New Capital Healthcare Disruptors Fund

What do we mean by Healthcare disruption?

The concept of disruption describes the process whereby a new company is able to successfully challenge established incumbent businesses. The disruption process is characterised by entrants targeting overlooked segments of a market and gaining traction with low-end or new market territories.¹ Over time, some entrant companies gain presence within the market as they serve a growing demand based on price differentiation or new technologies. Disruption in the healthcare sector has potential to affect aspects such as new scientific developments, medical devices, diagnostic tools, digital health platforms, regulation, education and improvements in processes, such as the use of “Big Data” or “Artificial Intelligence”.

Industries that are technologically stagnant tend to have slower growth in real output than the technologically dynamic ones. Historically, overly expensive or underperforming businesses have been subjects to disruption. Therefore, the continued rise in healthcare costs and the lack of competitors in parts of the market make this sector an attractive segment for disruption given potential for technological innovation and productivity gains.

Differences between stagnant and dynamic sectors

In 1967 William Baumol and William Bowen presented an economic model arguing that a technologically stagnant sector would experience above average cost and price increases and would represent a rising share of national output, despite exhibiting slow aggregate productivity growth.

Labelled Baumol’s cost disease, the model stated serviceproducing sectors, such as education and healthcare, which rely heavily on human interaction have less growth in productivity over time as humans cannot be engineered to perform these same activities in a more efficient way. Alternatively, in goods-producing sectors, such as manufacturing, workers can become more productive as a result of technological innovation that helps save time and costs. As a result, wages and overall spending in the stagnant sector normally increase to prevent workers moving to the more productive sectors, where wages increase as a result of higher productivity. In the US, the Baumol effect helps explain why healthcare costs have increased considerably more than overall inflation. Between January 1997 and March 2021, the cost of hospital services in the US has increased by close to 250%. Similarly, the cost of medical care services increased by 142%, while overall US consumer prices increased by 66% over the same time period.² Additionally, US healthcare spending has grown consecutively for the last four years, with particular growth in public expenditure following the introduction of the Affordable Care Act. Healthcare spending currently represents around 17% of the country’s GDP. Despite this, life expectancy in the US has plateaued at 78 years, not reflecting an improvement in line with spending growth.³

Year-on-year price changes for selected US sectors

US Public and Private health expenditure

The time for disruption in Healthcare

A recent joint study by the World Bank, the Bureau of Economic Analysis and the US Department of Treasury found that innovation commonly led to quality-adjusted price declines in the US medical sector.4 An example of the deflationary characteristics of technological innovation has been the decline in price of corrective eye surgery costs in the US. The recent implementation of automated and more efficient laser technologies for eye surgery allowed for a significant reduction in prices to USD 3,000 from USD 20,000 almost 20 years ago.

We believe that similar opportunities exist in many areas such as new treatments, techniques, vaccines, automation of medical devices and the surge in digital platforms and connected devices such as watches and wrist bands which could all contribute to the continued growth in the sector. This has opened the door to a $10bn molecular diagnostics market

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Footnotes

1 Sounderajah V, Patel V, Varatharajan L, et al, ‘Are disruptive innovations recognised in the healthcare literature? A systematic review’, BMJ Innovations 2021;7:208-216.

2 US Bureau of Labor Statistics.

3 Centers for Medicare & Medicaid Services. http://www.cms.gov

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