Medtronic, Covidien match up on services strategy before deal

CHICAGO, June 16 Mon Jun 16, 2014 5:36pm EDT

CHICAGO, June 16 (Reuters) - Well before Medtronic Inc and Covidien Plc announced their $43 billion merger, the two medical device makers had reached common conclusions about how they needed to change.

Their hospital customers, under pressure from government payment cuts and patients struggling to pay or simply staying away, are slashing budgets and taking a harder line on prices, from rubber gloves to heart stents. By 2007, medical device sales had slowed dramatically from double-digit percentage growth to the low-single-digits, and hopes for a rebound have since faded.

U.S.-based Medtronic on Sunday said it would buy Covidien and moving its executive headquarters to Ireland to take advantage of lower corporate tax rates.

The combination of their product lines will make them a leader in six out of the top 10 hospital purchasing categories. Medtronic hopes that will add to its leverage in device sales as hospitals narrow down the number of vendors they buy from.

In interviews with Reuters in recent weeks, executives from both companies said they were also focused on providing more advisory services to hospitals, suggesting how doctors could save money and improve care with data on standardizing surgical procedures and management of chronic disease.

"The company realized back in the late 2000s that the world was changing," said Dr. Michael Tarnoff, chief medical officer for Covidien. "You can't just take the physicians out to dinner and build relationships and expect to build your sales."

Covidien is trying to help hospitals create protocols for procedures ranging from hysterectomies to weight-loss surgery, based on evidence of what would work best for most patients.

"Covidien sees itself as a company that wants to move toward being a partner and not just a vendor," Tarnoff said.

Medtronic in March launched a two-year pilot program with insurer Aetna Inc to help improve blood sugar control and lower costs for diabetic patients using its insulin pumps. It also has arranged consulting contracts in Europe that focus on cardiac catheterization laboratories, where heart procedures such as stent implants are performed.

"It is a services business model we have started to participate in and one we see further traction in going forward," Medtronic Chief Executive Omar Ishrak said. "We think we can be a leader in this shift to value-based healthcare."

Some industry experts are not yet convinced that hospitals will involve device makers in decisions affecting clinical practice.

"My sense is hospitals still view these companies as vendors," said Jefferies analyst Raj Denhoy.

MAKING THE SHORT LIST

In the United States, President Barack Obama's health reform law is accelerating an overhaul of the $3 trillion healthcare system.

U.S. doctors have traditionally been paid for the number of services they perform, rather than whether a patient's health improves. In the past, that encouraged physicians to order the newest, most expensive medical technology and, critics argue, perform procedures on many more patients than necessary.

Now hospitals and insurers want to restructure how they compensate doctors based on a patient's health outcome. The impact is felt even more broadly now because as many as 30 percent of U.S. doctors now work directly for hospitals or in hospital-owned practices after a wave of consolidation.

With hospitals exerting more control over device spending, they are directing physicians to switch from device brands they preferred to use in the past, said Deloitte consultant Paul Kreder. On big-ticket items such as implantable defibrillators, Kreder also advises hospital clients to cut back the number of vendors they use to just two or three companies.

"Companies are trying to broaden their product portfolios and trying to broaden the services and solutions they offer. The advantage to that is they become potentially more of a one-stop shop," said Edward Jones analyst Jeff Windau.

(Editing by Michele Gershberg and Steve Orlofsky)

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