Is Urge to Merge About to Take Over Spine?

Zimmer Biomet’s bid to acquire Austin-based LDR Holdings for $1 billion, 64% above that company’s trading price on Wall Street, is either a decision unique to Zimmer or the first of what may be a consolidation wave in spine.

Most Wall Street analysts think the latter.

And why not? Large integrated orthopedic companies, like Zimmer, are sitting on significant cash balances but are struggling to generate organic spine sales growth.

Zimmer, for example, reported $1 billion in cash as of March 31, 2016. For the same period Stryker Corporation reported $7.4 billion in cash, Medtronic plc had $16.4 billion in cash and Johnson & Johnson (JNJ) had $40 billion in cash.

Growth Through Acquisition

Zimmer’s first spine company acquisition was Centerpulse’s Spine Tech division, which Zimmer acquired in October 2003. As the table below illustrates, virtually all of Zimmer’s spinal implant sales growth over the years has come from acquisitions.

Zimmer is not alone. Other large, cash rich, integrated orthopedic companies have also struggled to find ways to achieve more than single digit organic spine growth rates.

Not so the independent spine companies like NuVasive, Inc. (NUVA), Globus Medical, Inc. (GMED), K2M Group Holdings, Inc. (KTWO) or, of course, LDR (LDRH). Generally, the independent spine companies have been able to demonstrate outstanding sales growth rates.

So, if you can’t beat them, buy them.

State of Spine Today

Said Wells Fargo’s analyst Craig Bijou “Medtronic (MDT)/Mazor (MZOR) deal last week and this deal suggests that consolidation may finally be occurring in the spine market.”

Indeed, investors bought shares of both NuVasive and Globus Medical on the news of the Zimmer/LDR deal.

There is no shortage of spine companies for the large integrated ortho companies to court.

While Medtronic Spine remains the clear market leader with DePuy Synthes solidly #2, the rest of the market has been carved up among a growing list of companies. The market, we think, can be divided into three basic groups of companies.

• Market Leaders – 55% Market Share: Medtronic Spine and DePuy Synthes Companies. As the U.S. market for spinal implants, instruments and biologics changes at the hospital and payer level, there will always be a seat at the table for these two companies. If the market is a game of musical chairs, two of those chairs are reserved for ‘Medtronic Spine’ and ‘DePuy Synthes’.
• Mid-Stage Growth Companies – 26% Market Share: NuVasive, Stryker Spine (SYK), Globus Medical and Zimmer Biomet Spine. With the exception of Zimmer, these companies have been pulling share away from the market leaders for the last decade. They have complete product lines and compete head to head with the big guys. In the game of hospital musical chairs, they may compete as much against each other as they do against the two market leaders.
• Emerging Growth Companies – 19% Market Share: These are limited product offering companies that rely on innovation, engineering and differentiation to build market share within certain treatment niches. K2M and LDR, for example, have effectively built leadership positions in deformity and motion preservation, respectively. To a great extent, the pathway to success for emerging growth companies is paved with innovation, reimbursement carve outs whenever possible, and a version of the surgeon champion.

Future merger and acquisition (M&A) activity may well be between the mid-stage growth companies and the emerging growth companies.

Although, a wild card is emerging. Medtronic Spine.

For years we’ve noticed a new energy and strategic vision coming together at Medtronic. The deal for Mazor Robotics Inc. is an example of this. Furthermore, Medtronic has quietly taken the lead in data capture in orthopedics and, with the acquisition of Responsive Orthopedics LLC, logistical support to physician practices and hospitals. Not surprisingly, Medtronic CEO Omar Ishrak guided Wall Street’s analysts to expect improved spine and orthopedic sales growth from Medtronic.

Blending LDR into Zimmer Biomet Spine

Founded in France in 2000, LDR has become a leader in cervical disc arthroplasty technology. It’s Mobi-C CDR device is the first and only device FDA approved to treat both one- and two-level adjacent damaged cervical discs. Long-term clinical studies for Mobi-C, as we have written about extensively in OTW, have demonstrated efficacy and superiority to fusion for two-level procedures.

Beyond that, LDR holds hundreds of issued patents and is known for driving spinal implant and instrumentation innovation. The other major product platform that LDR brings to Zimmer Biomet is VerteBRIDGE — which is a novel system designed for zero-profile, stand-alone anterior cervical and lumbar interbody fusion.

So Mobi-C and VerteBRIDGE will join such Zimmer Biomet brands as:

• Polaris Spinal System
• Timberline Lateral Fusion System
• PathFinder NXT Minimally Invasive Pedicle Screw System
• TraumaOne Plating System
• PALACOS Bone Cement
• SpinalPak Spinal Fusion Stimulation

Wall Street is impressed with this deal.

Mike Matson from Needham and Company said: “ZBH’s spine M&A track record is mixed; however, we are more optimistic about LDRH. ZBH acquired ABT’s spine business in 2008; at the time, this business had $109M in annual sales while ZBH’s own spine business had $197M. The revenue dissynergies from this deal were significant at 10-20% of the combined revenue. More recently, Biomet acquired the private spine company Lanx in 2013; this deal seemed to be more successful than the ABT deal with smaller revenue dissynergies. We think that the LDRH acquisition is more similar to Lanx since we view it as more of a technology-driven deal that expands ZBH’s product range rather than an acquisition of overlapping “me-too” products driven by scale.”

Glenn Novarro with RBC Capital Markets said: “The LDRH acquisition is a solid strategic fit. LDRH expands ZBH’s MIS [minimally invasive surgery] portfolio and adds the fastest-growing cervical disc on the market (Mobi-C). The combined portfolio raises ZBH’s spine market share to 7%, putting the company within striking distance of SYK and NUVA. Additionally, the acquisition would enable LDRH’s product portfolio to reach a much larger audience. Currently, LDRH reps cover only 52% of U.S. spine surgeons. LDRH also adds another growth driver for ZBH. The acquisition of LDRH should enhance revenue growth in 2017 (given its mid-teens revenue growth), while BMET cost-cutting should continue to drive double-digit EPS growth. ZBH remains our best idea for value investors.”

Also of note in this deal is that both Zimmer Biomet spine and LDR are actually small players in the spine market. That’s good news.

Said Adam Johnson, Zimmer’s Group President of Spine, Dental, CMF and Thoracic: “Over 35% of Zimmer Biomet’s current revenues come from U.S. zip codes where LDR has no business today. Over 30% of LDR’s revenue is from zip codes where Zimmer Biomet has no business. This creates an exciting immediate opportunity to increase our combined penetration in US markets in which we already have existing relationships.”

In this case, less means more … synergy.

Nuts and Bolts

Both parties expect the deal to close in the third quarter of 2016, subject to the satisfaction of customary closing conditions. Until then, both Zimmer Biomet and LDR operate as separate companies.

The integration teams are forming up now and will be made up of senior executives from both companies. Their task will be to create integration plans which will blend LDR with Zimmer Biomet Spine into a single spine company.

Zimmer’s management put out a statement shortly after the deal was announced saying that no integration decisions have been made yet. So the people-side of this equation—which Zimmer has shown to be especially nuanced and skilled at managing with Biomet—is still a work in process. Conceptually, Zimmer is viewing this deal as much more than a product acquisition. Since Zimmer Biomet Spine and LDR have been focused in different segments of the spine market and each of these segments requires specific knowledge and experience, there is a high likelihood that personnel at both companies will remain largely intact.

Physically, Zimmer Biomet spine headquarters will remain in Broomfield, Colorado, but there will likely be a significant presence at LDR’s Austin, Texas, technology hub and in Troyes, France.

Adam Johnson, Zimmer Biomet’s group president of Spine, CMF and Thoracic, and Dental will lead the combined companies. Christophe Lavigne, co-founder, chairman, president and CEO of LDR, and Patrick Richard, co-founder of LDR and executive vice president and general manager of LDR Medical, will remain with the new company in as yet unspecified key leadership positions.

Who’s Next?

When DePuy bid $20 billion to acquire Synthes, it triggered a wave of new strategic thinking at Zimmer (which then acquired Biomet) and at Stryker (which then embarked on a string of significant strategic acquisitions).

Zimmer’s bold and clearly strategic purchase of LDR raises the profile of every spine growth company—public and private—and encourages the large integrated orthopedic companies to step up.

Who’s Next? Every spinal implant company with double-digit sales growth.

And you all know who you are.