As one of my ongoing roles, I am chairman of Utah’s technology association, the Utah Technology Council (UTC). In a recent trustee meeting, one of my associates, Kelvyn Cullimore, CEO of medical device company Dynatronics (NASDAQ: DYNT), provided our assembled leaders with perspective on what the coming changes of Obamacare will mean. He spoke particularly about the impact for organizations such as his own that will be impacted by the proposed and expected medical device excise tax.
For all organizations, while much is still unknown as we approach the start dates, the implications of the Affordable Care Act (Obamacare) will be immense. Regardless of political views, there are aspects of the changes entrepreneurs must take into account as they plan their business and employment strategies for 2013 and beyond.
As Cullimore notes, medical device companies will be hit especially hard. Dynatronics is a company that employs 160 people. Their own situation is an interesting case study; however the issues they face will apply to many other organizations as well.
In Dynatronics’ case, the company acquired several of its distributors in 2007 as a means to protect its distribution channel. After the acquisitions, the company was thankfully able to survive the extremely adverse market from 2008-10. Coming out of the recession, the company made the strategic decision to invest more than $2 million in research and development to allow the company to innovate new products and to create profits the company would be able to recognize for shareholders in 2013 and beyond. While those higher R&D costs did significantly impact their profitability for the last two fiscal years, it has positioned them well for improved profitability in the coming years. As every entrepreneur knows, innovation is not only critical to survival, it is essential to sustained profitability.
On the whole, while Cullimore notes that few people would argue with the benefits of eliminating limits on insurance due to pre-existing conditions and allowing children to remain on their parents’ insurance to age 26, the cost of enacting Obamacare’s changes is estimated to exceed $2 trillion over 10 years. The money to cover these costs is designed to come from two places:
1) Reducing the scheduled increases in future benefits in Medicare, and
Of particular interest to companies such as Dynatronics is the coming excise tax on medical device companies. This 2.3 percent tax is particularly frightening because it is levied on top-line sales, even if the respective company doesn’t earn a bottom-line profit in a given year.
The medical device industry comprises some 409,000 direct jobs and close to 2 million indirect jobs, according to the Medical Device Manufacturers Association (MDMA). And 80 percent of these companies have fewer than 50 employees. Only 10 percent have 500 employees or more.
For those medical device companies that are making a profit, the 2.3 percent excise constitutes “a tax within a tax.” For a company making an 7 percent pre-tax profit, for example, the 2.3 percent excise tax would comprise 33 percent of its entire net profit — and that price tag would be in addition to the regular income taxes it may owe on its earnings. Very literally, it amounts to a tax on top of a tax.
As a case study, in Dynatronic’s case, had this excise tax been in effect during 2012, the company that had only broken even would have had to come up with an additional $400,000 to pay in excise tax to comply. Where would that money have come from? Says Cullimore, the company would have had to raise the price of its products (in a market that would likely not tolerate more than the smallest of increases). It likely would have had to limit investment in R&D as well as consider other cost reductions, including layoffs.
Decreasing the amount of research and development would have decreased the amount of innovation the organization could bring to the fore. And as previously stated, innovation is a critical fuel to sustainability and producing the technologies that will ultimately make health care more affordable.
Why the particular “punishment” on medical device companies? According to Cullimore, the theory is that the enactment of the act will result in more devices being needed and purchased, therefore producing a “windfall” for manufacturers that would offset the new tax.
Will there be layoffs? At 160 employees, Cullimore’s company has no layoffs planned as the result of the tax currently, but he acknowledges that when details arrive, it is highly possible that many companies may have to make rapid changes in direction on the fly.
Entrepreneurial employees and organizations will be more vital to our economy than ever before. Do you have additional thoughts and comments? Feel free to leave them here — and both Kelvyn Cullimore and I will do our best to respond. As always, I’d love to hear what’s on your mind, either here or via @AskAlanEHall or www.AlanEHall.com.
This article originally appeared in Alan Hall’s weekly Forbes column.
Alan E. Hall is a co-founding managing director of Mercato Partners, a regionally focused growth capital investment firm. He founded Grow Utah Ventures, is the founder of MarketStar Corp. and is chairman of the Utah Technology Council.