This report originally appeared in the February 2010 issue of DOTmed Business News

Is China's mega 850-billion-yuan health care stimulus plan, coupled with a massive population beginning to succumb to Western diseases, a miracle for U.S. medical device makers, or a mirage?

In the financially turbulent closing months of 2008, China launched a multi-trillion-yuan national stimulus plan to protect the country's economy from the global recession. The package calls for a whopping 850 billion yuan (as this went to press, about $124 billion) to build up China's medical infrastructure, especially its long-neglected health system in the countryside, where the bulk of the population lives.

The ambitious plan aims to provide insurance coverage to 90 percent of the country's estimated 1.3 billion people by 2011, and then everyone by 2020. And as the now-insured population will need new health care centers, the stimulus package will pay for the construction of some 30,000-odd clinics and 2,000 county-level hospitals.

Predicted growth for the medical device market is, naturally, huge. By 2015, health care spending in China is expected to rival that of many Western countries, at 10 percent of GDP, according to Harry Glorikian, a partner at Scientia Advisors, who was able to share some findings from his report on China, due in late January.

Although massive outlays of cash mean there's a great market for device makers, picking it up won't be simple.

"China's a very complicated country, but of course in complication comes opportunity," Glorikian says. If it were easy, everybody would be doing it.

Shaking down savings, driving up demand

First, the grand goal of the stimulus plan is not to fill pockets of device companies, of course; it's to break up people's piggy banks. Only around 11 percent of Chinese have Western-style insurance coverage, according to Glorikian, and most sock away funds at great rates to pay for health care later in life. Chinese officials want to discourage this too-high savings rate and instead drum up consumption. Now that the government will take care of health care, the reasoning goes, people can free up cash for a new car or TV, to keep the economy purring.

"If every single older Chinese family starts to spend the money they save for their health care it will dramatically stimulate internal spending," Glorikian says.

But don't think the demand is just government-driven. As the Chinese get richer and more enter the middle class, more want top-flight medical treatments.

"You've got to remember that you've got a population now that's making more money. They're not at our income level, but they're making more than 10 years ago. These people want care, so they'll spend money to get care," says Glorikian.

And they might well have to. The rising standards of living that allow them to buy more care bring changes to lifestyle that often requires them to seek more care.

"Whether we like to believe it or not, they're becoming more like us," Glorikian says. The average amount of meat consumed has gone up from half a pound of meat per month to seven pounds per month, according to Glorikian. Dramatic dietary changes could result in more widespread cardiovascular disease and other ailments of affluence. "All the good stuff we have here they're starting to take on," says Glorikian.

Cutthroat competition

China's largely government-run hospitals are broken into different tiers depending on size, with tier one the smallest and tier three the biggest. Tier three hospitals, with 500 or more beds, are usually found in large cities, and they will likely make the best customers for foreign companies, according to the analysts I talked with. These relatively well-off health centers will make the big-ticket event purchases: the 64-slice CT scanners, the 3T MR magnets, to attempt to attract wealthy Chinese patients. After all, these glamorous high-tech products tend not to be made locally and have IP that's harder for canny native engineers to infringe.

But further down the line, at tier one hospitals, with 100 beds or fewer, competition might be too fierce for many foreign companies, analysts say. These mostly rural hospitals, which stand to benefit the most when the government opens the sluice gates on the stimulus package, will have simpler needs.

"The stimulus plan has set aside a lot of money for development of rural facilities," Michelle Li, an analyst with Millennium Research Group in Toronto, tells DOTmed News. "It would really be low-end and basic systems that would experience a strong growth in sales," such as black-and-white ultrasound or analog X-ray machines. These sprung-up hospitals will be purchasing equipment for the first time, and much of their staff will not be able to operate or maintain expensive equipment like CT or MR scanners, according to Li.

While these health centers will be buying loads of the low-end equipment, it will be tough for foreign companies to compete against domestic vendors whose ruthless, bargain-basement prices slash profit margins to paper-thin edges.

But don't underestimate foreign companies, Li cautions. They are busily figuring out how best to take advantage of the market. GE Healthcare, for instance, is launching an X-ray machine called Linglong, a device designed and manufactured in China. "It's more compact, because space is definitely a luxury [in rural facilities], and more lightweight," she says. Though analog, it's fully upgradeable to digital. And it's relatively cheap. "These companies definitely know that rural and low-end equipment is where the growth is going to be," Li says.

Laws and customs

Companies wanting to do business in China also have to be wary of the Red government's webs of red tape. As the recent fracas with Google shows, you play by their rules or get out.

"Foreign companies that do business in China need to take into account a lot of culture differences between what they're used to and the market they're entering," Glorikian says. "The Chinese government has very specific agendas on how things are going to go in the country, and one has to be mindful of these agendas and maintain good relations with officials."

One aspect that may prove troublesome to diagnostic-imaging makers is a government rule requiring health care centers to apply for a license before purchasing a CT or MR scanner, which drastically limits the number of high-end machines the country can import. Millennium's Li says the process is "cumbersome," and for hospitals to qualify for the licenses they have to go through at least three different regulation offices and demonstrate they have enough beds, and properly trained personnel, to warrant the purchase. And according to Li, licensing requirements for nuclear medicine systems are even more formidable.

But the rules have a reason: years ago, some hospitals, hoping to boost income, tried to offer CT scans when they weren't needed and when the staff didn't know how to run the scanners.

"A lot of hospitals that didn't necessarily have the technical expertise or knowledge to properly operate these CT systems purchased these scanners, and in some cases, prescribed unnecessary procedures to generate revenues. To protect patients from the potential danger of advanced imaging scanners, such as over-exposure to radiation, and to prevent rapidly rising medical costs for patients, the Chinese government initiated strict regulations so that only qualified facilities would be able to purchase and operate a CT, MRI or nuclear medicine system," Li says.

Aftermarket woes

Businesses hoping to enter the used parts or machine market face, perhaps, the greatest challenge. From the analysts I spoke with, the refurbished market in China gets short shrift, even if the government were to relax its ban against importing used medical equipment.

Glorikian thinks there's a prejudice against used goods from abroad that would have to be overcome. "It's a perception issue," he says. "The population doesn't want to believe they're not going to get anything anyone in the modern world isn't going to get."

Dan Whalen, an analyst at Millennium, thinks that, at least in interventional cardiology, the flood of new funding could erode much of the desire for refurbished products, although the market won't disappear entirely. And a popular local practice, in-hospital reprocessing and sterilization of goods, will continue.

"Take for instance guide wires for guiding catheters. If it's used in a procedure, but not left in the patient, they often reprocess it, sterilize it within the facility. But there is no-resale happening," he says.

Is it sustainable?

More importantly for a potential business looking to open the Chinese market, not everyone believes China works. Many predict an impending implosion. James Chanos, a contrarian short-seller (his company's name, Kynikos, is Greek for cynic) who famously bet against Enron, has said that China is "Dubai times 1,000 - or worse." Victor Shih, a China specialist and an assistant professor at Northwestern University, calls China's economy a "Ponzi scheme." According to Forbes, in 2009 China was liable for debts amounting to around 70 percent of its GDP, a staggering number.

But for all the gloom, Glorikian doesn't see China as another Dubai. "GDP for the 4th quarter had 10.7 percent growth. Is it going to drop? It could, for various reasons. But there's just too much happening. I cannot see the bottom dropping out from under it," he says.

As the stimulus money begins to trickle out, analysts are watching what happens. "It will be very interesting to see," Whalen says.