It's going to be a great Quarter, Year and Decade
BY EDITOR, JULY 14, 2003
Despite being asked by the Merrill analyst to comment on the prospects for the Next Gen product (manufactured by Zimmer... oops, she meant Next Generation), Biomet's CEO, Dane Miller, was his usual wry self as he announced that overall sales rose 16%, total recon +21% for the May quarter. Last year at this time, sales were up 13%. Net profit for the May quarter reached $77.7 million, up 17%. Biomet's release is the first of this quarter's nearly 20 orthopedic company earnings releases. By the time the last announcement is pushed out the door about six weeks from now, the industry will have reported, we think, accelerated revenue growth.
In the chart at the end of these comments, we show the sales growth trend among public companies that sell orthopedic products. In 2001, this group reported an 11% rate of revenue growth. In 2002, it was 14.7%. In the first quarter of 2003 it was 14.9%. This quarter, we expect, it will be higher still (very likely over 15%) and will continue to accelerate over the course of this year and next.
Clearly, this is unusual behavior for a “commoditized, mature” sector in medical devices. And, the indications of the dynamism of orthopedics go deeper than reported sales.
Since 1999 unit volumes for large joint reconstruction have grown at an average annual rate of 5.6% rate of growth, list price increases – which had averaged 6.2% over a ten year period when Medicare reimbursement fell 6 out of 10 years – accelerated in 2003 to 9.5%.
Most interestingly, as large joint unit sales grew by 5.6% annually, the core demographic for hip and knee replacement surgery (people over 65 years of age) grew at a 2.7% average annual rate for the same period.
WHere's the elasticity of demand? Prices go up, Medicare cuts reimbursement and... unit volumes increase 5.6%? That's twice as fast as the growth rate of the underlying patient population.
We think the explanation for this industry's dynamism lies in two, poorly quantifiable phenomena – rising levels of surgeon competence and changing patient expectations. In a study of 206 patients, 98% reported successful knee replacements 11 years after surgery. In a study of 3,314 patients who'd had their non-cemented hip implanted between 1977 and 1998, 95% were still using their replacement hip 15 years after surgery. In yet another study of 357 patients, 95% reported successful hip replacement surgery 20 years after the fact. Surgeons are routinely delivering 95+% rates of patient satisfaction.
In 1992, of the estimated 10-12 million people in the U.S. with moderate to severe arthritis (Grade 3 and 4) 3% sought surgical intervention. In 2002, we estimate, 4.3% sought surgical intervention. And we attribute this primarily to the potent combination of surgeon competence (yes manufacturer competence, too) and the patient's expectations that his/her surgeon can get them back to their lifestyle.
These two trends will not be slowing down. Coming soon to a surgical theater near you are MIS and alternate bearing surfaces. If anything, patient expectations are increasing. By 2012, we expect, surgeries will be largely outpatient procedures, implants will be the largest cost factor in a surgery and the percentage of patients opting for intervention will be at least twice as high as today. Mark it down.
What did Biomet Say about Interpore Cross?
Dane Miller, in his conference call with analysts, announced that Biomet had settled a lawsuit with Interpore Cross over some intellectual property squabble and would henceforth be a licensee for Interpore's Geo structure spinal implant product. And would, in Dane's words, compete with Interpore. Interpore is the number #5 spinal implant manufacturer with 3% market share. If we were seeking to gain market share, we'd be more inclined to target market leaders Sofamor Danek, Acromed and Synthes who, collectively, hold the dominating market share.
So we called Interpore and asked them what they thought. They told us that they were happy to extricate themselves from the lawsuit without having to pay a fee, thus damaging their earnings expectations. Sharing the innovative and exciting GEO product line with Biomet didn't seem particularly onerous – it could well expand the market's awareness of GEO and there was a fair chance that Interpore could wind up manufacturing the product for Biomet. In fact, it seemed as though Interpore was fully aware of their relatively small position in the spacious spinal implant market and didn't think they'd run into Biomet very often.
Which, we think, is probably true. So we were intrigued with Biomet's stated interest in building it's presence in spine at the expense of Interpore. Given the apparently modest intentions of Biomet, Sofamor Danek must be breathing a sigh of relief.
Sir Christopher.
It happened about a month ago. Chris O'Donnell, CEO of Smith and Nephew has been awarded his knighthood in the Queen's Birthday Honours List for services to the medical devices industry.
Sir Christopher joined Smith & Nephew in 1988 as Managing Director of the company's Medical Division in Hull. He was appointed a Director in 1992, Deputy Chief Executive in July 1996 and Chief Executive in July 1997.
Sir Christopher is an honours graduate of Imperial College London in Mechanical Engineering and holds a Master of Business Administration from London Business School. He is a member of the Institution of Mechanical Engineers and a Chartered Engineer. He is married to Mia, and they live in Yorkshire with their four children.
For the last thirty years, he has worked in different sectors of the medical technology industry, initially with Vickers Medical, then with C.R. Bard Inc prior to joining Smith & Nephew. In March 2001 he was appointed a Non-Executive Director of The BOC Group.
Chris's contribution to both his company and the orthopedics' industry has been enormous. This honor goes to one of the industry's true gentlemen and visionaries. We're delighted for him, Smith and Nephew and the orthopedics' industry.
CryoLife's insurance carriers render split decision. FDA lets a deadline past quietly by.
Would you want to insure CryoLife? Apparently one carrier looked at its liability policy with CryoLife and decided that there was a limit to its coverage.
Over the last three years (between May 2000 and April 2003) twenty three product liability cases have been brought against CryoLife - presumably by patients who claim to have been harmed by CryoLife's products. So far this year, the Company has settled five of these suits and had three dismissed. Two insurers are providing $15 million in coverage. A third firm, however, informed CryoLife recently that it will not cover the costs from some of these cases.
That, of course, throws the potential liability back into CryoLife's lap and, through a spokesman the company said that it is considering suing the unnamed insurer for coverage of its claims. Without that coverage, CryoLife and its auditors will have to make a reasonable guess as to its potential un-insured liability and reserve for it. That likely means a big write off in the June '03 quarter.
Cash stands at about $25 million. Equity is $79 million. What happens if the outside experts decide that worst case liability is more than the firm's equity? Who gains in that case? We can't think of a single entity – not even the plaintiffs. Still, these developments add another twist to an already very knotty problem.
What's going on at the FDA? As we write these words, they are a month overdue. Last August the agency ordered CryoLife to recall certain of its orthopedic and vascular allograft products and stop distributing the same. It did. Over 7,900 allografts were recalled. Less than a month later, September 5/2002, the agency granted CryoLife extremely limited distribution rights for its non-valve vascular allografts which were expected to expire roughly 45 days after the order was made. Forty five working days later, an extension. Than another that expired in March – all leading to the latest deadline - June 13, 2003. That was a month ago. So far, nothing from the FDA. Clouding the picture was a February 2003 483 notice from the FDA citing continuing deficiencies at the company. In a public commentary on May 14, 2003 regarding CryoLife, Jesse Goodman, M.D., Ph.D., Director of Centers for Biologic Evaluation and Research of the FDA, said, “The most recent inspection of CryoLife was performed in early February 2003. Some improvements were noted, but significant work lies ahead. FDA continues to monitor the firm and to work with the company as corrective actions are implemented.” We just don't get any sense of urgency from the FDA. We take Dr. Goodman at his word, namely that the agency's main focus is to monitor CryoLife and that there remains significant work to do. Bottom line, sounds like another extension.
