Allergan, and we had to populate the other 20%. We had about 2000 employees at the time of the spin-off, with nearly $540 million in annual sales and a $350 million market cap.

Allergan was a great company—but I left with a gold watch and $250 million in debt.

The spin-off was an exciting time. I looked outside the company for about half of the people who would report directly to me. As I said, Allergan was a tremendous company—but you never know what you don't know. So I figured that having some people come from the outside with either medical device experience or public company experience would help us take AMO to the next step.

We also realized that one of our greatest competitive strengths would be our ability to move quickly. We have very strong competitors—some that were much larger than us at the time of our spin-off. So we knew we needed to be fast and focused. We also realized that we were going to need to do some acquisitions to help populate our R&D pipeline, as well as get us into the segments in which we needed to compete.

In which eye care markets does the company currently operate? What portion of AMO's business does each represent?

Well, today AMO has a little more than $1 billion in annual revenue and a market cap of about $1.5 billion. We're a global company.

Our cataract business, which entails the removal of aged lenses and encompasses several different products, represents about 50% of our revenue. Our refractive business—laser vision correction and refractive intraocular lenses—represents about 33%. And our eye care business, which primarily focuses on contact lens care products, represents about 17%.

The eye care product revenue is currently a little lower than what we would traditionally expect because, unfortunately, we had to recall one of our contact lens solutions last May. That tempered our 2007 revenues. However, we have come back quite well with a new product in that category.

You're not the only company that's been hit by that problem.

That's true. But it was definitely a learning experience.

I meet with the employees periodically throughout the year. Recently, during one of these meetings, a new employee asked me what I thought AMO's finest moment had been since the spin-off six years ago. And I told him that it was the day after the recall was initiated. To this day, I've never seen a team coalesce around a critical juncture the way that we did on that day. Ultimately, the recall cost us about $175 million on the bottom line. Our stock had been trading at nearly an all-time high, and obviously it took its hit. But it's moments like those—when you have to recall a major product globally—that really test an organization's fiber.

The day after the recall, AMO's management team gathered in the boardroom, and we determined that we would have a new product on the market within three months—and that it would be a better product. We decided that we were going to handle all the patients correctly, we were going to get the doctors involved, and that we would ultimately regain about three quarters of the market share by the end of 2008.

How well has AMO been able to execute that plan?

We've either achieved or are in the process of achieving each of those goals. Nobody believed we could execute our plan to regain market share—and, in fact, some still have doubts—but every day we're seeing a growing market share. We've launched a product that's better than the one that was recalled, and we got doctors involved in helping us relaunch it. And in the process of going through the recall, we discovered lot of things about our product, and that knowledge has helped reshape the industry.

I've received letters from customers who tell us that they appreciate the great job we did on the recall. But others have told us that they think we went too far. They loved our product, and they wished we hadn't taken it off the market. Part of their argument is that it was only FDA requiring a recall, yet we initiated a global recall. In fact, during the recall, I received calls from international regulatory agency officials who said, 'We have no problem with your product. Why are you recalling it on a global basis?'

However, we felt we had to alert everyone on a global basis. We operate in more than 60 countries and sell direct in more than 20 countries. So the sheer magnitude of the communication required to employees, doctors, end-users, and shareholders—over Memorial Day weekend in the United States, nonetheless—was unbelievable. Every hour, we'd encounter another issue. So it was important to stay organized. We were in complete service mode. We operated under this premise: Do it quick. Take it all back. Don't question people. If they need something, just handle it.

In which eye care markets does AMO not compete? Are there any plans to enter new areas in the near future?

The two primary segments that AMO does not compete in today are contact lenses and back-of-the-eye technologies, such as retina products. There are also adjunct areas where we could grow our presence. For example, we may currently be participating in a market, but we might identify an outside party with technology that, in our hands, could build a better mousetrap.

The great thing about the ophthalmic sector is that, just when you think the technology can't get any better, it can. So if somebody else has an attractive, available technology that we think would benefit from our large machine, our global nature, our strong R&D pipeline, and our sales force and marketing, we'll make the acquisition.

We'd much rather have new technologies coming out of our own R&D engine. But if we see somebody else that has a better technology in a market in which we're already currently working, we'll switch gears and consider acquiring that technology.

Does AMO consider the market for eye care products a unified global market, an assemblage of regional markets, or in some other fashion? How does the company structure activities to address similarities and differences in eye care markets worldwide?

You can't view the global marketplace as one market because there are very different nuances at play in different countries. However, a consistent global message is required.

First off, like many devices, ophthalmic products will enter global markets gradually. Generally, our products will first enter Europe and unregulated Asia-Pacific markets under the CE mark. Later, they will move into other markets in Asia-Pacific. Then, about 18 to 24 months later—give or take—products will get approved by FDA. And, as with many other medical devices, our products usually don't appear on the market in Japan for another three years.

So obviously we can't treat the global market as a single entity. First off, my people are going to be talking about different products in different parts of the globe. And in some cases, marketing nuances differ, with variations being seen between France and Germany and so forth. For example, you can't use certain terms simply because they don't translate well or the messaging is different. The day you neglect those differences is the day you will upset a certain geographical market.

However, the overall message for our products still needs to be consistent. Ophthalmologists, optometrists, and opticians are a very close-knit group, and they all go to various international meetings. If you have a meeting—whether it's in America, Japan, or Europe—they'll all participate. Thus, we try to have a consistent message for any product that is sold around the globe.

There may be some marketing nuances based on cultural differences, but the messaging and the packaging need to be the same. Creating a marketing discipline can help keep your costs in line. But more importantly, you don't want an ophthalmologist in Europe and an ophthalmologist in the United States saying completely different things about the same product. You want to communicate the same message and be able to promote that message to physicians.

Acquiring Minds

Since the spin-off, AMO has gone from $500 million in revenue to more than $1 billion. What percentage of AMO's growth has been achieved organically and what percentage has been a result of acquisitions?

To some extent, the question is, 'When does an acquisition become organic?' For example, we bought Pfizer's surgical ophthalmology unit, Pharmacia, in 2004. Since then, we have made many iterations based on Pharmacia's technologies. To us, that's organic growth. If we acquired the products, it's not. However, any offshoots created by our R&D team—or any entirely new technologies—are considered to be organic growth straight out of our own labs.

Currently, AMO's five-year revenue from new products is 48% of total revenue as of January 1, 2008. But our three-year revenue from new products is 62%. Our goal on a five-year basis is to have 50% of our revenue coming from new products. That number doesn't just reflect the impact of acquisitions. Today, our R&D team's goal is to put 50% of our business out to pasture. And in three years, our goal is 70%. It's a very aggressive approach.

In 2007, AMO purchased WaveFront Sciences Inc. (Albuquerque) and IntraLase Corp. (Irvine, CA). How did these acquisitions broaden AMO's reach, and how have the acquisitions performed thus far?

The IntraLase and WaveFront Sciences acquisitions did two things for AMO. They enabled us to move into an area that complements our existing refractive business. But mainly, the R&D of both of those companies was the most appealing element of the acquisitions. Those companies brought with them pipelines of technologies that we'll be launching for the next several years—and their offerings are well ahead of where the industry is today. That's what really appealed to us about the acquisitions—their people and their methodologies.

Of course, the easy part is to write the check. The tough part is to integrate. But the IntraLase and WaveFront Sciences integrations went extremely well for a couple of reasons. For one, their technologies were outstanding. Bringing them to market was a fairly straightforward process. And with our powerhouse distribution capabilities and our global nature, we were able to accelerate that process much more than either could as separate companies.

The other reason the acquisitions went well is that the mentalities of those two companies, from a cultural standpoint, were very similar to the culture of AMO. In any acquisition, the number one hindrance to integration is culture. You have to consider the mentality of the people working at the company and the culture surrounding the process for bringing products to market. IntraLase and WaveFront Sciences matched the culture of AMO quite closely, so people blended in fairly quickly.

Last year, AMO offered to purchase Bausch & Lomb Inc. (B&L; Rochester, NY) for an estimated $4.3 billion. However, Bausch & Lomb was ultimately taken private by private equity firm Warburg Pincus. What initially attracted AMO to the possibility of acquiring Bausch & Lomb? Has AMO adjusted its business strategy in light of Bausch & Lomb's decision to go private rather than be acquired?

The process surrounding the B&L deal was unique. It's the first time our company had to communicate to outside parties that we were considering buying something while we were still evaluating the merits of a purchase. Usually you wait to communicate externally until after you've made the decision to buy.

However, Warburg Pincus put B&L into what is called a 'go shop' process. We only had 50 days to publicly state whether we were interested in potentially acquiring B&L. So it's a unique process—and not one that I would highly recommend going through in a situation like that. For one, it's a very short period of time. Second, you have to sign a confidentiality agreement that prohibits you from telling people why you're interested in the company. And third, you're trying to evaluate the entity thoroughly. We were just drawn into the process.

As we went through the process, it became quite apparent why the acquisition would have made sense. Bausch & Lomb—as Warburg Pincus obviously recognized—has a very strong geographical presence. They sell direct in some markets where we do not sell direct, so the company would have provided opportunities to go direct in those markets in a quicker fashion.

Also, B&L has a tremendous consumer name. And although AMO's products are not consumer-oriented to a grand degree, the consumer is playing a much more active role in the markets we serve. And despite the problems B&L had encountered in terms of recalls, they still had a very strong name.

Acquiring B&L would have enabled AMO to move into the category of contact lenses in a very quick fashion. That was the main appeal of a potential acquisition. However, it became quite apparent through the go-shop process that B&L's true intention was to go private. Despite our best efforts—including a better share price offer, representing a $10 premium—at the end of the day, their desire was to go private with Warburg Pincus. So we decided to pull out of the process.

But you know, if you don't learn from going through a process, then it's a waste of time. In this case, we learned a lot about AMO as a company—where we were strong and where we needed to improve. In evaluating how we would integrate B&L if we were to make the acquisition, we had to look at our structure globally. It was an interesting process, and we brought in an outside consultant to help us prepare for the integration. But at the same time, in case the acquisition wasn't successful, I asked the consultant to also evaluate our strengths and weaknesses. And as a result of the observations that came out of that analysis, we're going to do business a little differently. So evaluating the B&L purchase was by no means a wasteful process.

You asked whether AMO has adjusted its business strategy in light of B&L's decision to go private. And I would answer that the adjustments we've made weren't because B&L went private. Rather, we adjusted our strategy because, in the process of pursuing B&L, we took an x-ray of AMO with the help of some external expertise.

Going forward, do you expect AMO's acquisition strategy to be as aggressive as it has been in recent years? If so, what types of technologies are of greatest interest to the company?

Today, we are in the best position organically that we've ever been in. And frankly, even if AMO doesn't do another acquisition, we still have enough in the pipeline to continue our market leadership in the categories in which we operate.

However, the day my team and I stop evaluating potential acquisitions and start thinking that we're the smartest people on the face of the earth in our markets, that is the day we'll lose. I've witnessed several examples in the medical device industry—both in ophthalmics and in outside sectors—where executives have said, 'If we don't make it, it must not be very good.' With that attitude, you'll fall flat on your face.

Is AMO funding R&D more heavily now than it has in the past?

Yes. As a percentage of revenue, our goal is always 6–6½%. But, of course, when a company grows its revenue from $500 million to $1 billion, that percentage equates to a doubling of the investment in R&D. Our R&D expenditure has gotten as high as 7%, but our goal is right around 6½% of revenue.

Our three businesses represent different investments in R&D. Our eye care franchise usually only requires somewhere between 3 and 4% of revenue, whereas our ophthalmic surgical division tends to be a little higher, around 8–9%, simply because of the way in which those products are approved. But regardless of division, we will never miss an opportunity to invest in R&D if such an investment means we can accelerate a project or add one.

One of the lessons we took away from last year's external evaluation of the company was that we've traditionally had too many projects in R&D. And when that happens, you end up spending a lot of time on a bunch of projects rather than focusing your resources on the ones that are going to make a monumental difference. So going forward, we're focusing our spending on projects that are likely to have greater returns.

Money and Markets

To what extent does the current deterioration of the U.S. economy negatively affect domestic LASIK procedure volumes? In what ways is AMO looking to offset such declines?

To a grand degree, all of our businesses are influenced by the doctor. True, LASIK is a product line that consumers decide to pay for out of their pockets. Similarly, contact lens care comes out of consumers' pockets. They're not typically insurance reimbursed. However, consumers are influenced by their doctors in these areas.

However, in the United States right now, you can't pick up a newspaper or look at the TV without seeing news about the state of the economy. It's become the number one presidential election issue—even over the war in Iraq. And those economic concerns have affected the number of people walking in and having LASIK—because LASIK is still a cosmetic procedure. It comes out of the consumers' own pockets.

On our earnings call in February, we accounted for what we believe will be a degradation in the growth of the LASIK market in the United States. We think there will be double-digit growth outside the United States, but we think economic concerns are going to degrade the U.S. market itself.

Overall, the rest of our businesses are not likely to be affected by the economic downturn—especially those businesses that are reimbursed through the government. We also don't think contact lens care will be affected because it represents a fairly small investment by the consumer.

You've mentioned AMO's global presence. Geographically speaking, where does the greatest untapped market for the company's products exist?

We have a presence in all markets, and we sell direct in most of the major markets. Currently, I see the greatest market potential for us in Eastern Europe. We're already fairly strong in Asia-Pacific; we sell direct in markets such as Korea and Thailand. But we're not direct in many parts of Eastern Europe, and I think that region presents significant growth potential.

Japan is one market where our LASIK business is doing extremely well. The cataract business, on the other hand, is being adversely affected by the Japanese government's price regulations.

We're focused on growing our global business, not so much geographically, but more in terms of expanding our presence in noncapitated environments. We're trying to focus on the places where consumers will pay for our products.

Over the long run, the economy is going to fluctuate. There will be good and bad years. But in the end, our business is about visual outcomes. LASIK is not the same as going on a vacation in the Bahamas. If the doctor can clearly show a consumer that our products will enable them to see better, they will pay for it. This is not breast augmentation. This is actual enhancement of vision.

As people get older, their eyes degrade. It's one of those organs that definitely degrades over time. But if there is one of your senses that you don't want to go away, it's definitely your eyesight. And so people will pay for improvement—even if the government is not willing to pay for it. So it's incumbent upon us as a market leader to develop technologies that are not cost-prohibitive but that are clear improvements to a person's quality of life.

Nuts and Bolts

Describe the intellectual property portfolio surrounding AMO's products and the company's strategy for protecting its technology.

Frankly, if we were to rely only on IP protection to extend the life of our products, it's inevitable that somebody would simply come along with a better mousetrap.

However, IP does play an important role in our business, and we will defend it vigorously. For example, a couple of years ago, we had a WhiteStar Signature patent on one of the fluidics of our phacoemulsification that we believed our largest competitor, Alcon Inc. (Fort Worth, TX), infringed. We enforced that patent and were awarded a handsome judgment—even though we were the smaller company. Obviously, it's very costly to go to court today—even if you're right--because these cases can take two to three years or longer. But defending our IP was more than worth it; in the end, we were awarded $121 million in the case against Alcon.

Does AMO file a lot of patents?

Yes, we do file a lot. Obviously, it's costly and time-consuming, but patents are very key in our sector. Because again, products in the ophthalmic market move quickly, so companies need to innovate quickly. And innovation should be rewarded—that's why we file a lot of patents.

What significant clinical research is the company undertaking?

We're extremely active in clinical research. And that's not peculiar to ophthalmology. Overall, medical device manufacturers spend a significant amount of resources on clinical research.

For example, we are developing an accommodating intraocular lens that we plan to launch early in the next decade. The product is state-of-the-art, so we've spent a lot of time and money working with physicians on a global basis to test iterations.

Oftentimes, a new design will go through seven to 10 iterations before coming to fruition. After all, you're working with optics. You're replacing something natural with an intraocular lens, which uses the mechanism of the eye. Supplanting that is not easy to do.

Even with contact lens care products, companies need to spend a lot of time in the clinic working with physicians and their teams. Those are products that are placed on a contact lens, and there are new materials being developed every day. So developing these products takes a lot of time and money because, whatever the initial design, I can almost guarantee that it will still pass through at least three to four iterations before the product comes out.

In terms of marketing, what are your primary channels and how do you relate with your customers? In many cases, the marketing of LASIK therapies is conducted by clinics or individual clinicians. What role does AMO play in devising or paying for such marketing activities?

Our customers—ophthalmologists, optometrists, and opticians—are the primary mechanisms through which we reach end-users. And then, of course, there are operating room nurses who influence the purchasing decision and retailers who distribute the product.

But mainly, our customers are the eye care professionals. They're the ones making the decisions on products. Even contact lens care is a very brand-loyal segment. In fact, about 75% of the time, patients stick with the product that their doctor recommended—even though, here in the United States, they go to a retailer to purchase it.

Even with LASIK, the consumer might want the procedure, but they don't really make the decision as to what type of laser is used. That's the physician's decision.

That said, we are very cognizant that consumers are playing a much more active role in identifying who they think are the best physicians. And they're investigating the technologies used by those physicians. Thus, we've created some innovative marketing programs, especially for LASIK, that we provide to physicians.

One such campaign is what we call iLASIK. It is a branded campaign for physicians who use the three mechanisms of our product line: WaveScan mapping and guidance, corneal flap creation with the IntraLase femtosecond laser, and the excimer laser vision correction procedure using VISX technology. These physicians are included on the Web site www.ilasik.com, where patients can go to see who is using the best technology. These are the same products that NASA recently approved for astronauts and that the U.S. military uses for fighter pilots. So there's a consumer mentality that if NASA uses it, it's got to be good. But in order to be included on this Web site, physicians have to use our technology.

Eyes on the Future

Looking at the big picture, what do coming decades hold in terms of technological advances?

First off, our technology addresses a wide range of demographics. There's the Gen-Y and Gen-X groups—that 18- to 34-year-old range. Then there is the 35- to 60-year-old crowd, which includes the baby boomers. And then there is the 60-plus club. All three of those groups are heavily influenced by their visual outcomes.

Obviously, the elderly group is facing cataracts, which is the aging of their lenses. They can't see. It's not graying of the hair—it's graying of the lens. More often than not, when you talk to somebody after cataract surgery, they'll tell you that they didn't remember how blue blue was and how green green was.

Then, you have the baby boomers, who are finding it a challenge to read their shampoo and medicine bottles. Their arms just aren't long enough—that's presbyopia.

And finally, you have the young population, which is very athletic. But they don't want to wear glasses while they play, so they're getting contact lenses. So, regardless of age, people are focused on their visual outcomes.

Beyond that, there's the question of how crisp of vision can be achieved with an intraocular lens. Two or three years ago, we introduced a lens called Tecnis. The government decided to give practitioners a $50 premium on reimbursement when they chose the Tecnis lens because AMO was able to demonstrate its safety profile in relation to driving. We showed that, due to their clarity of vision, people with Tecnis lenses were able to brake quicker than those who had other lenses. So even though the government has been looking to cut back prices, they've actually increased payment for what's being called 'a new-technology IOL.' It's a safer, more technologically advanced lens. And so, that example just goes to show that there is no limit to where technology can go.

Five to 10 years ago, if a patient had a lens put in, it required a two- to three-day hospital stay. Patients would have sutures on their eye, and they'd have to wear glasses. Today, a patient can have surgery at 8 o'clock in the morning and be driving or reading with their grandkids at noon. No hospital stay, no sutures. The lens goes through a 2.8-mm incision—and we're looking to get that below 2 mm—meaning even less trauma to the eye.

Across all ophthalmic sectors, we continue to see advances. Contact lenses today are very comfortable to the eye. They're thin and have a high water content. With LASIK, one of the greatest advances has been lasers—they're less intrusive and provide better outcomes. AMO is the leader in this area. We have both an excimer and a femtosecond laser. Going forward, lasers will be used more to treat ocular conditions—even ones that our company isn't focused on today, such as back-of-the-eye conditions.

In short, we're in an evolving marketplace. All three demographics are heavily influencing our business, and technology plays a very important role in how we go forward.

Copyright ©2008 MX