Bryan Hughes, Managing Director, PMCF03.28.23
During the COVID-19 pandemic’s earliest days, Medtronic quickly ramped up production of its Puritan Bennett ventilator line to meet global demand. By June 2020, production at its manufacturing facility in Galway, Ireland, had increased nearly five-fold. Medtronic partnered with companies outside healthcare including SpaceX and Intel to supply critical components and technologies to ease the burden of physicians fighting COVID-19. Management publicly released all design specs for the PB560 ventilator so other manufacturers could help increase the global supply. The production boost helped ventilator revenue to grow from roughly $250 million (pre-pandemic) to more than $700 million at its height.
In October 2022, Medtronic executives announced the spinoff of the company’s Patient Monitoring and Respiratory Interventions businesses. In prepared remarks, Chairman and CEO Geoff Martha stated, “This separation will allow Medtronic to focus our company and our capital on opportunities better aligned with our long-term strategies to accelerate innovation-driven growth and will position NewCo to unlock value.”
The decision followed a string of similar announcements from other large medical device companies. In fact, across all U.S. industries the number of announced spinoffs surged by more than 30% last year. In each case, company management framed the spinoffs or divestitures as the logical conclusion of ongoing portfolio optimization initiatives. As COVID-19 continues to transition from pandemic to endemic, many medical device companies have experienced below-average or slowing growth and as a consequence, investors have shifted their focus from growth to profitability.
Portfolio rationalization and related spinoffs are just one lever to be pulled as medical device companies seek to align cost structures with slower growth. For instance, by some accounts the industry has already experienced more than 20,000 layoffs in the last 12 months. Similarly, Medtronic recently grabbed headlines for offering voluntary early retirement to its global workforce; interestingly, the retirement offer is not available to employees in either the Global Operations & Supply Chain or Global Operations Quality organizations. Among this landscape of alternatives, spinoffs often rise to the top of decision sets for their ability make news and move the needle on operational model reorganization.
However, a Bain & Co. study published in Harvard Business Review last December found that 50% of corporate spinoffs fail to create shareholder value, and almost 25% destroy significant shareholder value. In the Bain study, consultants analyzed more than 350 large ($1 billion-plus value) public spinoffs since 2000 and found on average these transactions generated only a 5% shareholder return over two years. In the few corporate spinoffs that did perform well, executive teams looked past the spin-out as an event and rather focused on the parallel, yet unique, go-forward value creation story of each standalone entity. While the carve-out mechanics are important, management leading top-performing spinoffs started at the end (value creation) and worked backwards to create operating models and organizational structures to support that objective.
With stronger operating models in mind, a key question for suppliers and the broader CMO/CDMO ecosystem is how these transactions will impact day-to-day operations. Further, will the potential acceleration of medtech spinoffs positively impact the contract manufacturing industry’s current and future growth curve?
In the near term, a spinoff’s strategic and financial benefits must outweigh dis-synergies and management distractions in order to create shareholder value. While the strategic and financial benefits will impact suppliers longer-term, management distractions and focus of resources on carve-out mechanics likely has the greatest impact today. Selling organizations, reporting structures, and global operational footprints must be thoughtfully defined to best position the newly independent entity for long-term success. As this is happening, products continue to be developed, manufactured, and sold; there are bound to be changes in sourcing contacts, quality managers, design teams, and in some cases, top management.
In the intermediate and long term, the specific spinout thesis or plan will drive much of the suppliers’ impact. Judged in the rearview mirror, most successful spinouts start with a well-defined plan to achieve a specific growth rate and hit certain EBITDA or operating income targets. In many cases, the path to meeting these objectives—particularly with EBITDA targets—will have real consequences on the supply chain and particularly on the evolving nature of supplier relationships. Following are a few examples of this in recent transactions.
Recent spinoff announcements from medical device OEMs include:
Although GE and 3M entered the healthcare market 52 years apart—GE began producing X-ray tubes in 1896 and 3M first provided medical tapes and surgical drapes in 1948—the two companies will exit their respective healthcare businesses in the same year with many of the same talking points: focused, more accountable and agile organizations; capital allocation, dedicated boards, and distinct, compelling investment profiles.
From a supply chain perspective, the healthcare businesses within each of these organizations were relatively standalone operations. Yet the strategic rationale around focus, accountability, and agility will likely drive some shake-out in the supply chain near term while accelerating future growth opportunities.
Enovis and Danaher Industrial Businesses: While 3M spun off its healthcare business to reinvent itself as an industrial heavyweight, both Enovis and Danaher are spinning off their industrial divisions to become pure-play healthcare companies.
Much like 3M and GE, the Enovis’s and Danaher’s industrial businesses generally had standalone operational footprints before their spinouts. Both companies have set out specific growth and margin improvement targets; Enovis management has outlined a 550bp margin improvement target in the near-term and potentially another 500bp longer-term. On $2 billion in projected revenue in 2024 that equates to $200 million annually, much of which may come from operating leverage and cost streamlining.
Zimmer ZimVie (Spine and Dental): In the year since completing its spinoff from Zimmer Biomet, ZimVie shares have vastly underperformed in both the broader market and the share performance of its former corporate parent, declining by nearly 80% since early February 2022. Zimmer Biomet’s shares have remained relatively flat but ZimVie has experienced a marked revenue decline and lowered its fiscal 2023 guidance by an additional 10% to $825 million-850 million.
While topline, macro-related challenges have caused the stock to underperform, ZimVie’s smaller scale has also significantly impacted its suppliers. In 2022, for instance, the company cut capital investments in instruments by more than 50% and is forecasting $8.5 million in further purchase reductions this year. Collectively, this has taken almost $25 million in revenue from suppliers’ ledgers.
More impactful, perhaps, will be management’s stated objective to improve margin by 400bps over the next few years. Translated to dollars, this represents a $40 million reduction in annual costs.
To put this in perspective, Zimmer Biomet’s five million square-foot facilities footprint supports the company’s $7 billion annual revenue, whereas ZimVie operates six facilities encompassing approximately 530,000 square feet. On a dollar revenue basis, ZimVie’s operations appears to be more efficient than Zimmer Biomet’s overall footprint. But the smaller manufacturing base may allow for an accelerated cost optimization effort and likely reflect a higher reliance on third-party suppliers to meet manufacturing demands. In short, a larger percentage of the $40 million in annual cost reductions may fall on the supply base.
In its most recent quarterly earnings call since announcing the spinoff of its respiratory and patient care businesses, Medtronic executives delivered an upbeat assessment as financial results beat expectations. The remarks quickly pivoted to the company’s ongoing transformation, highlighting the urgency of its portfolio optimization and “upgrades” to its global manufacturing and supply chain footprint. If other device executives follow this lead, contract manufacturing partners should expect further spinout announcements. While these may create significant future opportunities, in the near-term, a flurry of these transactions will create further dislocation across the supply chain and require careful management of key relationships and messaging around value propositions.
Bryan Hughes is a managing director of PMCF and leads the firm’s Healthcare team. He has more than 20 years of industry experience advising clients including contract manufacturers, life sciences companies, diagnostics businesses, drug delivery services, laboratories, and medical device manufacturers. He has completed over 30 transactions with a combined deal value totaling more than $5 billion. Bryan can be reached at bryan.hughes@pmcf.com.
In October 2022, Medtronic executives announced the spinoff of the company’s Patient Monitoring and Respiratory Interventions businesses. In prepared remarks, Chairman and CEO Geoff Martha stated, “This separation will allow Medtronic to focus our company and our capital on opportunities better aligned with our long-term strategies to accelerate innovation-driven growth and will position NewCo to unlock value.”
The decision followed a string of similar announcements from other large medical device companies. In fact, across all U.S. industries the number of announced spinoffs surged by more than 30% last year. In each case, company management framed the spinoffs or divestitures as the logical conclusion of ongoing portfolio optimization initiatives. As COVID-19 continues to transition from pandemic to endemic, many medical device companies have experienced below-average or slowing growth and as a consequence, investors have shifted their focus from growth to profitability.
Portfolio rationalization and related spinoffs are just one lever to be pulled as medical device companies seek to align cost structures with slower growth. For instance, by some accounts the industry has already experienced more than 20,000 layoffs in the last 12 months. Similarly, Medtronic recently grabbed headlines for offering voluntary early retirement to its global workforce; interestingly, the retirement offer is not available to employees in either the Global Operations & Supply Chain or Global Operations Quality organizations. Among this landscape of alternatives, spinoffs often rise to the top of decision sets for their ability make news and move the needle on operational model reorganization.
However, a Bain & Co. study published in Harvard Business Review last December found that 50% of corporate spinoffs fail to create shareholder value, and almost 25% destroy significant shareholder value. In the Bain study, consultants analyzed more than 350 large ($1 billion-plus value) public spinoffs since 2000 and found on average these transactions generated only a 5% shareholder return over two years. In the few corporate spinoffs that did perform well, executive teams looked past the spin-out as an event and rather focused on the parallel, yet unique, go-forward value creation story of each standalone entity. While the carve-out mechanics are important, management leading top-performing spinoffs started at the end (value creation) and worked backwards to create operating models and organizational structures to support that objective.
With stronger operating models in mind, a key question for suppliers and the broader CMO/CDMO ecosystem is how these transactions will impact day-to-day operations. Further, will the potential acceleration of medtech spinoffs positively impact the contract manufacturing industry’s current and future growth curve?
In the near term, a spinoff’s strategic and financial benefits must outweigh dis-synergies and management distractions in order to create shareholder value. While the strategic and financial benefits will impact suppliers longer-term, management distractions and focus of resources on carve-out mechanics likely has the greatest impact today. Selling organizations, reporting structures, and global operational footprints must be thoughtfully defined to best position the newly independent entity for long-term success. As this is happening, products continue to be developed, manufactured, and sold; there are bound to be changes in sourcing contacts, quality managers, design teams, and in some cases, top management.
In the intermediate and long term, the specific spinout thesis or plan will drive much of the suppliers’ impact. Judged in the rearview mirror, most successful spinouts start with a well-defined plan to achieve a specific growth rate and hit certain EBITDA or operating income targets. In many cases, the path to meeting these objectives—particularly with EBITDA targets—will have real consequences on the supply chain and particularly on the evolving nature of supplier relationships. Following are a few examples of this in recent transactions.
Recent spinoff announcements from medical device OEMs include:
- GE Healthcare
- 3M Healthcare
- Enovis Non-Medical Business
- Danaher Non-Medical Business
- JNJ Consumer Healthcare
- GSK Consumer Healthcare
- Baxter Renal Care
- Medtronic Renal Care
- Embecta – BD’s Diabetes Care
- ZimVie – Zimmer’s Spine and Dental Businesses
- Medtronic Patient Monitoring & Respiratory Interventions
Although GE and 3M entered the healthcare market 52 years apart—GE began producing X-ray tubes in 1896 and 3M first provided medical tapes and surgical drapes in 1948—the two companies will exit their respective healthcare businesses in the same year with many of the same talking points: focused, more accountable and agile organizations; capital allocation, dedicated boards, and distinct, compelling investment profiles.
From a supply chain perspective, the healthcare businesses within each of these organizations were relatively standalone operations. Yet the strategic rationale around focus, accountability, and agility will likely drive some shake-out in the supply chain near term while accelerating future growth opportunities.
Enovis and Danaher Industrial Businesses: While 3M spun off its healthcare business to reinvent itself as an industrial heavyweight, both Enovis and Danaher are spinning off their industrial divisions to become pure-play healthcare companies.
Much like 3M and GE, the Enovis’s and Danaher’s industrial businesses generally had standalone operational footprints before their spinouts. Both companies have set out specific growth and margin improvement targets; Enovis management has outlined a 550bp margin improvement target in the near-term and potentially another 500bp longer-term. On $2 billion in projected revenue in 2024 that equates to $200 million annually, much of which may come from operating leverage and cost streamlining.
Zimmer ZimVie (Spine and Dental): In the year since completing its spinoff from Zimmer Biomet, ZimVie shares have vastly underperformed in both the broader market and the share performance of its former corporate parent, declining by nearly 80% since early February 2022. Zimmer Biomet’s shares have remained relatively flat but ZimVie has experienced a marked revenue decline and lowered its fiscal 2023 guidance by an additional 10% to $825 million-850 million.
While topline, macro-related challenges have caused the stock to underperform, ZimVie’s smaller scale has also significantly impacted its suppliers. In 2022, for instance, the company cut capital investments in instruments by more than 50% and is forecasting $8.5 million in further purchase reductions this year. Collectively, this has taken almost $25 million in revenue from suppliers’ ledgers.
More impactful, perhaps, will be management’s stated objective to improve margin by 400bps over the next few years. Translated to dollars, this represents a $40 million reduction in annual costs.
To put this in perspective, Zimmer Biomet’s five million square-foot facilities footprint supports the company’s $7 billion annual revenue, whereas ZimVie operates six facilities encompassing approximately 530,000 square feet. On a dollar revenue basis, ZimVie’s operations appears to be more efficient than Zimmer Biomet’s overall footprint. But the smaller manufacturing base may allow for an accelerated cost optimization effort and likely reflect a higher reliance on third-party suppliers to meet manufacturing demands. In short, a larger percentage of the $40 million in annual cost reductions may fall on the supply base.
In its most recent quarterly earnings call since announcing the spinoff of its respiratory and patient care businesses, Medtronic executives delivered an upbeat assessment as financial results beat expectations. The remarks quickly pivoted to the company’s ongoing transformation, highlighting the urgency of its portfolio optimization and “upgrades” to its global manufacturing and supply chain footprint. If other device executives follow this lead, contract manufacturing partners should expect further spinout announcements. While these may create significant future opportunities, in the near-term, a flurry of these transactions will create further dislocation across the supply chain and require careful management of key relationships and messaging around value propositions.
Bryan Hughes is a managing director of PMCF and leads the firm’s Healthcare team. He has more than 20 years of industry experience advising clients including contract manufacturers, life sciences companies, diagnostics businesses, drug delivery services, laboratories, and medical device manufacturers. He has completed over 30 transactions with a combined deal value totaling more than $5 billion. Bryan can be reached at bryan.hughes@pmcf.com.