Going into 2023, be prepared for dealmaking activity to shake up the digital health market, analysts and investors say.
Market conditions are ripe for a new wave of digital health consolidation driven, in some part, by a more challenging funding environment, startup valuation declines and an unfriendly IPO market. With VC funding drying up compared to the heyday of 2021, M&A offers the opportunity for companies to expand their product offerings, keep shared service costs down and offer liquidity to impatient investors.
"There's a couple of factors that are really hinting to us that it's going to be an interesting year for M&A," said Adriana Krasniansky, an associate on Rock Health's research team. "We know that there are startups that are in need of capital and going to the private markets might be tough because it might require a valuation drop or a 'down round' that hurts them more materially. We imagine there are companies that are going to need some support in terms of cash runway, and acquisitions are, of course, one path to do that if it feels right."
A deal may not get done purely because a company needs cash but it is one factor that could tip the scales in favor of a transaction in today’s environment, said Danika Fry, executive director, healthcare investment banking at Morgan Stanley, in Rock Health's November report looking at M&A activity in 2022.
“Companies that foresee a capital shortfall before they reach profitability will have to be willing to look at a range of alternatives to bridge that funding gap," Fry said.
As of the end of the third quarter, there have been 144 digital health M&A deals in 2022, according to Rock Health. That compares to 273 deals in 2021.
This past year saw some big-ticket M&A deals such as three big players in kidney care—Fresenius Health Partners, Cricket Health, and InterWell Health—forming a new value-based care company. That deal created a company valued at $2.4 billion,
Some digital health startups look to weather the market and achieve inorganic growth by acquiring their competitors, spurring waves of sector consolidation. This year, alcohol use disorder support program Monument acquired its competitor Tempest to boost its patient population.
Expect this trend to continue in 2023, especially in crowded sectors like digital mental health.
Missy Krasner, venture chair at Redesign Health, an innovation platform that builds transformative healthcare companies from the ground up, anticipates a "massive amount of consolidation" among solutions selling into the employer market. "The burden of trying to manage all those points solutions is very difficult," she noted.
"There's going to be a lot of consolidation in the telehealth environment just because we've seen such a huge amount of innovation and adoption there," Krasner said. "Coming out of COVID, you have to look at, 'Where was there a big burst; where were there very big valuations and a lot of energy and a lot of traction?'"
In 2021, Amwell (formerly American Well) bought up two digital health companies, SilverCloud Health and Conversa Health, for $320 million to expand its services beyond telehealth visits. Insurer Cigna bought telehealth player MDLive last year, and health benefits platform Accolade bought virtual primary care company PlushCare in a deal valued at $450 million.
"You'll start seeing the big virtual health leaders go downstream into either chronic disease management or look at ways they can pick up home testing or home diagnostic kits to have more ways to continue to engage their clients rather than just primary care or urgent care," Krasner said.
The digital health industry is shifting away from point solutions to platform companies, noted Lynne Chou O'Keefe, founder and managing partner at Define Ventures, an early-stage venture capital firm focused solely on investing in digital health.
This evolution to what Chou O'Keefe calls "vertical reimaginations" could drive M&A deals and startup innovation.
"As we go forward, we really believe more end-to-end integrated platforms that combine and deliver care in an integrated manner is going to be very important," she said.
Potential for more "disruptive" innovation M&A
A recent Rock Health report outlined four key M&A approaches—consolidation for inorganic growth, acquisitions to enhance core operations, building and buying for complementary features and M&A for disruptive innovation.
Disruptive deals in 2022 include Amazon's plan to buy One Medical for $3.9 billion, CVS stepping into home care with Signify Health and Walgreens finalizing its complete ownership of Shields Health.
Krasner anticipates the market will see more M&A activity from big tech companies, retailers and other disruptive companies expanding their reach into healthcare. "I definitely would still look to them to have some really interesting big announcements as well next year. I am betting on high-tech continuing to put pressure on incumbents."
As healthcare evolves into an omnichannel hybrid "click-and-mortar" model of providing care, retailers are creating more consumer-centric primary care services and traditional health systems will need to respond, she noted.
"You're going to see traditional incumbents, like health systems that are completely brick-and-mortar, realize they need a digital strategy and need one fast to compete," Krasner said. "I do think there's going to be some market consolidation there. You're going to see some strategics say, 'Hey, I can get this little tuck-with this small little startup over here that's doing home health and doing virtual care calls."
If retailers and tech companies like Amazon want to be the "front door of healthcare" and then be the "quarterback of healthcare" by owning primary care, they will have to expand into care coordination and specialty care, noted Chou O'Keefe.
"Some of these players have been quite vocal about their ambitions," she said. "They are stacking these companies together to create that integrated care. The journey doesn't end with virtual care and primary care. Ultimately, they want to take risk in the future. That is an incredible journey, that will be a five to 10-year journey."
There is an emerging segment of buyers the industry should keep an eye on, what Rock Health researchers call "middle children," an emerging breed of digital health disruptors. "Middle children" are tech, retail, and fitness companies with market capitalizations between $10 billion and $350 billion, wrote Rock Health principal Sean Day in a recent report.
Examples include Best Buy’s acquisition of Great Call and Lululemon’s acquisition of Mirror.
All together, acquirers that are not categorized as providers, payers, biopharma, medical device or digital health companies were engaged in approximately 18% of total digital health M&A deals from the first through the third quarter of 2022, compared to their 13% of deals in 2021, Rock Health reports.
Many health tech and digital health companies that went public in the past two years have been taking a beating in the public market. Digital health company Babylon has seen its stock plummet 93% in 2022. Faced with a potential delisting, the British health tech giant has opted to implement a reverse share split to increase its share price, the company announced in September.
Babylon also has been batting away acquisition rumors.
As struggling public companies are not able to access capital through the public markets and some face a possible risk of delisting, "acquisition is one way for players to gracefully move into a different scenario," Krasniansky said.
Large insurance giants have cash on hand to make strategic plays and should be one area to watch, investors and analysts say.
"If the price is right in the space where they can make an acquisition or several acquisitions, even thinking about players like Amazon, where acquisition is sometimes easier than the internal build, especially if an asset that will kind of round out that portfolio is cheaper than something they build in-house," Krasniansky noted.