Medical Device Contract Manufacturing: Key Takeaways on Market Sentiment

Over the past several weeks, senior bankers from the Harris Williams Healthcare & Life Sciences (HCLS) Group have stayed in close contact with privately owned companies, large strategic buyers, and financial sponsors who are active in the medical device contract manufacturing organization (CMO) space.

In this Q&A, we distill the key takeaways from our ongoing engagement with these players in the CMO M&A marketplace.

Q: Let’s start with the CMOs with which you have relationships. How have conditions changed since the onset of the COVID-19 pandemic?

Bradshaw: The pandemic led to a significant drop in elective procedures in April and May, which drove 50-60% reductions in demand for medical devices at the original equipment manufacturer (OEM) level. However, the majority of the CMOs—while impacted—have seen a more muted dip in their revenues. We think most CMO volumes finally hit bottom sometime in late Q2 or early Q3 due to the lead times that are typical in the supply chain between OEMs and component suppliers.

Likewise, when procedure volumes started to improve, most CMOs didn’t experience an immediate rebound in volume as OEMs worked through inventories and filled up in-house manufacturing capacity first. We expect CMO volumes will show steady recovery on a month-over-month basis, and will reach pre-COVID-19 levels sometime in early 2021.

Will: I’ll just add that every conversation we’ve had recently has been incrementally more positive in terms of production levels. Based on that, we expect continued positive momentum through the end of the year. Even in the event of a significant uptick in COVID-19 cases, we expect hospitals will continue to find ways to maintain volume of highly profitable elective surgeries. There are also some bright spots with CMOs that supply things like niche consumables, and that are less tied to elective procedures.

Q: How has the pandemic affected this subsector in the longer term?

Will: One thing we’ve noted is the greater importance of having programs with “blue-chip” manufacturers' key products. OEMs are managing volume declines by focusing on higher-margin platforms, giving component suppliers with exposure to these platforms an advantage over those attached to legacy or lower-margin products. We've also heard some predictions that OEMs will favor CMOs with larger platforms and the proven ability to deliver within specified lead times, which will be important as the industry looks at operating with tighter inventory levels through the recovery.

Q: What are the implications of these trends for M&A?

Bradshaw: COVID-19 increased the value of differentiated manufacturing processes, advanced capabilities, and diverse therapeutic exposure that can withstand the type of shocks to acute care delivery we are seeing today. CMOs that partner with OEMs and create innovative products are more able to choose their own destiny and drive growth through new products, versus having their future tied to procedure volumes.

Bredrup: Throughout 2020, there has been more appetite from financial and strategic buyers for CMO platforms than companies in the market. That’s only intensifying as the subsector continues to bounce back. Private equity buyers like its margins and growth potential, while strategic buyers appreciate the opportunity to vertically integrate, gain new capabilities and capture more of the value chain with their existing sales forces.

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Published October 2020

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