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Business

Pharma Continues Its Turnaround

Second-quarter earnings rise despite restructuring moves, product problems, and manufacturing issues

by Ann M. Thayer
August 16, 2010 | A version of this story appeared in Volume 88, Issue 33

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Credit: Sanofi-Aventis
Researchers, such as this worker at Sanofi-Aventis, are focused on developing new products.
Credit: Sanofi-Aventis
Researchers, such as this worker at Sanofi-Aventis, are focused on developing new products.

Financial results are always polished to look their best. Yet for many pharmaceutical companies, although things look good on the surface, real problems lurk below the bottom line.

Earnings at the big pharma and major biotech companies tracked by C&EN were up a healthy 11% in the first half of 2010. But those results exclude charges for extraordinary or nonrecurring items. Several companies took that type of write-off for restructurings, job reductions, and facility closures, as well as for myriad legal, manufacturing, and product-recall problems. With charges, earnings for the pharma and biotech group rose 7.6%.

Moreover, for the most honest assessment of 2010 so far, Pfizer shouldn’t be included in the net results because of how it chose to report its financial figures. The company didn’t report results on a pro forma basis, which means that 2010 figures include its acquisition of Wyeth. The results for 2009, however, weren’t recast to reflect what the combined businesses would have looked like then.

As a result, with Wyeth’s products included, Pfizer’s first-half sales jumped 56.0%, and its net earnings were up 42.3%. Very little of the sales increase was from growth for legacy Pfizer products. Including acquisition, integration, and restructuring costs, Pfizer’s first-half earnings actually declined about 10%.

If Pfizer is taken out of the picture altogether, first-half sales for the 10 remaining pharma firms that C&EN surveys rose a modest 6.8%, and earnings grew 5.8%—far from the double-digit increases the industry enjoyed just a couple of years ago. This sales increase does continue a trend of overall sales growth that began in the fourth quarter of 2009 as the world started emerging from the ­recession.

Uncertainties still at play include the pace of economic recovery, health care reform changes, currency exchange rates, and increased generic drug competition between 2011 and 2013. Pricing and health care reform pressures are expected to intensify next year. Still, barring any unforeseen events and excluding special charges, earnings growth will continue this year, most drug company executives predict.

For the next 12 months, the fundamental outlook is positive, concluded Standard & Poor’s drug industry analyst Herman B. Saftlas in a recent report. The industry will be helped by firmer pricing, new products, and cost-containment efforts. Most players, he noted, should be able to cushion the impact of patent expirations for major products. These include Pfizer’s Lipitor, Eli Lilly & Co.’s Zyprexa, and Plavix from partners Sanofi-Aventis and Bristol-Myers Squibb.

Jeffrey B. Kindler, Pfizer’s chief executive officer, shares Saftlas’ positive outlook. “Pfizer’s more balanced global portfolio, which includes small molecules, biologics, and vaccines, as well as off-patent pharmaceuticals and diversified products, generated strong performance in a period of notable worldwide economic uncertainty,” he said when announcing results. “We continue to make solid progress on the Wyeth integration while we remain focused on delivering strong business performance.”

Merck & Co.’s results were colored by its own mega-acquisition—that of New Jersey-based rival Schering-Plough. It reported comparable sales, but not earnings, for 2010 and 2009. On this basis, sales fell about 1.6% in the second quarter but rose about 2.5% in the first half.

“We’re now halfway through our first full year as a combined company,” said Merck CEO Richard T. Clark when announcing first-half results. “Already we’re seeing positive signs of what can be achieved—despite patent expiries and a challenging economy.”

Last month, Merck reported sweeping cuts in R&D staff and facilities (C&EN, July 12, page 5). AstraZeneca, Lilly, Pfizer, and GlaxoSmithKline all have significant cuts planned as well.

GSK was the one drug company that couldn’t paint a pretty picture with its financial results. It reported a significant decline in its earnings—down 88.6% for the second quarter and 39.5% for the first half of 2010. Consequently, its profit margin dropped to just 2.2% for the quarter, a level practically unheard of in a traditionally high-margin industry. Adding the restructuring and legal charges, the company reported a loss of $377 million for the second quarter but managed to remain profitable for the first half.

In July, GSK announced that it would take a $2.36 billion charge for the second quarter to cover existing and anticipated legal expenses. These problems include a U.S. government investigation of whether the company’s former site in Cidra, P.R., complied with regulated manufacturing standards. The firm has reached an agreement in principle with the U.S. Department of Justice under which it expects to pay $750 million in civil and criminal penalties.

Other product liability and antitrust litigation relates to its anti­depressant Paxil and diabetes drug Avandia. In a statement, GSK confirmed that it has now fully resolved the antitrust litigation around Paxil. It also said it has settled the vast majority of product liability cases, which were related to the product’s side effects and the company’s knowledge of them.

Similarly, most of the product liability cases relating to Avandia have been settled, GSK said. The company has been accused of failing to warn consumers about the risks of heart failure and other injuries when taking Avandia. A Food & Drug Administration advisory panel has recommended keeping the drug on the market, although with stronger warning labels and restricted sales (C&EN, July 26, page 32). And enrollment in a postapproval trial has been suspended until FDA makes a final decision on the drug’s future.

For two years, GSK has been working on a new strategy of focusing more on emerging markets—a bright spot for most companies—and less on mature ones such as the U.S. In the first half, the company’s overall sales grew 6.4%, with emerging markets showing a 17% gain. In the past three years, CEO Andrew Witty pointed out during his earnings report, GSK has obtained more FDA approvals for new molecular entities and vaccines than any other company.

Analysts are also upbeat about the company’s prospects, although according to a report from the investment bank Citigroup, patience is required. “Our long-held thesis for investment in GlaxoSmithKline is based on a lower risk and more predictable growth profile than its peers as it is now emerging from five years of patent expirations,” according to Citigroup.

Johnson & Johnson is having a tough time as well, largely in its McNeil Consumer Healthcare Division. The business had to recall several over-the-counter (OTC) drugs manufactured in Las Piedras, P.R. Trace amounts of a chemical originating in shipping pallets caused the products to smell and potentially caused gastrointestinal problems for consumers. More recently, J&J also recalled several OTC drugs for children and suspended manufacturing at a Fort Washington, Pa., plant.

“Remedial actions to address the product-quality issues at McNeil Consumer Healthcare are ongoing and of high importance,” CEO William C. Weldon said when reporting earnings in July. “At the same time, we continue to make significant investments in acquisitions, strategic partnerships, and in advancing our pipeline.”

For the first half, sales at J&J, the second-largest pharmaceutical company, after Pfizer, rose just 2.3%, and earnings grew 4.2%. J&J’s consumer product sales, which account for about a quarter of its total sales, fell 5.1%.

Genzyme is also confronting manufacturing woes. The biopharmaceutical firm has been trying to resolve drug contamination and quality-control issues after halting production in 2009 at its Allston, Mass., plant. In May, the company signed a consent decree to correct problems and pay the U.S. government $175 million in damages. Genzyme is now carrying out a two- to three-year remediation program.

Crimped by limited shipments of two of its major products, Genzyme’s first-half sales fell 9.4%. Excluding shutdown costs and manufacturing write-offs that were primarily for discarded drug materials, net earnings plummeted 67.8% for the first half of 2010. Including these charges, it reported a loss of $115 million. The company expects to be able to increase product shipments during the second half of the year.

“This was a difficult quarter, as reflected in our financial results, but based on the progress we’ve made with our recovery efforts, the outlook for the second half of 2010 is promising,” CEO Henri A. Termeer said. Increased product sales combined with operating-cost reductions should help raise earnings. In May, FDA approved Lumizyme, a new Genzyme product for treating Pompe disease, a rare genetic deficiency in acid α-glucosidase.

Citigroup analysts, however, told investors in a recent report that Genzyme’s earnings outlook is too optimistic. In the past month, the company’s stock has soared, not because of an improved outlook but rather because of the likelihood that it is targeted for takeover by any of several major drug firms attracted to the outsized sales and earnings growth that big biopharmaceutical firms generally offer.

Genzyme staved off a takeover attempt by investment mogul Carl C. Icahn in early June and has started a $2 billion share buyback. It is still looking for alternatives for its genetics, diagnostics, and contract pharmaceuticals businesses and reports that it is on track to complete transactions to dispose of them by the end of this year.

Sanofi-Aventis has reportedly offered more than $18 billion to buy the whole company (C&EN, Aug. 9, page 7). The French firm has increasingly been looking outside its own business to find new opportunities. It recently signed several biopharmaceutical development deals and acquired small-molecule drug developer TargeGen. In the first half of 2010, Sanofi posted modest sales and earnings growth but still had one of the industry’s highest profit margins.

“Our objective to enhance innovation in R&D is on track, thanks to both internal transformations and numerous partnerships and acquisitions,” CEO Christopher A. Viehbacher said when reporting results. And with its restructuring costs taken into account back in 2009, Sanofi’s earnings picture is one of the clearest in the pharmaceutical industry.

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