Andy Acker is portfolio manager and equity research analyst for healthcare at Janus Capital in Denver, Colorado.
Since April 2007, he has managed the Janus Global Life Sciences strategy and Janus Global Life Sciences Fund. Acker served as co-portfolio manager of the Janus Aspen Global Life Sciences portfolios from October 2004. He also serves as team leader of the healthcare sector research team.
Acker joined Janus in August 1999 as an equity research analyst, focusing on companies in the biotechnology and pharmaceutical industries. Prior to Janus, he worked as a strategy consultant for the Boston Consulting Group and a healthcare analyst for Morgan Stanley Venture Partners.
Is the final US healthcare legislation good for the healthcare sector?
We view this legislation more as healthcare expansion than healthcare reform. It is expected to add more than 30 million customers to the healthcare system, which should be a positive for the industry.
Pharmacy benefit managers, drug retailers and generic companies will be particular beneficiaries of the increased volumes. Other industries or subsectors within healthcare that should also benefit include pharmaceutical and biotechnology companies, medical device manufacturers, health maintenance organisations and hospitals. These companies will likely face higher fees, rebates and increased regulation.
However, in general we view the likely impact of these fees as modest for most of these sub-sectors, and something that can be more than made up over time with increased customer use and higher prices.
Uncertainty about healthcare reform has been weighing on the healthcare sector and healthcare stocks for the past year. So resolution about the shape of healthcare reform is generally a positive. Healthcare stocks have trailed the broader markets for six of the last seven years, and in the last year trailed the markets significantly. Generally, we view the valuations in the sector as attractive.
Let's discuss the potential impact of the legislation on each of the major subsectors, starting with pharmaceuticals.
Big pharmaceutical stocks have underperformed the broader markets for most of the last 10 years and now trade at a very substantial discount to the market. We believe the early negotiating stance taken by these companies played to their benefit. Pharmaceutical companies contributed $85 million in the legislation. That sounds like a big number, but it is over a 10-year period. So, $8.5 million a year for an industry with $750 billion a year in revenues -- those fees represent less than 2% of annual revenues.
These companies should also realise some benefits from the increased number of customers who will have insurance coverage, which generally results in increased use of pharmaceuticals.
The other big issue for pharmaceuticals is what is called the generic wave, or the patent-expiration cycle, where more than $50 billion of US-branded pharmaceuticals sales will be going generic over the next three or four years. This dynamic is already priced into many of these companies' stocks, as they are trading at seven or eight times earnings, which is a substantial discount to the general market.
Historically, pharmaceuticals traded at a premium to the market. So we think a lot of the challenges for the pharmaceutical industry are now priced into the stocks.
What are the potential implications for the biotechnology industry?
Biotech companies were generally spared from most of the fees in the legislation. Some of the fees that affect pharmaceuticals also affect biotech companies, but the biotech industry was a key beneficiary of one provision that gave 12 years of market exclusivity after Food and Drug Administration approval for all new biologic products. This was longer than we expected, and a couple of years longer than we normally see for a typical small-molecule pharmaceutical drug.
Even after that exclusivity period, it may be difficult to create a true generic, because these products are complex molecules that are hard to copy. So, the general outlook for biotechnology looks positive and not changed by the legislation.
Let's talk about healthcare opportunities outside the US, particularly in emerging markets.
Because of the strength, depth and breadth of our team, we are able to spend a lot of time looking globally at healthcare opportunities. We have found opportunities in countries as far reaching as Brazil. Emerging markets are still an under-appreciated opportunity for the healthcare sector broadly -- not only for local companies, but also for multinational companies.
Many people understand that emerging markets are great opportunities for industrial companies and technology companies. But we think people under-appreciate just how good an opportunity emerging markets are for healthcare companies.
In the US, we spend 16% of our GDP on healthcare. But in India and China, [that figure] might only be 2% or 3%. As those countries develop their infrastructure for healthcare and increase healthcare insurance, we believe there will likely be a period of 20 or 30 years where healthcare spending grows at two or three times the rate of GDP growth. That's what we've seen with developed countries.
Emerging markets are growing faster than developed markets, but many people don't appreciate that healthcare spending in those emerging markets may be growing two or three times faster than GDP.
We look for both local companies as well as multinational companies that have a significant presence in emerging markets. A good example would be GlaxoSmithKline, a global pharmaceutical company that makes almost a quarter of its sales in emerging markets through pharmaceutical, consumer and over-the-counter products.
Another example is Novo Nordisk, the leading global player in diabetes care. Unfortunately, diabetes is becoming an epidemic in some emerging markets. The rate of diabetes is exploding in countries like India and China as they adopt a more Western diet, and Novo Nordisk is a beneficiary of that trend.
Can pharmaceutical companies get the same type of pricing in emerging markets, or do they have to set lower prices and offset that with volume?
We have tracked the operating margins for pharmaceutical companies in emerging markets, and many of them are not that different from their operating margins in the US. Pricing may be lower in many of these emerging-market countries, but the costs are also significantly lower. For example, the wage of a sales representative in China or India might be one-fifth of what it is in the US.
Additionally, global pharmaceutical companies can leverage their global infrastructure to take products developed for the US market and sell them in other countries.
What are your views on China as it relates to healthcare companies? Are there opportunities for healthcare investors?
There are many rapidly growing companies and exciting opportunities in China. Most of the healthcare companies there are focused on their local markets, which are really exploding in growth. And these companies are highly fragmented, so there are hundreds of companies all competing for the same market. We think there is significant consolidation still to come in China before these companies get big enough to compete with the multinationals.
In terms of investment opportunities, many Chinese healthcare companies are trading at more than 35 times earnings, so we think the opportunity has largely appreciated. But we are definitely looking for the right opportunity where the valuation makes sense to us.