German healthcare woes throw spotlight on pros and cons of diversity


For all the talk of big pharma seeking to diversify, when it comes to diversity German healthcare and chemical giants Bayer and Merck KGaA remain the ultimate examples in assessing the pros and cons of managing the widest range of businesses, from prescription drugs, to agribusiness, to liquid crystal displays for computers and televisions.

However, perennial questions about whether Bayer and Merck can continue to extract maximum value from such a diverse business mix were raised again this week as both groups reported largely disappointing annual results and provided weak guidance for 2010. Merck suffered the most, its shares falling 12% last week to a five-year low of €57.12 as analysts scrambled over each other to reduce their ratings and/or price targets on the group. Merck’s $7.2bn acquisition of Millipore, which will enhance the value of its chemicals business unit from 25% to 35% of group sales, is therefore intriguing and confirms that diversity remains Merck’s primary objective.

Merck on the diversity trail

The acquisition of Millipore – which offers products, technologies and services for pharma and biotech companies mainly related to laboratory and manufacturing processes – is actually something of a U-turn for Merck.

Having divested its laboratory distribution and electronic chemicals businesses in 2004 and 2005 for around $2bn, Merck appeared to be heading towards being more of a pure-play pharmaceutical group with its $13.8bn acquisition of Serono at the beginning of 2007. Later that year it also sold off its mainly European generics business unit to Mylan for $6.8bn.

These moves towards a business based mainly on prescription medicine coincided with the appointment in 2006 of Karl-Ludwig Kley as Merck’s chairman of the executive board.

As such, pharmaceutical related revenues accounted for 75% of Merck’s total group sales last year of $10.8bn (see table below; the 2009 figures are estimates prior to recently reported financial results).

2009 (E) 2014 (E)
Merck KGaA Bayer Merck KGaA Bayer
Sales ($m) % of total Sales ($m) % of total Sales ($m) % of total CAGR (09-14) Sales ($m) % of total CAGR (09-14)
   Total WW Prescription (Rx) Sales  7,011  65%  13,934  32%  9,570  67%  6%  16,879  31%  4%
   OTC  644  6%  3,238  7%  852  6%  6%  4,122  7%  5%
   Royalty & Licensing Income  470  4%  178  0%  404  3%  (3%)  645  1%  29%
Total WW Pharmaceuticals  8,124  75%  17,350  40%  10,827  76%  6%  21,646  39%  5%
   Consumer Healthcare  644  6%  4,318  10%  852  6%  6%  5,496  10%  5%
   Hospital & Healthcare Supply  1,712  16%  2,615  6%  2,098  15%  4%  3,547  6%  6%
   Agribusiness  -  -  10,519  24%  -  -  -  13,206  24%  5%
   Chemicals  996  9%  10,236  23%  1,353  9%  6%  13,365  24%  5%
   Other Sales  -  -  1,943  4%  -  -  -  2,074  4%  1%
   Balancing OTC  (644)  -6%  (3,238)  -7%  (852)  -6%  6%  (4,122)  -7%  5%
Total WW Group Sales  10,833  100%  43,743  100%  14,278  100%  6%  55,212  100%  5%

However, the problem for Merck is that results from its pharmaceuticals business was the main cause of disappointment last week, with weak profit margins last year and a conservative outlook for 2010.

The lack of a specific update on the regulatory status in the US for oral MS pill cladribine, seen as an increasingly important growth driver for the group since the failure of Erbitux to gain approval in lung cancer, also disappointed. Cladribine’s filing was rejected by the FDA late last year (Merck’s second stumble causes targets to fall, December 1, 2009).

As such, the move on Millipore, which has attracted criticism from analysts and investors for looking over-priced, is clearly borne out of desire to reduce the risk the group is currently facing over its pharmaceuticals business.

Aside from the setbacks to Erbitux and cladribine (also known as Movectro), Merck’s pipeline has some promise, but in relative terms many of its candidates are high risk, its phase III lung and breast cancer vaccine, Stimuvax, is a case in point.

Bayer weighing its options

As for Bayer, its financial results were not as disappointing as Merck’s, but were still in the underwhelming category. Indeed, a key pharmaceutical growth driver for the group, anti-clotting agent Xarelto, looks set for further delay in reaching the US market given Bayer and partner Johnson & Johnson will not formally respond to the FDA’s complete response letter until the second half of the year. As such, the product is unlikely to enter the US market until 2011, a two-year delay that Bayer could do without.

As the table above shows, Bayer has a much more diverse business mix, highlighted by the fact pharmaceutical related revenue accounts for 40% of its total group sales. Depending on the mood and prospects of the broader economic and political climate this diversity has often been seen as a benefit or a hindrance to the group, as such the chance of a company break-up has been a hot topic for the M&A rumour mill for many years.

What may change this year and add fuel to these rumours is the imminent appointment of Marijn Dekkers as Bayer’s chief executive officer and chairman in October. Mr Dekkers admitted this week that the company will review all its business operations, with the prospect that its animal health unit may be sold off attracting the most interest.

For now though, Bayer and Merck appear to be sticking to their guns and resisting the urge seek a simplified business model, which proved too great for its European peers - Solvay, Akzo Nobel and UCB - in recent years.

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