Pfizer, Merck and Roche pursued different strategies in their recent mergers. But each dealt with a common problem: a dearth of novel targets in their pipelines.

Roger Longman, Elsevier's managing director of pharma, described the rationale behind the recent mega deals at the BIO-Windhover Pharmaceutical Strategic Outlook Conference in New York City April 15.

Longman explained that Pfizer went after Wyeth to obtain a wide variety of drugs and differentiate its capabilities. Merck acquired Schering-Plough for its pipeline. And Roche took over Genentech rather than continue with its 60 percent ownership, betting that it was better to gain strategic and financial flexibility than rely on Genentech to continue churning out new drugs.

The deals have taken place as innovation in the pharma industry has declined. Citing data from Booz & Co., Longman noted that compounds with novel targets are less likely to get approved and as a result there are fewer in development. In 2000, roughly 40 percent of drugs in development were going after novel targets compared to 30 percent in 2008.

Longman pointed to another reason there is less novelty in the pharma industry: the primary care market that most drug companies have been going after is shrinking. "We're basically at zero growth rate for primary care drugs thanks to generics, and in fact there may be actually negative growth right now," he said.

Pfizer Wants to Be Like General Electric

Against this backdrop, Pfizer, Merck and Roche have taken different approaches to secure their future.

Longman said Pfizer CEO Jeffrey Kindler appears to be taking lessons for Pfizer from General Electric and McDonald's, Kindler's previous companies. These are industrial companies, Longman said, which means they are value-based investments rather than growth stock companies.

"Pfizer's strategy is to become an industrialized company, which is to say a lower-cost supplier of virtually all kinds of drugs, that is, large molecules, small molecules, vaccines and consumer medicines in virtually all markets," he stated. In order to do that, it needed to buy capabilities in all those areas.

"That's a huge switch," he said. "Nobody in the pharmaceutical industry used to think of themselves as industrial companies" like General Electric or Coca Cola, where modest increases on the revenue line translated into high-single or even double-digit bottom-line increases through strict cost controls. "They used to think of themselves as [companies that could achieve] double-digit top-line growth."

Pfizer faces one hurdle in adopting this model, Longman observed. Unlike pharma, industrialized companies do not spend 15 percent of their sales on R&D. Longman said that to deal with this paradox Pfizer will have to find ways to share much of its R&D costs (¹ Also see "Pfizer/Wyeth: Industrializing Pharma?" - In Vivo, 1 February, 2009.).

Merck Wants Products, Not Merely Diversity

As for Merck, Longman said its acquisition of Schering-Plough buys it time until it figures out what is going to happen to the primary care market. He said Merck couldn't on its own afford the kind of R&D diversity that would provide a reasonable chance it could succeed in primary care. Unlike Pfizer, he said, Merck isn't buying capabilities, such as an infrastructure and biologics base, but buying drugs and a pipeline so it can get more relative cost reductions.

Longman noted that Merck had more to lose than Pfizer, as its antihypertensive Cozaar and allergy medicine Singulair will face generic competition in a few years, Fosamax recently went off patent, its Gardasil and Vytorin/Zetia sales have been disappointing, and it suffered a disastrous delay in development of the cholesterol combination drug Cordaptive .

With Schering-Plough and the synergies it provides, Merck "can potentially see a 50 percent increase in earnings over a four-to-five-year period," instead of a decrease of 25-40 percent, Longman said.

Roche Expects Genentech Discovery To Drop Off

Roche, meanwhile, made a pre-emptive move to fix potential problems in its relationship with Genentech. Longman said Roche no longer viewed Genentech as a discovery machine but a moderately sized drug company unlikely to maintain its historic growth rates.

Longman said that Roche and Genentech had the most successful pharmaceutical relationship in history and that neither company would exist today without it. He noted that virtually Roche's entire late-stage pipeline consists of Genentech compounds and that one-third of its market cap is based on its 60 percent ownership of the biotech company. Why does Roche want to break this arrangement now?

"Because Roche is betting that the innovation from Genentech is not going to be enough, that it would get more flexibility by owning 100 percent of the company and avoiding the duplication of resources, particularly in the U.S.," Longman stated.

As for concerns that key Genentech scientists may leave, Longman said Roche believes that the biotech's mid- and late-stage pipeline is probably adequate through at least 2016 and after that it can figure out what to do.

Longman also discussed the difficulties biotech companies face in getting enough financial backing to get them to the point of being at least theoretically self-sustaining. Without the potential opportunity of remaining independent, Longman noted that it is very difficult, paradoxically, to create a high-value exit, either through acquisition or through a public offering. Without the ability of a small company to walk away from a deal, he noted, the large buyer always has the advantage.

And their advantages today are significant given the absence of funding. The number of follow-on offerings fell from 54 in 2006 to 25 in 2008 (there were virtually no significant IPOs) and PIPE financing declined dramatically, with companies raising $356 million in the first quarter of 2009 compared to $1.04 billion in the first quarter of 2007.

Longman pointed to the innovative strategic alliance between Infinity Pharmaceuticals and Purdue and its European affiliate Mundipharma International as a potential financing model for the future. Under the deal, Infinity retains commercial rights to all products in the U.S. - and thus the theoretical possibility of creating a standalone company - and control over all R&D and regulatory filings. Mundipharma, meanwhile, receives rights to virtually all Infinity's pipeline outside the U.S. and an option to buy up to 30 percent of the company (² Also see "With Innovative Purdue Deal, Infinity Finds Shelter From The Storm" - Pink Sheet, 20 November, 2008.).

But Longman said other companies are not likely to repeat this approach. He noted that the Sackler family that owns the privately held Mundipharma-Purdue affiliates cares nothing for demonstrating to public investors substantial near-term earnings growth. Moreover, the geographically independent structure of its affiliate companies minimizes the need to get global marketing rights (³ Also see "Infinity/Purdue: The Challenge of Reprising Roche/Genentech" - In Vivo, 1 January, 2009.). Infinity recently halted a Phase III trial of its most advanced cancer candidate, the only product not included in its deal with Purdue and Mundipharma, when it found patients receiving the drug had a greater mortality rate (⁴ Also see "Patient Deaths Stop Infinity Pharma’s Phase III HSP90 Trial In Cancer" - Pink Sheet, 15 April, 2009.).

Longman also addressed recent trends in R&D. Despite dramatically increased spending, more and more of Big Pharma's products come from outside, said Longman. He cited Credit Suisse/Booz & Co. research that shows that while in 2000, 38 percent of industry's pipeline was self-originating, today the industry invents barely a quarter of its drugs. To increase productivity, the pharma industry is increasingly conducting R&D in small groups, he noted, such as GlaxoSmithKline's drug performance units, Pfizer's units run by chief scientific officers and Takeda's Millenium and Syrrix subsidiaries.

He advised companies to go beyond this approach and outsource or spin off significant amounts of their research. The restructuring into small groups encourages spin-offs, their relative independence making it structurally easier to separate them financially from the internal research organization. Indeed, the day after the speech, Pfizer and GSK announced just such a structure: a joint venture in which each company contributes its R&D and commercial assets in HIV to a separate company that could, theoretically, be spun off as an independent organization.

- Brenda Sandburg (b.sandburg@elsevier.com)

Pharma’s Mega Mergers Reveal Divergent Strategies

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