This week Merck finally confirmed a persistent rumor when it announced an additional 8,500 layoffs spanning marketing, R&D and administration. The action has spurred a wave of jitters across Big Pharma and a small segment of the financial community. Already one analyst claims that as many as 100,000 jobs in Big Pharma are at real risk, with minimal prospects that laid off workers would ever find other jobs in the industry (see here). That means even as the overall economy makes its snail pace improvements, pharma could plunge into a second recession or a jobless recovery unless managements reverse their current course of running operations at the behest of Wall Street
The Merck layoff provides a prime example of obedient managers catering to Wall Street. The Citigroup analyst who covers Merck praised the latest decision to eliminate people and cut research programs because, in his words, "Merck currently lags behind peers in externalisation of R&D." (See here.) While he considers this week's cuts as a step in the right direction, he still feels Merck has a long way to go.
In other words, Wall Street wants Big Pharma to operate its R&D as virtual entities in which they outsource the work to CROs, startups, biotech's and others. That would make pharmas essentially into competitors of private equity. Big Pharmas, by operating in the way Wall Street prefers, would no longer function as developers, manufacturers and marketers of new therapies.
Such an approach might work for a few years but, ultimately, it would prove self-defeating because investors would eventually shun such companies. It wouldn't take them too long to figure out that owning shares in a virtual pharma amounts to investing in a financial services entity that, in turn, invests in real developers and marketers. Major investors could either find these end-target companies themselves and buy those equities or, alternatively, invest in real private equity firms that are smarter, faster and tougher than the club-footed pharmas. What would investors gain by putting money into inefficient, poorly managed Big Pharmas to make these buys for them?
In an immediate and specific fashion, the Merck announcement revealed a level of deceit on the part of Merck management that has become all too common in pharma during recent years. Someone at the press conference asked CEO Ken Frazier if the current cuts to R&D spending and staff mean he is abandoning his 2011 position where he said Merck will pursue a different strategy than Pfizer and other Big Pharmas that decided at the time to cut their research budgets (see here).
Frazier professed to see no change or contradiction. Instead he said his 2011 statement didn't suggest Merck wouldn't cut R&D, just that they wouldn't make "indiscriminate" cuts to prop up short-term earnings (see here).
Such hairsplitting and deceit are loathsome when politicians do it, but the regularity with which they try to mislead the public has made it expected conduct for them. As senior executives bear a legally mandated, fiduciary responsibility to investors, their blatant deception appears even more detestable. In Frazier's case, his 2011 statement criticized Pfizer and the other Big Cap pharmas that decided to trend down their R&D spending. At the time he made fulsome statements that Merck intended to maintain its research spending levels.
Even worse, Frazier's claim that he won't make cuts to prop up short-term earnings is, to use the most charitable term, disingenuous because his stock buyback program and decision to borrow money by issuing bonds to pay high dividends are exactly the sort of bogus efforts to prop up the stock that he claims to decry. What else are stock buybacks and borrowing to pay dividends other than taking money that would otherwise go into R&D and using it to prop up the stock? Call it indiscriminate or deliberate, it still amounts to sacrificing long-term growth and sustainability in favor of short-term earnings and stock price.
Managements at Merck and some of the other Big Caps are leading the sector into a long, cold winter where the emergence of spring remains, at best, uncertain.
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