Diversification Hurting European Pharma Profitability

by: Research Recap

Fitch Ratings says that diversification beyond pharmaceuticals is the preferred business model for European pharmaceutical companies, but despite its advantage of broadening companies’ product bases to be sold in emerging markets, the strategy puts pressure on the companies’ profitability.

From a rating standpoint, diversification outside pharmaceuticals is beneficial for a company in order to establish itself in emerging markets. It can also add some stability to the company’s revenues when patent expiration is high, but it clearly has a negative impact on operating profitability.

Although operating margins tend to be lower in non-ethical pharmaceuticals segments, such as OTC and Generics where operating margins can reach more than 15% to 20%, a presence in these areas helps companies to establish themselves in emerging markets, where consumers’ out-of pocket payments tend to be still very high and non-ethical pharmaceutical products are often a more affordable solution. At the same time, non-healthcare businesses tend not to be affected by patent expiration and thus add some stability to the pharma companies’ businesses.

For some time, pharmaceuticals companies have therefore been expanding into other healthcare areas and Fitch expects this trend to continue, implying a negative impact on the rated industry’s profitability.

Diversification outside ethical pharmaceuticals is clearly not for all: In October 2010, Roche said that it was not willing to diversify beyond patented prescription drugs and diagnostics. AstraZeneca’s announcement that it has formally commenced a review of its strategic options for Astra Tech confirms that some industry players – albeit the minority – are still focusing on pure pharmaceuticals.