The pharmaceutical industry continues to witness major challenges like sluggish prescription trends, EU pricing pressure, intensifying generic competition, pipeline failures and limited late-stage catalysts. The next five years are expected to reflect a significant imbalance between new product introductions and patent losses.
According to IMS Health, this is the main reason global pharmaceutical market growth will be restricted to the mid-single digits (5-8%) through 2014. Over the next five years, products that currently generate more than $142 billion in sales are expected to face generic competition, including Lipitor, Plavix and Zyprexa.
In fact, 2011 itself will see products worth more than $30 billion losing patent protection. This includes products like Lipitor, Plavix, Zyprexa and Levaquin. These products generated more than $15 billion in sales in 2010. The effect of the genericization of these products will be felt mostly in 2012, which will be a challenging year for several companies.
At the same time, new products are not expected to generate the same level of sales as products losing patent protection. With revenue growth stalling or slowing down, companies have been resorting to cost-cutting and share buybacks to drive bottom-line growth.
The pharma sector continued to witness major merger and acquisition (M&A) deals in 2010. With most of the big pharma companies already facing or likely to face patent challenges for their blockbuster products, the companies have been looking towards M&As and in-licensing activities to make up for the loss of revenues that will arise with key products losing patent exclusivity.
We saw huge M&A activity over the last few quarters. Major deals include Johnson & Johnson’s (JNJ) acquisition of medical devices maker Micrus
Endovascular Corp. and Merck KGaA’s (MKGAF) acquisition of Millipore Corporation.
Johnson & Johnson is currently looking to buy out the rest of Dutch biopharmaceutical company Crucell NV. This acquisition should not only help strengthen Johnson & Johnson’s portfolio, it should also allow the company to build its presence in the vaccines market, given Crucell’s expertise in the manufacture, discovery and commercialization of vaccines.
Meanwhile, pharma giant Pfizer (PFE) recently completed its acquisition of King Pharmaceuticals. With this deal, Pfizer is looking to strengthen its presence in the pain management market.
Oncology also remains a much sought-after therapeutic area with companies like Sanofi-Aventis (SNY) and Celgene (CELG) strengthening their presence in this market through acquisitions. Meanwhile, generic player Mylan’s (MYL) purchase of Irish injectable drug maker Bioniche Pharma Holdings Ltd. provides Mylan with a direct entry into the North American injectable drugs market.
Elsewhere, companies have been looking towards biotech firms to build their product portfolios. Prime examples include Johnson & Johnson’s acquisition of Cougar Biotechnology, Roche’s (RHHBY) acquisition of Genentech, Bristol-Myers Squibbs’ (BMY) acquisition of Medarex, Sanofi-Aventis’ acquisition of Fovea Pharmaceuticals SA, Astellas Pharma’s acquisition of OSI Pharmaceuticals and Abbott Labs’ (ABT) acquisition of Facet.
Sanofi-Aventis has also been in the news with its agreement to acquire biotech company Genzyme Corp. (GENZ).
Going forward, we expect this M&A trend to continue. We also expect a significant pickup in in-licensing activities and collaborations for the development of pipeline candidates. Instead of developing a product from scratch, which involves a lot of funds, pharma companies are shopping for mid-to-late stage pipeline candidates that look promising.
Small biotech companies are also game for in-licensing activities and collaborations. Most of these companies find it challenging to raise cash, thereby making it difficult for them to survive and continue with the development of promising pipeline candidates. Therefore, it makes sense for them to seek deals with pharma companies that are sitting on huge piles of cash.
We would recommend investors to put their money in biotech stocks that have attractive pipeline candidates or technology that can be used for the development of novel therapeutics. Therapeutic areas which could see a lot of in-licensing activity include oncology, central nervous system disorders, diabetes and immunology/inflammation.
Another recent trend seen in the pharmaceutical sector is a focus on emerging markets. Companies like Mylan, Pfizer, Eli Lilly (LLY), GlaxoSmithKline (GSK) and Sanofi-Aventis are all looking to expand their presence in India, China, Brazil and other emerging markets. Until recently, most of the commercialization efforts were focused on the US market — the largest pharmaceutical market — along with Europe and Japan.
However, emerging markets are slowly and steadily gaining more importance and several companies are now shifting their focus to these areas. Emerging markets should see strong sales thanks to higher demand for medicines. Several factors like government initiatives for healthcare, new patient population, and increasing use of generics should help drive demand. Growth in emerging markets could help stabilize the base business during the industry’s 2010-15 patent cliff.
IMS Health estimates that pharmerging markets will grow 14-17% through 2014, while major developed markets will grow only 3-6%. Although the US will retain its position as the single largest market (estimated growth: 3-6% annually in the next five years), China’s pharmaceutical market is expected to continue to grow more than 20% annually, and contribute 21% to overall global growth through 2013.
Growth Forecasts for 2011
According to IMS Health, the global pharmaceutical industry should record growth of 5-7% in 2011 representing sales of approximately $880 billion.
Pharmerging markets, consisting of 17 countries, are slated to grow in the range of 15-17% in 2011, representing sales of $170-$180 billion. China, which is now the third largest market in the world, is expected to grow 25-27% to more than $50 billion in 2011.
As far as developed markets are concerned, Japan is slated to grow 5-7% in 2011. Major European markets like the UK, Germany, France, Italy and Spain are expected to deliver combined growth of 1 3%. A similar growth rate is expected from Canada. The US market, which is expected to retain its position of the single largest pharma market, is slated to grow 3-5% to $320-$330 billion.
Source of Growth Forecast: IMS Health
We currently have a neutral outlook on large-cap pharma stocks, supported by the Zacks #3 Rank. While the companies will continue to face challenges like pricing pressure and genericization, growth in emerging markets and product approvals could help reduce the impact.
Most of the companies have provided a disappointing outlook for 2011 with performance expected to be affected by factors like US healthcare reform, EU pricing austerity, and generic competition among others.
We currently have Neutral recommendations on companies like Abbott Labs (ABT), Allergan Inc. (AGN) and Pfizer (PFE). We believe that Allergan’s presence across different segments and geographies will help maintain decent growth going forward. We believe the company will be back on its historical mid-to-high teens earnings growth trajectory from 2011.
In the biotech space, we are positive on Biogen Idec (BIIB). Biogen delivered a strong fourth quarter with revenues being driven by Tysabri and Avonex. Earnings estimates for Biogen have gone up significantly for 2011 based on continued strong performance of the multiple sclerosis franchise and share repurchase.
We currently have a negative outlook on European pharma companies like Sanofi-Aventis (SNY) GlaxoSmithKline (GSK) and Bayer (BAYRY). All these companies have witnessed downward estimate revisions following the release of fourth quarter and full year results. US healthcare reform, EU pricing austerity and lower sales of pandemic flu products are likely to impact the performance of companies like Sanofi and Glaxo.
Moreover, Sanofi is facing generic competition for several products and this is expected to continue impacting the company’s performance going forward. For 2011, Sanofi expects earnings to decline 5-10% given the absence of A/H1N1 vaccine sales and the impact of generic competition.
Meanwhile, we have a Zacks #4 Rank (short-term Sell rating) on Johnson & Johnson (JNJ). The company provided a disappointing outlook for 2011. We expect the poor performance of the company’s Consumer segment due to back-to-back OTC product recalls, EU pricing pressure as well as genericization of certain products to weigh on sales.
We recommend avoiding names that offer little growth or opportunity for a take-out. These include companies which are developing drugs that are likely to face regulatory hurdles. The US Food and Drug Administration (FDA) has been exercising more caution before granting approval to new products and several candidates have been facing delays in receiving final approval.
We currently have a Zacks #4 Rank (short-term Sell rating) on MannKind Corporation (MNKD). The company suffered a major setback earlier this year when it received a second complete response letter from the US Food & Drug Administration (FDA) for its diabetes treatment, Afrezza.
We would also avoid companies like Eli Lilly & Co. (LLY), which is facing patent expirations on key products and whose new products may not be enough to make up for the loss of revenues that will take place once generics enter the market. 2011 will be a challenging year for Eli Lilly with the company losing patent exclusivity on Zyprexa. Zyprexa sales should erode rapidly with the entry of generics. Moreover, we expect continued erosion of Gemzar sales due to genericization.