The announcement by the Internal Revenue Service (IRS) and Treasury Department in January of the 2.3 percent device tax on all new medical apparatus sold into the U.S. poses a significant challenge to U.S.-based manufacturers of the gadgets, according to insights from IMS Research, now part of IHS Inc. (NYSE: IHS). Already under pressure from tightening healthcare budgets and decreasing reimbursement, medical device manufacturers are now faced with additional questions of how to offset the tax and remain competitive.
The U.S. ranks first in the world in healthcare spending, at 16% of GDP. However, it places significantly lower than other countries in healthcare performance, an issue which the recently implemented Affordable Care Act intended to solve. Given spiralling healthcare expenditures globally, President Obama’s comprehensive health care program had aimed to generate revenue from the surge of medical devices purchased by providers in order to meet the needs of newly covered patients.
In recent years, the U.S. medical device market has been focused on innovative technology that increases efficiency in acute-care settings and reduces cost to the healthcare provider. Under the Affordable Care Act, an additional $20 billion would pour into the healthcare system during the next six years because of an expected surge in medical device sales—an attractive prospect as healthcare providers struggle to cope with escalating healthcare costs. A paper recently published by the Centers for Medicare and Medicaid services (CMS) also suggests that the tax would result in an increase of national health expenditure from approximately $2 billion in 2011 to $18.2 billion in 2018.
Even so, the tax will likely limit innovation in the market and ultimately affect patient care, harming those it aims to help, according to the Medical Device Manufacturers Association (MDMA). Among those worst hit will be the smaller companies unable to cope with the big annual payments that are required, resulting in a possible reduction of new technology to the market. And with the tax based off revenues instead of profits, the growth of smaller companies and other providers delivering innovative medical technology could end up being stifled, the MDMA believes.
With previous attempts to repeal the tax declined, U.S. medical device manufacturers now have three key options:
- Streamline Business Units
While preparing last year for implementation of the tax, a number of large U.S. device manufacturers froze recruitment and R & D in order to account for the additional costs. Other companies took more drastic measures of downsizing and streamlining business units. U.S. manufacturers Covidien, Welch Allyn, Medtronic and Boston Scientific all recently cut jobs in response to the tax.
- Pass on Costs
In an increasingly price-sensitive market, it is unlikely that manufacturers will be able to raise the cost of their device to account for the tax. With healthcare systems focused on providing high-level healthcare at an affordable cost, it is expected that deferred costs will be met with intense opposition. Although cheaper overseas devices will be met with the same requirement, it is more likely that US business will fare the worst. Reimbursement continues to be one of the most significant factors affecting the medical devices industry in this country. With purchasing decisions increasingly based on return of investment, it is unlikely that customers will accept any increase in the cost of devices. Passing on costs will inevitably lead to increased prices to the end user– clearly not the aim of the new healthcare act.
- Out Source Manufacturing
To minimize operating expenses, a number of U.S. manufacturers may choose to move manufacturing operations out of the country in order to reduce their costs. With all devices sold into the U.S. subject to the new tax, outsourcing the manufacturing process will enable U.S. medical device makers to remain competitive against lower-cost international suppliers.
The tax will no doubt affect the future of the U.S device market, many in the industry believe. But while the outlook seems bleak, some suggest that this could also be a wakeup call that results in a more streamlined customer-focused market, IHS believes.