Niches Are Riches- Yet Major Medtech Companies Often Abandon Them
The medtech space is not one large market but an agglomeration of hundreds of smaller markets with the majority being far smaller than the $1 billion aspirational target. Each of these smaller markets has unique characteristics including physician specialist customers, sales processes, purchasing decision processes and success criteria. The heterogeneity necessitates that companies contemplating acquisitions think very carefully about the strategic fit from multiple perspectives.
As an example, we can consider two products sold to radiologists. The mindset of a sales rep selling million-dollar capital equipment such as an MRI is completely different from one selling a $400 catheter used with MRI guidance. The first faces a lengthy year-long sales cycle with extensive work positioning against competition and building consensus around her MRI. The latter is looking for an audience to get successful use in a first procedure that could lead to a stream of reorders.
While certain industry players may look at smaller markets as a negative, the fragments can be particularly attractive because they are unlikely to draw significant competition. Bringing a medical device to market is not easy or cheap because the entrepreneur needs to obtain regulatory approval, set up quality systems, prove efficacy and then figure out a way to fund the distribution infrastructure. Most rational businesspeople will not invest the funds to be the third or fourth player in a smaller market due to the likelihood of a sparse return. As a result, the thousands of individual markets in the medtech universe evolve into natural oligopolies with few competitors. That limited competition carries with it better pricing and healthy profit margins.
One impressive company that has artfully capitalized on industry segmentation is Orthopediatrics, which has developed a broad line of devices for the niche market of pediatric hospitals. Orthopedic surgeons love the company’s devices as they are not small versions of adult products but truly designed for use in children. The company sells those doctors exactly what they want and not a jury rigged, square peg device for the figurative round hole.
This discussion raises the question as to why large companies do not pursue niche products. Having worked in a large company, I have seen the sources of this reluctance. The first is that the cost structure of a large company can be so onerous with product management overhead that the niche product line is not economically feasible. Another factor is the political landscape. Within major companies the owners of larger product lines use their political power to garner resources for those large lines while starving the niche products of resources. The leader of a major division enjoys a seat at the resource allocation table, and the poor niche product manager struggles to survive on the crumbs. One sad fate of a niche product in a larger entity is its bundling with the large product as a loss leader. This process quickly consigns the niche product to its deathbed as it becomes a low margin entity that is not worth supporting. An example of this pattern is Siemens Healthineers’ treatment of its PACS (Picture Archiving System) business. As the company sold its MRI’s and CT-scanners, the PACS was ‘thrown in’ to help win the sale and the unprofitable PACS business received minimal support. And the PACS business slowly withered away. In contrast Philips treated their PACS business as a profit center and it thrived comparatively.
Large companies often ignore or off-load the niche products and here are two examples. Since J&J acquired the orthopedic trauma giant Synthes, the company ‘streamlined’ the product line significantly. Within that business, resourceful product managers running the surviving smaller revenue products creatively generated awareness to reach customers on scarce resources. Following Solventum healthcare’s spin-out from 3M, the independent entity culled its product line SKU’s by over 5%.
The good news is that the giants’ disdain for the niches creates opportunities. In my venture capital and equity research days, I enjoyed meeting with thousands of medtech entrepreneurs and startups. Those were exciting meetings, as I learned about innovative approaches to improving patient care. And I had the privilege of following the companies through their product evolution, market entry, and occasionally an IPO or sale to another company.
Frequently, I would have to give an entrepreneur mixed feedback. Their idea may have been great, but the target market was not large enough to attract venture investment. On the other hand, their idea often had the potential to become a great family business. A lean business generating $20 million in revenues can be a nicely profitable entity and support a family very well. And there is a large list of Private Equity investors and companies looking to add a niche product line to a small business where it can contribute, grow and matter. Several times successful entrepreneurs have approached me at trade shows and thanked me for this advice.
Large markets dominate the discussion in the medtech community and the financial press. But great rewards await those who take the time to explore the smaller segments of the medtech world. Niches can become riches, but it requires a little digging, research, and careful evaluation.