The Merck-Bayer Deal Can Prove To Be A Growth Catalyst

May.19.14 | About: Merck & (MRK)


Merck’s Consumer Care segment has been reporting faltering revenues which led to the sale of the unit to Bayer.

Merck and Bayer are to co-develop cardiovascular drugs in the future, which are intended to strengthen Merck’s cardiovascular unit.

The company is officially sitting on approximately $40 billion cash position.

Merck & Company Inc. (NYSE:MRK) is one of the leading pharmaceutical companies with a market standing around the globe. The following discussion entails the reorganization efforts employed by the company to strengthen its profit base, pipeline enhancement, and a few important financial highlights.

Recent Performance

Merck is a US-based global pharmaceutical company that generates its revenues from four operational segments: Pharmaceutical, Animal Health, Consumer Care and Alliances. The Pharmaceutical segment accounts for more than 80% of the company's revenues while the remaining sales are segregated among the remaining segments. Throughout the company's recent history the Consumer Care segment has been reporting faltering revenues which led to the company selling the unit to Bayer AG (OTCPK:BAYRY) for $14.2 billion.

Over the recently ended quarter, the top line of the company slumped by 4% YoY causing investors to wonder if the company is still strong enough to be considered a good candidate for investment. The revenue slip is primarily attributable to patent expirations of a few of the company's leading medicines which gave way to generic medicines. Knowing that the company would have to beef up its pipeline and escalate its top line in a swift manner Merck immediately took steps to reorganize its business portfolio.

Merck-Bayer Deal

Since the hepatitis C market is virtually owned by Gilead Sciences (NASDAQ:GILD) Merck is looking into other growth areas. The company's cardiovascular unit showed a faltering performance over the latest quarter; however, the company is now taking steps to strengthen the unit. Moreover, Merck let go of its Consumer Care unit that had rather low hopes to show improved performance in the foreseeable future. Bayer has fulfilled both needs of the company besides boosting its cash flows by a significant amount.

Merck had added the Consumer Care OTC business to its business portfolio back in 2009 but the business never had a strong standing outside of the North American region. In order to gain global exposure the company would have had to make large scale multiple acquisitions around the globe and we are well aware that every acquisition requires tremendous effort and costs to turn it into a success. So I believe letting go of the business was a rather good move; in fact, it was probably never a good idea to invest in it. As of now, the company has wisely sold its weakness for a profit.

The relationship between Bayer and Merck does not end here. Merck and Bayer are to co-develop cardiovascular drugs in the future wherein Merck is expected to make an upfront payment of a billion dollars. The collaboration incorporates Bayer's Adempas, which is intended to treat pulmonary arterial hypertension. Considering that Adempas is the first and only medicine available for the treatment of chronic thromboembolic pulmonary hypertension (CTEPH), we can safely assume its sales will significantly grow in the future. Furthermore, Merck gained rights to a few of Bayer's pipeline drugs including Vericiguat, another cardiovascular drug presently in Phase II of clinical testing.

Merck's cardiovascular unit presently accounts for approximately 12% of its pharmaceutical sales. However, with this collaboration the attribution of pharmaceutical sales to this unit will show a significant improvement. The company is smartly utilizing the proceeds from the sale of its less profitable unit to enhance its pipeline and strengthen overall top line performance.

Cost Measures

The company is also trying to boost its bottom line by reducing its operating costs. Merck officially announced in 2013 that it will decrease its global workforce by 20% saving the company roughly $2.5 billion over the next two years. It is expected that 40% of the employee reduction will be conducted by the end of the present year with an estimated annual cost savings of a billion dollars. The remaining employee count reduction is expected to be fully achieved by the end of FY2015.

Cash Position

The company reported approximately $17 billion in cash and cash equivalents as of FY2013 report. With that level of cash in hand, about $10 billion set aside for long-term investments, and $14 billion of cash inflow from the divestment of the Consumer Care segment to Bayer Merck is officially sitting on a $40 billion cash position. A strong cash position is always good news for investors; they can safely expect return of capital through dividend increases or share repurchases. Investors should not worry even if Merck decides to increase the dividend payout by just a small percentage; the remaining cash can be invested in future growth opportunities to strengthen the competitive position of the company.

Concluding Remarks

I am bullish on the stock. Merck is wisely reorganizing its business by removing low-growth units and adding strong medicines to its drug portfolio. The Merck-Bayer deal would also benefit the company in the long term by augmenting its pipeline. Merck's MK-3475 is already under FDA consideration and if approved, the drug could be the next blockbuster drug for Merck since it has the potential to be the first anti-PD-1 antibody in a new class of immune checkpoint modulators.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.