China the end of the el Dorado for Western MedTech companies
Between 2003 and 2009 foreign direct investment in China’s MedTech sector was concentrated in low-value-added activities. This pattern reversed during 2010-2018 and enabled Chinese MedTech companies to move up the value chain and develop more sophisticated manufacturing processes, increase their R&D capacity, enhance their post-market services and begin to penetrate more segments of the higher-value-added Class lll MedTech markets. As this happened so the predominance of Western MedTech companies providing high-end product offerings was reduced. This shift suggests that late entrants to the China market may struggle.
A 2017 survey conducted by China’s New Center for Structural Economics, covering 640 Chinese export-oriented labour-intensive companies across four sectors between 2005 and 2015 suggests that upgrading low-tech industries is pervasive throughout China. “’Technology upgrading’ was the firms’ most common response to their challenges: 31% of firms ranking it top and 54% in their top three responses. Tighter cost control over inputs and in production was next (top for 27% of firms) and changing product lines or expanding markets was third most common (24%)”, says the report.
Taking share from Western companies
To-date domestic Chinese MedTech companies have captured about 10% of the technologically intensive segments of endoscopy and minimally invasive surgery as measured by value, and 50% of the market in patient monitoring devices and orthopaedic implants. Only 5 years ago Western companies such as Zimmer Biomet and DePuy Synthes controlled 80% of the Chinese high-end orthopaedic market segments. Further, about 80% of China’s market of drug-eluting stents, (medical devices placed into narrowed, diseased peripheral or coronary arteries, which slowly release a drug to block cell proliferation), which is another relatively high-end therapeutic device segment, is controlled by Biosensors International, Lepu Medical, and MicroPort. These three Chinese companies market drug-eluting stents, on average, for about 40% less than their Western counterparts. Just over a decade ago 90% of this market was controlled by Western MedTech companies. Similarly, Chinese companies have increased their domestic market share of digital X-ray technologies to 50%. In 2004 they had zero share of this market.
Made in China 2025
In May 2015, Beijing launched “Made in China 2025” (MIC2025), which is a national strategy to enhance China’s competitive advantage in manufacturing. Increasing competition from developing nations with similarly competitive costs, coupled with technology-driven efficiency gains in developed countries, means that China’s abundance of cheap labour and the competitive advantage of its infrastructure will soon be insufficient to drive sustainable economic growth. MIC25 is expected to redress this by comprehensively upgrading, consolidating and rebalancing China’s manufacturing industry, and turning China into a global manufacturing power able to influence global standards, supply chains and drive global innovation.
The strategy names 10 sectors, including medical devices, which qualify for special attention to help boost the country’s goal of accelerating innovation and improving the quality of products and services. The initiative incentivizes domestic Chinese companies, including SMEs, to increase their usage of artificial intelligence and digital technologies to move up the value chain and capture a greater market share from their Western counterparts. MIC2025 is explicit about China reducing its reliance on Western imports and includes subsidies, loans and bonds to support and encourage domestic companies to: (i) continue increasing their capacity, (ii) devise lean business models that emphasize “affordability”, (iii) increase their R&D, (iv) expand their franchises overseas, and (v) acquire foreign enterprises with cutting-edge technologies. The initiative also addresses issues of quality, consistency of output, safety and environmental protection, which are all considered strategic challenges to China’s development.
Beijing expects MIC2025 to increase the market share of Chinese-produced medical devices in the country’s hospitals to 50% by 2020 and 70% by 2025, enable Chinese companies to compete with Western MedTech giants by 2035 and make China a world MedTech leader by “New China’s” 100th birthday in 2049. The initiative is expected to quickly spread beyond China’s borders as its leading manufacturers seek to develop global supply chains and to access new markets. MIC25 is important for the next stage of China’s emergence as an economic superpower and its ambition to design and make the products of the future required not only by the Chinese consumer, but consumers around the world.
US attempts to halt MIC25
While many Western countries are debating how to respond to MIC25 Washington sees the initiative as a well-defined, well-orchestrated strategy, which is “unfair and coercive” because it includes government subsidies and the “forced transfer” of technology and IP to enable the Chinese to “catch-up and surpass” American technological leadership in advanced industries. An August 2018 US Council for Foreign Relations response says, “MIC25 relies on discriminatory treatment of foreign investment, forced technology transfers, intellectual property theft, and cyber espionage”. In June 2018 Washington sought to halt the policy by levying punitive tariffs on Chinese imports into the US and blocking Chinese-backed acquisitions of American technology companies.
The commercial effects of increased tariffs are unclear
It is not altogether clear how successful Washington’s punitive tariffs will be because they could unsettle the US medical supply industry given that a growing number of product offerings marketed in the US are made in China. MRIs, pacemakers, sonograms and other medical devices manufactured in China and imported into the US are all included in the list of items subject to the increased US tariffs. Some estimates suggest that the tariffs will cost the American medical device industry more than US$138m in 2018, and about US$1.5bn every year there after. According to AdvaMed, the US enjoys a trade surplus with China for medical products and rather than grow US productivity, the tariffs could result in less trade and a smaller surplus in medical devices. Whilst protectionist, the MIC25 initiative is permitted under World Trade Organization rules as China is not a signatory to the Agreement on Government Procurement, which covers state run hospitals. Further, historically healthcare products have been excluded from tariffs on humanitarian grounds and because they are seen as an asset to public health.
Western companies ‘encouraged’ to localize their value chains
Although Beijing is seeking to reduce its dependence on imported medical devices, it has not shut-out Western companies who are expected to continue to be significant high-tech market players in the short to medium term. This is because such international trade is crucial to facilitate China’s access to global knowhow and technology. But Beijing has amended its procurement and reimbursement policies to incentivise hospitals to purchase domestically manufactured medical devices and introduced tough conditions on companies seeking to do business in China. To qualify for inclusion in China’s new hospital procurement arrangements Western companies are obliged to localize their value chains and partner with domestic enterprises. Some companies have done so, while others have been reluctant to localize their value chains because of China’s weak record of IP protection. Beijing is aware of this and is streamlining and strengthening its IP prosecution system (see below).
Western importers seriously handicapped
Importers who choose not to localize their value chains face a number of significant non-tariff barriers. Unlike other Asian countries such as Japan, China has no national standard for tendering and bidding and there are significant differences between its 34 provincial administrations and 5 automatous regions. Further, China has a dearth of large ‘general’ distributors. Western MedTech companies importing product offerings into China are obliged to engage small-scale distributors dedicated to one sector, one imported brand and one type of product. Such distributors are ill-equipped to effectively navigate China’s vast hospital sector (see below) and its complex, rapidly changing and disaggregated procurement and reimbursement processes. A clash of sales cultures is a further disadvantage for Western MedTech companies’ whose marketing mindset is product-centric territory driven, while winning sales strategies in China and in other emerging markets are customer-centric key-account driven.
China’s vast hospital sector
One dimension of the challenges faced by Western MedTech companies who are obliged to engage small-scale distributors is the enormity of China’s hospital sector. China has about 30,000 hospitals, which have increased from about 18,700 in 2005, serving a population four and a half times that of the US across a similar land mass. By comparison, the US has some 15,500 hospitals and England 168 NHS hospitals. About 26,000 hospitals in China are public and some 4,000 are private. Although public hospitals in China provide the overwhelming majority of healthcare services, this is changing. Recently, Beijing has loosened its regulations and private sector healthcare has witnessed an influx of private capital. Over the next decade, China’s private healthcare sector is expected to see new hospital chains, expansion of existing hospitals and improvements in a range of private healthcare services. Currently, Western participation in the Chinese private healthcare market is nascent but expected to grow over the next decade.
China’s hospitals provide about 5.3m beds, compared with about 890,000 in the US and 142,000 NHS beds in the UK. Chinese public hospitals, which are the biggest consumers of Western medical devices, are categorized into 3 tiers according to their size and capabilities. The largest are tier-3 hospitals of which there are about 7,000. These are 500-bed-plus national, provincial or big city hospitals, which provide comprehensive healthcare services for multiple regions as well as being centres of excellence for medical education and research. There are about 1,500 tier-2 hospitals, which are medium size city, county or district hospitals. Together teir-2 and 3 hospitals represent about 3.5m acute beds. Tier-1 hospitals are township-based and do not provide acute services. There is a range of specialist hospitals, which are also significant users of imported high-end medical devices. Further, Beijing is beginning to develop primary care facilities, which are normal in North America and Europe, but underdeveloped in China.
Mega private hospitals
Healthcare in China has traditionally been the monopoly of the central government. However, Beijing’s recent relaxation of the rules on private investment referred to above has triggered an explosion in the number of private healthcare facilities and the development of mega hospitals on a scale not seen elsewhere in the world. For example, Zhengzhou Hospital, which is nearly 700km south of Beijing and can be reached by bullet train in under 3 hours at a cost of about US$45, was officially opened in 2016 and was dubbed the “largest hospital in the universe”. Zhengzhou is a mega-city with a population of 10m and is the capital of east-central China's Henan province. The hospital has some 10,000 beds, facilities are spread across several buildings and over 28 floors and it has its own fire department and police station. In 2015, the hospital admitted some 350,000 inpatients and treated 4.8m people. In one day in February 2015 the hospital received 20,000 out-patients.