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The European pharmaceuticals sector is in a whirl this week. It is symptomatic of an industry ever more alarmed by the prospect of an increasing number of patent expiries on top-selling drugs. Investors are well aware that the drug companies have a problem. Five years ago the S&P 350 European Healthcare index traded at about 20 times its free cash flow – the same multiple as the wider market. Now, with expectations that those flows will be heading south, healthcare stocks trade at about 12 times FCF – less than half the market.
In response, chief executives are jumping into mergers and acquisitions. This week alone saw rumours that Actelion, with a market value of SFr6bn, may be pursued by several suitors; its share price jumped 9 per cent. AstraZeneca has decided to sell its dental implant and medical device division for perhaps $2bn.
But drugmakers spew out so much cash that paying top dollar for M&A deals is easy. So far Sanofi-Aventis has kept its $18.5bn bid for Genzyme to a sensible level, but investors should be careful of the “winner’s curse”. Other industry mega-mergers, such as Pfizer’s $68bn acquisition of Wyeth last year, are still unproven. Indeed, Roche, which spent $47bn mopping up Genentech early last year, confirmed this week that its US subsidiary will face the bulk of 5,000 job cuts – about 6 per cent of the combined company’s workforce – in response to a “challenging market environment”.
Scepticism about M&A is warranted as, in aggregate, the industry will only rediscover its glory days when it produces new drugs. It is no surprise that investors this week pushed up Bayer’s share price 4 per cent after it announced good news on a new stroke prevention drug. Chief executives with their heads buried in M&A should be careful they have not forgotten the basics.
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