Episode 9: Marc Kitten on private equity in healthcare and life sciences

Marc Kitten, co-founder and senior partner, Candesic, talks about his new book Private Equity in Healthcare and Life Sciences and addresses a wide range of topics including:

• Whether PE deserves the criticism it gets – and what the industry still gets wrong
• Why healthcare and life sciences remain one of the most interesting sectors to investors
• What separates the top healthcare PE firms from the rest
• Where AI is creating actual enterprise value today, rather than just excitement
• Why pharma in particular is increasingly attracting investor attention
• The single most important lesson many investors still need to learn when investing in these sectors

Want to know more about the role of PE in healthcare and life sciences?

• Email: mkitten@candesic.com
• LinkedIn:  https://www.linkedin.com/in/marckitten/

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Transcript

SPEAKER_00 0:03

Hello and welcome to Candesic in Conversation, a podcast series explaining the big innovations, opportunities, and challenges in health and social care, life sciences, and med tech. In today's episode, I'm joined by author, professor, Candesic senior permanent and co-founder, Mark Kitten, for a discussion on the evolving role of private equity in healthcare. Mark, welcome to the podcast. Thank you, David. Now we are chatting today because you've got a book that's about to be released. Can you succinctly tell me what it's called and who it's aimed at?

SPEAKER_01 0:41

It took a long time to find a title that was appropriate, at the end, settled to Private Equity in Healthcare and Life Sciences. Actually, the fact is it's the first textbook on the topic. There have been a couple of booklets and reports, but as far as I know, the first big textbook for university use.

SPEAKER_00 0:59

And you mentioned university there. Who is the intended audience? Who will get some value from this?

SPEAKER_01 1:06

Two audiences: business students who study private equity in general, they can use the book, and even more those who have an interest in healthcare for corporate finance, for example. And that extends to executive education. The second audience, which is related to executive education, is the middle to top managers in the entire healthcare ecosystem. So they can be dentists who own a practice that may be sold to private equity. They can be managers of a division of a corporate that could be carved out. They can be family business owners who are thinking of transmission. They can be funders who are looking for growth capital.

SPEAKER_00 1:54

Understood. And all the questions that I'm about to ask are inspired by the contents of the book. So let's start with something controversial, perhaps. Private equity in healthcare. It's criticized in some quarters. Do you think that that is a perception problem, or is some of that criticism justified?

SPEAKER_01 2:19

It is controversial. I have a theory that it has to do with the oath that doctors have to take. They swear to protect life. The problem is economic. There will never be enough resources to save all lives, whatever we do. So choices are made or choices are not made that lead to outcomes. For a doctor, it can be really painful to see how resources are located in a way that will lead to death or at least to sickness. The doctor cannot do everything, and they resent that part of the economic process will go to other stakeholders, especially the shareholders. Private equity is the shareholder. They want as much of the value creation as possible. Sometimes they exaggerate, but even if they don't, there is a controversy around capitalism, can they make money out of it?

SPEAKER_00 3:37

But the system needs the money?

SPEAKER_01 3:40

Yes. Well, the I would say the system uses the money, but uh the system needs better outcomes. So the question is whether private equity plays a social role if the value creation in a private equity setup is as social as it is financial, and if this is distributed within society.

SPEAKER_00 4:04

You do tackle the dark side of P in healthcare in the book. What do you think the industry then is still getting wrong when it comes to balancing investor returns with patient outcomes? Because not every business strikes the right balance.

SPEAKER_01 4:19

There is no central regulation to remind a new private equity investor how things should be done from an ethical perspective. And that's probably better so, right? It's better self-regulated, but that comes also with some extreme behaviors here and there. Now, um taking a step back, the majority of the academic research that is extremely skeptical and critical of private equity is led by doctors, and I I understand their position, but it is counterfactual. It lacks some elements of the logic. What would have happened if private equity had not been there? So it's not the full uh spectrum of the analysis. Um they play a role, those who warn us against the abusers, and there are abusers, but in my experience, on average, private equity contributes. Okay, they may not be saints, they may be looking for uh financial value creation, but they are one of the elements who contribute to a good health system, or can contribute.

SPEAKER_00 5:36

And it's possible to have a good system and make profits, and that is a way to introduce capital into the system that otherwise couldn't be introduced?

SPEAKER_01 5:43

I'm not sure it is possible to have a good health system where there's no profit.

SPEAKER_00 5:47

Because there would be waste. Let's let's look at the wider picture. You argue in the book that healthcare and life sciences are one of the most interesting uh sectors for PE. Why is that the case?

SPEAKER_01 5:57

That's the thesis of the book. It's uh so different from everything. In healthcare, you deal with life and death, you deal with very long-term investments, okay, you deal with ethical questions, um, you deal with a bigger number of stakeholders because you have the people who finance, you have the people who regulate, you have the people who organize to provide the services, you have the doctors and the uh medical staff, and you have the patient. That's a lot of constituents, and that makes it more complex, but also much more interesting. It's unique to healthcare.

SPEAKER_00 6:40

But from an investor perspective, there are also financial advantages in investing in a sector that's clearly got huge increasing demand that's always going to be there. It's a it's a strong sector for investment as well, isn't it? It is.

SPEAKER_01 6:56

However, it comes with a price. It's more complex. It requires specialization expertise. Privately investors who go into healthcare repeatedly without having enough expertise have experienced in general a lot of failures. It's less likely to happen to a specialist investor, at least in our experience. However, uh, it is known to be attractive for being more defensible, uh for being more predictable to an extent and sustainable. So very attractive to several segments of private equity. But that means that it's also more expensive. And I know many an investor who will say I'm not touching healthcare or life sciences because it's just too expensive. But what they are saying is that they don't have perhaps the level of sophistication that will allow them to assess how expensive it is, really.

SPEAKER_00 7:53

You talk about globalization in the book and cross-border arbitrage. Are European healthcare assets still undervalued relative to their US counterparts, or has that opportunity been competed away?

SPEAKER_01 8:07

Yes and no. There's a parallel with the stock market that was undervalued in Europe and has caught up a bit in the last uh two years versus the American one. But there's a reason why the European stock market and uh similarly the European private equity healthcare valuations may have been lower than the their US counterpart. It's uh first that it is not homogeneous. There are as many, still as many regulations as there are countries, but it's not just the regulations, it's also the cultures. And um it is very regulated, so it takes more time and money, effort, and risk of failure to do things differently, to implement new approaches than on average it does in the US. Now it depends on the administration, it depends on the circumstances, but things can happen on average faster at the level of the North American continent than they can be at the level of the European continent.

SPEAKER_00 9:16

You're also right about take privates. Would I be right in thinking that Europe is producing attractive public to private healthcare opportunities if you compare it to the US?

SPEAKER_01 9:27

It does, simply because half of the American companies have already been uh the listed American companies have already been taken private in the last two decades. Uh yeah, the number has halved, so there have been newcomers, uh of course, but it's amazing how many have been taken private and how fast it happens. Now, this exists also in Europe, but it's a bit more difficult to organize. Um, so I would think that there are more listed companies that are candidate for being taken private in Europe than in the US. It's just also more work.

SPEAKER_00 10:01

Let's look at the healthcare private equity playbook for a second. Tell me about the heel, H E A L framework that you set out in the book.

SPEAKER_01 10:10

I don't want to disclose too much. I would like that people buy the book and read it. Uh, but uh what I've been trying to do, what we have been trying to do, because I've had the the help of one of my former students who is now a private equity investor, uh, is to um identify a framework that highlights the different types of value creation, of course, the economic one, we're talking private equity, but uh the rest of the value creation, which I simplify calling social, has many components, and that includes, for example, access, that includes sustainability, and that includes, of course, maybe first uh the quality of the outcome. So we have narrowed it to four dimensions, and the financial one is one and must be there, okay, but can be considered alone. But on the other side, it's not just black and white. No, no, financial is one of four. There are three others that are super important. I won't go into too much detail because that's a fantastic discussion, but you can compare that to the frameworks that have been uh developed for uh health systems. And we are talking about something different here, but there are lots of uh relationships with the health systems, uh frameworks that have been used by uh regulators and uh governments.

SPEAKER_00 11:36

What separates top healthcare private equity firms from the rest when it comes to say operational value creation?

SPEAKER_01 11:46

I won't name them, they will recognize themselves, but uh I would say the small, medium, and large specialist private equity investors in healthcare, they impress me. Um at every level, the recruitsmen, the funders, um the organization, they really understand healthcare. And it's a pleasure to work with them. And we we work with most of them. And uh I would say the discussions are at a different level. Now it's also fascinating to work with an investor who is more naive and recognize so and ask to be educated about the reality of healthcare and or life sciences. So two different worlds. But the the the specialists they generally know what they are doing. It doesn't mean that they succeed each time. Okay, everyone can make mistakes, but it's interesting to work with them because we go directly to the deep level of the problem, the issues that we are trying to help them uh solve in their investments.

SPEAKER_00 12:53

We have to talk about AI, and you you do, of course, in the book, it's impossible to ignore in any sector, but it's particularly uh interesting from uh a PE and a healthcare perspective. Where do you see AI creating actual enterprise value today, as opposed to being something that everyone is getting excited about for the future?

SPEAKER_01 13:13

Well, first anything I write is already obsolete the next day. Everything I say will have the same uh fate. Um so it's probably important to try to take a step back and look at a couple of benefits. Uh one that we rarely discuss is the fact that AI is a constant change, and we know that change um is better seen as constant in forcing people to remain flexible. One of change uh can bring bureaucracy ultimately, but constant change is less likely to do that. So there is virtue in AI being constantly different, better, bringing new tools, new approaches, new learnings, um and hopefully it will never stop. But now concretely, how does it help? Well, the biggest example that we talk about is how we are going to shorten the drug discovery and development cycle. And I think most people agree that we can reduce it from say eleven, twelve years to perhaps seven. But that already is enormous because it can save much more lives. On top of that, it will be cheaper and in many ways, including the fact that we will start investing in clinical trials, having a better understanding of the chances of success or having a higher chance of success. So probably we'll abandon lots of developments earlier and allocate the money for the drug development to drugs that have a higher chance of success. So AI, and that will be boosted by quantum computing that we discuss also in the book, uh, will jointly uh reduce the time but also increase the probability of successes, and that that's the most tangible uh benefit. Now, the other benefit I see, but it's very long to implement. There are millions of initiatives and a few will succeed, is to relieve the medical staff from uh boring demotivating administrative tasks.

SPEAKER_00 15:54

You mentioned pharma life sciences there. Why is it such an attractive an increasingly attractive area to private equity farmer? Because over the last 10, 15 years or so, over that period, I think it's become increasingly attractive to investors, hasn't it? Why is that the case if that is indeed the case?

SPEAKER_01 16:13

Um private equity looks mostly at two things. Um when they try to create value in pharma. One is the outsourcing of pharma, discovery, CRO, development, manufacturing, distribution, and across all that, or in parallel, medical affairs, including medical communication, pharmacovigilance, uh, regulatory affairs, etc. All those services are more efficient when they are managed uh dynamically flexibly by a private equity owner, probably, uh, or maybe as a large organization. Um but uh the outsourcing um uh definitely creates value because most pharma companies have decided it's not their core business. So it's better to let someone who does that as a core business do it for them. So private equity plays a role, okay? The largest players are not no longer private equity owned, they will be listed in dependent companies. Uh, but private equity plays a big role in buying a site, merging it with another one, finding new customers to increase the utilization of the sites, and uh uh that benefits the industry. Now that phenomenon of outsourcing in the West is already, I would say, in its last, let's say, quarter.

SPEAKER_00 17:58

Uh so it's very advanced. I was gonna say we've seen some large carve-outs. Have we got more to expect in this sector?

SPEAKER_01 18:05

So, yeah, the there is uh I would say the cliff when the industry changed and we are over that, but then there's the renewal. So every pharma company uh has the experience of having some drugs that lose their patents, become generic. Um, you can still sell a lot under the brand name at uh markup, perhaps not the one you used to have. Um, but ultimately you won't be able to use the plants at even 50%. It will fall and it won't make sense for them to continue to operate. An outsider who owns that plant can produce for several customers and uh make it uh way more efficient. So there will always be a renewal of new plants coming to the market, and that's for manufacturing, but the same may exist for uh research. Now, research often will be born in universities, and initiatives will be taken outside of the university, uh privatized, and at one point uh sold and developed with the backing of investors. So there will always be a renewal of that. So but but we the first wave, which was very important, is I would say behind us.

SPEAKER_00 19:25

Just coming towards the end of the podcast, I'm conscious of time. You've advised on hundreds, I'm going to say, many hundreds, you probably haven't worked out how many of healthcare transactions. Is there a single important lesson that you've learned that perhaps a number of investors have yet to learn? What's the key lesson that you'd want to impart to some of these investors?

SPEAKER_01 19:50

I have to go back to people. The we have seen it in terms of governance, set up the right governance and make it perhaps a bit flexible because the governance that you establish when you buy the company may no longer be appropriate two, three years later when you have increased the size, gone international, etc. So thinking ahead about how governance should be now and will change is definitely something, but that goes beyond just the governance for the decision makers, your doctors, for example. It's also the all the cultural aspects. Um, it's so easy. I mean, uh always see we've worked on a number of DSOs, then dentist uh service organizations, they acquire practices and put them in a group in the typical roll-up strategy that has worked so well in many ways. Um, they provide some centralized services, um, they try to relieve the people from the administrative burden and focus on doing uh the medical work. Um, all that looks very good, but if you don't get it right, those people vote with their feet, and it's so common for a uh specialist doctor or for a dentist, for an ophthalmologist, etc. in such uh chain to leave and set up their practice on the other side of the of the street and tell their patients you do what you want, but I'm just moving to the other side of the street. Indeed. And they keep a lot of their patient bears, right? Um so of course every investor knows that, but I'm not sure they always make the right decisions to prevent that from happening.

SPEAKER_00 21:53

And there are share options or there are ways that you can incentivize people to stay, or you can contractually require them to stay for a period, obviously, as well. There are methods.

SPEAKER_01 22:03

Methods, uh legal methods and uh document-based methods, but uh uh often it's uh at least half cultural. When is the book out? Uh end of July. At least that's what Wiley Finance uh says on their website. So I hope there won't be any further delay. And it will be ready for uh the beach time in August. It's the perfect uh type of book that you take to the beach because it's 620 pages, and uh you can take your time.

SPEAKER_00 22:35

And remind us of the title.

SPEAKER_01 22:37

Private equity in healthcare and life sciences with my co-author Gilles Chemla from Imperial.

SPEAKER_00 22:45

If anybody has any questions, if they want to reach out, they can get hold of you on the Candassic website, they can reach out to you on LinkedIn, presumably. Uh with great pleasure.

SPEAKER_01 22:52

Fantastic. There will be a website to accompany the book, and we will try to answer questions there too.

SPEAKER_00 22:58

Mark Kitten, thank you for your time today.

SPEAKER_01 23:00

Thank you, David.

SPEAKER_00 23:02

And thank you to everyone who listened all the way to the end of this podcast. My name is David Farbrother, and I am Director of Content and Communication at Candesic. We are a London based consultancy. Feel free to link in with me or drop me an email. I would love to hear from you. New podcasts in this series are available regularly on YouTube, Amazon Music, Apple Podcasts, and Spotify.