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DIAGNOSTICS FIRMS' R&D SPENDING-TO-SALES RATIO IS HIGHEST

This article was originally published in The Gray Sheet

Executive Summary

DIAGNOSTICS FIRMS' R&D SPENDING-TO-SALES RATIO IS HIGHEST among medical technology sectors studied in a report recently published by the Health Care Technology Institute. HCTI, an organization founded by the Health Industry Manufacturers Association in 1992 to study the link between technology and health care costs ("The Gray Sheet" June 1, 1992, p. 16), reports that 75% of the 57 "in vitro and in vivo diagnostic substance" firms examined in the study spent at least 10% of sales on research and development in 1991. Fifty percent of the firms had R&D costs of at least 29.9% of sales in 1991, and 25% of the firms spent at least 126.7% of sales on R&D during that year. The report examines R&D spending at 286 medical technology firms during 1991. The data was obtained by HCTI from Price Waterhouse and is based on Standard and Poor's Compustat file, "a database of company financial statistics that must be provided by publicly held corporations." Not all medical technology sectors are as "research intensive" as the diagnostics field, according to the report, which points out that there is a high degree of variability in R&D spending among medical technology sectors, as delineated by standard industrial classification (SIC) codes (see box). For example, 75% of the 92 electromedical and electrotherapeutic apparatus device manufacturers spent at least 6.8% of sales on R&D, while 75% of the 50 orthopedic, prosthetic and surgical appliances and supplies sector companies spent only 1.4% or more of sales on R&D. HCTI also points out that within individual sectors, "there is a high degree of variability in R&D spending," due to "the heterogeneous nature of the items grouped together within a given SIC." For example, the orthopedic, prosthetic, and surgical appliances and supplies sector includes products ranging from absorbent cotton to artificial limbs. "Clearly, some items in these groupings are more likely to involve a greater investment in R&D than others," HCTI asserts. One of the factors that may contribute to the diagnostic industry's high ratio of R&D spending to sales is that a significant number of the companies are relatively small. HCTI says that R&D spending as a percentage of sales was greatest among the smallest medical technology firms evaluated in the study and generally declined as company size increased. For example, firms "with less than $5 mil. in sales spent 77.5% of their sales on R&D compared with 17.2% for firms with $5 mil. to $20 mil. in sales, 11.7% for firms with $20 mil. to $100 mil. in sales, and 4.5% for firms with sales greater than $100 mil." The report cautions that "while the percentages of sales spent on R&D for the larger-sized companies may appear smaller, the total dollars actually spent are significant, given the higher volume of sales." R&D expenditures as a percent of sales at the 286 medical technology firms also were compared to those of 2,220 firms representing "all manufacturing companies." The levels were consistently higher for the medical technology firms; one half had R&D costs of greater than or equal to 7.9% of sales, while 50% of the broader manufacturing group had costs of at least 3.7% of sales. HCTI says that the medical technology industry is "best described as a small business industry, with much of the innovation occurring in smaller, entrepreneurial companies." The organization concludes that "as efforts to reform the health care system are translated into congressional action," there is a "need to preserve the delicate balance between research, development, innovation, and stringent reforms."

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