Prescriptions - Making Sense of the Health Care Debate
February 25, 2011, 5:53 pm
Medtronic Bypasses a Hospital Group Buyer
By DUFF WILSON

Medtronic could save more than $40 million a year through its decision to cancel five group-purchasing contracts worth $2 billion and to negotiate prices directly with hospitals instead, Bernstein Research said in an investor note on Friday.

Whether the hospitals are happy with the move remains to be seen. Novation, the spurned middleman that held the contracts, is certainly unhappy.

Sixteen large hospitals have written Medtronic to express “extreme disappointment,” the group purchasing organization Novation said in a statement Thursday announcing the cancellations. Novation said thousands of hospitals could end up paying higher prices, and would struggle to compare medical devices because of Medtronic pricing confidentiality clauses.

“This move will likely raise costs for member organizations by eliminating the price protection that members benefit from through Novation’s national agreements,” Pete Allen, senior vice president of sourcing operations at Novation, said in a statement.

The hospitals’ letter, dated Feb. 16 and released by Novation on Friday, added, “Neither the health care community nor the country as a whole can afford the type of disruption and increased cost that your decision will have on our facilities.”

But Medtronic said it already had direct relationships with those hospitals and wanted to save money by cutting out the middleman.

Medtronic, in a statement issued Friday, emphasized “health care reform and economic uncertainty” as reasons to do more direct selling.

“This analysis has led us to cancel five of our Novation agreements, which we believe will ultimately take costs out of the health care system,” the company said. “Medtronic expects there to be no disruption in our day-to-day business operations with our hospital customers, as the vast majority of our contracts are already negotiated at the local level.”

A Medtronic spokesman declined any further comment. The company’s stock rose just under 1 percent on Friday.

Medtronic, based in Fridley, Minn., is one of the world’s largest medical device makers with 2010 sales of $15.8 billion and profits of $3.1 billion. Novation, in Irving, Tex., bills itself as the hospital industry’s leading supply contracting company. It is owned by VHA Inc. and the University HealthSystem Consortium and was founded in 1998 as more hospitals sought group purchasing.

Derrick Sung, a health care analyst with Bernstein Research, said the move would save Medtronic $40 million to $60 million a year through the cancellation of a 2 to 3 percent administrative fee charged by Novation – money that could be passed back as hospital savings if necessary to keep its customers. But he left no doubt that the change benefited the device maker more than the hospitals,

“MDT’s bold move could represent a positive shift in bargaining power away from the hospitals and back to the device manufacturers,” Mr. Sung wrote in a note to investors on Friday.

Medtronic still has other contracts in place with other group purchasing organizations, Mr. Sung added. The Medtronic contracts with Novation represented about 5 percent of Novation’s estimated $40 billion in annual business.

Other device makers could also turn against group purchasing organizations in the pricing tug of war.

Mr. Rose said Medtronic’s decision showed there were limits to how much purchasing organizations could squeeze their suppliers.