Specialist Outlook

Investing in Healthcare: risks and opportunities

07 December 2015

Eden tree discuss the future of investing in healthcare and balancing the risks with the objectives.  

Healthcare in recent years has been a very fertile sector for investors, providing not only growth, but also yield, all at a reasonable price. For charity investors, the healthcare sector presents plenty of opportunities as well as risks, both of which need to be analysed in order to deliver sustainable long-term returns, without compromising principles. The risk map needs to be framed around an ESG (Environment, Social and Governance) matrix to ensure that the charities are aligning their investments with their stated objectives.

Global Pharmaceutical Market

The golden age of innovation for the pharmaceutical sector was in the 1990s, which was followed by a barren period from 2000. The sector and the wider industry has undergone a renaissance in recent years with a return to R&D productivity, a receding patent cliff and a return to growth in both developed and emerging markets via favourable demographics and rising incomes.

The market for global spending on medicines is forecast to reach $1.3 trillion by 2018, a 30% increase on 2013. The US continues to lead developed markets, followed by the 21 “pharmerging” countries which are forecast to account for nearly 50% of absolute growth by 2018. China will cement its position as the second largest pharmaceutical market with spending expected to reach $155-185bn in 2018¹. In terms of per capita, the dominance of North America, Japan and Europe will go unchallenged. In developing markets, over 80% of growth will be underpinned by generic medicines, whilst developed markets will be dominated by specialty medicines, primarily in oncology, autoimmune, respiratory, anti-virals and immunosuppressants.

Delivering long-term performance

The sector has delivered stellar returns over the past 5 years and remains attractively positioned, with companies offering rising dividend yields and good growth prospects, all on undemanding valuations. The UK has seen a renaissance with a flurry of small and mid-cap healthcare companies coming to the market in recent years, illustrating the UK’s leadership in science. In addition, large cap companies have been buoyed by M&A activity - two failed bids for AstraZenca, Shire Pharmaceuticals flexing its balance sheet and the innovative deal between GlaxoSmithKline and Novartis.

Source: Bloomberg

¹IMS Institute, November 2014


Patents and R&D Productivity

The industry has leveraged the sequencing of the human genome 15 years ago to develop a greater understanding of disease diagnosis and treatment. A record 61 drugs were launched in 2014 compared to the annual average of 34 in the previous decade - 11 blockbuster drugs (sales of $1bn+) are expected to launch in 2015 (up from 3 in 2014). The patent cliff which peaked in 2012 has receded removing a large overhang - $37bn of sales was lost to generic competition in 2012, but this is forecast to drop to $12bn in 2020².

Long-term Drivers

The long-term growth of the market is driven by demographics, economic development and major health issues. The growth in population will remain one of the biggest challenges facing the global economy in the 21st century – 80% of the countries in the world still have an expanding working-age population. In addition, the global population aged 65 years and above is estimated to rise from 9% in 2010 to 19% by 2050, placing an even greater burden on government healthcare budgets, which are already under duress³. Economic growth in emerging markets will provide new customers for companies in the sector – there is a strong correlation between healthcare spending and GDP. A rapidly growing middle class coupled with rapid urbanisation will lead to increased access to healthcare systems – 95% of the Chinese population is now covered by public health insurance plans. The spread of lifestyle disorders are resulting in major health issues including diabetes, Hep C, HIV, cancer and cardiovascular diseases, will only add further pressure on healthcare budgets.

Issues for responsible investors

The healthcare sector throws up several salient issues for the responsible investor encompassing business practices, labour relations, environmental management and community relations. There are a large number of sub-issues to be considered:

The sector has endured a torrid time in the last decade dealing with global scandals across several fronts - bribery & corruption, unethical marketing & sales practices, poor data transparency, failed products endangering patients and accusations of profiteering. Whilst there is much to be critical, companies across the whole value chain have made great strides to embrace corporate responsibility. The industry remains uniquely positioned in not only being dedicated to saving lives, but also responsible for delivering strong returns to shareholders, the economy and society.

²FT, 13.07.15
³HSBC Global Research, Nov 2015

Data privacy

The rapid uptake of digital tools such as telehealth, electronic medical records (EMR) and remote patient monitoring are helping to deliver not only better care, but also higher quality care in a more efficient manner. Despite the benefits, there are also risks related to increased data availability. The healthcare sector is under increased scrutiny over data confidentiality and transfers of electronic medical records. In 2014 alone, data breach incidents in the medical and health care sector represented 42.5% of the 783 reported data breaches in the US*. Data breaches are increasingly costly. The total average cost for a company is now USD $3.8 million, up from $3.5 million a year ago and the loss of a healthcare record ($363) is twice the average of all sectors ($154)**. Despite the risks, the digitization of healthcare offers opportunities in disease diagnosis, treatment and management. In addition, healthcare systems, which are already under considerable financial pressure, will be beneficiaries from a higher return on investment.

Engagement

Companies which embed ESG at the core of their business model will be best placed to not only remain profitable, thereby delivering long-term sustainable returns to shareholders, but also fulfil their obligations to society more widely. Responsible investors, via effective engagement, can monitor the direction of travel of companies, to ensure that the interests of all stakeholders - patients, healthcare systems, companies and investors - are fully considered.

Outlook

The industry faces several challenges in the form of tougher regulation, complex markets in the developing world and new disruptive technologies. However, the sector remains well positioned for responsible investors who are willing to develop a pragmatic engagement strategy in order to deliver long-term sustainable returns without compromising principles.

*Identity Theft Resource Center Breach Report 2014
**Reuters, May 2015.

 

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Ketan Patel

Ketan Patel CFA
Associate Fund Manager
Ketan began his career on the equity derivatives trading desk at JP Morgan, before moving to Insight Investment as a Global Healthcare Analyst. Ketan leads the team’s company research, supporting the Fund Managers’ investment decision-making. Ketan joined EdenTree Investment management in 2003 and has been a CFA Charterholder since 2009.

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