Strong Medicine

The Glaxo SmithKline merger may prompt other big deals

It was a deal two years in the making, and one many industry insiders thought would never come off. But the merger between Britain's leading drug companies, Glaxo Wellcome PLC and SmithKline Beecham, is a done deal. And it's shaking the global drug industry to its roots.

The Glaxo-SmithKline marriage is already livening up the industry's mating dance. It suddenly seems as if the entire industry is in play. Pfizer Inc. is pursuing a hostile approach to Warner-Lambert Co. But a source close to Warner-Lambert confirms it is talking about a three-way matchup with American Home Products and Procter & Gamble. Others say Bristol-Myers Squibb Co. and Eli Lilly & Co. make a good team. And don't forget Johnson & Johnson and DuPont, which may also be snooping around.

The reason for all the activity: Size does matter. That has been true in the industry for a decade, as one drugmaker after another has sought out acquisition partners to bulk up sales and research and development. But the Glaxo-SmithKline deal, and the other mergers under consideration, put all earlier combinations in the shade. Glaxo SmithKline, for example, will have an unrivaled R&D budget of $4 billion. It will also field the biggest sales and marketing team in the world and command enough financial firepower to do more deals. "Dollar for dollar, we have the opportunity to discover more drugs than any of our competitors," says Glaxo SmithKline's new chief executive, Jean-Pierre Garnier.

No wonder other companies want bigger labs, too. As the deals reach jumbo size, Hemant Shah, an independent drug analyst in Warren, N.J., says that the industry could shake down to just six to eight global players. Glaxo and SmithKline are already creating a British giant; the two Swiss biggies, Novartis and Roche Holdings Ltd. are likely partners. Also, Shah foresees perhaps four U.S. drug companies surviving along with a German entity.

A key question amid the dealmaking frenzy is what all this means for Merck & Co. The drug giant will see U.S. patents expire on several big products in the next few years, including the patent on the money-spinning hypertension drug Vasotec, which has $2.3 billion in annual sales. Analysts warn that despite the strong performance of Merck's new arthritis drug Vioxx, patent expirations will cause a slowdown in earnings growth. Merck Chief Executive Raymond V. Gilmartin maintains Merck doesn't need anyone. Industry executives say otherwise. "There are some bigger dogs on the block now," says Stephen S. Tang, national director of consulting firm A.T. Kearney Inc.'s unit for the health-care industry. "I think this does force Merck to rethink their position."

Meanwhile, don't exclude Glaxo SmithKline's merger from the next round of dealmaking. Glaxo's chief, Sir Richard Sykes, hinted that the new company was likely to keep hunting.

Sykes had long wanted SmithKline Beecham. He figured he had to nab the company or lose out on a huge opportunity. It's a critical time for the industry. The huge strides scientists have made in unraveling the human genome are giving drug companies more than 10,000 biological targets around which to develop new medicines. Says Lehman Brothers analyst Stewart Adkins: "There is a landgrab taking place in genomics." Expected to come to market within the next three to five years, this new generation of drugs promises to be much more effective than existing medicines.

MERGER OF EQUALS. Sykes and his onetime enemy, SmithKline Beecham chief Jan Leschly, figured that the only way to prevail in this new world was to bury the hatchet and join forces. Tadataka Yamada, newly appointed chairman for research development at Glaxo SmithKline, figures the new company can readily foot the bill for the expensive clinical trials needed to exploit the countless opportunities emerging from gene sequencing. He adds: "Both companies are also leaders in bioinformatics." This discipline uses advanced computer programs to find similarities among gene sequences. That tech edge is vital in speeding up the arrival of the genome-based drugs that the company so badly wants.

But the merger is not quite what Sir Richard had originally wanted, which was a clear takeover of SmithKline. Technically, Glaxo is the acquirer, and its market capitalization exceeds SmithKline's by $30 billion. But the deal is widely viewed now as more like a merger of equals. The management board is split equally between the two companies, and the key positions of CEO and R&D head have gone to SmithKline executives.

Glaxo was seen as the clearly dominant partner when the two tried to merge in 1998, and Glaxo's long-term prospects are still among the industry's best. But the company shocked the market last year when it failed to meet its sales and earnings targets. Conversely, the next few years promise strong growth at SmithKline, thanks mainly to the successful launch of Avandia, a novel treatment for adult-onset diabetes. Together, the two companies have six drugs ready to come to market.

The final irony: Glaxo, champion of British industry, is morphing into an American company. Headquarters will officially remain in London, but operational headquarters are going to the U.S. The market is there, the growth is there. And drug prices are much higher in the U.S., which Glaxo likes especially. As the drug industry gets more global, it gets more mobile.

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