Meret Gaugler, Head of Investment Strategy, Endeavour Vision
With healthcare innovation in the spotlight as a result of a global pandemic, medtech is an industry in transformation. Having begun 2020 in earnest, we take a look at what the next few years could hold for the sector.
Mounting budget pressures drive healthcare innovation
Healthcare generates more than a third of all data produced in the US. And yet, the sector is one of the last to embrace digitalization and lets much of that data go to waste. Fortunately, the current pandemic might have served to give the healthcare industry a powerful nudge in the right direction.
With care facilities prioritising COVID-19 patients, the crisis precipitated a significant increase in remote counselling, monitoring, and even in some cases, treatment of patients. We’re seeing first signs of this being a long-term trend, with a flurry of new digital technologies and business models that will add to our already vibrant deal universe.
Given the budgetary pressures the pandemic will leave in its wake, one crucial benefit of digitalisation will be to reduce healthcare spending. Endeavour Vision has long been applying the same lens to its investments by pursuing cost-saving innovations such as minimally invasive procedures, preventive monitoring and earlier diagnoses.
Key stakeholders are more and more aligned
As our populations age, we’re seeing a rise in chronic, expensive-to-treat conditions, causing healthcare costs to outpace economic growth. One might think that spiraling costs would reduce the demand for new technologies as providers look for ways to spend less. In fact, the opposite is true: as expenses increase, so does the demand for cost-saving innovations.
Indeed, it was the increase in healthcare spend that put medtech in the hot seat over a decade ago. Since then, the sector has evolved to focus as much on producing solid cost-savings data as clinical trial data. This has created more alignment between companies, policymakers and society, and will reduce the risk of sudden regulatory change.
Healthcare’s sustainable, structural growth will continue to stand out
While headline economic growth for the US in 2021 might land in the upper single digits—the highest in 15 years—most of that will come from pandemic stimulus. This money is intended to plug the hole left by shutdowns rather than foster long-term growth and productivity. Beyond the next two years, underlying economic growth is likely to peter out and return to pre-crisis levels. In a world of low underlying growth, the structural and sustainable growth in medtech will continue to stand out. This makes for a particularly attractive sector in which to build companies.
2020 produced a historically dynamic exit environment
Policy responses to the COVID-19 pandemic dealt an unprecedented shock to economic growth, leading central banks to reduce interest rates and governments to issue new debt needed for increased spending. Whereas most of the liquidity generated in the previous decade had a hard time making it past the banking system, last year much of that new money made it into people’s pockets and found its way not only into home office equipment, and bathroom renovations, but also investments.
This goes a long way to explaining why, in 2020, the US equity market staged its fastest-ever recovery and the number of Initial Public Offerings (IPOs) hit a two-decade high. With cheaper debt and easier access to financing all around, existing and newly listed companies alike were also given more credit for future growth and cut increasing slack for being some time away from breaking a profit. We saw that trend reflected in medtech, where the highest-growth companies solidly outperformed their large-cap peers. Finally, corporate buyers started responding to increasing competition from IPOs and follow the trend towards earlier-stage exits.
What could rain on that parade?
Perhaps, surprisingly, it isn’t the latest numbers of coronavirus infections or even the emergence of new virus mutants that we’re watching most closely. One reason is that healthcare systems are slowly finding ways to treat patients more effectively, even in the absence of widespread vaccinations. In addition, several of the vaccine platforms now in use have cut development times such that they can more quickly adapt to new virus strains.
Of course, the numbers companies publish need to catch up with valuations eventually. Moreover, the success of vaccine rollouts and the speed and shape of economic recovery will determine what investors buy. But we are more conscious of the fact that public markets have benefitted tremendously from fresh liquidity, and we think the ongoing promise of easy money will be a more significant determinant of overall market performance over the next year. We all want things to get better quickly. If, however, they don’t, central banks and governments will likely go on providing a powerful insurance backstop.
This is why, like most investors, the trend we’re watching most closely is inflation. Recessions happen when the economy goes from picking up speed to running at too fast a clip. Central banks will want to stifle economic over-heating with higher interest rates, especially given the amount of money they printed in 2020. Since there’s nothing markets are more scared of than rising interest rates, this is where the snake will bite its own tail.
All of that said, we see no immediate need to worry about the months ahead. Although headline inflation can be fickle, stripping out its most volatile components paints a much calmer picture. It’s also worth remembering that healthcare expenditure makes up nearly a tenth of the Core Consumer Price Index in the US—over half of what people spend on food and almost three times more than they spend on clothing. So—to close the loop—what if healthcare innovation and the step-up in digitalisation reduced cost sufficiently to start acting as a buffer for inflation?
A strong foundation for 2021 and beyond
As we have seen, the COVID-19 pandemic has put healthcare and medtech centre stage and made the growing need for cost-saving innovations as a preparation for tough times more apparent than ever. This underscores our conviction in the sector’s medium- to long-term attraction. And although we’re well-positioned to benefit from today’s historically dynamic exit environment, we remain in the business of building real companies that can lead to value inflection under a range of different scenarios. As we begin to look forward to a post-pandemic world, that philosophy will continue to be the foundation of our success.