Global Equity: Good health is good business

• Each year poor health costs around 15% of global real GDP from premature deaths and lost productive potential
• Investing in health produces a high economic return; for every $1 invested, an incremental economic benefit of $2 to $4 was found
• We believe that the staff shortages, whilst impacting short term supplies, will lead to a faster adaptation rate of cutting-edge minimum invasive procedures 

In the midst of a slowing global economy and inflationary pressures many are understandably concerned about spending and growth.  Some speculate that due to fiscal concerns many governments face, even healthcare will not be spared. 

Yet ultimately good heath is good business.  According to McKinsey, in 2020 alone, the pandemic cost up to 8% in real gross domestic product. A staggering amount, yet each year poor health costs twice as much, around 15% of global real GDP from premature deaths and lost productive potential. This is why, according to the same research provider, investing in health produces a high economic return. For every $1 invested, an incremental economic benefit of $2 to $4 was found.
 
Globally today one in ten of the global population has diabetes, yet only circa 50% are diagnosed and far fewer are treated. In the United States, according to the CDC (United States National Centre for Chronic Disease Prevention and Health promotion), $1 out of every $4 in healthcare costs is spent on caring for people with diabetes. The agency estimates that $237 Billion is spent in the United States on diabetes alone in direct medical costs and another $90 Billion on reduced productivity. The total economic cost of diabetes rose 60% from 2007 to 2017. Prevalence will unfortunately keep on increasing; by 2045 it is estimated that one in eight will have diabetes.

Novo Nordisk, the global leader and pioneer in diabetes care, whose purpose is to drive change to defeat diabetes, is a vital player in the war against diabetes. Its first quarter results are reflective of the firm’s increased importance. Top line grew 18% in constant currency. Its GLP-1 treatments grew 30% year on year in the US and 45% internationally.

Management materially increased its full year guidance figures due to alleviating supply issues of its well-received new obesity drug Wegovy in the second half of the year. Novo Nordisk is also the market leader in obesity and is making significant inroads.
 

The chart above, taken from Novo Nordisk’s investor relations website, demonstrates the order of magnitude to which the firm is extending its market leadership. Similar to diabetes, the impact of obesity on both the individual and economy is massive. It is associated with over 200 possible health complications, a 3% impact of global GDP, and accounts for over 8% of healthcare budgets. The previous chief executive of the NHS Lord Stevens, had warned that obesity could bankrupt the NHS if left unchecked.

According to the latest revised estimates, it is estimated that over 764 million people live with obesity today yet only 2% are currently treated with an anti-obesity medication.

Elsewhere in the healthcare space we note that workforce shortages in hospitals are increasingly becoming more prevalent and leading to capacity constraints. Elective surgery volumes have remained below 2019 levels leaving pent up demand.

Despite these changes, Edwards Lifesciences reported strong first quarter financial results. Sales of $1.3 billion increased 13% on a constant currency basis versus the same period a year ago. Despite the impact that Omicron had on hospital capacity, resources and procedure volumes in January, especially in the U.S., Q1 global sales were moderately better than management and analyst expectations.

Shares fell as management guided sales for next quarter below market expectations, citing that workforce shortages in hospitals are real and having a material impact. On a more positive note, the full year guidance figures have remained unchanged.

For the quarter, the adjusted gross profit margin was 77.8 percent, compared to 76.0 percent in the same period last year. Selling, general and administrative expenses in the first quarter were $370 million, or 27.6 percent of sales.
Research and development expenses in the first quarter grew 10 percent to $229 million, or 17 percent of sales, in line with the firm’s 5-year average. We note that this is materially higher than the average med tech company which tend to spend less than 10% of sales on R&D.

These investments have been crucial to enable Edwards to maintain its market leadership in heart and transcatheter valves. Its shift towards the higher margin transcatheter valves has led to a massive 1000 bps operating margin expansion over the past decade. As at the end of March, the firm had compounded at 24.83% annually over the past 15 years.



Massive growth remains ahead, Morningstar estimates that the transcatheter valves target annual market is $50 Billion. As the market leader, Edwards is well positioned to ride this secular growth.



Noting its year-to-date share price drop of circa 24%, it is our opinion that Edwards rarely trades at these attractive levels. Intuitive Surgical reported better than expected first quarter 2022 results. Revenue of $1.49 billion increased 15% compared with $1.29 billion in the first quarter of 2021. Intuitive CEO Gary Guthart said, “Customer demand for our products was healthy in the first quarter despite a challenging global environment.” Covid is still having an impact on the health care systems. Furthermore, similar to Edward’s Lifesciences, management cited workforce shortages in hospitals.

Procedure growth of 19% was strong and this led the company to raise procedure guidance for the year.  Analysts were concerned about capital placements which grew 4% and management guided cautiously here due to issues mentioned above. This led to a drop in the share price clearly reflecting investor anxiety at this point in time.
 
Utilisation rates increased steadily in the single mid digits. Demand for elective medical procedures has not yet returned to pre-pandemic levels yet ISRG’s compound annual growth rate between the first quarter of 2019 and the first quarter of 2022 was 15%. Massive market share is being won as health care systems adopt to robotic assisted minimum invasive surgical procedures.

We believe that the staff shortages, whilst impacting short term supplies, will lead to a faster adaptation rate of cutting-edge minimum invasive procedures from Edwards LifeSciences and Intuitive Surgical. These procedures led to faster recovery times which mean fewer hospital nights per procedure and a lower workload on nurses.