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2-in-1: Merck and Schering-Plough

Published on 08/04/09 at 04:58pm

The Merck and Schering-Plough merger creates a new industry giant to challenge Pfizer in terms of its scale and annual sales. The deal, worth $41.1 billion, creates a company with combined 2008 sales of $47bn, just behind the $48bn Pfizer earned last year.

The move is a break from tradition for Merck, which has for many years eschewed mergers and acquisitions, saying they often failed to generate value for shareholders.

Richard Clark will lead the combined company, with Merck shareholders owning a stake of about 68%.

Merck has said the merger will create a more diverse portfolio across important therapeutic areas, including cardiovascular, respiratory, oncology, neuroscience, infectious disease and immunology.

Following Pfizer's own move to acquire Wyeth in January, Merck and Schering-Plough were always among the most likely to merge, with complementary portfolios and experience in working together on cholesterol brands Zetia and Vytorin.

The co-marketing of these brands is central to the logic of the deal, as the merger can eliminate much of the cost associated with running two parallel salesforces.

Merck's Richard Clark and Schering-Plough's Fred Hassan have put together a merger plan which aims to generate cost savings of approximately $3.5bn annually from 2011.

But is the deal really the best way forward for the company in the long-term? Many of Merck and Schering-Plough's peers are distancing themselves from talk of mega-mergers, reiterating the widely held view that they don't create value for shareholders in the long term.

Interestingly, shareholders seem to have responded positively to Merck's merger plans, with the companies' share prices rising on the news. Many commentators have attributed this to how the proposed deal will be financed - Merck will not have to dig so deep into its resources as to cut its shareholder dividend, a move welcomed when others are paring back expectations.

Real synergy?

Despite the positive response from investors, questions remain over just how much synergy can be derived from the deal.

For instance, neither company has a major capability in the field of biological drugs, an area which is now seen as a vital component of any big pharma company. Schering-Plough however did acquire Dutch biologics specialists Organon in 2007. Its pipeline has given Schering-Plough Sugammedex a treatment which quickly reverses the effects of muscle relaxants used in surgery to prevent reflex movements and Saphris (asenapine) a novel anti-psychotic is now being reviewed by FDA. In January the regulator requested further information on the drug but has indicated that further trials will not be required.

The drug is forecast to earn in excess of $1 billion in peak sales and will help replace revenue from drugs nearing patent expiry.

Merck is already investing a base in biological R&D, but has a long way to catch up with industry leaders such as Roche/Genentech.

Addressing this issue, Peter Kim, Merck's head of R&D said: "Merck is committed to establishing a presence in biologics. Through Merck BioVentures for follow-on biologics we are gearing up in a significant way to discover and develop novel biologics. Schering-Plough has considerable experience in biologics discovery, development, and manufacturing and an attractive early-stage biologics pipeline which was strengthened by the acquisition of Organon.

Merck hopes its new proprietary GlycoFi (pychia) platform and bioprocess and analytical expertise will eventually help it produce biotech drugs in-house.

R&D setbacks

Merck will have been driven on to sign the deal by a number of recent R&D setbacks.

The FDA recently rejected Merck's cholesterol-lowering drug Tredaptive/Cordaptive, and the company abandoned anti-obesity treatment taranabant after Sanofi-Aventis' similar drug Acomplia was withdrawn from the market because of safety concerns.

The deal is set to double the number of medicines Merck has in phase III, bringing the total to 18. One major challenge for the combined company will be to break into the field of oncology, the No.1 therapy area in terms of potential for growth in revenue and new product innovation.

Merck has a number of promising oncology drugs in its pipeline, but these are mostly in the early stages. However, Schering-Plough does have an existing presence in oncology. Its brain tumour treatment Temodar has just been approved in a new intravenous formulation in the US and the EU.

In a rare area of overlap in the two companies' pipelines, both have an IGF-1R monoclonal antibody candidate for colorectal cancer in development.

Meanwhile, like many of its peers, the combined compay faces several major impending patent expiries.

Most notable of these is Cozaar. The high blood pressure treatment which is expected to earn at least $3.4 billion this year is due to lose its US market exclusivity in 2010, with generic competition expected to swiftly whittle these revenues away.

More diverse, more global

In its favour, the merger does help Merck diversify its portfolio, and also helps it shift away from a reliance on the US market, where overall pharma sales growth is slowing.

The company will have one of the world's leading animal health businesses and a solid consumer health business, which will generate steadier growth prospects than the more volatile prescription medicines business.

In terms of a diverse portfolio, the merger will ensure no product represents more than 10% of total sales, avoiding over-reliance on any one blockbuster.

Schering-Plough currently generates around 70% of its revenue outside the US including more than $2 billion in annual sales from high-growth emerging markets.

This will boost Merck's presence in emerging markets, where it is having to play catch up after years of US-centric sales. The company has set itself the goal of achieving a top-five market share position in certain emerging markets, and will need to make up ground fast to achieve this aim.

INSPIRATION FOR A MERGER

The merger of Merck and Schering-Plough has been inspired by their successful co-marketing of Vytorin and Zetia.

Zetia (ezetimibe) was launched in 2003, and is the first in a new class of cholesterol lowering drugs which works by blocking the body's absorption of cholesterol.

Schering-Plough's offer to Merck to create a 2-in-1 combination of ezetimibe and Merck's Zocor (simvastatin) has proven to be a marketing masterstroke, boosting sales for ezetimibe and giving Merck prolonged income from simvastatin long after its monotherapy patent expired.

But 2008 saw the dream team come unstuck when worrying trial data emerged in late 2007.

The ENHANCE trial data suggested Vytorin had no effect on the formation of the plaques in arteries which contribute to cardiovascular disease. A second study brought even worse news, with data linking it to a raised cancer risk.

These concerns were reflected in 2008 sales of the drugs, which declined 12% to $4.6 billion. This decline were more marked outside the US, where sales of Zetia (marketed as Ezetrol in the rest of the world) fell 23% in the fourth quarter.

Long-term data on the drugs' ability to prevent heart attacks is expected in 2011 or 2012.

In the meantime, the companies can concentrate on consolidating the marketing for the two drugs. This will play a large part in producing the planned cost cuts, which are in addition to other ongoing money saving initiatives at the two companies.

JOHNSON & JOHNSON POISED TO RAISE THE REMICADE QUESTION

Johnson & Johnson has maintained a stoney silence over the Merck and Schering-Plough merger ever since it was announced on 9 March, but this is could end shortly when it is expected to demand concessions relating to Remicade.

Johnson & Johnson is able to intervene in the Merck-Schering-Plough deal because it co-markets Remicade with S-P, and a clause in this deal states that if is acquired by another company, the co-marketing deal must be reviewed.

This is why Merck used the elaborate 'reverse merger' approach to acquire Schering-Plough, whereby S-P is technically acquiring Merck.

The companies hope that legally this tactic will help prevent J&J spoiling the deal. However, the tactic is very unlikely to block J&J from making a move entirely, only to complicate a legal challenge.

The co-marketing deal dates back to 1998 when Schering-Plough agreed it with Centocor, just a year before to Johnson & Johnson acquired Centocor.

It also acquired the rights to co-market its follow-up product golimumab. In retrospect, the terms of the deal were an undoubted bargain for Schering-Plough, and J&J may take the opportunity to either take back full control of the drug, or at least improve its revenues from the partnership.

Schering paid Centocor $20 million upfront, a further $30m in milestones, plus royalties estimated at 29% of sales. When it exercised its option to buy into golimumab in 2005, Schering paid an additional $124m. The drug is now poised to be a blockbuster, making the deal a great one for S-P.

Remicade has annual US sales of around $3 billion plus the royalties from Schering-Plough. Analysts EvaluatePharma estimate the cost of buying the rights to the drug would be around $17.5bn. Golimumab, which has been filed with regulators in the US and Europe is forecast to achieve US sales of $1.72bn and is valued at $10.3bn.

Merck and Schering-Plough have undoubtedly planned for the scenario of losing the rights to the two drugs - but have also readied their legal defence.

Speaking at the conference to announce the merger Merck's legal head Bruce Kuhlik said the company was prepared to 'vigorously defend' its rights if necessary, but added: "At this point we are really looking forward to working with our colleagues at Johnson & Johnson."

Fred Hassan added to this calm tone, saying: "I think that there is a very good respect among the three companies in New Jersey and good relationships and good dialogue. In fact, I had a cordial conversation with Bill Weldon this morning."

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