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Volume 20, Issue 9
Pharmaceuticals used to be such a simple business when everyone knew their place.
Pharmaceuticals used to be such a simple business when everyone knew their place. The giants dominated and the smaller players either developed markets the giants weren't interested in or concentrated on supplying new science for those they were.
Now, the picture could hardly be more different. A report published this summer entitled The Rise of Mid-Sized Pharma1 shows that during 2000–2006, companies with annual revenues of more than $10 billion (Big Pharma) have been losing out to companies with revenues of $1 billion–$10 billion (Middle Pharma) on virtually every financial yardstick.
In terms of performance, Big Pharma revenues and net income grew by 9 and 11% during this period, while the mid-tier grew by 12 and 25%, respectively. In terms of valuation, the collective market cap of the big companies fell by 2%, while that of the mid-tier climbed to 12%. As far as investor confidence is concerned, the price–earnings ratios of the big players fell by 9.5% while the mid-tier saw a rise of 6.2%.
The reasons for this turnaround are well documented, and revolve around the unsustainability of the Big Pharma model at a time when healthcare budgets are tight, patents are expiring before pipelines can be replenished, the industry's reputation has plummeted —particularly in the heartland US market — and regulators are becoming more cautious. Moreover, Big Pharma companies can no longer merge themselves out of trouble and are being forced to downsize, apply a much keener focus to what they do, and usher in new and younger CEOs to apply new thinking to what is a very new situation.
How companies shape up is being closely watched. Some are buying back their shares in the largely forlorn hope of propping up falling share prices. The EvaluatePharma Yearbook 2008 shows, for example, that the UK giant GlaxoSmithKline had net debts of $12.2 billion in 2007.2 Those of Germany's Bayer were even higher at $16.5 billion, while Abbott Laboratories was $9.4 billion in the red and AstraZeneca $9.1 billion. This is a major change in strategy for companies that, in the past, have tended to hoard their cash.
Another turnaround stems from the strong euro. The EvaluatePharma database shows that European companies are buying into the US market at an unprecedented rate. Of the 66 company acquisitions that took place worldwide in the first 7 months of 2008, 22 came from EU companies snapping up their US counterparts.
Radically new market conditions are forcing companies to think differently. The June announcement made by Daiichi Sankyo (Japan) that it would acquire a majority shareholding in Indian generics company Ranbaxy for $3.4 billion provides a good example of this new landscape. The deal, expected to close in March 2009, brings together two mid-tier companies with complementary strengths to create a significant presence in the relatively underdeveloped Asian markets. Whether it will prove a good investment remains to be seen.
It is clear that new business models are urgently being sought by the major players. The winners in all this will be those who are realistic, and the signs aren't good. While researching the new pricing rules in the UK, I spoke to the UK subsidiaries of several major pharma companies on the new Pharmaceutical Pricing Regulation Scheme (PPRS), the salient points of which are that it still allows companies to set prices at the time of a drug's launch and to modulate all their prices to maximize what they can earn from the UK's National Health Service. The PPRS is an important contract because UK prices have a significant bearing on what can be charged throughout Europe.
Last year, the UK Office of Fair Trading produced a report that said the government wasn't getting a fair deal from the pharma industry and, as a result, the whole deal was to be renegotiated earlier than planned, with the real possibility that its founding principles — to freely set prices at the time of launch — would be reformed. This didn't happen. Instead, an across-the-board price cut of 5% was introduced. However, when you can modulate prices within an overall profit-capped framework, this is of little significance.
I was surprised, therefore, to learn some major companies, rather than being grateful for this piece of good fortune, chose to bemoan the fact the PPRS was being renegotiated at all. It will be interesting to see how long it takes for realism to take hold.
1. The Rise of Mid-Sized Pharma (BioPharm Knowledge, UK).
2. EvaluatePharma Yearbook 2008 (BioPharm Knowledge, UK).