What happens now?

What happens now?

As the east coast braces for hurricane Sandy, another storm is brewing in the diabetes device sector more specifically the glucose monitoring market. As we reported last week Bayer has decided not to sell their troubled diabetes device unit which according to various reports fell through because they were unable to garner an acceptable price. This is a somewhat stunning turn of events given the high level of interest from possible suitors when the unit was officially put up for sale.  Not to rehash what’s already been written on the subject the bottom line here is that Bayer got a little greedy, Sanofi (NYSE:SNY) the leading company to buy the unit got cold feet and there was no fallback position for Bayer.

Besides Bayer losing out this decision will have some serious repercussions throughout the BGM market. Abbott (NYSE:ABT) and Roche, two companies who would sell their diabetes device units in a heartbeat, have nothing to base what their troubled units may be worth should they too decided to sell. While neither company will admit publicly they would consider a sale, both are struggling to decide what happens without a sale. Had Bayer been able to consummate a sale, this would have provided everyone with a road map as to what their units could fetch on the market.   A higher than anticipated multiple would have likely spurred Abbott and/or Roche into action, while a lower than anticipated multiple likely would have had the opposite impact.

Looming on the horizon is the official decision on competitive bidding which could now serve as the catalyst for what happens next. Should bids come in towards the lower end of projections as most everyone anticipates; Diabetic Investor suspects the major BGM players will have some serious decisions to make about how to proceed. Considering that Medicare patient’s accounts for nearly a third of all test strips sold the majors cannot simply go about business as usual. Given that the majors have already made dramatic cost reductions they would have to look outside the box for a strategy that would minimize the impact of competitive bidding.

While it’s possible some could decide that it’s just not worth going after Medicare business, such a move depending on the company would have serious financial repercussions. Another possibility would be to accept the fact that prices are declining and continue doing business until the well runs dry. A third possibility is to reverse course and grow via acquisition. As Diabetic Investor has noted with regularity when it comes to BGM scale is everything and right now the only way to increase scale is to buy it. Now it goes without saying this is not an attractive strategy as the supply of BGM companies with scale is very limited and quite frankly there is no guarantee added scale will solve the fundamental problem that margins continue to erode.

A fourth and very intriguing possibility would be for a company to acquire a Medicare provider like Liberty Medical which just so happens is for sale. Although Diabetic Investor is not privy to the exact numbers many in the industry see this as very real possibility. When rebates and scale are taken into account the numbers don’t look all that bad. Acquiring Liberty also has the added benefit as it would provide a ready-made platform allowing the new owner to become vertically integrated therefore eliminating the middle man. Diabetic Investor has always maintained that a BGM company could easily increase margins by selling strips directly to their patients rather going to a retailer like Walgreens or CVS. Test strips can be easily delivered via the mail and automating the reorder process can be easily accomplished.

Some may recall when we initially wrote about BGM newcomer; TelCare one of the attractive features of this system was its ability to count strips used and automatically notify the patient when it’s time to refill their supply. Even better the TelCare system with its built in sim card, the patient could order refills right from the meter. But a meter does not need to have a sim card built in to make such a system possible. Had Apple not changed the connector port for the iPhone 5, patients could have done almost exactly the same thing with the iBGStar. As simple as either of the systems would have been, the majors could easily enhance the software that works with their meters allowing patients the ability to refill their strips whenever they download their readings. Yes this does add a step to the process but the idea is basically the same.

Although such a system has not been tried by a BGM company, this automatic reorder system has been widely adopted in the insulin pump market and has worked quite well. As we have noted on several occasions over 70% of Medtronic (NYSE:MDT) insulin pump patients are set up for automatic reorder which not only serves as an annuity for Medtronic but also more closely binds the patient to the Medtronic insulin pump.  Simply put an automatic or simplified refill process gives the patient one more thing to think about before changing systems. All things being equal, although they rarely are, why would anyone switch systems when the meter company is making their already overburdened lives a little easier?

Here too the strategy is not without risk and not every major BGM company can afford such a move. However, it does solve some key issues facing the majors.

Another possibility along the acquisition route would be not to acquire a major player but go the opposite direction and acquire a low cost provider.  The philosophy here would be to market a cross section of systems, each targeted at a different reimbursement model.  Under this scenario a Medicare patient would receive a no-thrills low cost system, while non-Medicare patients would receive a system that fits within the reimbursement framework of their insurance provider.

Of course the easiest action is no action at all. The majors could well decide that there really isn’t much they can do given the likely scenario that prices will continue to erode and usage will continue to decline.  Frankly it’s difficult to blame any of the majors if the go this route as looking at the numbers it’s easy to argue that any acquisition related strategy could well be throwing good money into a bad market. Which really brings us back to where we started and the reason Bayer wanted to sell their unit in the first place; sometimes it’s better to get out while it’s still possible to get out and before conditions get so bad that a sale is impossible.

So what happens now? As per usual in the wacky world of diabetes no one knows for sure and whatever happens it likely won’t make much sense when it does happen. As history has shown in the wacky world of diabetes anything can and usual does happen no matter how wacky it is.