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24 November 2008
Industry Consolidation
We see M&A accelerating: line
up the usual suspects
Barbara Ryan
Research Analyst
(1) 203 863 2239
barbara.ryan@db.com
George Drivas
Research Associate
(1) 203 863 2242
george.drivas@db.com
Fundamental, Industry, Thematic, Thought Leading
Deutsche Bank Company Research’s Research Product Committee has deemed
this work F.I.T.T. for investors seeking differentiated ideas. Here our
pharmaceuticals team examines how the industry can achieve improved long-term
revenue and earnings visibility, which is likely the only path to higher multiples. We
conclude that acquisitions – and eventually mergers of equals – are inevitable.
Deutsche Bank Securities Inc.
All prices are those current at the end of the previous trading session unless otherwise indicated. Prices are sourced from local
exchanges via Reuters, Bloomberg and other vendors. Data is sourced from Deutsche Bank and subject companies. Deutsche
Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm
may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single
factor in making their investment decision. Independent, third-party research (IR) on certain companies covered by DBSI's research
is available to customers of DBSI in the United States at no cost. Customers can access IR at
http://gm.db.com/IndependentResearch/ or by calling 1-877-208-6300. DISCLOSURES AND ANALYST CERTIFICATIONS ARE
LOCATED IN APPENDIX 1.
FITT Research
Top picks
Pfizer (PFE.N),USD15.67 Buy
Merck & Co. (MRK.N),USD24.40 Buy
Schering-Plough (SGP.N),USD14.34 Hold
Wyeth (WYE.N),USD33.91 Hold
Bristol-Myers Squibb (BMY.N),USD19.11 Buy
Companies featured
Pfizer (PFE.N),USD15.67 Buy
2007A 2008E 2009E
EPS (USD) 2.18 2.36 2.53
P/E (x) 11.6 6.6 6.2
EV/EBITDA (x) 6.7 3.6 3.2
Merck & Co. (MRK.N),USD24.40 Buy
2007A 2008E 2009E
EPS (USD) 3.20 3.28 3.64
P/E (x) 15.8 7.4 6.7
EV/EBITDA (x) 12.7 4.9 3.7
Schering-Plough (SGP.N),USD14.34 Hold
2007A 2008E 2009E
EPS (USD) 1.38 1.66 1.62
P/E (x) 21.0 8.7 8.9
EV/EBITDA (x) 38.5 7.6 6.4
Wyeth (WYE.N),USD33.91 Hold
2007A 2008E 2009E
EPS (USD) 3.52 3.54 3.60
P/E (x) 14.4 9.6 9.4
EV/EBITDA (x) 9.0 5.2 5.1
Bristol-Myers Squibb (BMY.N),USD19.11 Buy
2007A 2008E 2009E
EPS (USD) 1.27 1.68 1.92
P/E (x) 22.7 11.4 10.0
EV/EBITDA (x) 14.5 6.9 6.1
Fundamental: obvious mounting pressures on the global pharma market
Punishing generic competition and a continuing decline in R&D productivity will in
our view force more structural change in the industry. A hostile political
environment and a risk-averse FDA, plus slower penetration of new drugs via
formulary controls, add to the uphill battle.
Industry: more to be done on improving the risk/return equation
In our January 2006 report A Call to Action, we argued that the onerous secular
climate for drug companies would dictate aggressive restructuring of cost bases.
These efforts are now visibly underway and improving near-term EPS – yet it is still
clear that the industry must add more tangibly to longer-term revenues and EPS,
and improve its risk/return equation even further.
Thematic: the status quo is not an option – accelerated M&A inevitable
The industry is between the proverbial “rock and a hard place” – solid and
improving near-term EPS are not being rewarded, as investors are looking out to
the “patent cliff period” and appropriately questioning earnings persistency. In
our view, improving the revenue and earnings visibility in that period will require
aggressive M&A – including consolidation. We view management’s fears about
near-term EPS dilution as misplaced, as we expect multiple expansion to occur
only with the addition of visible revenues in the cliff period.
Thought Leading: converting cash into future revenues
We expect that pharma will have to move aggressively to convert its cash and
strong balance sheets into revenues and earnings to fill the void in the cliff period
via M&A and mergers of equals, which will likely also serve to reduce
unsustainable substantial inefficiencies in the pharma/biotech model.
We believe the most progressive companies may be BMY, PFE and MRK
In an environment of potentially increased M&A, investors may prefer to own
potential acquirees rather than possible acquirors, although fundamental risks and
valuation must be considered. In our US pharma universe, we believe that the
potential acquirors are MRK and PFE and the acquirees could be BMY and WYE.
Valuations fairly attractive, dividend yields compelling
The primary risk to the group is the opportunity cost of a reacceleration in the
economy, which would favor the beneficiaries. In the nearer term, we see low
valuations, stable EPS, and compelling dividend yields as the keys to relative
outperformance. Our valuation methodology is based on earnings multiples
derived via a peer group analysis. See pp 36-38 for detail on valuation and risks.
Table of Contents
Executive summary ........................................................................... 3
Outlook: the status quo is not an option...................................................................................3
Valuations: High yields/modest valuations should limit downside ............................................4
Risks: Anticipation of an economic recovery, legislative reforms.............................................4
Shotgun weddings? .......................................................................... 5
We think it is clear that industry pressures will drive accelerated M&A and consolidation – but
how long will it take? ................................................................................................................5
We believe partnering up is inevitable ......................................................................................6
Between a rock and a hard place..................................................... 8
The case for EPS dilution now..................................................................................................8
Why haven’t we seen it yet?.....................................................................................................8
Therapeutic consolidation – what if BMY and PFE went out on a date?.................................12
Pharma to buy biotech? ..........................................................................................................13
M&A scenarios................................................................................. 16
Pfizer-Amgen ..........................................................................................................................17
Pfizer–Bristol-Myers Squibb....................................................................................................19
Pfizer-Wyeth ...........................................................................................................................21
Pfizer-Gilead ............................................................................................................................23
Merck-Gilead..........................................................................................................................25
Historical M&A stats ....................................................................... 27
What can the balance sheets support?.......................................... 29
Heeding the call to action: what has been done?......................... 30
Supplemental M&A scenario data ................................................. 32
Pfizer-Amgen ..........................................................................................................................32
Pfizer-Bristol-Myers Squibb.....................................................................................................33
Pfizer-Wyeth ...........................................................................................................................34
Pfizer-Gilead ............................................................................................................................35
Merck-Gilead..........................................................................................................................36
Valuations and Risks ....................................................................... 37
Acknowledgement.................................................................................................................40
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