Understanding the impact of the current economic environment on the Medical Device Industry and what we can do to prepare

1. Reimbursement for Medical Technology in the Current Economic
Environment:
What to Expect and How to Prepare for the Potential Ramifications
By Debbie Brandel, Barbara Grenell and John F.X. Lovett
Preferred Health Strategies
Everyone wishes they had a crystal ball that would tell them what the future holds. We all want
to know how our business will be affected by the economic crisis and if and when we can expect
a turnaround. Unfortunately, all we can do is hope for the best and prepare for the worst. Being
prepared is an integral part of the business planning cycle. Taking stock of a company’s strategic
direction and forecast in light of the current environment is not an option; it is a requirement for
all manufacturers, large and small, that want to survive in today’s market.
In order to develop a plan to weather the next several years, it is necessary to look beyond
generic pronouncements, particularly misleading ones about the relative insulation of health care.
It is important to understand how the health care sector fits within the overall economic picture.
In this article we will attempt to outline:
• the overall state of health care spending in the United States;
• how medical technology fits within the larger economic picture;
• how medical technology is perceived by the market; and
• how to develop a strategy to succeed in this environment.
The Burgeoning Federal Budget Deficit
It is critical is to recognize the magnitude of the pressure that the health care sector will be under
from a Federal budget perspective for the foreseeable future and to anticipate its effects. CBO is
now estimating that the deficit for the first quarter of 2009 will be $485 billion, three times the
deficit for the first quarter of 2008. The preliminary estimates for 2009, project a total annual
budget deficit of $1.2 trillion dollars1. For the health care sector, the most frightening
component of the projection is that Medicare and Medicaid alone represent over 30% of total
federal outlays. There are only two sides to the equation: revenues (i.e. taxes) and expenditures.
Assuming the political will does not exist to tackle the revenue side, a reduction in the deficit
will require very sizable spending cuts. Given the proportion of the budget that is accounted for
by Medicare and Medicaid, it will be virtually impossible to make a dent in the deficit without a
significant reduction in health care spending.
1
Monthly Budget Review, Fiscal Year 2009, Congressional Budget Office Analysis,
www.cbo.gov

2. 2009 Federal Budget Projections
(Source: CBO)
$4,000
OUTLAYS
$3,000
$1,520
INCOME Other
$2,000 Social Security
$ in billions
$662
$2,358 Defense
$644
$1,000
Medicare & Medicaid
$717 DEFICIT
$0
-$1,185
-$1,000
-$2,000
Total health care spending as a percentage of the GDP has nearly tripled over the last 40 years. It
grew from 5% in 1965 to 15% in 2005 and is projected to reach 49% by 2082. Federal spending
on Medicare and Medicaid currently accounts for 4% of GDP and, left unchanged, will grow to
19% by 2082. Despite common misconceptions about the impact of the baby boomers, the
change in the age composition of the population has had only a modest effect on the growth in
health care spending to-date. CBO estimates that the change in the age distribution between
1965 and 2005 only accounted for 3% of the total increase in spending that occurred over that
time period.2 While increased utilization due to the growth of the baby boomer age cohort is
likely to have a much greater impact in the future, there are a number of other factors that have
had and will continue to have an impact on the growth in health care spending, including:
• changes in third party payments (including broader coverage and reduced out-of-pocket
costs) - 10-13% of the increase
• personal income growth - 5-18% of the increase
• increase in health care prices - 11-22% of the increase
• increase in administrative costs - between 3 and 13% of the increase
The common perception is that technology-related changes in medical practice account for
anywhere between 38 and 65% of the increase. In many cases, this assumption is based on the
fact that once all the other factors have been accounted for a significant proportion of the
remaining or residual effect is due to medical technology. There are many arguments that can be
made to counter the residual effect and other theories related to the impact of medical technology
2
“A CBO Paper: Technological Change and the Growth of Health Care Spending”, January,
2008

3. on health care spending, however, it is the clearly an issue that device manufacturers will be
confronting for the foreseeable future. The other side of the coin is that medical technology
clearly contributes to improved health and outcomes that result in both a personal and economic
benefit. Technological advancements in health care contribute to reductions in lost days of work
and increased productivity for the workforce. Few studies, however, address the larger
economic benefits but rather focus on medical technology as a cost driver, even to the extent that
prolonging life in and of itself results in higher costs.
Expenditures for medical devices, in fact, represent a small and relatively stable proportion of
national health expenditures. In 2004, spending on medical devices totaled $112 billion or only
6% of the total national health care bill. Moreover, between 1989 and 2004, the price for medical
devices grew more slowly than either the CPI or the medical component of the CPI.3 In fact
companies that manufacture relatively inexpensive devices that are sold directly to hospitals and
other providers are projected to fare the downturn fairly well.
Medical Device Expenditures in Millions of Dollars and
as a Percent of National Health Expenditures - 1989 -2004
Source: Estimates of Medical Device Spending in the US: Roland King, Gerald
Donahoe
$120,000 6.4%
$90,000 6.0%
Expenditures
$60,000 5.6%
Share of NHE
$30,000 5.2%
$0 4.8%
1989 1994 1999 2004
The General Economic Affect
In general, the medical device industry has already been directly affected by the economic
downturn. The Dow Jones Medical Equipment Index dropped 37% in 2008, roughly even with
the 39% decline in the overall Dow Jones Index. Between November and December when the
S&P 500 went down by about 9% the medical device index was down by 18%. 4
3
“Estimates of Medical Device Spending in the United States” Roland “Guy” King, FSA,
MAAA, and Gerald F. Donohoe
4
“Medical Devices Not Immune to Recession Worries”, Matthew Perrone, AP Business Writer,
Boston.com, December 31, 2008

4. The broad economic indicators do not reveal the whole picture, but they are an important
window into what is likely to occur in the medical device sector in the near term:
• As the unemployment rate rises, elective medical procedures are likely to be pushed off
into the future as laid off workers lose coverage and are forced to make economic choices.
• Increasing pressure on employers and insurers to cut costs will result in higher copays
and out-of-pocket costs for individuals. The less insulated consumers are from the cost of health
care, the more likely they are to reduce what they consider to be unnecessary expenditures or to
substitute less costly alternatives for more expensive ones.
• In general rising personal income is associated with an estimated increase of between 5%
and 20% in long-term health care spending. A drop in personal income can be expected to have
the reverse effect and result in a substantial slow down in growth.
• Rising unemployment and the slow down in the economy also make it more difficult for
insurers to pass on increases in higher claims costs and investment losses. This will make it even
more of a challenge to obtain positive coverage and reimbursement decisions going forward.
• Congressional activity has already begun on establishing a Comparative Effectiveness
Institute and although it is still not clear what role it will play, it is clear the focus on providing
efficacy and relative efficiency will become even more heightened in the current environment.
• The approval process for medical devices is under increasing scrutiny and the FDA is
likely to intensify its efforts as a result of the recent GAO report and other inquiries.
Weathering the Perfect Storm
To summarize, what we have is a perfect storm heading right at us:
Economic downturn
Burgeoning Federal Deficit
Growth in public and private sector health care costs
Medical technology as cost driver
Increased governmental scrutiny

5. Now that we are beginning to understand the magnitude of the problem, what can we do about
it?
1. The first step is reevaluate R&D and development priorities to ensure that the devices
in the pipeline are consistent with the types of products that will not only be needed
but will be affordable in a new market environment. That means fewer marginal
improvements over existing technologies and a greater focus on devices that result in
lower cost alternatives such as targeted therapies, substitution rather than additive
diagnostics, and movement towards lower cost of care settings (e.g. medical home).
2. All new products and devices must be evaluated in terms of coverage and
reimbursement as early on in the process as possible. It will become even more
difficult to achieve sales targets as insurers clamp down on the coverage and
reimbursement process. It is imperative to review the reimbursement landscape at
every decision point along the way and to establish an ongoing dialogue with all
payers.
3. Clinical literature that addresses both efficacy and economics will become even more
important in the coming years. Manufacturers will be under increasing pressure to
demonstrate how new technologies will result in cost savings both to the insurers and
to the consumers. The growth in price transparency, higher out-of-pocket costs and
increased access to medical data through the internet will result in consumers playing
an even greater role in making their own health care purchasing decisions.
4. Industry must take a very proactive role in working with the government and third
party payers in developing solutions that will benefit all aspects of the health care
system. We are no longer in a position to function in a “silo” mentality. It will take
the coordinated efforts of all parties to protect our health care system in the short and
long term.
5. We also need to focus attention on the larger economic impact that innovation in
medical technology has on our economy. Improved productivity, fewer days lost and
longer life spans have a positive economic impact that needs to be part of the
equation.
No one can hide from the inevitability of a major overhaul in the health care system. Medical
device manufacturers have a critical role to play in this process as the incubators for new
technology that benefits us all. That role must continue if we are continue to see the types of
improvements in the quality of life that we have witnessed over the last several decades. The
key is to be able to achieve the delicate balance between innovation and economic
considerations. We are all in this together and it is up to us collectively shape the future of
health care.