Why should real estate be a focus in medical device M&A?

Pricing and competitive pressures are weighing heavily on many medical device companies, driving consolidations such as Becton Dickinson’s $24 billion acquisition of C.R. Bard in 2017. Many medical device companies are finding that mergers and acquisitions (M&A), or partnering, is the path to success in this challenging environment. Too often, however, results lag because real estate and facilities are an afterthought rather than an inherent part of the merger or acquisition strategy.

While corporate real estate is only one of the key factors that determine the success of a merger or an acquisition, it can potentially punch above its weight. When Merck acquired Schering-Plough in 2009, the corporate real estate team reduced the combined companies’ occupancy costs by $300 million within three years—making a significant contribution to the $3.5 billion merger synergy goal. For Merck, the value hidden within the corporate real estate portfolio was the “X factor” that contributed to the transaction's success.

If you want to quickly execute the new operating strategy following a transaction, get real estate involved early. Rather than treating real estate as an afterthought, making it a point of focus during the due diligence phase can help you realize greater value and quickly advance integration. Engaging your corporate real estate team during due diligence will help investors better understand the value and the risk that may be hidden under layers of leases and building valuations.

Also, your team must be equipped to manage a potentially large and complex portfolio of diverse property types, and to understand the associated risks. Beyond the standard office and R&D facilities, the portfolio will likely also include a product distribution network, data centers, device manufacturing facilities, global sales team offices in emerging markets, and other specialized properties.

Given the regulatory restrictions concerning M&A, you’ll never have all the advance detail you want. So, focus on the real estate data you have. And, for fast access to real-time global market intelligence, you might need an external real estate partner that understands the markets of your newly combined footprints.

Once there, you’ll need to examine real estate through several lenses to bring its value into focus.

Lens #1: Identify Real Estate Cost Efficiencies and Achieve Quick Wins

Real estate prices—already one of the top expenses for medical device companies—escalate quickly when you combine two companies, especially if multiple properties sit within the major life science hubs. Office and R&D space in nearly all of the top 10 U.S. life science clusters have grown increasingly scarce and expensive in recent years. In the highly coveted East Cambridge neighborhood of Boston, for example, lab space rent hit a record high of $75.05 per square foot in 2016, up 10 percent from the year prior.

Reducing the size of your combined companies’ real estate portfolio is often a critical factor in realizing cost savings. A year after Medtronic completed its $49.9 billion acquisition of Covidien, the company announced it expected to achieve $850 million in synergies within three years by consolidating back-office personnel teams, optimizing distribution systems and supply chains, and cutting expenses like redundant office space.

Merck achieved significant savings early in its initiative by focusing on the largest sites first. For example, the real estate team used a standard analytical approach to consolidate operations in Tokyo to improve workplace productivity, enable collaboration, and capture more than $8 million in savings. Using the same structured analysis, it achieved run-rate operational savings of more than $2 million by consolidating out of high-cost office space.

After a deal closes, the faster you can rationalize the corporate real estate portfolio, the faster cost savings will translate into returns. With the right capabilities, you will be able to provide scenarios for the future portfolio in a matter of days.

How? Create a real estate program management office and a governance framework to streamline real estate integration activities following the closing. These steps will position your team for success through a playbook that incorporates standardized tools, best practices, lessons learned, and how-to information for rationalizing the real estate and facilities portfolio.

The program management function, however, will only be as successful as the execution team, which ideally, will include change management specialists, workplace strategists, CPAs, legal specialists, architects, project managers, and commercial real estate brokers experienced with M&A. Also important, a change management program focused on the people who will be affected by real estate decisions, integrated with the larger corporate change management program.

Lens #2: Future Growth

Real estate redundancies are inevitable in M&A transactions, but cost isn’t the only consideration. Establishing strategic locations that will provide the necessary support for the combined company to achieve its growth plans is critical. You’ll need to carefully analyze each physical location to determine its potential future value.

Critical questions include:

What is a facility’s proximity to current customers, and where might future growth come from? Can redundant facilities in a prime location be leveraged for different purposes?

Should you dispose of several properties in the same region, and instead build a new development with better amenities that could aid talent recruitment and retention efforts?

What resources will be critical for future growth and how does location factor into the equation? How do changing workforce strategies affect the type of facilities needed?

Lens #3: The People Factor

Arguably, the most important element to consider isn’t the actual real estate portfolio, but your real estate’s appeal to talent: What kind of people and skills are needed to drive future growth, and where will you find them? Many life sciences companies access talent and a rich business ecosystem for company growth by having a foothold in one of the major life sciences hubs. Some of the prominent life sciences markets are rich with data science talent, too—another important consideration as computational sciences becomes a growing part of R&D.

However, that doesn’t mean you need to have all your operations in a major hub, where real estate costs can be extremely high. It may mean keeping selected operations near the talent you need, and keeping others in less-costly suburbs or smaller cities.

Lens #4: Think Big Picture

Real estate decisions must also look beyond combining two entities to how the nature of work is changing. Technology advancements and the rising influence of Millennials are rewiring work. Employees aren’t always tethered to their desks inside the office anymore. A growing contingent of on-demand workers are filling project roles or plugging gaps in highly specialized work. For the future of work, you’ll need more scalable, flexible spaces, and you may be able to decrease your square footage through mobile workforce strategies.

For instance, after evaluating its future needs, Medtronic decided to close the former Covidien executive office building in Mansfield, Mass. The decision was part of the company’s strategy to convert to more flexible workspaces that give employees the option to work from home or remote locations.

Plan Ahead

Medical device companies will continue to feel intense pressures to consolidate in 2019 and beyond, as the sector becomes crowded with small, high-growth companies and non-traditional tech competitors. While 2017 was a slower year in terms of volume, deal value climbed from $46 billion in 2016 to $62.4 billion by early December 2017. Rising deal values mean the pressure is on to realize cost savings quickly, and getting real estate right is a significant part of that equation.

In the medical device industry, you can learn from the experiences of your peers and of other life sciences companies how to accelerate the success of a merger or an acquisition. Most important, bringing real estate discussions to the forefront of M&A negotiations can add critical long-term value.