In an endemically low growth world, prone to accelerating forces of disruption, it has become progressively harder to identify stocks to hold for the very long run.
There is, though, a group of superficially boring healthcare stocks which are locked into long term palliative, chronic or geriatric pathologies where the demand profile is observably robust and their respective market positions pretty much unassailable. We hold six such companies within the Cerno Global Leaders Strategy, an equity investment program designed to identify and invest in companies for the very long term. The six are made up of three medical equipment suppliers, two chronic conditions specialists and one generalist.
The healthcare companies we like have very simple, understandable products and services and are accessing large and growing patient pools. These companies typically operate in oligopolies where the competitive environment is relatively benign, where they are able to maintain stable market shares through high barriers to entry, switching costs and superior intellectual property, thereby sustain high margins for an extended period. We avoid complex and intangible businesses with high valuations and no proven cash generative abilities, for instance many new names in the biotech segment.
A basic understanding of the key demographics is necessary. The world is aging at an unprecedented rate, in both developed and emerging markets, as birth rates decline and longevity rise. It is predicted that by 2030, 20% of the global population will be over the age of 65. Health issues manifest in deteriorating bodily functions, with often multiple chronic conditions requiring treatment. With respect to this, we are investors in the medical device sector and have identified several themes where the companies can improve or restore the living standards of people suffering from deteriorating mobility, hearing, and ostomy/continence conditions.
Zimmer Biomet is a US based firm that designs, manufactures and markets orthopaedics equipment globally, treating patients suffering from injuries to the joints, bones or supporting soft tissues: problems frequently encountered by the elderly. The company is a leader in hip and knee replacements, which makes up over two-thirds of their business, the residual business lines target extremities, dental, trauma and spine.
Another function that will almost inevitably deteriorate as we age is hearing. Research suggests that the prevalence of hearing loss among over 65s are five times higher than those below this age, and lifestyle changes in urban areas with higher levels of noise pollution means that people who requires hearing aids will shift younger. In this area we have Sonova, a Swiss-based leader in hearing solutions, controlling a quarter of the hearing care market share.
Coloplast is another medical devices company offering products and services in the intimate healthcare areas concerning ostomy, incontinence, urology, and wound care, where the first two makes up their core business (>75% of revenue). They operate globally, with a bias towards Europe, where they have a dominant position holding 30-40% market share in their core business.
Chronic diseases are the leading causes of mortality for the elderly in the modern age. According to NHS data, heart disease, cancer, COPD (chronic obstructive pulmonary disease), cerebrovascular disease (stroke), and Alzheimer’s accounts for over 60% of all cause of deaths for the elderly. In this area, we have identified diabetes and renal disease as two major areas of concern, both of which can lead to one or more of the conditions mentioned above.
Novo Nordisk and Fresenius Medical Care are two companies that tackle the above symptoms. They have proven profitability and growth prospects, with a vast expanding patient pool (between 8-10% of global population). Novo Nordisk supplies insulin and related preparations to diabetes sufferers, a medical conditions that is plaguing in excess of 380 million people, and is still on the rise due to the endemic nature of this disease and increasing urbanisation resulting in a shift in lifestyle (e.g. high sugar content in processed foods leading to obesity).
Fresenius is a specialist in renal dialysis with exposure along the entire value chain. They treat circa. 300k patients whose kidneys are unable to filter metabolic toxins and excess water from the blood for excretion through urine through its network of 3,300 dialysis clinics across the world (12%). The company is the undisputed global leader in both the dialysis service as well as the products market.
Finally, Johnson & Johnson is a large multinational pharmaceutical (45% of sales), medical devices (35%) and consumer goods (20%) conglomerate, with 250 operating divisions globally. The company is recognised among consumers for its household brands spanning across baby care, skin/hair care, oral care, wound care, women’s health care, and OTC medicine fields, but the real breadwinner in the business lies in the labs and operating rooms, where the company dedicates its vast R&D resource to address a range of unmet needs across Immunology, Neuroscience, Infectious Disease, Cardiovascular & Metabolic Disease, and Oncology.
Not to suggest that there are no risks in investing in such stocks. The generic risk is on pricing. As people have better access to healthcare schemes and the growth in aging population continues, the burden part lies on price sensitive government payers, who exert downward pressures on prices.
In our opinion, an exposure to these type of healthcare stocks should feature in a long term investment portfolio and are a constituent part of the TM Cerno Select Fund.
http://cernocapital.com/funds/tm-cerno-select/
An abbreviated version of this article appeared in Money Week magazine