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MedTech Outlook | Monday, February 27, 2023
Companies in the medtech sector face growth challenges, and valuations stagnate.
FREMONT, CA: The value proposition of medtech is compelling for investors. The industry is expected to grow profitably in the future due to high entry barriers, sophisticated technological innovations, and huge clinical and nonclinical unmet needs. It has become more difficult for large diversified companies, especially in the past five years, to create value. Large companies' growth prospects have largely been a source of investors' apprehensions about value creation. A fast-growing top line can trigger a valuation increment in medtech. Investors prioritize revenue over profit and cash flow, which leads to more investment in research and development, mergers and acquisition, and market creation, fueling further sales growth. Valuations in the medtech sector are driven by growth and expectations of growth.
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There are several reasons why medtech companies with large caps expect lower growth than smaller ones:
The drag of the legacy business: Large companies should be exposed to low-growth markets that muffle the impact of innovative new products. There are high-growth markets in the medtech industry, and 25 percent of the market is expected to grow at least 6 percent per year from 2022 to 2025. But the legacy businesses in companies' portfolios tend to distract them from these markets.
The burden of scale: Market growth requires new revenue of USD 500 million to USD 600 million yearly for a business with USD 10 billion in sales. A company's growth rate should be equivalent to creating a midsize medtech company every year to be considered an average grower.
The slowing pace of therapy adoption: The manufacturer of an innovation that aims to improve on an existing product, such as an endoscope, must demonstrate superior outcomes and cost-effectiveness over the predicate. Innovative procedures and care standards, such as transcatheter valve replacements, have a more difficult road ahead. Educating one physician or care team about novel diagnostic paradigms, identifying patients, and executing procedures can take months.
The lure of near-term earnings: Large companies' innovation portfolios are dominated by incremental programs that will solve the next quarter rather than plans to unlock transformative new treatments for underserved patients or take advantage of technological opportunities. Companies often prioritize short-term projects because they can demonstrate a return on investment much quicker than long-term projects. This means that companies are more likely to invest in projects that can generate a profit quickly, even if they are less strategic and innovative than other projects.
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