Medical device tax: What we talk about when we talk about job losses

For going on 5 years now, opponents on both sides of the fight over the medical device tax have engaged in a rhetorical war about the number of jobs that will be lost to the levy.

The 2.3% excise tax, enacted in 2010 as part of the Affordable Care Act, went into effect at the beginning of 2013. It applies to all U.S. sales of prescribed medical devices. The medtech industry has fought the tax tooth and nail since even before its inception, labeling the levy as a "job killer."

Indeed, companies such as Skaneateles Falls, N.Y.-based Welch Allyn have pared their work forces as a direct result of the tax. Other medtech companies that have cut jobs over the past 5 years, like Stryker (NYSE:SYK), which cut 5% of its global workforce in 2011, partially blamed the tax for the layoffs. Most recently, AdvaMed, the medical device industry’s largest lobbying group, pegged total job losses from the tax at 195,000, including ancillary supply industries.

That the tax will result in lost jobs is just about the only thing proponents of the levy and its medtech foes and allies in Congress agree on. Proponents of the medical device tax, however, have argued that the medtech industry’s estimates are wildly exaggerated. The non-partisan Congressional Research Service updated its analysis of the tax last fall, claiming that the levy’s impact is "relatively small" and will cost the industry only about 1,200 jobs.

Explaining the Grand Canyon-sized chasm between the 2 estimates comes down to the math used to create them, each with problematic assumptions that call their accuracy into question.

The job losses claimed in the AdvaMed report are based on a methodology that extrapolates an estimate of the total U.S. spend on medtech in 2011, which was assumed to equal medtech companies’ revenues. Using percentage increases in revenues in 2012 and 2013 for publicly traded pure-play device makers, the report estimates total industry revenues of $165.4 billion. By that estimate, the 55 respondents to the AdvaMed survey represented 49% of total industry revenues, at $81.1 billion. To reach its job loss estimate, the group multiplied respondents’ numbers for jobs lost and foregone by a factor of about 2.04 (165.4 divided by 81.1), according to the report.

The non-partisan CRS took a different approach to calculating its estimated job losses, using a formula that weighed the elasticity of demand for medical devices against total profits of the industry. Those calculations also assumed only half of the medical devices on the market would be subject to the tax and that the companies, paying the tax will simply pass the increased expense along to consumers.

Other studies simply measured the pace of hiring in medtech over the past 2 calender years.
Whatever the method, however, it’s clear that pegging job losses to any 1 cause, let alone a top-line tax on revenues, could charitably be called an inexact science.

To clarify what the term "job losses" means when to the medical device CEO, we asked Zoll Medical chief Richard Packer to explain.

"It’s job cuts, job movements as well as not hiring," Packer told us. "There are jobs at stake, jobs that have been lost because of tax, and in the case of Zoll there are jobs that have not been created."

Packer explained that Zoll has not been forced to layoff workers because of its unique ownership situation. The resuscitation device maker was acquired for $2.2 billion in 2012 by Japan’s Asahi Kasei Corp. (TYO:3407). Packer explained that the company did not want to be associated with job reductions and therefore he wasn’t forced to let people go.

"A lot of the smaller companies cut back in order to pay for the tax. I think a lot of the bigger companies try and absorb the tax and slow down or stop the hiring. Because of my ownership situation, I had the luxury of not cutting back. That’s what I would have done had I been a stand-alone public company, but I haven’t added the jobs I should have added," he said.

"There are 2 effects. You have the job effect, which is real, and then you have the opportunity effect: If I don’t run a clinical trial and I don’t prove that this product can save a life, the product comes to market later than it should have and then there are fewer lives saved. That isn’t calculated [as part of the effect of the medical device tax]," Packer told us.

Zoll, like many other companies, has scaled back its R&D spending, the most discretionary portion of companies’ budgets is R&D. Packer explained firms often cut R&D because doing so doesn’t have an immediate impact on the bottom line.

"When you’re in stress, you don’t do as much R&D, but you pay for that down the line," he said. "You can’t cut production, because you need the equipment that drives the business. If you have extra money, you do more R&D. We have a list of projects in my company, and most every other company like this, that are not being worked on because we don’t have enough resources to work on them. So we prioritize based on how much we can spend. We draw a line and anything above the line we work on and anything below will have to wait. If you were to give me money back, I could move that line down."

Moving that line down would mean more jobs, Packer said.

It’s a point echoed by a recent survey of medtech executives by the Medical Device Manufacturer’s Assn., which said hiring would increase as a result of a repeal of the medical device tax. More than 80% of the executives surveyed said they would immediately fill positions once the tax was repealed.

Given the sometimes shaky math that has been used thus far to calculate the impact of the tax, we would suggest you take those numbers with a grain of salt as well.