More Bitter Pills For Big Pharma
Last year, Merck & Co. made pharmaceutical history as the company that suffered the greatest agony due to a pain remedy. In September, Merck withdrew Vioxx, its $2.5 billion pain medication, after a study confirmed fears that the drug raised the risk of heart attacks.
Within weeks, Merck had plenty of company: A study linked Pfizer Inc.'s (PFE ) Celebrex to heart problems. Eli Lilly & Co. (LLY ) warned of potential liver problems with Strattera, a drug for attention-deficit hyperactivity disorder. AstraZeneca PLC (AZN ) disclosed that Iressa, a lung cancer treatment, did not extend patients' lives. And Crestor, a cholesterol-lowering drug from the same company, fell under scrutiny for potential side effects. By the end of the year, all this heat was battering pharmaceutical company valuations and misting future prospects for drug stocks.
The current year is unlikely to mark a return of robust health for the drug sector. A preliminary estimate from business information and consulting firm IMS Health (RX ) shows drug sales in the U.S. will be up 9.5% this year, to $259 billion. That's a tad better than 2004, with estimates showing sales rising 9%. But it's hardly a stellar performance: The industry hadn't posted single-digit growth since 1994.
The challenges in 2005 are similar to those the industry faced last year. Patents on major drugs continue to expire. At the same time, executives worry that the Food & Drug Administration could turn overly cautious in approving new drugs in the wake of Vioxx. That would be bad for an industry already struggling through a period of weak output from research labs. "The erosion from generics is large, and the contribution from the innovation engine is lower than it used to be," warns Schering-Plough Corp. (SGP ) Chairman and CEO Fred Hassan.
That is not to say innovation has ground to a halt. Pfizer is expected to launch two important drugs in the U.S. market in 2005: Macugen, a treatment for macular degeneration that Pfizer will market with Eyetech Pharmaceuticals, and Lyrica, an epilepsy and pain medication. Some forecasters are also excited about Eli Lilly's new urinary incontinence drug, Yentreve, which is expected to win FDA approval in the first half of the year. And while pharmaceutical executives continue to face challenges from counterfeit versions of their branded drugs, there are signs of progress. India, for example, will be implementing patent protections for new pharmaceutical products in 2005. "At least we will be getting the full [benefit] of our innovation instead of splitting it with a dozen copycat companies," says GlaxoSmithKline PLC (GSK ) CEO Jean-Pierre Garnier.
The industry needs to wring every buck it can to offset the loss of some big sellers as more patents expire. On the hit list in 2005: Pfizer's $2.1 billion antibiotic, Zithromax, and Johnson & Johnson's (JNJ ) $2.1 billion painkiller, Duragesic. And investors will be nervously watching a court case brought by Indian generic drugmaker Ranbaxy Laboratories Ltd., which seeks to knock down key patents on Pfizer's $10 billion cholesterol-lowering drug, Lipitor. While analysts say Pfizer has a good shot at prevailing, the outcome is far from certain.
Drug industry watchers are focusing on the regulatory environment in Washington as well. With the public outcry over drug prices continuing to mount, Congress is likely to return to the issue of reimporting drugs from Canada. But analysts say that even if a law were passed to facilitate such purchases, the impact on company bottom lines would be minimal.
In contrast, regulatory fallout from the Vioxx debacle poses a substantial threat to business as usual. Lehman Brothers Inc. (LEH ) analyst Rami Armon says the FDA may crack down harder on drug companies' aggressive direct-to-consumer advertising. And he figures the agency may also be more assertive about putting strong warnings on drug labels when safety questions arise, something drug companies resist because it can hurt marketing. Indeed, the FDA has already slapped stronger warnings on several drugs, including Pfizer's Bextra, a painkiller in the same class as Vioxx. "The wild card is the FDA," says Murray L. Aitken, senior vice-president for corporate strategy at IMS Health.
Industry executives also worry about how the FDA will treat new drug applications in '05. They fear regulators may become too stringent on safety when reviewing novel treatments. "In the past, people accepted there was no such thing as a totally safe drug," says AstraZeneca CEO Sir Tom McKillop. "Today, we have become more risk-averse."
All these pressures make it more critical than ever that drugmakers improve their dangerously weak development pipelines. That's why investment bankers say Big Pharma companies will pursue licensing or acquisition deals with smaller companies more aggressively than ever to get their hands on upcoming products. Lazard LLC investment banker Steven J. Golub says intense competition for those products means deals are now getting done more quickly.
In the past, drugmakers were inclined to license many products when they reached the final phase of human testing. Now, in the rush to license, drugmakers seem willing to sign deals at a point early in the testing process, when drugs run a higher risk of failure. As for important mergers, many bankers say weakened companies such as Schering-Plough (SHR ), Merck, and Bristol-Myers Squibb (BMY ) could be acquisition targets. But given these companies' patent or legal problems, some potential partners may be inclined to stay on the sidelines for now.
With new products flowing at a trickle, look for drugmakers to continue pushing for price increases in 2005. Sanford C. Bernstein & Co. analyst Richard T. Evans expects pharmaceutical prices to rise at double the rate of inflation this year. Why? Drugmakers may feel there is less political downside with a Republican-controlled Congress and White House. They also recognize that pricing will become much more difficult after the federal government phases in its Medicare prescription-drug benefit in 2006, because Washington is likely to push hard to keep a lid on costs. Another reason the head winds for Big Pharma, in the long term, aren't going to abate.
By Amy Barrett in Philadelphia, with John Carey in Washington, and Michael Arndt in Chicago