Health

Max Nisen is a Bloomberg Gadfly columnist covering biotech, pharma and health care. He previously wrote about management and corporate strategy for Quartz and Business Insider.

Sometimes discretion is the better part of valor. 

Merck KGaA is one of the relatively few pharma conglomerates left, combining branded drugs with chemicals and over-the-counter products. On Monday, the German company announced it may slim down by selling its consumer-health business.  

It's the right move. The company is already playing an expensive brand of catch-up in one of the hottest cancer-drug markets out there and in pharma generally. It can't afford to play the same game with its relatively tiny consumer health business. Raising cash and beginning to de-conglomerate is the way to go. 

Clap Clap Clap
Investors applauded Merck KGaA's possible sale of its consumer health unit
Source: Bloomberg

Diversification can work in health care; just look at Johnson & Johnson. But it works best when a company is a leader in a category. Merck's consumer business is a minnow relative both to sector rivals and its own larger health care and chemicals business. Consumer products accounted for less than 6 percent of Merck's total revenue in 2016 and produced less than a third of the revenue of Pfizer Inc.'s consumer unit. And Pfizer is one of the smaller competitors -- J&J's oral-care unit alone is larger than Merck's entire consumer division. 

If anything, Merck has arrived late to the realization that its consumer business might not be able to stand alone. Novartis AG and GlaxoSmithKline PLC combined their consumer units into a joint venture in 2015, and Boehringer Ingelheim GmbH traded its consumer unit for Sanofi's animal-health business early this year. Substantial investment would be required to make Merck's unit more relevant -- and the company has other priorities.

Baby Slice
Merck KGaA's consumer business is consistently dwarfed by rival units
Source: Bloomberg

News of Merck's potential sale of its consumer unit comes on the heels of its first major FDA drug approval in about a decade, for the immune-boosting cancer medicine Bavencio. A sale could raise $3 billion, which, along with increased focus, could help make sure that drug succeeds. While R&D spending tapers off after approval for many drugs, it has only just begun for Bavencio. Merck is just one of five firms with a medicine in this category on the market, and all of them are racing to extend their use to a wide variety of cancers and in combination with other medicines.

Merck is starting from behind; Bavencio was approved earlier this year behind multiple rivals, and the firm spends a fraction of what its competitors do on R&D. U.S.-based Merck & Co. Inc. (no current relation) and Roche Holding AG had the two biggest R&D budgets in the sector last year, and much of that spending was on drugs that compete with Bavencio. Pfizer also has a big stake in Bavencio and will handle some of the burden; but Merck must pay up to have any hope of being a serious player in the market. 

Back of the Pack
Merck KGaA is a major laggard on the R&D spending front
Source: Bloomberg

Merck really needs Bavencio to work out. Its largest medicine, the multiple sclerosis drug Rebif, is facing serious pricing and competitive pressure. The next drug up in its pipeline, also an MS treatment, likely won't replace nearly $2 billion in at-risk Rebif sales. 

As its rivals have spent billions buying up other drug companies, Merck has thrown its M&A budget at its non-pharma business, most recently with the $17 billion acquisition of Sigma-Aldrich in 2015. The company's $14 billion in debt means it still has some deleveraging to do and is unlikely to use M&A for more pharma growth. The more cash and attention it can devote to its pharma unit, the better.

Merck made a feint in this direction by selling a unit that develops complex copies of biologic medicines to Fresenius earlier this year for 156 million euros up front plus potential future milestone payments. A consumer sale would be a much more significant statement of intent. 

A sale won't turn Merck into a top-flight pharma player overnight. But a leaner, flusher Merck has a better shot at becoming one. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Max Nisen in New York at mnisen@bloomberg.net

To contact the editor responsible for this story:
Mark Gongloff at mgongloff1@bloomberg.net