Saturday, January 19, 2019

Alcon, Part II: Qualitative Analysis of Growth Drivers

Revenue Breakdown
In 2017, Alcon’s sales were split 41% in the US, and 59% internationally. The three largest portions of net sales for Alcon are contact lenses ($1.8B), cataract consumables ($1.4B), and cataract IOLs ($1B). The end markets for Alcon’s consumer eye products are over-the-counter or through drug stores and other retailers, as well as opticians. Opticians are responsible for at least 10% of Alcon’s prescription volume in the US.

The key products in the surgical segment includes cataract consumables (#1 in the world), which consist of visco elastics, cutting instruments, and custom peaks. The segment also includes IOLs (#1), which consists of products AcrySof IQ, UltraSert, and Pan Optix.

The key products in the vision care segment include contact lenses (#2) and lens care liquid solutions (#1).

Competitive Advantage
Alcon is the global leader in attractive markets with most complete brand portfolio and lineup of eye care products. Alcon benefits from significant economies of scale which allows the company to maximize commercial products and its pipeline.

Its innovation is focused with market-leading development capabilities and investments. Alcon’s global scale and reach is supported by its high-quality manufacturing network. The company has a trusted reputation in medical education and technical service, and surgical customers. Last, but not least, its world-leading expertise in eye care is led by a first-class management team.

Alcon’s unique direct sales force expansion drove its market share gains in several segments over the past twenty years. Alcon, by being first into a country with a direct sales force, is well-positioned to quickly gain a significant foothold in that country’s ophthalmic market. No other company matches Alcon’s breadth of product offering, and as a result, allows Alcon to achieve marketing synergies.

The major trend in the ophthalmic market is the consolidation of multiple pieces of equipment into a single device. This is driven by reducing the cost of devices and saving space for ophthalmologists. The trend towards growing consolidation of products has favored Alcon because it prevents ophthalmologists from buying single devices from different companies. Alcon’s cataract products cover every stage of surgery, and Alcon’s portfolio for equipment makes it a one-stop shop. They differentiation is key from competitions and allows it to maintain a strong equipment base and IOLs & consumables pull-through.

The medical optics industry faces significant barriers to entry in the form of regulation. For example, IOL products are considered Class III, or high risk, devices in the US, and Class IIb, or moderate risk, in the EU. As such, these devices need to go through an intense progress to become marketable to the public. For design competition to PMA approval, the process takes about 1-3.5 years in the US, and for design competition to CE mark/CE dosser, it takes 7-15 months in the EU. These time constraints take lots of resources are costly, and favor large pharmaceutical companies.

Market Environment (Alcon)
According to market estimates, the size of the eye care market is around $23B. It is estimated to grow around 4% per year over the next five years.

Both of Alcon’s surgical and vision care markets will continue to grow, and are driven by multiple factors and trends:
1.     An aging population with growing eye care needs: the number of persons aged 60 years or over is expected to more than double by 2050. These demographic changes aid growth to cataract procedures (3.5% per annum industry growth; 5.7% at Alcon).
2.     Innovation improving the quality of eye care, which is leading to increased coverage and reimbursement opportunities from government and private insurance leads to expanding patient access to eye care products.
3.     Increasing wealth and growth from emerging economies: major demographic shifts grow the middle class and generate a large, new customer base with increased access to eye care products and resources to pay for them.
4.     The increasing prevalence of myopia, progressive myopia, and digital eye strain. It is estimated that by 2050, half the world’s population will be myopic. The modern work environment has increased the number of hours people spend in front of a screen, increasing the risk of progressive myopia and digital eye strain.

The surgical market is estimated to be $9B, and projected to grow 4% per year over next five years (includes sales of implantable, consumables, and surgical equipment). The segment’s equipment base drives pull-through of high-margin IOLs and consumables. Further growth is expected through new product launches and IOL innovations.

Below are a few growth drivers of surgical market population:
1.     Global growth of cataract and vitreoretinal procedures is driven by aging population. There are approximately 3.2 procedures/1,000 emerging and international markets and 12.7 procedures/1,000 in the US.
2.     Increased access to care in emerging markets will lead to an increase in the cataract surgery rate.
3.     Higher uptake of premium patient-pay technologies. For example, the AT-IOL penetration is only 6% internationally than 14% in the US.
4.     Increased adoption of advanced technologies (i.e. improved diagnostic instruments, growing use of phacoemulsification during cataract removal). Currently utilized in less than 50% of cases in emerging markets vs. over 95% in the US. This will be aided by the growing install base of the Centurion phaco platform and the expansion of vitreoretinal consumables into emerging markets.
5.     Eye disease as a comorbidity linked to the global prevalence of diabetes, driving uptake of premium procedures.
6.     Corrective surgeries have become a driving force for the development and sale of diagnostic and surgical equipment. The phacoemulsification console market is expected to become the fastest growing segment within ophthalmic device market because of demand placed by the increasing prevalence of cataracts. Fortunately, Alcon leads the phacoemulsification console market. It strength is aided by the strength in the IOL market which has contributed to occupying Alcon’s high share.

The vision care market is estimated to be $14B, and is projected to grow at 4% per year for the next five years. $8B of the segment’s sales come from contact lenses and ocular health. The segment has a strong position in contact lenses, which drives lens care. Growth is fueled by key contact lens brands (Dailies family). The Alcon Dailies total brand has experienced continued double-digit growth.

Below are some growth drivers of the vision care market:
1.     Continued modality shift to daily disposable lenses from reusable lenses and resulting sales premium (increase of 2-3x sales per patient) associated with daily disposable wearers.
2.     Advancements in specialty lenses and increasing demand for multifocal and cosmetic lenses (15-30% pricing premium over spherical lenses). These new types of contact lenses will allow patients to continue wearing contact lenses as they become older, leading to an expansion in the market.
3.     Significant population of undiagnosed dry eye patients. This will provide revenue for Alcon with an increased patient awareness for dry eye.
4.     Growing access and consumption of vision care products in emerging markets (Asia) - 3% contact lens penetration in 2017 vs. 15% in the US.
5.     Increasing consumer access through expansion of distribution models (internet sales, direct to customer channels).

Alcon competes against the following three established players in the eye care market: Bausch & Lomb, J&J’s VisionCare, and Abbott Medical Optics. Alcon has the highest share for each product segments over the three except in contact lenses which is led by J&J’s VisionCare.

Mike Ball will be the chairman and David Endicott will be the CEO of Alcon. Both played executive roles in previous company Hospira, which was brought out by Pfizer after being successfully turned around.

More recently, Alcon executives implemented a turnaround plan that has reinvigorated its pipeline, strengthened its customer relationships, and increased investments in promotion, capital and systems while developing a nimble medical device culture.

Turnaround strategy:
1.     In the near term, management has sought to maximize potential by growing key products. In its surgical segment, the company is focusing to build on the leading position in the IOL market through the launch of new AT-IOLs (which are premium-priced products). In the vision-care segment, the company is expanding into the presbyopia market, which represents a multi-billion dollar opportunity. Similarly, it seeks to grow the Dailies Total family of products.
2.     Alcon seeks to capture opportunities to expand AT-IOL and contact lens penetration into the international markets. Alcon is strengthening its piepeline in the near-term with recent launches of UltraSert (a pre-loaded IOL delivery) and Pan Optix (a trifocal IOL). In the long-term, the company is developing accommodating IOLs.
3.     Management also strives to improve operating efficiencies by improving Alcon’s product mix, and support new lower-cost manufacturing platforms.