Healthcare has long been considered an industry ripe for consolidation as drug companies struggle to cope with dwindling research pipelines and health management groups seek scale as a foil against rising costs.

On Monday, Medicis Pharmaceutical, which specialises in skin--care treatments, lent credence to that view by announcing a $2.8bn acquisition of Inamed, a maker of breast implants. Market chatter suggests further deals could soon emerge. “We are expecting a big pickup in M&A here,” says Larry Feinberg, president of Oracle Partners, a hedge fund that invests in healthcare stocks.

Warren West, president of Greentree, a brokerage that monitors unusual share price movements, says he has noticed increased volumes of healthcare equities and their derivatives.

“We’ve seen a widening of premiums, which usually happens when there is a debate going on as to what’s going on in the underlying share price.” While Mr West says it is too soon to draw conclusions, he points to a similar increase in traffic in telecoms stocks before their recent wave of deals.

A surge in healthcare M&A could be a boon to those frustrated by the recent dithering in the stock market.

Market watchers say drugs groups, awash with cash but faced with dwindling research pipelines, have been looking for ways to improve sales growth. And biotech stocks have taken a pounding this year, leaving shares looking inexpensive.

“There are biotech companies like Medimmune and Chiron that are trading at pretty decent valuations compared to what they have been in the past,” says Geoffrey Poger, analyst at Sanford Bernstein. “For $10bn, you could buy a company with $1bn in annual sales.”

Another intriguing target is Biogen-Idec. Its shares fell more than 40 per cent late last month when it withdrew Tysabri, a blockbuster multiple sclerosis drug, after a patient taking it developed a rare disease.

“Biogen shares are trading at the same valuation they did before the company filed for approval on Tysabri,” says Mr Feinberg. “People are assuming they’re going to get nothing for it . . . but we think it’s going to be re-introduced.”

Elsewhere, Johnson & Johnson’s $35bn takeover of Guidant, which makes cardiac stents, has put pressure on rival medical equipment suppliers. Cost pressures are also expected to lead to consolidation among healthcare providers looking for better pricing power. The growing price tag of the current administration’s prescription drug entitlement for the elderly could lead the government to drive a harder bargain with providers on covering healthcare costs once it comes into effect at the beginning of 2006.

“Cost containment pressures in the US healthcare system are starting to accelerate,” says Mr Feinberg. “The cost of the Medicare prescription drug benefit is turning out to be higher than anyone anticipated.”

That, he says, could lead successful regional healthcare providers, such as Las Vegas-based Sierra Health Services, into the arms of bigger groups with a national presence, such as United Healthcare, Wellpoint or Aetna.

Mr West warns that investors should tread carefully. “Things are moving maybe 5 per cent more than normal,” he says, but not to the point that suggests additional mergers are imminent. Of course, by the time M&A rumblings turn into a roar, it is usually too late to get in ahead of the game.

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