Health care's new world

A recent research paper outlined the trends in health care and discussed which industries will prosper in the near and medium term. Enrique Brito, a certified financial analyst and senior managing director of The McLean Group, a national middle-market mergers and acquisition firm based in McLean, Va., outlined the new landscape of the U.S. health care system including trends in the industries and which companies expect to show significant growth in the near future.

The healthcare industry is divided into services and technology. Services include hospitals, ambulatory services, and nursing and residential care facilities. The technology sector is defined as companies that provide information technology, pharmaceuticals, biotechnology, and medical devices, says Brito.

Service revenue and profit growth for U.S. healthcare services from 2000 to 2008 reported average annual growth of 6.8 percent with over $1.7 trillion in revenues in 2008, yet the gross margins, defined as revenues less direct costs related to revenue, were either flat or decreased compared to the revenue growth. The large healthcare service companies' market values did remain higher than the broad S&P 500 index of companies.

The trends cited by Brito were cost containment, the future shortage of primary care physicians, and the growth in alternative medicine. I found the study's data of Americans consumption of herbal supplements surprising $4 billion annually. The cost of malpractice insurance has been another significant trend in the service sector. Brito mentions that despite the significant increases in premiums, malpractice insurance is not profitable for many insurers. From 1998 to 2004 insurance companies lost money on malpractice insurance. Also, high malpractice insurance has encouraged physicians to make changes to their practice including retiring early, limiting their practice, or performing unnecessary tests and other procedures to limit the risk of liability.

The technology sector, Brito mentions, has three main areas of change. Telecom companies are integrating into the healthcare industry. The need for better communication, specialized information technology, and the lack of dominant IT providers is spurring growth and opportunities for providers and investors.

Alternative care delivery is driving IT growth through developments such as consumers' desire to receiving care consultation by telephone, e-mail, and online. Consumers' demand for alternative consultation could be a significant growth opportunity for IT providers. Brito mentions that advances in medical device and research sectors will show dramatic advances in the coming years. Medical discoveries in devices expect to quadruple by 2030. Use of electronic medical records has increased to 28 percent in 2006. The use of electronic health records has the potential to improve medical care quality while reducing healthcare costs by as much as $40 billion per year.

The second portion of the research included Mr. Brito's analysis of M&A activity and trends for the foreseeable future. M&A trends are result of patent expirations (purchase of biotech companies) and IT inefficiency and inoperability. Patent expirations by pharmaceutical companies are driving companies to look at biotechnology companies to fill their pipeline of new drugs to bring to the market. IT inoperability, as Brito discusses, is due to widespread technology vendors with few standards to follow in this sector. IT standards will become required within the next five years.

Brito reports that venture capital firms seem to have had better success in earning healthy financial returns on investment in the healthcare IT sector compared to biotech, healthcare devices, and healthcare services. The study cites that venture capital firms have had healthcare IT investments returning 25 percent in 2007 and 2008 compared to relatively flat returns or losses in other segments. Investors will be looking for predictable revenue and cash flow streams in the technology firms. As long as investors are willing to do ample due diligence with investments, especially in the technology segments, returns will be promising in the new healthcare world.

(You can download the complete research paper, "Healthcare M&A: Trends & Outlook," at www.mcleanllc.com/landingpage/HealthcareLanding/healthcarelanding.htm, or send us an email to forward to you the noted link.)

Scott T. Wait, a certified public accountant, is a shareholder in RS Wait of Reno and is an affiliate office of the McLean Group Contact him at 825.7337 or email scott@rswait.com.