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Merck & Co. (NYSE:MRK) is one of the largest pharmaceutical companies in the world with 2008 annual sales of $24.2 billion. While Merck produces a wide assortment of medications, a few blockbuster drugs bring in the bulk of its revenue. Currently Merck's four most profitable drugs account for more than half of total sales.

The company's decision to acquire rival Schering-Plough (SGP) will be a major expansion, though, as the two companies' combined 2008 revenues were $47 billion. ^[1] The deal officially closed on November 3, 2009.^[2]

As a research-driven drugmaker, significant resources are devoted to continue to produce new drugs. Notably, there are high expectations for HPV vaccine Gardasil and diabetes drug Januvia. As of the end of 2008, there are 16 products in Phase II clinical trials and 9 in Phase III trials that may be marketed in the next five years. ^[3]

The cholesterol drug Vytorin was previously hailed as a blockbuster but studies have cast doubt on its benefit. Vytorin is jointly developed with Schering-Plough, and both companies face lawsuits claiming millions for misleading marketing techniques that claimed Vytorin was more effective.^[4] Sales of the drug did not contribute significantly to Merck's 2008 revenue. ^[5]

Merck faces many of the challenges that face all pharmaceutical companies, including issues surrounding patent expiration and FDA approval. Patent expiration may affect 30% of sales through 2008. In addition, there is growing pressure in the US and abroad to lower the price of medication. ^[6]

Corporate Overview

Company History

Merck & Co. was initially formed in 1891 as a United States subsidiary of the German chemicals and pharmaceutical company Merck KGaA. During World War I, it was established as an independent company from confiscated assets. Since then, it has grown to become one of the top seven largest pharmaceutical and biotech companies worldwide. Merck KGaA continues to operate to this day, and is not related to Merck & Co.

Business Growth

Merck reported that Q2 2009 earnings were down from a year before. Revenues fell 2.5% to $5.9B, and quarterly profit fell 12% to $1.56B from $1.77B in Q2 2008. One reason cited for weak numbers is adverse foreign exchange movements, and another reason cited is weakness in sales of Gardasil, as well as cholesterol drugs the company makes as partners with other big pharmaceutical firms.^[7]

Merck and partner Schering-Plough announced in early 2008 that Vytorin was not effective in preventing aortic stenosis, or blockage of the heart valve. Patients taking Vytorin also showed slightly higher rates of cancer, but the two companies has called that an anomaly.^[8]

On April 29, 2008, the FDA issued issued a not-approvable letter for Merck's experimental cholesterol drug, which it planned to call Cordaptive. Investors had high hopes for the drug, which would be one of the first drugs to increase "good cholesterol" (HDL). Stocks fell by 10.8 percent after the news, which came as a surprise. A week after the this announcement, the company reported that it will cut 1,200 sales positions, or about 15% of its U.S. sales force.

On March 9, 2009, Merck announced plans to acquire rival drug maker Schering-Plough (SGP) for approximately $41 billion in cash and stock. The merger's aim is to strengthen Merck's pipeline, doubling the company's number of late stage drugs to 18. Further, annual cost savings of $3.5 billion are expected after 2011. Part of this savings will come from Merck's decision to cut 15% of the combined company's 106,000 employees. ^[9]

In Q3 of 2009, Merck reported sales of $6.0 billion, an increase of 2% from the same quarter of the previous year. Key drivers of Merck's sales growth include growth from Januvia, Janumet, Isentress, and Singulair. Merck reported net income of $3.42 billion, increased from $1.09 billion he previous year. This large increase was largely due to the sale of Merck's animal care division, Merial, as well as lower costs from Merck's corporate restructuring initiatives.^[10] In all, Merck's earnings per share of $0.90 for Q3, a 13% increase over the previous year, beat the $0.82 per share predicted by analysts.^[11] Schering-Plough, which Merck officially merged with on November 3, 2009, reported Q3 revenue of $4.5 billion for a net income of $477 million. Combined, the companies posted sales of $10.5 billion and a net income $3.9 billion.^[12]

Business Drivers

The main drivers in the pharmaceutical industry include product pipeline (new products in development), patent expiration (products becoming generic), and product diversification. The combination of these factors determine profits and forecasts, and are therefore very important in making investment decisions.

Merck BioVentures

BioVentures is the biologics manufacturing division of Merck established in 2008.^[13] Currently, BioVentures is focused on creating generic versions of popular biologics such as Amgen's Enbrel and Roche's Avastin and Herceptin. Merck owns a key advantage in this strategy from a technology that it bought in 2006, known as glycoengineering, which enables the company to grow biologics in yeast cells, thereby circumventing certain production patents from Amgen and Roche, which grow their drugs in mammalian cells.^[14] While the generic drugs that Merck will produce in its BioVentures division will require substantial clinical trials, it is likely that the trials will be reduced compared to those of a novel biologic therapy. In addition, the added certainty of success -- both from a development and a market perspective -- for these follow-on drugs compared to novel biologic therapies add to the appeal of Merck's strategy.

In February of 2009, Merck BioVentures announced that it would acquire Insmed, a protein manufacturing company with drugs in development as follow-on biologics, for $130 million.^[15] In December of 2009, Merck announced that it would acquire British protein manufacturer, Avecia Biologics, for a deal worth under $1 billion. Merck executives have said that they expect BioVentures to invest $1.5 billion in research by 2015 and launch at least six generic biologic therapies between 2012 and 2016.^[16]

Product Pipeline

Merck currently has 25 products past preliminary clinical trials (Phase II and III), meaning that there should be a steady stream of new releases in the coming years. In 2008, Merck spent $4.8 billion on research and development.

Lack of Product Diversity

Although Merck has a wide assortment of drugs and vaccines, it depends on a small number of highly successful blockbuster drugs. For example, in 2008 the five most profitable drugs brought in more than half of the company's revenue. Thus, the success of each of its blockbuster drugs has a large impact on the overall health of the company. The future success of these five drugs will also depend on patent expiration dates. For more information on specific drugs, see the following section, Major Drugs and Industry Trends.

Patent expirations

For a detailed discussion of brand name vs generic medication, see also Brand name vs Generic medications.

Due to Food and Drug Administration (FDA) regulations, pharmaceutical patents last 17 years, during which a pharmaceutical company has an exclusive right to manufacture a particular drug. After the patent expires, generic versions of the product can be produced and sold by competitors. Generic medication is cheaper than brand medication, and the lower cost is often a strong incentive for consumers to choose generic over brands. In addition, the presence of a generic alternative may prompt a decrease in the brand name medication price.

30% of Merck's sales through 2008 may be affected by generics due to patent expirations. The patent for the cholesterol drug Zocor expired during 2006, and Merck experienced a significant decline in sales. Merck will have major setbacks in patent expiration in the coming years, including the very profitable osteoporosis drug Fosamax, for which the US patent will expire in 2008. However, the Europe patent office has extended the Fosamax patent through 2018.

Merck must also defend its patented drugs even before they expire. In August 2009, the company was successful in stopping Israeli generic drugs producer Teva Pharmaceutical Industries (TEVA) from selling a generic copy of Singulair, Merck's best selling drug, in the United States. Domestic sales of the drug grew 6% in the first half of 2009 to reach $1.5B in the US and $2.3B worldwide. ^[17]

Litigation

Pharmaceuticals can face significant liabilities if a medication is later found to be defective or produce adverse reactions. Even though such adverse reactions are previously unknown and impossible to predict, damages claimed in such lawsuits are usually substantial. Depending on jurisdiction, the legal system may limit allowable damages.

Vioxx is an anti-arthritis drug that gained widespread adoption for treating chronic pain. Up to 80 million patients were prescribed with Vioxx. Soon after approval, several studies indicated that Vioxx increased the risk of heart attack over the placebo. Merck recalled the drug, but has faced several thousand lawsuits from patients who took the drug. On November 9, 2007 Merck agreed to pay $4.85 billion to settle 27,000 claims that Vioxx caused heart attacks and strokes in thousands of users. ^[18] While the settlement is one of the largest in history, it is significantly smaller than analysts' initial liability estimates of $10 to $25 billion.

Vytorin is a cholesterol drug jointly developed with Schering-Plough that is a combination of Merck's best-selling Zocor, which had lost patent protection in 2006, and Zetia, a newer drug. While sales of the drug were strong in early 2008, totaling $3 billion in the fourth quarter, Vytorin has faced controversy over its comparative efficacy and marketing techniques. As a combination drug, Vytorin enjoys patent protection, which allows Merck and Schering-Plough to charge significantly higher prices than its Zocor counterpart. However, the two companies recently released the results of a study that showed Vytorin may not be any more effective than Zocor alone. While the clinical trial was completed in April 2006, the two companies did not release the results of the study until January 2008. During that time, Merck and Schering-Plough had aggressively advertised Vytorin as a better alternative to Zocor. Merck and Schering-Plough are currently defendants in about 50 civil suits related to Vytorin's potentially misleading marketing.^[19]

Major Drugs and Industry Trends

Significant research and money-making drugs are related to long-term ailments such as cardiac disease, osteoporosis, and asthma. The following are some notable trends in drug development and how Merck's most important drugs fit in.

Cholesterol

The public is generally aware of "good" (HDL) and "bad" (LDL) cholesterols and its consequences on long-term cardiovascular health. The development of a class of effective cholesterol lowering drugs known as "statins" is relatively recent. Statins currently on the market work to decrease LDL with similar efficacy.

Merck's Zocor constitutes 20% of the market. Its main competitors are Lipitor by Pfizer and Crestor by AstraZeneca. Currently, there are no effective medications for increasing HDL cholesterol. Merck had been developing an experimental drug called Cordaptive that would increase HDL, but the FDA rejected the application on April 29, 2008.

Merck is in a joint venture with Schering-Plough to market Vytorin, which combines Zocor and a new drug called Zetia. As a combination drug, Vytorin enjoys patent protection. However, the drug has faced controversy over its advertising and has been proven to be no more effective than Zocor alone. See Vytorin under |Litigation.

Hypertension

High blood pressure is another predictor of cardiovascular disease. There is an enormous array of drugs that lowers blood pressure by varying means. Merck's Cozaar is a drug used primarily to treat hypertension, but is also used to treat renal disease caused by diabetes. It is usually a second-line drug, meaning doctors usually prescribe other medications before resorting to Cozaar, since lower cost alternatives exist for most patients. Cozaar belongs to a class of anti-hypertensive drugs known as angiotensin II receptor antagonists that now includes competitor Diovan by Novartis.

Osteoporosis

Osteoporosis, the reduction in bone density and increase in risk of fracture, affects 1 in 3 woman over the age of 50. Fosamax is currently one of the most prescribed drugs for osteoporosis. While it is a major money-maker for Merck, the US patent expired in February 2008. Generic competition cut sales by 49% in 2008, to $1.55 billion. Although the generics have entered the US market, the EU patent office has recently reinstated the Fosamax patent through 2018.

Forteo is an injected osteoporosis drug by competitor Eli Lilly. A recent research study financed by Eli Lilly indicated that after 18 months, patients taking Forteo had a 1 percent risk of developing a spine fracture, while those taking the competitor drug Fosamax had a 6 percent risk. However, the risks of other types of fractures were similar. While it is not yet clear how significant the results of this study may be, it may put Forteo in a better competitive position in the future.

Asthma and Allergies

The oral drug Singulair is Merck's most profitable product, with global sales of $2.3B in the first half of 2009. It is used to maintain asthma symptoms and relieve seasonal allergies. It is not useful in treating acute asthma attacks, for which an inhaler is needed. ^[20]

Merck gained two major prescription products for allergy treatment from the Schering-Plough acquisition, Nasonex, an inhaled steroid, and Clarinex, a once-a-day pill. Nasonex has an enormous share of the inhaled steroid market (47%), and has actually increased its hold by 5% since last year, earning $1.16 billion in 2008. It also has the broadest set of indications of any nasal steroid. In addition, Schering-Plough has several versions of Claritin, an over-the-counter medication similar to Clarinex. Sales of these medications are highest during peak allergy seasons, the spring and fall, and so increases in company revenue occur during these times.

Vaccines

Merck's Gardasil is a vaccine for the human papillomavirus (HPV) that causes most cervical cancers and genital warts. The target market for this vaccine is approximately 118 million girls and women in the U.S., EU, and other developed countries. Texas mandated the vaccine beginning in 2008, with more than 20 other states considering similar legislation.

Initial implementation in the U.S. reveals a very low rate of adverse reactions and an extremely low rate of serious adverse reactions. After 23 million doses have been administered, fewer than 1% of patients had adverse reactions, and only 6.2% of those adverse reactions were severe. Gardasil is still being monitored by federal officials, including potentially indicating the vaccine for boys, but the next area of focus is the drug's risk/benefit ratio. Because regular pap smears can catch cervical cancer very early, it is unclear whether the benefits of the vaccine justify the costs. ^[21]

However, 2008 sales indicate that there was no significant increase in government purchases of the vaccine, suggesting that sales are leveling off to the demand of the market. Whereas previously Gardasil use was evenly distributed from 9 to 26-year-olds, Merck is currently pushing the vaccine to the 12 to 18 year-old and college age ranges.

2008 sales totaled $1.4 billion. In the international market, the drug has been approved in 86 countries and about to launch in 72 countries.

Two other vaccines are Zostavax, for shingles, and Rotateq, for rotavirus, and entered the market in 2008. A recent study showed Rotateq to reduce hospitalization and emergency department visits by nearly 100%. Rotateq will be in direct competition with GlaxoSmithKline's Rotarix, which is also a rotavirus vaccine in late clinical trials.

On April 30, 2008, the FDA sent a warning letter to Merck concerning violations at its main vaccine plant. Both the FDA and Merck have stated since that the issues should not affect the safety of the company's vaccines.

Diabetes

The U.S. diabetes market is estimated to be $20 billion and growing, fueled by the increase in obesity and poor lifestyle habits in the population. Januvia is a new diabetes drug developed by Merck and recently approved by the FDA. Sales totalled $1.4B in 2008, up 109% from 2007. The drug has received insurance reimbursement coverage in approximately 80% of its target market, which will benefit further sales. On September 25, 2009, the FDA issued a notice that Januvia may be linked to pancreatitis, a condition in which the pancreas becomes inflamed. However, incidence of pancreatitis is elevated in diabetes patients, and it is unclear how much use of Januvia is directly associated with the condtion.^[22]

Januvia's nearest competitor, Galvus by Novartis, entered the market until 2008. Januvia also competes directly with Amylin's Byetta.

Arthritis

Recently acquired subsidiary, Schering-Plough, owns the international rights to Johnson and Johnson's Remicade, an autoimmune drug used to treat conditions such as rheumatoid arthritis, psoriatic arthritis, ulcerative colitis and moderate to severe Crohn’s Disease. Though Schering-Plough does not have the rights to sell Remicade in the US, Remicade is prescribed to nearly 1 million people outside of the US, annually. In 2008, Remicade brought in $2.12 billion in revenue.^[23] An aging population could boost sales of the drug in two senses. First, arthritis and other autoimmune disorders are likely to develop later in life. Secondly, as Remicade does not cure these disorders but merely reduces inflammation, longer-living patients will use the medication for a longer period of time.

Infectious Diseases

Hepatitis

PEG-Intron is a hepatitis therapy acquired in the purchase of Schering-Plough. PEG-Intron has seen growth over the last year in the US and Europe but a slight decline in Japanese sales. PEG-Intron was approved for treatment of hepatitis B in China in April, and so the product could launch there within the next several months. This expanded market provides many new opportunities for sales. In 2008, PEG-Intron brought in $914 million in revenue.^[24]

AIDS Research

Merck has been testing an experimental AIDS vaccine in several countries in Africa, North and South America. In September of 2007, after several international trials showed that the vaccine did not prevent HIV infection, Merck decided to stop further trials. However, the company released concerns that the vaccine may actually increase the risk of infection. As a result, all volunteers are being notified of whether they received a vaccine or placebo shot. While financial expectations were not particularly high for Merck's AIDS vaccines, it does represent a large setback for the medical community in finding a cure for one of the largest epidemics.

Consumer Health Care

In its acquisition of Schering-Plough, Merck inherited a $1.3 billion consumer health products. One of the most well known is the Coppertone line of products, a variety of sun-block and insect repellent creams and sprays. Schering-Plough also marketed the Dr. Scholl's line of foot care products, including shoe inserts, wart remover, and odor neutralizers for shoes. Consumer health care sales have remained relatively stable over the past several years; there are no stellar products slated to appear in the next few years, and there is no reason why demand for sunscreen would change drastically in the near future as well.

Government-sponsored Healthcare

Merck has been one of the most vocal pharmaceutical companies in speaking out against a government sponsored healthcare plan. Among the issues the company takes with the plan is the issue of suddenly giving coverage to a swath of previously uninsured individuals. ^[25] While it is unclear as of June 2009 how a government healthcare plan would affect big pharmaceutical companies like Merck, the company's opposition to the idea is an important indicator.

Vioxx

In 1999, the United States Food and Drug Administration ("FDA") approved Vioxx (known generically as rofecoxib), a Merck product that became widely used for treating arthritis. Vioxx was stronger than existing medications, while easier on the stomach than established anti-inflammatory drugs such as naproxen. Vioxx became one of the most prescribed drugs in history.

Thereafter, studies by Merck and by others found an increased risk of heart attack associated with Vioxx use when compared with naproxen. There was no indication of this risk in the original placebo-controlled safety trials, and it was possible that the effect was more related to naproxen decreasing the risk of heart attacks than one of Vioxx increasing the risk. Nonetheless, in 2002 Merck adjusted the labeling of Vioxx to reflect possible cardiovascular risks.

On September 23, 2004, Merck received information about results from a clinical trial it was conducting that included findings of increased risk of heart attacks among Vioxx users who had been using the medication for over eighteen months.^[26] On September 28, 2004, Merck notified the FDA that it was voluntarily withdrawing Vioxx from the market, and it publicly announced the withdrawal on September 30. The FDA has since recommended that Vioxx be put back on the market, but with a more prominent warning regarding cardiovascular risks on its label.

On November 5, 2004 the medical journal The Lancet published the results of its analysis of the available studies. It concluded that "the unacceptable cardiovascular risks of Vioxx (rofecoxib) were evident as early as 2000..."^[27] The journal's editors criticized Merck for having kept the drug on the market as long as it did before withdrawing it, and also criticized the FDA for its failure of regulatory oversight.

About 50,000 people have sued Merck claiming that they or their family members have suffered medical problems such as heart attacks or strokes after taking Vioxx. In 2005, Merck was found liable in the first case that went to trial and the plaintiff was awarded $253.4 million in damages; however, the judgment was subsequently reduced to $20 million and then, upon appeal, the verdict was reversed in 2008.^[28] In November 2007, Merck proposed to pay $4.85 billion to settle most of the pending Vioxx lawsuits. The settlement will require that claimants provide medical proof of having suffered a heart attack or a stroke and show they received at least 30 Vioxx pills. This proposed settlement is generally viewed by industry analysts and investors as a victory for Merck, considering that original estimates of Merck's liability reached as high as $50 billion. As of mid-2008, plaintiffs have prevailed in only three of the twenty cases that have reached juries, all with relatively small awards.^[29]

On May 20, 2008, Merck was found liable for using deceptive marketing tactics to promote Vioxx and 30 states will split the $58 million settlement. The amount is the largest multi-state settlement against a pharmaceutical company.^[30] All its new television pain-killer advertisements must be vetted by the Food and Drug Adminstration and changed or delayed upon request until 2018.^[31]

Comparison to Competitors

Competition in the pharmaceutical industry lies mostly in specific drug markets. For example, a new diabetes drug is not going to have any effect on an existing cholesterol drug, no matter how successful it is. As a result, financial data on the pharmaceutical companies do not tell the whole story. Instead, it may be more appropriate to analyze Merck’s competitors by each drug market.

Major competitors to Merck include Novartis, Pfizer, and Bristol-Myers Squibb. All three are pharmaceutical powerhouses, some with compatible drugs. For example, Pfizer produces Lipitor, which is in direct competition with Zocor, and Novartis produces Diovan, which is in direct competition with Cozaar.

Competition in the pharmaceutical industry lies mostly in specific drug markets. For example, a new diabetes drug is not going to have any effect on an existing cholesterol drug, no matter how successful it is. As a result, financial data on the pharmaceutical companies do not tell the whole story. Instead, it may be more appropriate to analyze Pfizer's competitors by each drug market (See section on Major Drugs and Industry Trends).

Note that Eli Lilly's net income is negative largely due to its acquisition of ImClone for $6.5 billion in October of 2008.^[32]

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References

1. ↑ The Wall Street Journal. "Merck to Buy Rival for $41 Billion." 10 March 2009
2. ↑ Merck and Schering-Plough to Complete Merger Today
3. ↑ Merck 2008 10-K, Pg. 16
4. ↑ Bloomberg. "Merck, Schering-Plough Sued Over Zetia, Vytorin Costs." 8 June 2008.
5. ↑ Merck 2008 10-K, Pg. 4
6. ↑ Merck 2008 10-K, Pg. 11
7. ↑ [1]
8. ↑ Vytorin makers say cancer results likely an anomaly.
9. ↑ USA Today. "Merck bids $41.1B for Schering-Plough." 9 March 2009
10. ↑ Merck Announces Third-Quarter 2009 Financial Results
11. ↑ Merck earnings beat Street
12. ↑ Schering-Plough Q3 Profit Declines
13. ↑ Merck Introduces New Strategy: BioVentures
14. ↑ Merck BioVentures Enters the Generic Biotech Game
15. ↑ Merck & Co., Inc. Acquires Biologic Manufacturing Capabilities and Developmental Follow-on Biologics Portfolio from Insmed
16. ↑ Merck buys British maker of biotech medicines
17. ↑ The Wall Street Journal. "Judge Upholds Merck's Singulair Patent." 19 August 2009
18. ↑ http://www.reuters.com/article/ousiv/idUSL0929726620071110?pageNumber=2
19. ↑ Bloomberg. "Merck, Schering-Plough Sued Over Zetia, Vytorin Costs." 8 June 2008.
20. ↑ The Wall Street Journal. "Judge Upholds Merck's Singulair Patent." 19 August 2009
21. ↑ Reuters. "U.S. researchers see few serious reactions to HPV vaccine." 18 Aug, 2009
22. ↑ US FDA sees pancreatitis link with Merck's Januvia
23. ↑ 2008 Schering-Plough 10K Annual Report, p.9
24. ↑ 2008 Schering-Plough 10K Annual Report, p.38
25. ↑ Reuters. "Lilly, Merck oppose concept of U.S. Health Plan." 10 June 2009.
26. ↑ Grassley questions Merck about communication with the FDA on Vioxx
27. ↑ The Vioxx recall: cover-up of health risks may have resulted in thousands of deaths
28. ↑ Courts Reject Two Major Vioxx Verdicts
29. ↑ Merck's outlook revised to developing from negative on Vioxx agreement
30. ↑ Arizona gets $2.3 million from Vioxx settlement
31. ↑ Merck Agrees to Settlement Over Vioxx Ads
32. ↑ Lilly to Acquire ImClone Systems in $6.5 Billion Transaction