A silver lining for pharmaceuticals

For decades, investors turned to big pharmaceutical companies to ease the pain of a tumultuous stock market. Shares in Merck & Co. Inc., GlaxoSmithKline P.L.C. and Wyeth buffered any body blows the Dow Jones industrial average delivered.

Those days are long gone.

In recent years, Big Pharma - usually defined as the multinational companies with sprawling tentacles in drug research, development, manufacturing and marketing, as opposed to smaller firms usually concentrated on research - has been staring down $115 billion worth of drug-patent expirations. And it has few up-and-coming drugs to fill that void, according to research firm Datamonitor P.L.C.

The economic slowdown aggravates the problem. Consumers are picking up fewer prescriptions and telling pollsters they are skipping or reducing doses to save money.

But the credit crunch and plummeting stock market benefits big drug companies in one way: They can go on a shopping spree. With stock prices down, the targets of their acquisition affections are cheaper. And with loans harder to come by, smaller companies are more eager to look for bigger partners to bankroll them.

That, in turn, may mean some activity in the Philadelphia region, where big and little companies alike employ tens of thousands of people in one of the life-sciences industry's biggest hubs.

"The No. 1 driver of why we think there are going to be more deals is the patent cliff that is beginning to drive the industry starting around 2011," Moody's senior vice president Michael Levesque said. "And then because of recent stock market events, valuations globally are much lower than they were six months ago, so that could favor even more mergers and acquisitions or faster M&A, but the offsetting factor is that access to credit is going to tighten considerably."

On the other hand, lack of credit for operations could push smaller companies into a suitor's arms, especially start-up biotech companies without a product yet. The Goldman Sachs Group Inc. estimates that half of Europe's biotechs will require more funding within two years.

Big pharmaceutical companies seem confident they will be able to snap up bargains. Thanks to a series of fat years, nine of the largest U.S. drug and biotechnology companies boast a combined total of more than $105 billion of cash and investments as of June 30, Moody's said. (For tax reasons, not all that cash is available to buy other companies.)

Last week, GlaxoSmithKline said it would reduce stock buybacks and reserve those savings for acquisitions. GlaxoSmithKline is based in London, but it has U.S. headquarters in Philadelphia and in Research Triangle Park, N.C.

"We're not reserving capital for a rainy day that may or may not come," chief executive officer Andrew Witty said in a conference call after reporting third-quarter earnings profit that beat analyst estimates. "Opportunities are surfacing with some frequency on the small to medium scale."

He has already started to make good on that promise. His strategy includes diversifying revenue by expanding the consumer-product portfolio and by growing overseas.

This month, GlaxoSmithKline bought rights to Biotene, a dry-mouth treatment, from a private California company, Laclede Inc., for $170 million, and acquired an Egyptian unit of Bristol-Myers Squibb Co. for $210 million.

He also said small drug companies had approached GlaxoSmithKline about being acquired, and previously existing partnerships with smaller firms could result in acquisitions of specific drugs.

Many big drug companies will seek acquisitions that complement current businesses, said Phil Garland, senior vice president for BearingPoint Life Sciences, an industry consultant.

Eli Lilly & Co. recently announced it would acquire ImClone Systems Inc. for $6 billion to expand its cancer lineup.

Bristol-Myers, which lost a bidding war for ImClone to Lilly, told investors this week that it had a "long list" of biotechnology products and companies it wants to acquire with its roughly $7 billion in cash.

At Wyeth, based in Madison, N.J., and with major operations in Montgomery County, executives say they will pursue some acquisitions, but they are primarily focused on expanding sales of current products.

"We think there are opportunities for small to medium-sized acquisitions," Joe Mahady, president of Wyeth global pharmaceuticals, said.

But Sanford C. Bernstein & Co. L.L.C. analyst Tim Anderson is telling clients that Wyeth itself might merge with another large pharmaceutical company.

He said Wyeth was hitting a so-called "patent cliff" sooner than its competitors, referring to the sharp loss of revenue when a drugmaker loses patent-protected sales and begins to face cheaper generic competition. Wyeth's patent cliff will end in 2011, just when patents start expiring at competing companies. Wyeth also has high-quality assets likely to deliver strong sales for the next several years, such as pneumococcal vaccine Prevnar.

"Wyeth could ultimately be a take-out candidate as the patent 'cliff' of 2011-2012 approaches - its comparative lack of a cliff could help smooth earnings for those companies that are not as fortunate," Anderson told clients.

Wyeth said it did not comment on acquisitions.

But many experts scoff at such speculation, saying large mergers are unlikely because they have a weak track record. Also, Big Pharma executives have focused their remarks on smaller deals.

Mergers and acquisitions will not be the sole route to maintaining and expanding profit. Garland said his clients were still cutting jobs, considering closing factories and outsourcing some functions, such as information technology.

"People are basically battening down the hatches," he said. "There was a belief that pharmaceuticals and the health-care industry in general were immune because illness doesn't take a vacation. But today, the industry is faced with an economic downturn when they're already facing challenging times themselves."