ResMed Inc. (RSMDF)

ResMed Inc. makes machines that help people breathe at night when they cannot breathe on their own. The core business has always been treating sleep apnea — a condition where breathing stops and starts during sleep, depriving the brain and body of oxygen — with continuous positive airway pressure (CPAP) devices that deliver pressurized air through a mask into the airway, keeping it open. A CPAP machine is not complicated: it pressurizes and filters air and delivers it through a tube to a mask the patient wears during sleep. But decades of refinement have made them quieter, more effective, more comfortable, and more integrated with software that tracks the patient’s breathing and uploads data to the cloud.

ResMed’s business is much larger than just CPAP. The company also makes devices for COPD (chronic obstructive pulmonary disease), other chronic respiratory conditions, and an array of software platforms that hospitals, home-care providers, and health systems use to manage patients across the continuum of care. The software side, which includes cloud connectivity and remote patient monitoring, is the edge where the company is advancing fastest and where the most profound shift in the business is occurring.

ResMed was founded in 1989 by two Australian engineers who saw an opportunity to redesign the CPAP machine into something more user-friendly. Sleep apnea was treatable but underdiagnosed and undertreated — many people who had it did not know, and those who did often abandoned therapy because the machines were uncomfortable, the masks leaked, and the experience was unpleasant. ResMed’s early innovation was to make CPAP more acceptable: quieter fans, better masks, more intuitive interfaces. That focus on user experience, on making a medical device that people would actually use rather than abandon, became the company’s DNA.

For decades, ResMed operated in a slowly expanding market. Sleep apnea was a relatively rare diagnosis, and most treatments were done in hospitals or specialized sleep clinics. Gradually, the disease became better recognized, screening improved, and home-based sleep testing (where patients do a sleep study in their own bed rather than in a hospital) became more common. This expanded the addressable market considerably. ResMed’s devices moved from niche to mainstream, and the company grew accordingly.

The inflection point came in the mid-2010s when ResMed pivoted toward software and cloud connectivity. The company acquired various health-IT and home-care-management platforms and began integrating them together. The vision was ambitious: not just to make better hardware, but to build an ecosystem of software, cloud services, and data analytics that would allow hospitals, home-care agencies, and payers to manage patients with chronic respiratory conditions across the entire journey — from diagnosis, through device initiation, through ongoing therapy, and into follow-up care. This is sometimes called “digital health” or “remote patient monitoring” — using software and connected devices to gather real-world data about how a patient is doing and to intervene before problems become acute.

This shift in strategy — from hardware vendor to platform provider — is the defining change in ResMed’s business today. Hardware is still important; it still generates the plurality of revenue. But the margin profile and growth trajectory of software is superior to hardware. Software scales with minimal marginal cost, it is stickier (once a hospital or health system has adopted your software and trained staff on it, switching is expensive), and it commands higher valuations in the market. ResMed’s moves in recent years have been driven by the desire to shift the revenue and profit mix toward software and services.

The challenge is execution. Hospitals and health systems are slow to adopt new systems, and they are often forced to cobble together software from multiple vendors rather than adopting a single, unified platform. ResMed has had to integrate and rationalize acquisitions, migrate customers from legacy systems to newer platforms, and compete with specialized point-solution vendors and with IT giants like Epic and Cerner that also want to own the interface between hospitals and patients. Some of these migrations have gone smoothly; others have been troubled, sometimes losing customers in the process.

The market for ResMed’s core CPAP business, meanwhile, is reaching maturity in developed countries. Most people with sleep apnea in the United States and Western Europe are now diagnosed; growth comes from incremental penetration in emerging markets and from increasing population. But hardware sales are not volatile anymore — they are steady and predictable. Competitive pressure from Chinese manufacturers selling lower-cost CPAP devices has also compressed margins on hardware, pushing ResMed’s strategy further toward the higher-margin software and services side.

Reimbursement is another pressure on the core CPAP business. Insurance companies and government programs like Medicare determine what they will pay for CPAP machines and supplies. When reimbursement rates fall, device manufacturers have to decide whether to shrink margins or lose volume. ResMed has historically taken the latter approach — raising prices to maintain margin — but that is only viable so long as patients and insurers accept the price. In recent years, competitive and reimbursement pressures have meant that hardware margins have been under stress, accelerating the company’s desire to build out the software side.

From a regulatory perspective, ResMed operates in a heavily scrutinized domain. CPAP machines are medical devices that require FDA approval. Changes to the device, even small ones, may require new submissions. The software side is less directly regulated (the FDA is still figuring out how to oversee software in healthcare), but hospitals and health systems that adopt ResMed’s platforms are themselves regulated and liable for the accuracy and safety of the data they collect and the decisions they make using that data. ResMed has to navigate this carefully and honestly.

The pandemic accelerated one trend that favors ResMed: demand for remote patient monitoring and home-based care skyrocketed. Hospitals were overwhelmed, and health systems accelerated their investment in technology to monitor and manage patients outside hospital walls. ResMed’s remote monitoring and care-coordination platforms benefited from this shift, and growth accelerated. As health systems have absorbed the pandemic shock and normalized operations, that growth rate has moderated.

Looking forward, ResMed’s destiny depends on three things: whether it can execute the integration of its software platforms and build a truly unified ecosystem that hospitals want to use; whether it can grow revenue and margin in software faster than it loses margin in hardware; and whether the overall market — for respiratory care, for chronic disease management, for remote monitoring — grows fast enough to offset the maturity of the CPAP device business. The company has substantial resources, a long history of innovation in its core domain, and genuine relationships with hospitals and patients. But it is also competing with larger, better-capitalized technology companies and with thousands of smaller point solutions. The outcome is not preordained.

Anyone researching ResMed should begin with the 10-K (SEC CIK 0000943819), which breaks revenue and profitability by operating segment. Track the mix of hardware versus software and services revenue — a shift toward software is a sign the company is successfully executing its strategy. Look at the profitability of each segment; software should be expanding margin while hardware might contract or stay flat. Pay attention to customer-acquisition and customer-retention metrics for the software platforms — a company’s ability to hold onto customers once they have adopted its software is a core indicator of the durability of the business. Finally, watch for acquisitions or partnerships in healthcare IT and remote monitoring; these signal where the company thinks the market is moving and where management wants to place bets.