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January 27, 2009

A Perspective on the Pfizer-Wyeth Merger

Cliff Cramer
Director, Healthcare and Pharmaceutical Management Program
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Last August I talked about the actions Big Pharma may take to address its slowing top-line growth and the upcoming slew of major drugs facing patent expiration in the next several years. A “horizontal merger” was one option discussed, and yesterday Pfizer proceeded with that strategy with its $68 billion acquisition of Wyeth. So why did Pfizer pursue this strategy, and will it encourage other Big Pharma players to pursue a similar approach?

One contributing factor to Pfizer’s deal with Wyeth is the company’s impending loss of patent exclusivity for its blockbuster drug Lipitor in 2011. Lipitor had $12 billion in sales last year, amounting to 25% of Pfizer’s total sales. However, Pfizer is also keenly interested in gaining access to Wyeth’s long-established biologics expertise and portfolio (Pfizer did not have critical mass in this area), its promising (albeit risky) experimental Alzheimer’s drug, as well as its vaccines franchise, consumer healthcare business and animal health franchise. The deal broadens Pfizer’s portfolio and provides added flexibility in managing earnings over the next five years.

However, the deal is unlikely to contribute to top-line growth in the near term for several reasons. Wyeth has its own patent expiration issues over the next three years, and large pharma mergers are inherently disruptive, particularly to R&D divisions, which are the lifeblood of these companies. The acquisition premium Pfizer paid (approximately 30% over last week’s price) will require Pfizer to be very aggressive in cost-cutting to make the deal accretive to earnings by year two, and that may exacerbate the organizational disruption. Pfizer announced it was cutting its dividend in half to help finance the acquisition (one of the reasons investors previously held Pfizer shares was its high dividend yield).

Will we see other Big Pharma mergers in the near term? Well, virtually every company is considering the possibility, however, challenges remain for other deals, including pricing, financing, social issues (such as who will run the combined entity), antitrust and expected market reaction. Two of the major players are already tied up in other large transactions: Roche’s bid for the remaining shares of Genentech that it does not already own, and Novartis’s two-step acquisition of a controlling interest in Alcon. It is doubtful that the Pfizer deal materially changes the competitive dynamics in the industry. Other Big Pharma players must consider their own internal capabilities and growth prospects and determine whether it is worth taking on the inherent risks of a large pharma merger in today’s competitive economic environment.

Photo credit: Dan Buczynski

Comments

by Tania Dimitrova | January 30, 2009 at 1:51 AM

Wednesday's class made me think about this...Here is a perspective on this deal: I checked Wyeth's share price performance and discovered shares of Wyeth have appreciated over 25% last quarter in anticipation of a take out. This deal HAD to happen for 3 reasons: 1) Wall Street has been expecting it for quite a while. Had Wyeth not been acquired, the company's market capitalization would have dropped significantly, especially after two product approval delays and an Alzheimer's drug that causes brain swelling. Further, many analysts do not like the way the company is currently managed. Future rating downgrades in this volatile market would have put additional pressure on the stock. 2) Pfizer (while never admitting it) is desperate to fill the gap of lost earnings once Lipitor's patent expires in 2012. 3) The only thing that was keeping Pfizer's shares in the USD 15-18 trading range was the high dividend yield (currently over 7%, the highest in the industry). Pfizer needs the cash to face the crisis in 2012 and the only way Pfizer could cut its dividend, without being penalized by investors, is by making an acquisition that seems reasonable. In my view, what's truly valuable in Wyeth's pipeline is the portfolio of biologics and vaccines. Once I saw an old Wyeth presentation summary stating that in a decade the largest portion of Wyeth's portfolio will consist of biologics. However, if you looked closely at the presentation, it is the pharma business that is gradually disappearing, rather than the biologics business growing. Perhaps Pfizer will be able to manage and grow that biologics business better. Will we continue to see other Big Pharma mergers in the near future? It's an interesting question. In my view, for some companies it might make more sense to split into smaller specialized companies (each focusing on a certain disease area), rather than create big conglomerates. That would give them the ability to participate in small (but highly profitable) niche markets (similar to what specialty pharma companies do). Focusing on only one disease area could give these companies the opportunity to move quickly, be more flexible and competitive in the market place. For other big pharma companies, it might be just impossible to merge because of the complex joint ventures or licensing agreements they have entered. We will see what will happen, but one thing we should not forget is that Obama's administration could change the game for many of these players. A new Healthcare reform and a new FDA administration team could have an effect on Big Pharma's risk appetites or competition strategies. PS. Prof. Cramer, thanks once again for letting my visit your class on Wednesday.

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