The strongest long-term opportunities for healthcare companies primarily fall in three industries: drug manufacturing, medical devices, and diagnostics and research.
And all 19 of the best healthcare companies to invest in have intangible assets that provide a wide moat against competitors. This intangible-asset advantage is often derived from either patents or proprietary technology.
Patents are temporary government licenses that exclude competition from copying an invention. For example, in pharmaceutical companies, patents are necessary owing to the ease with which some drugs can be replicated. Similarly, patents are vital in the medical devices industry to protect companies’ product designs.
Proprietary technology encompasses more-complex processes and tools than a company’s patents might cover—many companies keep their intellectual property as a trade secret rather than provide a public description in a patent application. In general, the more sophisticated and customized a product or service becomes, the more that proprietary technology plays a role in driving competitive advantage. In healthcare, this is seen in biopharma, medical devices, and contract research organizations.
Here, we highlight the 19 healthcare companies that made our list of the Best Companies to Own in 2023. These companies earned their spot on the list by both having carved out wide moats and having made smart capital decisions.
Because this list is built for the long term, rather than to identify presently undervalued companies, it may not be the right time to buy all these names. Rather, we believe these healthcare companies are strong choices for an investor’s watchlist.
You should consider buying only when they’re trading below our price/fair value estimate, which assesses whether a stock’s price is high or low compared with its fundamental value.
Moat Source — Cost Advantage
Moat Source — Efficient Scale
Moat Source — Intangible Assets
Moat Source — Network Effect
Moat Source — Switch Cost
|Novo Nordisk A/S||NVO||Biotechnology||Yes||No||Yes||No||No|
|Agilent Technologies Inc||A||Diagnostics and Research||No||No||Yes||No||Yes|
|Thermo Fisher Scientific Inc||TMO||Diagnostics and Research||No||No||Yes||No||Yes|
|Waters Corp||WAT||Diagnostics and Research||No||No||Yes||No||Yes|
|AstraZeneca PLC||AZN||Drug Manufacturers - General||No||No||Yes||No||No|
|Bristol-Myers Squibb Co||BMY||Drug Manufacturers - General||No||No||Yes||No||No|
|Gilead Sciences Inc||GILD||Drug Manufacturers - General||No||No||Yes||No||No|
|GSK PLC||GSK||Drug Manufacturers - General||No||No||Yes||No||No|
|Johnson and Johnson||JNJ||Drug Manufacturers - General||No||No||Yes||No||No|
|Merck and Co Inc||MRK||Drug Manufacturers - General||No||No||Yes||No||No|
|Novartis AG||NVS||Drug Manufacturers - General||No||No||Yes||No||No|
|Pfizer Inc||PFE||Drug Manufacturers - General||No||No||Yes||No||No|
|Roche Holding AG||RHHBY||Drug Manufacturers - General||No||No||Yes||No||No|
|Sanofi SA||SNY||Drug Manufacturers - General||Yes||No||Yes||No||No|
|Zoetis Inc||ZTS||Drug Manufacturers - General||Yes||No||Yes||No||No|
|Medtronic PLC||MDT||Medical Devices||No||No||Yes||No||No|
|Stryker Corp||SYK||Medical Devices||No||No||Yes||No||Yes|
|Zimmer Biomet Holdings Inc||ZBH||Medical Devices||No||No||Yes||No||Yes|
|West Pharmaceutical Services Inc||WST||Medical Instruments Supplies||No||No||Yes||No||Yes|
Intangible Assets Give Drug Manufacturers Their Edge
All the drug manufacturers on the best companies list, both general and specialty, gain an edge from their intangible assets.
Pfizer PFE is a prominent member of the group. “Pfizer’s patent-protected drugs carry strong pricing power that enables the firm to generate returns on invested capital in excess of its cost of capital,” writes Morningstar sector director Damien Conover. “The patents give the company time to develop the next generation of drugs before generic competition arises.”
Johnson & Johnson JNJ, the world’s largest and most diverse healthcare firm with a market cap of $413 billion as of July 19, 2023, also thrives in this area. Conover notes that Johnson & Johnson’s wide moat is “supported by intellectual property in the drug group … and strong brand power from the consumer group. Despite carrying some lower-margin divisions, J&J maintains strong pricing power and has posted gross margins above 70% during the past four years, validating its strong competitive position.”
Nine of the 19 companies with a moat driven by intangible assets have an additional moat source, either a cost advantage or a high switching cost.
Switching Costs Aid Medical Device and Diagnostic Industries
Of the six qualifying companies in either the diagnostic and research or medical devices industries, all have an advantage from intangible assets, and five benefit further from switching costs. (Medtronic MDT is the lone company among them that doesn’t have a switching cost advantage.)
With a market cap of $207 billion as of July 19, 2023, Thermo Fisher Scientific TMO is the largest of the diagnostics and research companies on the list. Thermo Fisher sells scientific instruments and laboratory equipment, diagnostics consumables, and life science reagents.
Like key competitors Agilent A and Waters WAT, Thermo Fisher’s analytical instrument business benefits from intangible assets and switching costs, says Morningstar Holland’s director of equity research Alex Morozov. “The intangible asset is the firm’s differentiated technology and its leadership positions within tools such as mass spectrometry, chromatography, microscopy, and others. … The business is also rather sticky, particularly within the biopharma end market, where the regulatory process assures high switching costs. Production methods have to stay uniform throughout the lifecycle of a drug, which often extends beyond the lifecycle of a typical mass spectrometer.”
Medical devices, for their part, have high switching costs because surgeons develop expertise in using a differentiated set of tools and device systems have component parts that are designed to work together.
“The highest switching costs in medical devices is in orthopedics, where all the device makers have their own differentiated implants and the tools to install the implants,” says Morningstar senior analyst Debbie Wang.
“It takes years for the orthopedic surgeons to become practiced enough on one vendor’s tools and implants to deliver optimal patient outcomes, and after they have mastered them, they are reluctant to switch to another vendor where they’d have to relearn some of it,” Wang explains. “For this reason, the switching costs are the highest for companies like Zimmer Biomet ZBH and Stryker SYK.”
The Top Biotechnology Company
Novo Nordisk NVO, for its part, is the lone representative for the biotechnology industry.
Novo Nordisk is the leading provider of diabetes-care products in the world, holding 50% of world market share. The company has two moat sources: intangible assets and cost advantage. As for the latter, Morningstar sector strategist Karen Andersen notes: “Efficient manufacturing techniques and economies of scale allow Novo’s insulin business to provide strong global profitability.”
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.