Identifying Growth Opportunities in Health Care

By Michael Caldwell

When discussing the construction of the Driehaus domestic equity growth portfolios that we manage, we are often asked about our sector exposures, and the four buckets of growth in which we invest:  dynamic growth, consistent growth, cyclical growth and recovery growth.   We find that these buckets help clarify to our investors the kinds of companies in which we are investing, and we are frequently asked two follow-up questions as it relates to the buckets: 

  1. Do we have target allocations to each bucket?
  2. Do the companies that fit each bucket look different for different sectors? 

To the first question, we don’t have target allocations to the four buckets of growth.  Our process takes a bottom-up approach, and the exposures to different kinds of growth tends to be dictated by the opportunity set.  If there is a rich opportunity set in consistent growth, we are likely to have many companies in the portfolio that fit that profile, and vice-versa.  We tend not to target an exposure level for the various buckets.

To the second question, each sector tends to have unique characteristics that makes each growth bucket look a bit different for companies in different sectors. Below, we will briefly describe the various business strategies that we tend to find attractive in the healthcare sector, and which growth buckets they belong to.

  • Channel innovators:  These companies are taking a new or existing product to market through an alternate, or disruptive sales channel, and they tend to fall into the consistent growth bucket.  An example of a channel innovator in the portfolios is a company that makes portable oxygen concentrators for patients who need supplemental oxygen.  This company leveraged a superior product profile to bypass the traditional hub-and-spoke distribution model by going directly to the patient.  In doing so they’ve been able to take share at a much higher margin than competitors.

  • Category creators:  These are companies leading the charge on creating new categories of products. They tend to fall into the dynamic growth bucket, but can occasionally be in the recovery growth bucket.  An example of a category creator in the portfolios is a company that makes steroid-eluting stents to treat chronic sinusitis.  This company is introducing a minimally invasive product that for many patients will eliminate or delay a costly, invasive sinus surgery.

  • Old playbook, new/different product:  These are companies that see an opportunity to map a tried-and-true model onto a different product category, and they tend to fall into the recovery growth or consistent growth bucket.  An example of a company in one of the portfolios that fits this category is an orthopedics company that is taking advantage of the clear model for success in orthopedics, but redirected to the pediatric market, which has been overlooked by the industry at-large.

We tend to say that biotechnology is the fifth bucket of growth in which we invest, and below are three strategies that we consistently find attractive.

  • Precision medicine:  These companies are aiming to identify diseases in which a protein or genetic biomarker can be used to prospectively identify which patients are likely to respond to a specific treatment.  Across the portfolios we have investments in numerous precision medicine companies, and we continue to be surprised that this approach hasn’t been more widely exploited by the industry.

  • Same biology, different drug:  Companies that fit this category are leveraging the learnings of failures or mild successes of other companies with an optimized approach to treating the same disease.  Often times, the optimized approach intends to explicitly eliminate side-effects that emerged during clinical development with a predicate drug.  Alternatively, the optimized approach intends to eliminate non-responders in a precision medicine fashion to amplify the signal of efficacy.

  • New biology, good proof-of-concept:  Companies that fit this category are pursuing completely novel biology, but they’ve generated sufficient human data to establish that the biology they are pursing is not fraught with risk.  We tend to shy away from companies that haven’t fully characterized the biology they are pursuing because we think biology is incredibly complex, and likely to fail if many open questions exist.  In contrast, we find attractive companies whose data have answered key questions instead of introducing new questions.

Each of our domestic growth portfolios has many companies that fit in the categories of health care companies mentioned above, and some companies fit into multiple categories. However, all of the companies currently in each of the portfolios fit into at least one of the categories.



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