With 2010 coming to an end, the pharmaceutical industry continues to witness major challenges like sluggish prescription trends, EU pricing pressure, intensifying generic competition 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. According to IMS Health, these products generated more than $17 billion in sales over the past 12 months. 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 throughout the year so far. 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 acquisition of Millipore Corporation.
In September 2010, Johnson & Johnson announced its plans 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 announced its intention to acquire King Pharmaceuticals (KG). 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) recent 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’s (ABT) acquisition of Facet.
Sanofi-Aventis has also been in the news recently regarding its attempt to acquire biotech company Genzyme Corp. (GENZ). Sanofi recently launched a hostile bid to acquire Genzyme which is currently showing no signs of agreeing to Sanofi’s terms.
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 going 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 4-5% in 2010, with the US pharma market delivering sales in the range of $310 billion. The global pharmaceutical industry growth rate should improve slightly in 2011 to 5-7% 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 positive outlook on large-cap pharma stocks, supported by the Zacks #1 Rank. This indicates that most of the companies falling in this category have seen their estimates being revised upwards due to an improved outlook. 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.
In the pharma space, we are positive on companies like Bayer (BAYRY) and Sanofi-Aventis (SNY), which have seen upward estimate revisions over the past 7 days. In addition to posting a strong performance in the recently reported third quarter, Sanofi raised its outlook for 2010.
The company’s diversified product portfolio, robust pipeline, strong vaccine segment and expanding presence in emerging markets should hold it in good stead even though the company is facing patent expires for certain products. Sanofi recently announced its intention to acquire BMP Sunstone, a leading consumer healthcare company in China. This deal should help boost Sanofi’s presence in the over-the-counter as well as emerging markets.
Bayer delivered better-than-expected third quarter results and maintained its outlook. The company’s Crop Science segment seems to be on the path to recovery thanks to improved market conditions.
Although we have a Neutral rating on Abbott, we maintain a positive outlook on the company given its diversified revenue base, strong business segments, contributions from recent acquisitions and impressive late-stage pipeline. We also have a positive outlook on Alcon (ACL). We believe Alcon will continue witnessing revenue growth based on continued international penetration, new product launches and market share expansion.
In the biotech space, we are positive on names like Gilead Sciences (GILD), Celgene Corp. (CELG) and Biogen Idec (BIIB). Gilead’s HIV franchise has been helping the company post better-than-expected earnings over the past few quarters, and we expect this trend to continue. Gilead is looking at increasing its presence in the Asian market for hepatitis B virus (HBV), where the infection is quite prevalent. We are encouraged by progress made by the company with its pipeline.
Celgene also posted solid third quarter results, with Revlimid continuing to exceed expectations. The company raised its outlook for 2010 — this resulted in estimates being revised upwards for 2010 and 2011. Celgene’s prospects remain bright given its promising pipeline and the continued solid performance of Revlimid. Label expansion should help boost Revlimid sales further.
Meanwhile, Biogen delivered a strong third quarter with revenues being driven by Tysabri and Avonex. Earnings estimates for Biogen have gone up significantly for 2010 and 2011 based on strong growth prospects.
Another company on which we have an Outperform recommendation is The Medicines Company (MDCO), which received a major boost in August regarding its Angiomax patent extension case. The US Patent and Trademark Office has extended the principal patent on Angiomax by a year to August 2011 and has been instructed to treat the patent extension application as having been filed on a timely basis.
Moreover, the US Government has decided against appealing the court’s decision. This has removed a significant overhang from the stock and has resulted in significant upward estimate revisions for 2010 and 2011. We are also positive on management’s efforts to drive growth through in-licensing deals and acquisitions.
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.
For example, the FDA delayed the approval of Bydureon, the lead pipeline candidate at Alkermes (ALKS). In its complete response letter (CRL), the agency asked co-developers Alkermes, Eli Lilly & Co and Amylin Pharmaceuticals, Inc. (AMLN) to conduct a thorough QT study and submit additional data. This might very well push out the product’s launch and approval to the second half of 2012.
We are also cautious on Onyx Pharmaceuticals (ONXX), which posted a higher-than-expected loss in the second quarter of 2010. Onyx Pharma also experienced a setback with its lead pipeline candidate, carfilzomib. The company recently announced a six-month delay in its plans for filing a new drug application (NDA) for the candidate. With the carfilzomib filing pushed out to mid-2011, Onyx Pharma will remain dependent on Nexavar for growth.
Another name to avoid would be Vivus, Inc. (VVUS), which recently received a complete response letter from the FDA for its key pipeline candidate, Qnexa. Further delays in the approval and launch of Qnexa would weigh heavily on the stock.
We would also avoid companies like Eli Lilly & Co. (LLY) and Forest Labs (FRX), which are 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.