It has been suggested by Datamonitor that Big Pharma players can be usefully classified by understanding their overriding growth strategy: those that ‘Buy Growth’, eg. Roche taking full ownership of Genentech, those that ‘Buy Scale’, eg. Sanofi acquiring Aventis and those that used ‘Multiple M&A’ such as Pfizer and those who have primarily avoided large-scale M&A to focus on an organic growth-driven strategy eg. Eli Lilly. (Although even Lilly succumbed and acquired ImClone in 2008)
A major wave of M&A driven consolidation swept the industry in 1999–2001 resulting in the creation of AstraZeneca and GlaxoSmithKline headquartered here in the UK, together with large corporate additions to Pfizer and Sanofi. Ten years later, we are witnessing a parallel wave of M&A, this time concerning Pfizer & Wyeth, Merck & Schering-Plough, Abbott & Solvay and of course Roche finally taking 100% ownership of Genentech.
Rather than simply listing M&A events and observing their scale & frequency Datamonitor suggest it is possible to quantify exactly how much of Big Pharma’s sales growth has been driven by M&A versus how much has been self-produced through organic growth.
It is true that only relatively small acquisitions have demonstrated subsequent fast growth and the three examples of this type all represent the purchase of a leading player in the explosive-growth monoclonal antibody (mAb) market (Johnson & Johnson’s acquisition of Centocor, Abbott’s acquisition of Knoll and Roche’s acquisition of Genentech). Furthermore, these acquisitions were all ‘early plays’; subsequent ‘late play’ moves for mAb companies (Eli Lily’s acquisition of ImClone and AstraZeneca’s acquisition of MedImmune will most likely only provide medium sales growth).
In fact, each of Big Pharma’s largest M&A events have resulted in flat sales growth for the target company, indicating that such moves are primarily driven by the strategic goal of increased scale and not rapid revenue growth. There are of course a number of examples that go against the general trend; both the Warner-Lambert and Zeneca acquisitions (by Pfizer and Astra, respectively) did provide access to high-growth products (statins).
Looking more deeply at the financial impacts of the different strategies shows that they do not differ profoundly at the level of Profit Margin and in any case all three strategies deliver superior results over other healthcare sectors. In contrast, analysis of Capital Turnover reveals a very poor performance for Scale players and this poor Capital Turnover drags down the Investor Return for Scale players. The unsurprising reason for this lies simply in the need to pay a large premium to take control of a large target company.
The observation that ‘Growth’ has a superior RoCE versus ‘Scale’ strongly suggests that long term buy-and-hold investors should favour ‘Growth’ over ‘Scale’. There is a BUT though which is how long will it take to realise the growth and then there is the looming patent famine to worry about.
The looming patent cliff switches the strategic imperative behind M&A from the pursuit of sales scale and/ or growth towards the pursuit of cost savings. Indeed the patent cliff has necessitated the sharpening of company cost structures in 2009, 2010 and beyond and the biggest ‘Scale’ mega-M&A events have both been very clearly and publicly positioned to include additional M&A-driven savings on top of the ‘standard’ cost savings.
The Roche-Genentech merger was the consummation of a long-standing 60% holding to ownership. In strategic terms, it is completely distinct from the other three mega-M&A events of 2009 in that it was primarily motivated by Roche’s desire to secure complete access to the highly significant profit flows from Genentech’s monoclonal antibody (mAb) portfolio. So the Roche-Genentech mega-M&A remains the definitive example of ‘Buy Growth’.
Pfizer-Wyeth, Merck-Schering-Plough and Abbott-Solvay mega-M&A events are clear ‘big & flat growth’ merger events intended to yield a one-off immediate boost to scale and both are strategically necessary in face of the approaching patent cliff
In addition to standard cost-savings programs already announced at most Big Pharma companies, these three 2009 mega-M&A events provide huge scope for additional M&A-driven cost savings although the auxiliary benefit of portfolio diversification into new therapy areas and vaccines should not be overlooked.
Bringing it all together – how well do we think the three distinct mega-M&A
strategies will serve Big Pharma companies going forward to 2014?
‘Growth’ Not enough time for it to work and it missed out on mAbs.
‘Scale’ The only strategy which can deliver in time. Will provide a phasing and therefore dilution of patent drought’s impact. It will also provide additional M&A cost-savings.
‘Organic’ It remains the rational strategy to ‘endure patent drought’ and create a smaller more nimble organisation, but will companies be able to resist investor pressure to remain BIG?
Well what do you know, big really is better, at least it is if you want to survive the patent drought and maintain investor confidence.
