David's New Book

Sunday, October 21, 2012

Too Big to Succeed


Gretchen Morgenson, writing about the change of leadership at Citigroup in the New York Times today, said that the new CEO of Citi should downsize the company to avoid being “too big to succeed.”  I admit that I don’t know much about banks and that, basically, I’m not even a businessperson.  I’m just a physician-scientist looking in the window from the outside. But it seems to me, from this viewpoint that Ms. Morgenson’s words could just as easily apply to the large pharmaceutical companies of today.

I just took a look at a 10-year timeline for stock prices for J&J, Pfizer, Merck, Bristol-Myers, Lilly and Abbott.  They average a 17% gain in the last decade or 1.7% per year.  Pfizer, the biggest of this group, lost 23% of its starting value. One big problem for all the large pharmaceutical companies is their inability to replace large earner products like Lipitor at Pfizer with enough other new big products to maintain a reasonable pace of earnings growth - hence, the drop in stock price.

So, like Citi, these companies are getting too big to succeed.  If Pfizer were several smaller companies with annual earnings of $10 or 20B instead of $67B, think about how much easier it would be to grow each one.  Three new products at $300MM in sales would provide 5-10% growth by themselves. Now, at their current $67B annual sales revenue, $1B in new sales is 1.5% growth.  This situation just can’t last.

To deal with their inadequate pipeline, these large companies have been gobbling up other companies large and small and then achieving “synergy” by firing lots of people, cutting programs, selling buildings, and at the same time acquiring new products to sell.  A review of mergers and acquisitions among pharmaceutical companies during the years 1980 to 2003 showed that 6 modern large companies derived from 70 precedent smaller companies – a 90% consolidation.  Today, there has been over a 95% consolidation in the industry with the merger of Sanofi and Aventis and the Pfizer purchase of Wyeth. The stock price history shows that this strategy is not working.

Abbott is dividing itself into two companies – a pharmaceutical company and a diagnostics company. Pfizer is cutting various divisions away like animal health, consumer products and others to try and make it down to about $40B in revenues.  I’m not sure that either of these moves will be enough to sustain growth.

What solution will work?  These companies need to drastically shrink or to spin off their smaller divisions (with revenues) such that they can become self-sustaining small, specialized companies.  The antibiotics efforts of a number of these large companies would make excellent candidates for such a move.  If any of them want to move in this direction, I am ready to help!