Saturday, December 1, 2007

Industry: Is There Excess Capacity in the Pharmaceutical Industry?

Is there excess capacity in the pharmaceutical industry? The last several decades in the United States has seen other industries, steel, banking, automobiles, personal computers, and airlines, to name but a few that have seen consolidation and shake out. Is it the pharmaceutical industry’s turn?
What were the signs in those industries? Stagnating revenues and growth, bloated organizational and cost structures, overbuilt manufacturing capacity, and lack of new product development and innovation were signs in some if not all of those industries. All of this evidenced by stock prices that languished in a narrow trading range for an extended period punctuated by rapid drops when earnings failed to meet the markets’ expectations or there were losses.
Which brings us back to pharmaceuticals. The last several years have seen all of these in the pharmaceutical sector with a few additional problems that are unique to it such as FDA regulations and third party health insurer payment policies. While the industry has been spared the high profile bankruptcies of recent years, declining revenues, increasing compliance costs such as Sarbanes-Oxley, bidding wars for boutique biotech and non-core businesses such as medical device firms (anyone still remember Guidant?), and product liability costs ($4.5 billion at Merck in November 2007) could change this shortly.
So, let’s ask the original question again, is there excess capacity in the pharmaceutical industry? Recent announcements of cost cutting efforts and layoffs seem to evidence this. The media’s recent spate of articles about the faltering new product pipeline raises the question of what’s happening at all those expensive research and development centers. The already mentioned bidding wars for start up biotech firms seems to hint that senior pharmaceutical management want to hedge their internal investment efforts. Pharma’s move of expensive research centers to offshore locations in China and India could make one think that these are more commodities than business differentiators. Federal government and third party health insurers increasing reluctance to pay for new drugs and procedures could mean a limited pool of dollars being available for new drugs. Overseas, the United Kingdom is beginning to pay for drugs based on their efficacy. At what point will the industry begin to understand what that pool is and scale back their facilities? At what point will we begin to see an increased level of mergers and acquisitions among the global pharma companies? Will the falling US dollar bring a rash of foreign takeovers of US firms? Maybe an industry that liked to boast that it was different from other industries (where have we heard that before?) isn’t really all that different.

Contributed by Guy de Lastin

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