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Health care investors often focus on drug products, but medical devices present unique investing opportunities, too. 7investing Lead Advisors Simon Erickson, Dana Abramovitz, and Maxx Chatsko provide a high-level overview of the regulatory environment for medical devices.
October 14, 2021 – By Samantha Bailey
Given the rise of exciting new therapeutic modalities ranging from mRNA to gene editing, investors would be forgiven for overlooking opportunities in medical devices. They might be worth a closer look though.
In this episode of the 7investing podcast, the team’s health-care trio provide a high-level overview of the regulatory environment for medical devices, describe why and how genetic tests are regulated as medical devices, and provide three examples of companies in the space and how they fit within the regulatory landscape.
Medical devices are regulated by the U.S. Food and Drug Administration (FDA) within three categories:
Class I devices are the simplest and least likely to pose safety risks. Examples include bedpans or medical gauze. These require regulatory clearance.
Class II devices are more complicated and require more data within their regulatory submissions to ensure the safety and effectiveness of the device. Examples include X-ray machines or knee braces. These require regulatory clearance.
Class III devices are the most complicated and pose the greatest potential risk to patients, such as life-supporting, life-sustaining, or implantable devices. Examples include liquid biopsies, pacemakers, or implantable contact lenses. These require regulatory approval.
Although Class I and Class II medical devices can be submitted through the 510(k) process and only need to show equivalence to a predicate (“existing”) device, Class III medical devices must be submitted through the more rigorous premarket approval (PMA) process that often requires a clinical trial. Unlike a drug candidate that requires at least three separate clinical trials (phase 1, phase 2, and phase 3), a Class III medical device often only requires a single clinical trial.
It seems odd, but genetic tests and liquid biopsies are also regulated as medical devices. These product candidates are categorized into one of the classes above, which typically impacts how and where they can be used. The three designations of genetic tests include:
Research use only (RUO) products cannot be used as diagnostics and don’t require a regulatory submission. RUOs can form the basis of a more advanced diagnostic product from the originator or its customers. These serve an important role, but generally have the smallest market opportunity.
Laboratory developed tests (LDT) must be designed, manufactured, and processed by a single CLIA-certified laboratory. These tend to be Class II medical devices and require a 510(k) filing. LDTs are often used with centralized business models, where patient samples are shipped to a centralized facility. Examples include genetic screening tests. These have the largest volume potential, but low to moderate pricing and insurance coverage. These have moderate to large market opportunities.
In vitro diagnostics (IVD) are more robust tests and can be shipped to the point of care, which means placed in the hands of doctors, oncologists, and medical facilities. Because these are not self-contained within CLIA-certified labs, they’re often classified as Class III medical devices and require a PMA filing and clinical trial. IVDs are often used with distributed business models, where patient samples are processed at the point of care. Examples include liquid biopsies. These have both large volume and high price potential, which results in the largest market opportunities by monetary value.
Finally, the podcast concludes with three different examples of medical device companies:
7investing Lead Advisor Dana Abramovitz discusses Inviate (NYSE: NVTA).
7investing Lead Advisor Maxx Chatsko discusses Nano-X Imaging (NASDAQ: NNOX).
7investing Lead Advisor Simon Erickson discusses STAAR Surgical (NASDAQ: STAA).
Publicly-traded companies mentioned in this podcast include Invitae, Nano-X Imaging, and STAAR Surgical. 7investing Lead Advisor Simon Erickson owns shares of Invitae and STAAR Surgical. 7investing Lead Advisors Dana Abramovitz and Maxx Chatsko own shares of Invitae. This interview was originally recorded on October 13th, 2021 and was first published on October 14th, 2021.
00:00 – Introduction
01:32 – How are medical devices regulated?
06:11 – Why is genetic testing classified and regulated as a medical device?
12:47 – Dana discusses Inviate
16:20 – Maxx discusses Nano-X Imaging
21-39 – Simon discusses STAAR Surgical
Simon Erickson 0:00
Hello everyone and welcome to today’s edition of our 7investing podcast. I’m 7investing lead advisor joined by my colleagues, my fellow lead advisors, Maxx Chatsko and Dana Abramovitz. Maxx, how are things in the great northeast for you here today?
Maxx Chatsko 0:14
Pretty good, but we have like two or three more days of like summer weather and then it just immediately drops off a cliff and it’s going to be in like the 40s at night, which I kind of like but it’s gonna get colder and that’s depressing because we’re not gonna see great weather again till like April.
Simon Erickson 0:29
Prepare for the snow up there, my friend, it’s coming for your data. We don’t have to have that problem in Houston. But I hope things find you here find it pretty well here as well.
Dana Abramovitz 0:37
Yeah, no, it’s actually nice, you know, like, it’s now like a comfortable 85-90 degrees. So you know, fall is here in Texas, it’s great.
Simon Erickson 0:48
Fantastic. Well, we’re pretty excited about today’s podcast, because we’re going to be talking about a topic that doesn’t necessarily get a whole lot of airtime, which is medical devices. We talk a lot about health care, we talk about drug development, we don’t spend as much time focusing on medical devices. And we do want to give an overview of those today.
Maxx, let me start with you on this because one of the key parts of a medical device is that it has protections. It has regulatory approval processes that provided with protections over time that aren’t so easy for competitors to replicate. But again, we’re talking about medical devices here. We’re not talking about drugs and pharmaceuticals, how are medical devices actually regulated? And then how do we follow that as an investor?
Maxx Chatsko 1:32
Yeah, it’s interesting. So this, the idea for this podcast kind of came from an internal discussion, and there’s a lot of nerdy details to consider too. And this does impact investors. So at a high level, there’s a number of differences between medical devices and drug candidates and how they’re developed and how they’re regulated. So for medical devices, they’re typically organized in three classes, there’s class one, class two, and class three medical devices.
A class one medical device is things like, you know, a tweezer, or like a bedpan, or like gauze things that, you know, we have a pretty good assurance, no one’s gonna get harmed in the making of, you know, this medical procedure, right. So those can be cleared by the FDA through a relatively simple application process. That’s called the 510k process. So it’s important to point out to the FDA clears though, that’s not technically the same as FDA approval.
A class two medical devices a little bit more, you know, involved than a class one. And usually, company will have to show that their new class two medical device is very similar to a previous device already on the market, we call that a predicate device. And this can also use the 510k application process, meaning class to medical devices are also cleared, not FDA approved.
And then a class three medical devices very serious this is have the highest risks involved. So something like a ventilator or something that’s going to be installed in a patient would be a class three medical device, oftentimes, there’s a risk of death or it supports the life of a patient. So the FDA wants a lot more data, a lot more scrutiny of how these are developed and used in patients. So these often require a clinical trial, kind of similar to how you know drug candidates go through clinical trials.
However, it’s important to point out that oftentimes, a class three medical device might only require one clinical trial. Single study, it doesn’t have to go through phase one and phase two and phase three. So it does require a lengthier development process. But it’s not like the 10 year development time that we see with drug candidates. Now unlike class one and class two medical devices, class three medical device has to go through a different regulatory framework and that’s called pre market approval or PMA, it’s a lot more rigorous than the 510k pathway. Again, it includes clinical trial oftentimes. And so this does require FDA approval, not FDA clearance. So there you have it. Class one, class two and class three and it gets a little more serious as you go down the line there.
Simon Erickson 4:17
Got it Maxx. Okay, three different classes definitely good to keep an eye on as an investor Dana, I know that you’ve worked in the healthcare industry for a couple of decades now. Any anything you’d like to add about how medical devices are regulated or classified?
Dana Abramovitz 4:29
I just want to remind everybody and you know, when we’re looking at companies and you know the things that they do, you know, you’re just like, Oh, darn that FDA. But you know, really they’re in place to make sure that you know, all of our drugs and medical devices are safe for everyone and effective. And so part of that 510k process that Maxx mentioned, yes, the the device is cleared button. In order to pass that that 510 k process, the company needs to show that that device is safe and effective as that existing device that’s already on the market.
So, you know, being a cleared device, it makes the process a little bit easier, a little bit less expensive to get to market, which is great for the company and for investors. But it’s not like the FDA is just like, “Oh, sure, go ahead.” The company still needs to show that the device is safe and effective,
Simon Erickson 5:39
Certainly makes sense for any medical implant that’s in your body, you want to make sure that it’s safe and effective. I am glad the FDA is so serious about how they regulate all of this. Maxx. One thing that’s interesting, though, is that we’ve actually seen a rise in genetic testing in the last couple of yours. So we’ve seen Illumina (NASDAQ: ILMN) bring Grail back in house, it’s Galleri a genetic test is actually regulated differently than a lot of the other things that are going on in genomics and the drugs being developed are, why is it that genetic tests are actually classified and regulated as medical devices?
Maxx Chatsko 6:11
Yeah, this is interesting, this is something that investors might overlook. But genetic tests are technically regulated medical devices. So I’m not sure that was the intention when they set up these regulations, I’m not sure regulators saw how prolific and how much, these tools will take off, right, and they’ve kind of been caught flat footed. More recently, they’re kind of always debating like, well, should we maybe increase our scrutiny of these tests make it a little more difficult to bring these to market, because increasingly, you know, genetic tests are informing health decisions. For now, we don’t have any real clarification of that.
But yeah, there’s three different designations for genetic tests. The first is research use only, RUO, and these cannot be used as a diagnostic. As far as I can tell, they don’t require any regulatory application process. Because it’s not technically a medical device. These are typically just used in house by a company, it’s usually the first step to bringing the next two categories, either to the market or you know, some part of their laboratory.
The second designation would be laboratory developed tests and LVT. So this does require that 510k application, so again, it requires clearance but not necessarily approval. And these times, these types of tests are typically used for a centralized model. So the same, you know, we call it a CLIA lab. And Dana knows a lot more about that than I do, she can maybe expand on that. But for laboratory developed tests has to be developed and manufactured and processed all within the same single laboratory. So that’s one way to kind of, you know, help regulate these types of tests and tools.
And then the third category is called an in vitro diagnostic an IVD. This requires either a 510 K, or oftentimes premarket approval, PMA. So again, this is kind of like the equivalent of a class three medical device, right. And this works best for a distributed model. So rather than being bottled up and having to be self contained within the same CLIA lab, an IVD, can actually be distributed. So you can send this out to, you know, doctors or oncologist or medical centers, and they can be used at the point of care, maybe even processed, I like a Regional Hospital or Cancer Center. So for example, a lot of liquid biopsies are actually regulated as, you know, an in vitro diagnostic, whereas maybe like a general germline screening genetic test, might not be it might only be a laboratory developed test.
Simon Erickson 8:51
Go ahead Dana, Maxx of you’re pretty familiar with CLIA labs, I know, you know, a thing or two about those. Anything to add here?
Dana Abramovitz 8:58
Let’s say, you know, it’s interesting. So CLIA stands for clinical laboratory Improvement Act, and I think that that came about in 1988. Not, you know, if you necessarily need the history, but if you think about the whole point of the FDA and CMS, which actually regulates CLIA labs is making sure that everything is safe and effective. And, within a CLIA lab, your lab has to go through all the same level of scrutiny that a diagnostic or a drug would go through, right. So it’s the same level of care. It’s just that it’s focused on the lab.
So making sure the lab has a certain standard operating procedures that everybody is certified. They are reviewed, I think every six months or so, or maybe it’s yearly, but yeah so there is a lot of regulation that goes into make sure that all of the processes that take place within that CLIA lab, are standard and are consistent. So again, to focus on this, the safety and efficacy, so if you have a laboratory developed test, if you’re doing a diagnostic, and you’re running a test in this CLIA lab, you want to make sure that the results are going to be consistent, because the results that you would give to a physician who would then give to a patient need to be consistent and accurate, and, you know, safe.
But if you’re doing a distributed test, right, so an in vitro diagnostic, and you’re selling that diagnostic to a doctor’s office, or to a hospital, and they have to do that themselves, then the FDA would want to make sure that that standalone thing can be carried out in a lab that may not be necessarily CLIA certified. And so again, if you think about, you know, that same level of safety and efficacy, you know, but that being the goal, you know, it’s just two different means to to a similar ends.
Maxx Chatsko 11:16
That’s a great way to put it. So that’s like, ensuring that the results are reproducible, and it’s a form of quality control, it just depends on where that box gets drawn right around what around the lab around the actual diagnostic, that’s a great way to describe it.
Dana Abramovitz 11:31
Thanks. And it is interesting too, from a company, they may have different views because one way, maybe easier or harder, more challenging, if you went through the PMA process versus the CLIA certification, you know, if you already have a lab setup that’s already CLIA certified, it may might be easier to do a laboratory developed test versus, you know, creating something that you’re going to be distributed. So it really then becomes the business decision of the company, how much time and money that they want to put into it. So again, something else that we can look for, as investors.
Simon Erickson 12:10
Something else I wanted to take a look at as investors was a couple examples of what we’re talking about, what are some publicly traded companies that are regulated as medical devices. Dana let me start with you on this, because we were just talking about genetic tests. One company that does that is Invitae (NYSE: NVTA), ticker on that $NVTA, of course, regulated as a medical device does have CLIA certification, I assume that it’s very important for this company to have that precision to minimize false positives and false negatives for some pretty serious things that it’s looking for, what can you tell us about Invitae? What does this company do? And why is it important for them to have these regular regulatory clearances?
Dana Abramovitz 12:47
Yeah, so Invitae does a lot of the genetic testing. And they do it through genome sequencing, so they’re looking for various mutations in a person’s DNA that may lead to a mutation, I’m sorry, to a disease. So it’s a diagnostic, and you’re helping people understand, you know, what may be wrong with them. With certain diseases, you know, having to look at your genome helps identify what might be wrong with you in, and then a journey that may be uncertain.
So, yeah they have everything in all of their CLIA labs just to kind of do all that sequencing, and then also the interpretation. And what does a particular variation in someone’s genome actually mean, especially, you know, now that we have all sorts of information about all the different genes and their affiliation with a certain disease, you know, being able to kind of figure out what that is.
Simon Erickson 14:04
Maxx anything you wanted to add to this? You pointed out that they were originally designated as research use only, and laboratory developed tests, specifically for the liquid biopsies that they’re working with, but they’re actually looking for becoming in vitro diagnostics. Anything to add to what Dana just said about Invitae?
Maxx Chatsko 14:19
No, I mean, I think she nailed it. So just with that, they made the acquisition last summer 2020, of Archer dx, and that enabled them to develop and actually acquired a few different liquid biopsy tools. So they can use those for maybe companion diagnostics or treatment selection, minimal residual disease, various other applications that liquid biopsies might be used for. Those have still not been approved by the FDA. But by bringing those in house for Invitae, which already owns CLIA labs, they can actually generate some data and use them as laboratory developed tests initially, that might actually speed up some of the approval processes. So we’ll have a more complete and robust data package to eventually send to the FDA.
But eventually, like the largest market would be as an in vitro diagnostic, sending that outside of that centralized facility, closer to the point of care, maybe in those community settings as well, where I think 80% of cancer patients are actually treated. So you know, and Dana mentioned, you know, kind of a business decision for, you know, which route do you pursue, and you also have to keep in mind that you need to collect the samples too, you know, so if you’re shipping everything to one facility that creates some unique challenges as well. So sometimes it might be better to, to do the in vitro diagnostic, but again, that’s a hurdle a regulatory hurdle, said more money more time. So all things to kind of consider there.
Simon Erickson 15:46
Great point Maxx let’s shift gears a little bit, you know, we’re looking for very small fragments of DNA floating around in the bloodstream. When we’re talking about liquid biopsies. Let’s look at a much larger scale than that, though. Another company is called Nano-X (NASDAQ: NNOX), $NNOX, which is involved with imaging. We know that x rays are a big deal out there, and you’re always wanting to get better information for doctors. So what does Nano-X do and why are they classified as medical devices?
Maxx Chatsko 16:11
So I never pronounce things correctly as Dana knows, but I always thought it was Nano-X imaging because I think there’s..
Simon Erickson 16:18
They’ve always said that and now I’m correcting myself.
Maxx Chatsko 16:20
So there you go. Alright, so what to say we’ll say I’m wrong, but Nano-X Imaging. Yeah, so they’re making some, they’re reimagining what an X ray machine might look like, right? These are big, bulky machines, they’re very expensive to purchase. hospitals and medical centers actually pay them off pretty quickly. But then they still charge patients exorbitant prices for medical imaging, and Nano-X says, No, no, no, we need to do better.
So they’ve kind of scaled down a lot of the tools and the sources of the X rays. And they’ve added some unique software and AI capabilities to actually interpret the images better, hopefully, that’s the idea anyway, so they can scale down a lot of the the components of the machine, and maybe you know, have these be implemented in more of a community setting you don’t need to go to hospital, or you can also be cheaper for patients and centers as well.
So Nano-X has as a couple of different devices in the works that it needs to get FDA clearance for. It has self identify yourself classified all of its devices as class two medical devices. The first was the single source Nano-X ARK device, it’s called they were had some back and forth with the FDA in terms of the FDA wanted more data, meaning the FDA wasn’t sure that Nano-X actually proved its new device was similar enough to the predicate device, meaning like a standard X ray machine, and it was for a specific application, we won’t get too far into the weeds.
Eventually, after some back and forth, the FDA did approve, I’m sorry, provide clearance very important not to get tripped up there. So they cleared that F10. I’m sorry, 510 k application. That’s actually not the device that the company wants to make its, you know, flagship device for commercial operations, I think it’s actually going to out license the single source machine. It is a multi source machine. That’s the bread and butter here. That’s what it wants to get rolling with. It just submitted the 510 k application to the FDA. And again, the FDA came back and said, No, no, we need more data, what are you guys doing a little more harsher in the tone as well.
So you know, Nano-X has to go back, collect more data, resubmit the data, to maybe appease regulators. One thing that’s important to point out as well as, you know, sometimes, if the FDA is not happy, or it just feels like you’re wasting its time, or you haven’t proven that your device is similar to a predicate device, it could actually bump you up from a class two to a class three. So that would be like a worst case scenario, because it would greatly extend the development timeline. Nano-X would have to run a clinical trial that could take years a lot of money would definitely, you know, throw a wrench into manufacturing and scale up plans as well.
So investors want to be careful to that the FDA doesn’t bump that up to a class three regulator medical device. And Nano-X also needs to get approval from the FDA or clearance for the software it uses within its devices. So it has a regulatory application, it needs to file it hasn’t filed yet, for the Nano-X.cloud. So that’d be a software platform. And that’s really the bread and butter for its business model as well. The company builds itself as a medical screening as a service and MSaaS company, kind of a new term there.
But it wants to generate subscription revenue, basically on like a per scan basis for its machines and the software is really at the core of that and it has yet to file that with regulators so far, but that’s something else that also needs to get cleared so investors can watch for those things.
Simon Erickson 19:54
Okay, Dana, that sounds pretty risky to me, but a lot of the things that Maxx just said sound like they might be red flags right not only is the FDA requesting a comment for its multi source Nano-X ARK system, like Maxx described, but also that whole medical screening as a service, you’re not making the money upfront from the equipment. You’re making money as this gain’s adoption, anything you want to add about Nanok / nano x, depending on what part of the country you’re from?
Dana Abramovitz 19:55
Yeah, definitely red flags. And just as Maxx was talking, I was thinking, you know, like you do, we often talk about when we’re describing a company and the risks that they have, you know, just you know, regulations being a thing and so anytime you’re up against the FDA, remembering the FDA is there to make sure that you know, we are kept safe and the drug and the device is effective. You’re at their will.
And if they think that you need more information, you need to provide that information. And so that just it just really is a level of risk, just because it’s not necessarily something that the company can control. They can certainly account for it. And do all the, you know, clinical trials and you know, the data and make sure that their application is submitted correctly. But to me, it just, you know, does provide an extra level of risk when you’re investing in any of the companies that you know, are creating devices or drugs that are regulated by the FDA.
Simon Erickson 21:39
Great point Dana. I just want to throw one more publicly traded option for investors who might be interested in this space, we’re going to throw one more in which is STAAR Surgical (NASDAQ: STAA) ticker on that is $STAA. What star is producing is implantable collamer lenses. So you can think of these as contacts that are permanently implanted into your eye right on top of your existing lens that you have. So it’s an alternative to LASIK. LASIK is, you know, using lasers to adjust the retina, this is an implantable lens that goes into your eye permanently correcting your vision.
This is an interesting one it’s a class three regulated device. You know, as Maxx mentioned earlier, very serious it’s an implant into the body into the eye itself. And it does have that pre market approval that’s required. Dana, this is an interesting one, because it’s really caught on in a lot of other countries outside of the United States first, before getting to adoption here in America. That’s kind of an interesting one, right?
We’re always so used to seeing the drug developers or the medical device companies going to the US for the money is early started taking the opposite approach gone after China gone after Japan, going after Eastern Europe as it’s kind of gotten the FDA on board with its manufacturing processes in California, first and foremost.
But it is an interesting one, you know, polymer is a proprietary material it’s made out of a copolymer, it has collagen actually as one of the materials included as well. It’s just kind of one of those that you don’t hear about as much here in the States. Everyone thinks of LASIK or you think of contacts or you think of reading glasses is one that’s caught on internationally is now catching up with one of the world’s largest markets. Maxx or Dana any thoughts or anything to add about Staar surgical?
Maxx Chatsko 23:16
I will say that, you know, although a class three medical device requires that pre market approval, and that might be a turnoff to investors, because it’s more difficult to obtain, it is also a barrier to entry. So we’re not going to be dishing out these ICLs what does that stand for? Can you say it again, Simon?
Simon Erickson 23:33
Implantable collamer lens.
Maxx Chatsko 23:35
Yeah, I was too busy. squirming in my seat here thinking about injecting something to my eyeball. But, uh, yeah, so we’re not gonna be dishing those out, like candy, there’s not gonna be maybe many, much competition rather, for Staar Surgical. And same thing with liquid biopsies. I mean, at the end of the day, there’s a lot of companies that are pursuing those, but there might only be like, really a dozen or so companies that have approved liquid biopsies in a few years. Compare that to how many different drug developers are, I mean, there’s hundreds. So having that higher level of scrutiny and regulatory regulations in place, can provide a barrier to entry. And that’s actually a boon for any companies that can clear that hurdle.
Dana Abramovitz 24:17
I just wanted to add there’s that business strategy of going through like the European Union, so getting a CE mark first versus the FDA just to kind of test the waters a little bit and sometimes the, the difference organ the different countries, their regulatory bodies may have different levels of needs and qualifications. And so, again, business strategy get your CE mark first collect that data in Europe and then submit to the FDA or vice versa.
And so it’s interesting, just because with this particular example the consumers are much more interested in and different parts of the world. And so helping to collect that data for other FDA approval before it takes on here in the US. So it’s just kind of an interesting strategy.
Simon Erickson 25:33
Absolutely, Dana, great point about different regions having different regulatory bodies making this even more complex, but of course, barriers to entry for competitors that might want to compete against those companies.
Great so thanks very much, Maxx Chatsko. Thanks very much, Dana Abramovitz for joining me as we talked about medical devices. On today’s podcast again, if you wanted to jot down those three companies we mentioned at the end that was Invitae with the ticker $NVTA, Nano-X Imaging or $NNOX. And then last but not least, was Staar Surgical $STAA. Thanks very much for everyone for tuning in. We appreciate your time. We are here to empower you to invest in your future. We are 7investing.
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