Is the Winner Pfizer, Merck or Roche?

There have been 3 mega-mergers in the Pharmaceutical Industry this year (Pfizer (PFE) - Wyeth (WYE); Merck (MRK) - ScheringPlough (SGP); and Roche (RHHBY.PK) - Genentech (DNA)). While these transactions have increased interest in the pharmaceutical sector, we want to speculate on which one makes the most sense. As we don't want to keep you in suspense, we think that Roche is getting the most “bang for the buck”, BUT it is highly dependent on the non-integration of Genentech.

Let's start with the contenders - first Pfizer-Wyeth. No surprise here, we think PFE vastly overpaid to get a potpourri of businesses with a dog's breakfast of vaccines, biotechs, consumers and some underwhelming pipeline potential. It seems to us that the major drive here is “synergy”, that is reducing workforce size by nearly 20,000 while plugging some of the $11-13 billion hole that Lipitor going off patent in 2011 creates. The stock market has not exactly been “irrationally exuberant” about Pfizer's 10 year $258 billion spending spree for Warner Lambert, Pharmacia and now Wyeth and has inversely rewarded share holders with a nearly 70% reduction in market capitalization from the day of the Warner Lambert deal close (Pfizer's market cap about $300 billion) to this week's $95 billion. Need we say more?

Merck strikes us as a version of more of the same. Paying a 30%+ premium (about $41 billion) to combine 2 feeble pipelines and some diverse and some redundant cultures (less about 19,000 current emplyees) doesn't strike us as “happy days are here again”. In fact while Pfizer-Wyeth pretends to be a “diversification”, Merck-ScheringPlough doesn't even try to excuse itself with such rhetoric. There is Dick Clark's (Merck's CEO) trying to convince us that Schering Plough is somewhat of an international powerhouse (try telling that to executives of any of Europe's Big 3 pharmaceutical houses-Sanofi (SNY), Glaxo (GSK), Novartis (NVS)), and that Remicade will drive sales of several billion more-can you spell J&J (JNJ)? The reverse acquisition route seems spurious at best-we're no lawyers but can't imagine the transparency of this shenanigan and how it may play with the legal eagles of J&J in New Brunswick.

So, back to Roche-Genentech. Sure $95 a share is rich and many a scientist in South San Francisco is going to feel more like a Microsoft Millionaire from the 1980's, and therein may lie Roche's opportunity and challenge. Genentech's pipeline is deep and rich with well over two dozen promising candidates and more to come. Much of this has been attributed and rightly so to a combination of brilliant scientists and a laissez faire culture with heralded beer blasts, parties and freedom to explore favorite projects, some of which have become major drugs. The trick is whether Roche's CEO, Franz Humer and his merry band from Basel can convince Art Levinson and Genentech's San Francisco based minions that it's business as usual and that things can only get better from here. We're going to guess that while this is a classic consolidation play, the boys of Basel will do it right.

Disclosure: Long JNJ.

Comments

[Prudent Man...:]

As a long-term owner of PFE, I am saddled with the fact that large mergers seldom work well. Among other things, the corporate culture is very important.

Under the current political environment, it will be interesting to see if the merger is allowed. Then, of course, there is the trend to socialized medicine and an Administration and Congress who will use their power to trample property rights, contractual rights and individual rights and favor government, not only regulations, but control.

Obviously, I, like most others should be, concerned about the future of the Free Enterprise System and democracy as we know it.

Mar 20 09:22 AM

[aeroone:]

The long term answer to Big Pharma's problems is copyright status for all new chemical entity marketed drugs, or at least 10-15 years of market exclusivity for these entities. Why should these companies invest in R&D discovery if after a dozen years of development, they only have 8 years of effective market life to recoup their $500M development cost per molecule and generate a return to their shareholders? And, in these days of litigation, the 8 years now often is less because of generic companies' use of Paragraph IV challenges to patents. No, these companies, which discover life-saving drugs, should have the right to profits and a stream of royalities ad infinitum, similar to copyright laws on songs, books, plays, etc. You would find under this system more new drugs with lower initial cost since companies would know that their discoveries would generate profits for many years forward.

Mar 20 09:45 AM

[Investigator:]

Custumers are getting smarter and switching to a healthier and
more organic lifestyle. The good days are over for "Big Pharma",
patients loosing their trust in medicine and their doctors. A funda-
mental change is coming as people becoming more educated
about health issues and becoming active participants in their own
health. INV.

Mar 20 01:23 PM

[donzelion:]

"Roche is getting the most “bang for the buck”..."

Why? Roche already owned 56% of Genentech. Normally, majority ownership is not "meaningless" - far from it. Normally, the way to measure the extra value added by buying out the extra 44% would involve serious cost savings or synergies - but both companies, by most reports, are well-run shops that didn't go into excessive bloat. So what's the big advantage of merging operations and taking 100%?

Mar 21 07:04 AM

[Bugs:]

President Obama is the cure for the broken insurance and health care delivery industries. Pfizer will welcome the changes which is why Kindler backed Hillary Clinton in the first place as President.

Mar 21 10:27 AM

[CHASAM:]

You call this an "article". Sounds like a pack of worthless musings to me.

Mar 21 11:20 AM

[Long US stockS:]

The Article is a "Trash - self serving personal openion - except @PFE which is known to many of us-other than those PFE-PUMPERS at CNBC..


On Mar 21 07:04 AM donzelion wrote:

> "Roche is getting the most “bang for the buck”..."
>
> Why? Roche already owned 56% of Genentech. Normally, majority ownership
> is not "meaningless" - far from it. Normally, the way to measure
> the extra value added by buying out the extra 44% would involve serious
> cost savings or synergies - but both companies, by most reports,
> are well-run shops that didn't go into excessive bloat. So what's
> the big advantage of merging operations and taking 100%?

Mar 21 01:23 PM

[Tom B:]

You mean "patent"; not copyright. A patent is granted for 17 years; sometimes 20 for drugs. It is the Gov't's trade-off between protecting industry and helping the consumer, who gets a cheaper generic when the patent expires. Biologicals, like Genentech makes, are harder to make into generic forms because the generic company has to show bio-equivalence, so companies are trending more and more toward biologicals even though the public would be better served by small molecules, which can be taken orally (biologicals must be injected and are more prone to causing immune reactions and other serious side effects).

The problem isn't patent law per se; it's the interplay between patent law and the approval process. Patent law should be modified to accomodate Govt-caused delay. If the FDA delays your drug by asking for another 1 year study, you should get 1 extra year on your patent. If I invent a machine, like a Segway, I don't have to worry about going through a complex regulatory process to bring it to market. The industry is suffering from patent expiries right now, but that's only because the approval process seems to have trended towards really extraordinary caution. I strongly believe in safety, and caution, as long as it isn't taken to extremes.


On Mar 20 09:45 AM aeroone wrote:

> The long term answer to Big Pharma's problems is copyright status
> for all new chemical entity marketed drugs, or at least 10-15 years
> of market exclusivity for these entities. Why should these companies
> invest in R&D discovery if after a dozen years of development,
> they only have 8 years of effective market life to recoup their $500M
> development cost per molecule and generate a return to their shareholders?
> And, in these days of litigation, the 8 years now often is less because
> of generic companies' use of Paragraph IV challenges to patents.
> No, these companies, which discover life-saving drugs, should have
> the right to profits and a stream of royalities ad infinitum, similar
> to copyright laws on songs, books, plays, etc. You would find under
> this system more new drugs with lower initial cost since companies
> would know that their discoveries would generate profits for many
> years forward.

Mar 21 09:20 PM

[Tom B:]

I don't know which company "won", but I know who loses: we do. Consolidation means LESS research; it means FEWER new drugs; and it means more people dying or suffering with diseases that might have been treatable had the mergers not occurred. I don't expect Boston Chicken man to comprehend something like this; though he may know something about what Disney toy to shove in his fast-food meals to make his quarterly numbers.

Mar 21 09:26 PM

[aeroone:]

No, I meant copyright on new chemical entity drugs. Disease-modifying or life-saving new drugs deserve copyright status in addition to patent life. Big Pharma would be incentivized to invest in R&D discovery, as well as introduce future new drugs at lower cost, if they knew that there would be a stream of royalty income beyond patent life for such products.

Mar 22 08:54 AM

[satyr:]

I could pick at a few things, but will stay narrow and say that calling SGP's pipeline feeble is flat out incorrect. They have one of the more enviable pipelines in the industry. It is a large part of what MRK is buying. There is a reasonable chance that JNJ will make a competing bid for this reason. Many believe that the fair price for SGP is another $10 a share.

As for JNJ's possible challenge of the merger, I agree that they may try. But a number of legal experts have already reviewed the situation and they disagree with your conclusion. While the motivation for the structure of the merger is transparent, the law will uphold the letter of the contract, not look to intent. JNJ inherited this agreement through an acquisition, so they don't have a lot to say about it.

Mar 26 02:02 PM