INSIDE CHINA: Honeymoon or harsh times in China when Medtronic and Covidien merge

Clinica Medtech IntelligenceMichael Alper of NeuvoMedica discusses the implications – both good and bad – of the pending Medtronic and Covidien merger on the companies’ operations in China and on other players in that market.

July 2014: Inside China – Honeymoon or hash times in China when MDT and COV merge?

One of the biggest pieces of news this year in the medical device industry is the Medtronic announcement of its proposed acquisition of Covidien for $42.9 billion in cash and stock.  This has far reaching implications for both companies, their respective shareholders, employees, physician customers and patients as well as the industry as whole.  Though mostly cited as a huge potential benefit due to a tax inversion strategy much has also been noted about the potential synergies of an increased product line that would help give Medtronic better leverage when negotiating with hospitals and HMOs.

One thing that I have been thinking about and discussing with friends and colleagues in this industry are the implications for Medtronic and Covidien operations in China as well as the impact on the overall medical device market in China.

The new Medtronic/Covidien combined entity will be almost twice the size of the current Medtronic entity.  In China, from a brand perspective, bigger is usually considered better as Chinese consumers trust bigger companies and have a stronger preference for products from bigger companies.  This goes for physicians and patients.  Physicians like bigger companies because it means more resources to support their training and research.  Patients like bigger companies because their perception is the quality of the products and service will be better.

When it comes to hospitals, however, the synergy that Medtronic will gain in the US in being able to have more leverage when negotiating with hospitals and HMOs will not be so relevant in China.  Sales of so-called “high value” consumables like pacemakers, stents, joints, etc. are currently mostly decided at the department level.

On the other hand, being bigger means that the new Medtronic China entity will have more resources to influence government policy to its advantage.  Medtronic will also have more resources to expand R&D and local manufacturing in China, things which the government will also like.

However, the government tends to pay more attention to larger companies when it comes to issues related to compliance and being larger also means that the new Medtronic will have higher risk for compliance related issues as it will have many more business units to deal with.

Obviously, one major issue for this deal in general is the integration.  This is the largest acquisition that Medtronic has ever made and as with any merger/acquisition there are many challenges that will be faced including cultural differences, employee layoffs, restructuring, etc.  In China, Medtronic and Covidien have very different cultures.  Medtronic China (with the exception of Kanghui) is for the most part an organically grown entity that was established in 1996 and for the most part grew under the stewardship of professional international leaders.  Covidien on the other hand, though currently led by a professional international leader, was originally made up of acquisitions of distributors and still retains a very local culture.  Though this could be of benefit giving MDT a better understanding of their distributors, I imagine the cultural difference will create a large challenge.

On top of the integration with Covidien China, is the fact that the Kanghui acquisition only happened at the end of 2012 and with the original CEO of Kanghui, Yang Libo having left only a few months ago I would imagine the Medtronic China team is still facing significant challenges with Kanghui alone.

Next, is the area of employees and employee retention.  Since there is not significant overlap in the businesses of the Medtronic and Covidien in China, one would expect redundancies to be made only in the areas of support functions such as HR, accounting, finance, IT, etc.  However, like any merger/acquisition, there will be uncertainty for a significant amount of time during the integration process.  Under such uncertainty, employees start thinking of contingency plans and start looking at other opportunities.  In a high growth, highly competitive market for talent such as China, such an issue is exacerbated further as employees have many more options than in slower growth markets such as the US and Europe.  Covidien has a relatively large R&D group that was recently established in China.  Despite Omar Ishrak’s focus on the developing markets and local R&D in these markets, there is uncertainty as to what will happen to this team.  Already, friends of mine from other large medical device companies are trying to take advantage of this uncertainty and poach people from MDT and COV, including from Covidien’s R&D team.

Finally, in terms of this merger’s affect on the overall global medical device market, I believe that overall this merger will actually hurt the small medical device companies and be an impediment to innovation in the US and Europe.  This is for three major reasons.  First is that most of the innovation in the medical device market comes from small companies.  Large companies such as Medtronic and Covidien do not do much innovation.  Second, there will be one less large company that smaller medical device companies can sell out to.  The medical device market outside of China already has a host of challenges that has really dried up the source of investment including the 2.3% medical device tax in the US, the lack of predictability of getting FDA approval and cost cutting pressures both in the US and in Europe.  One less exit strategy for small companies makes the market that much less attractive.  Third, with the larger product line that Medtronic will have, it will effectively be able to block out competitors at hospitals and HMOs making the market more difficult for smaller companies.  With the additional challenges, less entrepreneurs in the US and Europe will be willing to take the risk to start new companies based on innovative technologies.

In China on the other hand, the impact will be much smaller.  Chinese companies have many more sources of funding especially with the recent government policies to promote the development of innovation in the local medical device market.  There are also more exit strategies, in terms of going public in the Chinese markets or selling to other larger and growing Chinese medical device and pharmaceutical companies.  Unlike the US, most small Chinese medical device companies are not looking to be acquired by MDT, COV or JNJ.  Contrarily, with less exit options for foreign companies abroad, it will be easier for Chinese companies to purchase foreign technologies.  If in fact foreign innovation decreases, over time there will be even more focus and need for domestic innovation.

On July 11, 2014, posted in: News by

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