What do we mean when we refer to a “healthcare M&A deal” and what are its specific features? In this article we will discuss a few key things you need to be aware of when doing an M&A transaction in this industry.
1) What is healthcare M&A?
First of all, when talking about healthcare M&A it is important to understand what we (M&A lawyers) mean by “healthcare” as definitions may vary. When referring to a transaction in the healthcare industry we usually talk about a sale or purchase of (or an investment in) a business in any of the four following subcategories: pharmaceuticals, biotech, medical devices and healthcare services.
Pharmaceuticals
Pharmaceutical companies are businesses focused on the discovery, development, evaluation, registration and monitoring of small molecular medicinal drugs. Pharmaceutical products are initially covered by patent protection. Once a patent expires, competitors can recreate the relevant product by manufacturing identical generic copies.
Biotechnology
When talking about biotech, we refer to those companies that are focused on research and early stage development of technological applications of biological systems, living organisms or derivatives thereof, to make or modify products or processes for specific use. These products are also initially covered by patent protection. Once expired, they can be reproduced as so-called biosimilars.
Medical devices
The term “medical devices” covers a vast range of instruments, machines and implants for human use for specific medical purposes. Medical devices are categorized into different classes, each with their own regulatory requirements. This classification is a “risk-based” system based on the vulnerability of the human body, taking into account the potential risks associated with the devices and depending on a range of qualifications (e.g., implant vs. external use, duration of contact with the body, degree of invasiveness and local vs. systemic effect).
Healthcare services
Finally, healthcare also covers companies involved in the provision of healthcare (physical or virtual) or that are involved in the provision of services to healthcare providers (HCPs).
Healthcare M&A
A healthcare M&A transaction, similar to deals in other industries, can be structured as an asset transfer, a share transfer or a combination of the two. Later in this article we will address a few other combinations specific to deal-making in this industry. There is traditionally a lot of activity in healthcare M&A; the deal volume is high and takeover sums are usually large: it is a typical carve-out industry where big pharma, medtech and biotech companies are continuously re-evaluating their portfolio products. This is very often the case when companies face patent cliffs, meaning that soon they will have products whose patent protection will expire, or when companies have not been able to develop new products within their own R&D departments, with the risk of their pipeline running dry.
2) Key features of a healthcare M&A deal
Many of the common features in this contribution will apply to one or more subsectors. However, what may be relevant when acquiring one may not be applicable when purchasing a company in one of the other subsectors. For example, a medtech company and a pharmaceutical company operate in the same industry, however they are fundamentally distinguished businesses and differently regulated. Also healthcare deals often cover multiple jurisdictions so it is important to understand that requirements may vary per country and to engage specialists in each of the countries involved. In M&A, private equity buyers (with the exception of highly specialised healthcare investment funds) historically focus on medical devices and health services, as opposed to “higher risk” targets within the (bio)pharmaceutical industry (and in which case they often acquire stake in a consortium with other PE buyers).
Value drivers and deferred payments
The key areas of a healthcare due diligence process are IP, regulatory and compliance. This is because, commercially, irrelevant of whether the transaction is structured by a share deal or asset deal, the buyer is looking to acquire knowhow, IP and regulatory approvals. Further, since IP and knowhow are key value drivers in this industry, the buyer usually seeks to retain key employees and manufacturing personnel.
Especially if the target is an early stage company of which regulatory approvals are still pending at the moment of sale, sellers often have a different valuation in mind than buyers. Commonly applied valuation methods in other industries will not be appropriate and we see that forecasts are commonly used to arrive at the purchase price. Parties usually bridge such “valuation gap” by milestone and earn-out payments. The outcome of clinical trials, the moment of submitting requests to various regulators and the actual grant of marketing authorization of the product are usually triggers for those deferred payments. Obviously, the unambiguous drafting of such payment mechanisms is key in these type of deals.
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