Sick drug companies seek cure in diversity

They are struggling to offset falling sales of key prescription medicines

LONDON: The world’s top drugmakers are diversifying in a bid to offset falling sales of key prescription medicines, but they have yet to convince investors they can replace the allure of today’s fading blockbusters.

The two largest — Pfizer Inc and GlaxoSmithKline Plc — both highlighted the importance of new markets and non-traditional products in the past week, hoping to convince investors to stick with their underperforming shares.

Such strategies should provide a buffer as firms face a “cliff” of patent expiries but may not set the stocks on fire.

“In terms of the patent expiries facing the industry between 2010 and 2012, it looks like Armageddon,” said John Wilson, a fund manager at Standard Life in Edinburgh.

“Companies that have another business to help see them through the tough times should do relatively better. But the market doesn’t necessarily look at it in those terms because when they buy drug stocks they want to buy blockbuster drugs.”

May be it is time to drop that blockbuster mentality.

The challenges facing prescription medicines — generics, poor pipelines, regulatory caution and price pressure — are already turning conventional valuation ideas on their head.

JP Morgan, for example, estimated in a note last month that Glaxo’s vaccines business was worth a whopping 31 times 2008 earnings, consumer health 19 times and pharmaceuticals, the notional “crown jewels”, a paltry 8 times.

And a glance at non-pharma firms shows how much investors value stable, cash-generative businesses over risky drug stocks. Colgate-Palmolive Co and Procter & Gamble Co trade on around 19 times 2008 earnings, against just 9 and 10.5 respectively for Pfizer and Glaxo, according to Reuters data.

Against that backdrop, Pfizer on Wednesday told analysts it was eyeing emerging markets and biogenerics to offset looming patent expiry on its $12 billion-a-year cholesterol pill Lipitor, while Glaxo gave unusual prominence to consumer healthcare and vaccines in its 2007 annual report last week.

Morgan Stanley believes drugmakers need to reallocate capital into sustainable business areas like vaccines, molecular diagnostics and animal health to deal with the structural problems facing conventional drug discovery.

“The core business is in trouble and that requires executives to look at new business models,” said Simon Friend, global pharmaceutical leader at PricewaterhouseCoopers.

“However, we are not seeing a one-size-fits-all approach, they are all doing something different as part of risk diversification.”

The approach to consumer healthcare, or the sale of over-the-counter (OTC) remedies, is a case in point.

Pfizer sold its consumer health products, including Listerine mouthwash and Sudafed decongestant drug, to Johnson & Johnson for $16.6 billion in late 2006.

That prompted calls from some investors for Glaxo to follow suit but the British-based group has resisted and Andrew Witty, who takes over as CEO in May, has made clear consumer health will remain a key driver for the future.

“Pfizer got some kudos at the time for selling, but it probably has not done them any favours in the long term,” said Mike Ward, an analyst at Nomura Code, who backs the Glaxo strategy.

Other diversification options have more universal appeal.  Vaccines used to be a Cinderella business, notorious for low margins. But a new generation of high-price blockbusters, like Wyeth’s Prevnar and Merck & Co Inc’s Gardasil, have changed the landscape, tempting more and more companies.

Novartis AG bought full control of Chiron in 2006, giving it two potential multibillion-dollar meningitis vaccines that Bear Stearns analyst Alexandra Hauber believes will significantly offset post-2012 patent expiries.