Healthcare: Market leadership, resilient profitability, and opportunity for consolidation
Michael Chang, Partner, NA, and Tania Daguere-Lindbäck and Mark Hersee, Partners, EUR
Our four-part sector series shines a spotlight on each of the key sectors in which we invest: Services & Industrials, Healthcare, TMT, and Consumer. In each piece, our sector leaders in North America and Europe come together to discuss the themes, trends, and opportunities for the sector in their respective markets, detailing the factors shaping our portfolio and investment approach into 2023 and beyond.
The second in the series focuses on Healthcare, with Michael Chang, Partner leading our North American Healthcare practice, and Tania Daguere-Lindbäck and Mark Hersee, Partners in London covering European Healthcare.
What underscores your long-term conviction in the sector?
MC: Healthcare is a sector where there are always going to be challenges that need solutions. At a macro level, the sector benefits from a number of tailwinds: a growing and ageing population; increasing rates of diagnosis and innovation; and a rise in consumerism in healthcare, that all continue to define the industry.
MH: Our overall investment approach of seeking defensive growth means we look for businesses with key characteristics such as market leadership, delivering best in class products or services, that benefit from resilient profitability and high barriers to entry, and that tend to drive consolidation in their market – all of which can be found in healthcare.
T D-L: Whether you are in an upturn or a downturn, healthcare spend remains essential; it is a resilient sector with consistent demand. There are structural growth factors driving this demand and evolving underlying trends that bring fresh perspective. However, though the sector benefits from global tailwinds, the regulatory environment is very localised and so local connectivity and an ability to navigate the political and cultural landscape is important.
What sub-sectors and themes do you find particularly interesting?
MH: The space is very diverse, so we are highly disciplined in our sub-sector focus. We have identified and built conviction in three areas that benefit from long term structural growth: pharmaceuticals and pharma services, healthcare services, and MedTech. Each of these has a range of very specific sub-categories, such as consumer health, pet care, dental, and obstetrics and gynaecology, which are examples of where we spend our time. Though they have very different business models with different dynamics, themes and drivers, there are synergies between them. This sub-category expertise within our team, coupled with our regional networks, is crucial to fostering knowledge sharing and idea generation to identify opportunities.
As an example, consumer health is one area where we have long-term conviction, as consumers are increasingly investing money in their own well-being to lengthen their healthy lifespan. The lack of price regulation and the ability to build a brand in this specific sector mean that it shows resilient demand and the ability to defend profitability, which are attractive qualities especially in a high-inflation environment. This is something we considered last year when acquiring Havea, a leader in the European natural healthcare space.
MC: In the US, we are looking at thematic trends and how to harness the opportunities that come from these, such as bringing greater efficiencies into the US healthcare system by outsourcing to specialists and developing lower care costs. We have spent time looking at outpatient centers and physician offices that shift procedures from hospitals into lower cost and better outcome settings. Similarly, two key strategies that we’ve been exploring in the US are businesses that help deliver care to patients at home, another low-cost setting often preferred by patients, and helping physicians and providers to deliver superior and more efficient care while creating lower-cost options for patients.
Many healthcare sectors are also ripe for consolidation and portfolio M&A is a value creation tool we have consistently deployed across our portfolio, for example with Women’s Care Enterprises, an obstetrics and gynaecology (OB-GYN) business, and VetPartners, a network of animal health businesses. This allows us to apply a repeatable value creation framework both on the cost side, but more impactfully on the revenue side by institutionalising best practices across the platform, investing in clinical infrastructure, and ultimately building a better business to deliver high quality care.
T D-L: These trends are also found in the pet care space, another of our core sub-sectors. In addition to consolidation, humanisation of pets and digitalisation are two key growth drivers. Digitalisation in particular can bring huge advantages to the healthcare services sub-sector, as digitalising systems can lead to better patient outcomes and lower operating costs.
How would you define your approach - what factors, indicators or characteristics do you look for when sourcing deals?
MH: We start by looking at the key themes and trends and how they will impact the sub-sectors we focus on. From here we can evaluate growth potential, evolving business models, and barriers to entry, and pair this with areas where our team has strong expertise, knowledge, and networks. This allows us to narrow the scope of our investment remit and use our expertise to help build our conviction in an investment thesis.
For example, when we were looking at Havea, we were attracted by the strong potential to increase market share with the rise in preventative consumer health spending, increasing preference for natural products, and substantial opportunity for consolidating a highly fragmented market. Additionally, the business is omnichannel, boasts a best-in-class management team, and has plenty of R&D and innovation in the pipeline.
We also invest in business-to-business pharmaceutical services, for example in the contract development and manufacturing company (CDMO) sub-category. This is a very specific sector in which we have a strong track record, for example through our investment in Pharmathen. We exited the business in 2021 and it is a great example of where there was substantial opportunity to take market share. Our hands-on approach meant we were able to support the business with investment in innovation, R&D to build the IP, and competitiveness to deliver strong growth.
T D-L: The healthcare sector is also regionally diverse, so we narrow our focus and are disciplined about the sub-sectors that we spend our time on in each market – not all areas exhibit the defensive growth characteristics we look for, and we need to have a right to win in a particular space through unique insights, experience, or angles. It’s our way of generating deals that are differentiated. Focusing on key sub-sectors and trends helps deal flow, and as Mark says, allows us to define our scope and focus our networking in specific areas, in order to source deals that are not necessarily in the auction process.
VetPartners is an example of a deal where we focused on a specific sub-sector in which we have deep expertise, the pet care space. When we acquired the company in 2018, we were inspired by its clear differentiating factors: vet-led approach, full integration platform, and consolidation potential. It was a young business when we bought it and we could see a lot of opportunity to support them both operationally and to scale. The company has done well since our acquisition and there continues to be significant room for growth, further M&A, and digitalisation.
MC: One of the first things we look at when considering an investment is the difference the company can make to improving patient outcomes. Another key consideration is whether a company has the scale that will allow us to innovate and invest in areas that will enable the provider to deliver superior clinical outcomes. For example, Women’s Care Enterprises has enough local scale to enable investment in resources for better staffing (i.e., hospitalists) and specialised patient care (i.e., physicians with specialised training). In addition, scale allows us to make the most out of our investment in data analytics to improve patient health and long term preventative care.
What challenges are you seeing within your portfolio and wider sector?
MC: Labour constraints will be a key challenge in the US as there’s a shortage of medical professionals. We are currently looking to find opportunities where companies are training or providing certification for medical professionals. This is the number one priority for healthcare firms in the US.
MH: The biggest current challenge for the pharmaceutical sector is how to keep costs down amid rising production costs due to inflation. Prescription pharmaceutical products typically experience deflationary pricing over their lifetime, which is not a great combination when you have cost inflation to pass on. Learning how to protect margins in such an environment is the biggest challenge for the whole pharma industry.
T D-L: The picture is similar in healthcare services and MedTech. In Europe, like the US, we’re also seeing a shortage of medical staff, and this is creating inflationary pressures. In our portfolio, the impact has been modest as the companies we have invested have been able to defend profitability and we’ve seen manageable levels of inflationary costs. When we acquired Dental Pro in 2017 and VetPartners in 2018, we spent a lot of time analysing their ability to pass price increases through their business models, and this contributed to our confidence in pursuing these investments in these specific markets.
What is your outlook for the sector in the coming year? What opportunities do you see on the horizon?
T D-L: Pet care will continue to be an interesting space, as owners are increasingly investing in the well-being of their pets. Vet services have strong structural growth factors and are resilient to economic downturns. In recent years, the industry has seen increased specialisation with vet care moving closer to the level of care available to humans. It’s also a largely fragmented market that is ripe for consolidation. Continental Europe in particular still has a very fragmented market, and it’s one of the sectors within healthcare services where becoming part of a group makes sense for greater efficiencies and better outcomes.
MH: At the peak of the pandemic, the pharmaceuticals industry was constantly in the headlines. Profits were inflated and publicly listed pharmaceutical firms often traded at unprecedented levels, especially those involved in the development of vaccines or other COVID-related products. It was hard to find investments where we felt comfortable, as valuations were factoring in COVID-adjusted profits, and the one-off benefits washed through the P&L. We now have a more rational market, and there are more opportunities for us.
MC: The dental sector in the US will continue to see strong tailwinds this year, as more solutions and care are needed to improve the quality of life for patients. Our portfolio company Zest Dental is one example of a company that is really changing the market with their innovative solutions, which create new options for patients. There’s no shortage of people that need Zest’s products.
When I think about what makes a good BC Partners healthcare deal, the key characteristics we look for are: strong market share, a product that improves patient lives, and a platform in which we can invest, innovate, and grow the business.