Since the beginning of 2014, numerous pharmaceutical companies have been embarking on M&A splurges, including various mega-mergers. In 2015, the biggest-ever Pharma transaction at $160 billion was announced. The rapid rise of M&A activity has not been restricted to mega-mergers, with smaller and middle market companies also getting into the act of deal-making and consolidation. In particular, biotechnology companies have proved to be popular with pharma companies – with deal-making in the Pharma sector hitting a record-high $395 billion in 2015, 31 M&A deals involving biotech firms, worth $18.2 billion combined, were also completed last year.
Decline In R&D Activity Due To M&A
While M&A activity has indeed led to immense growth in the pharmaceutical industry in recent years, some claim that such growth had been at the expense of the raison d’être of the industry – the research and subsequent development of new drugs. Such decline in R&D activity has been manifested in various ways, one of which would be the direct cutting of R&D spending. Following Actavis’ $66 billion acquisition of Allergan in November 2014, Actavis CEO Brent Saunders mentioned in a call with analysts that the combined company would take a “mid to high cut to our R&D spending,” with the intention of achieving expected cost savings of $1.8 billion a year from 2016. Clearly, while consolidation does bring about market power and available cash, R&D is cut back as a result.
The pharmaceutical industry’s obsession with M&A has also led to reduced healthy competition, which is a key factor in ensuring successful R&D outcomes. M&A shifts a firm’s focus to internal restructuring, rather than increased pressure to develop new drugs. In fact, areas with the highest concentration of competition, such as in AIDS – with the rise of challengers such as Gilead, are those that have seen continued success. The trend of positive innovation in the Swiss pharmaceutical industry can be attributed to the major players, Novartis and Roche, resisting the urge to merge to form a single entity.
Of course, as pharmaceutical companies operate in the private sector, they have every right to pursue M&A as a means to secure future growth for their shareholders, and to meet business goals. Yet, when companies continuously fuel growth through the synergies and efficiencies of M&A, it is unsustainable in the long run due to its insidious effect on the industry’s R&D capacity. Furthermore, evidence has shown that it is possible for a pharmaceutical company to remain successful with the traditional business model of investing in R&D – GlaxoSmithKline’s CEO Andrew Witty claims that the key reason behind the company’s continued success was sticking to the R&D model, instead of switching to an M&A model.
The Popularity Of M&A Is Not Without Good Reason
However, it is crucial to acknowledge that the rise in deal-making stemmed from a variety of justified reasons as well. In fact, for many pharmaceutical companies, M&A is their way of tackling the challenges that come with patent expiration. Firms in pharma have sought to acquire biotech companies which have their products on the market, or in the final stages of development. AstraZeneca’s takeover of several biotech firms in 2015 was a strategy undertaken to strengthen the company’s stream of respiratory, cardiovascular and oncology products. Certain companies also allow smaller and more focused biotechs to develop products with the objective of acquiring them in later stages. With large pharmaceutical companies, or Big Pharma, with such extensive access to capital, they are most certainly in a strong financial position to execute such a strategy.
When it comes to the final stages of the development of a new drug – in commercialization, it is simply not possible for smaller companies to compete with Big Pharma’s extensive resources and commercial platforms. It can be highly effective for a large company to acquire a small firm which has effective drugs for the larger firm to market and sells through its platforms. Furthermore, treatments for diseases can get to patients more quickly via Big Pharma’s commercialization skills. The $11 billion takeover of biotech company Pharmasset by US company Gilead, the world’s largest biotech firm, in 2011 can be said to be a successful execution of such a strategy. At that time, Pharmasset was in the midst of conducting late-stage clinical studies for a hepatitis C drug later known as Sovaldi – the drug made more than $10 billion in sales in 2014.
It’s About Balance
Increased focus on the acquisition business model, at first glance, may seem to pose a threat to the traditional R&D model previously adopted by many pharmaceutical companies. Some may even claim that M&A will do no good for the industry in the long run, and is no different from taking short-cuts to fuel growth.
We also have to acknowledge that just like any industrial sector in the economy, the pharmaceutical industry is vulnerable to the ongoing challenges in the free market. In a time when the pipeline for innovative, new blockbuster drugs is slowing, and the expiration of patents are threatening the sales of drugs that have been a stable stream of revenue, it is extremely challenging to balance the demand for cutting-edge R&D with the need for returns on investment and subsequent shareholder satisfaction. Furthermore, the claim that M&A erodes R&D activity can be questioned – they are not mutually exclusive. Certainly, there is potential for both business models to integrate and work hand in hand to fuel the quality growth of firms and the industry.