Pharma Futures 3 Emerging Opportunities

Pharma Futures 3
Pharma Futures is designed both
to analyse the opportunities and
challenges facing the pharmaceutical
industry and also to support the
investment community in its
understanding of how pharmaceutical
companies manage their complex
social contract. To realise the potential
of emerging markets requires
companies to take a long-term
approach. While the opportunities
are significant, the investments
required to develop necessary delivery
infrastructure, cultivate relationships
with key partners and stakeholders
and shift internal mindsets take time.
The case studies presented in
this report support this point; most
efforts took nearly a decade to gain
significant traction. Still, many
pharmaceutical companies have
already decided that the potential
opportunities are important, and have
been building up their investments in
these markets. This section reviews
the implications of this long-term view
for investors. What information do
investors need to understand if a
company’s particular approach will
bear fruit? And if emerging markets
really do represent a profitable longterm
investment opportunity, how
can investors play a greater role in
encouraging and supporting these
investments?
At present the information available
to investors about company
performance in emerging markets
is limited. This lack of disclosure is
increasingly at odds with company
statements that emerging markets
are now a strategic priority. PF3
therefore identified a number of key
performance indicators which would
support the investment community
in its evaluation of the risks and
opportunities these markets offer.
* Analysis by USS in December
2008 using data from Bloomberg
finds that originals producers’
Indian subsidiaries earned an
average 27% pre-tax margin,
versus 22% for their parents, over
the preceding five-year period.
The dialogue also concluded that
simply applying comparable metrics
to those used in mature markets is
unlikely to be sufficient to support the
adaptive business models that would
deliver success in these markets.
Most existing metrics will struggle
to capture the intangible value
drivers identified in Section 2.
It was also apparent that the
investment community itself could
play a more significant role to support
the development of health systems
by directly providing capital to
entrepreneurial ventures.
New Metrics to Evaluate
Emerging Markets
As highlighted in Section 1,
economic and demographic growth
combined with epidemiological
trends in emerging markets point
to strong commercial potential for
pharmaceutical companies. At a
macro level, Dresdner Kleinwort (DrK)
(2008) forecasts that emerging
markets could provide over 30% of
sales and 50% of sales growth by
2020, and finds that from 2008 to
2015 there is over US$650 billion new
sales potential in emerging markets.
This compares with US$150 billion
sales at risk from patent expiries in
the US and EU during this period. 38
Opportunities are not limited to
patented drugs; sales of branded offpatent
drugs and healthcare products
are growing rapidly. Despite these
attractive fundamentals, investment
analysts have little to no guidance
from companies on sales or earnings.
39
Those analysts who have looked at
the potential are concerned by what
emerging market sales will do for
average margins and their working
assumption is that lower prices will
mean lower margins and lower
profitability, measured in terms of
return on equity (ROE) or return on
assets (ROA). There is, however, little
empirical information to test this
hypothesis and the financial results
for the nine listed subsidiaries of large
global originals producers (including
GSK, Merck, Aventis, Pfizer, Abbot,
Wyeth, AstraZeneca, Novartis and
Solvay) suggest these concerns
may be overblown. Five-year average
pre-tax margins for these companies,
for instance, are above their parent
companies.* 39 And this is despite
the fact that the Indian subsidiaries’
product profile tends to be more
heavily weighted towards off-patented
branded generics and OTC products,
and the fact that the Indian market is
commonly viewed as the most
competitive among emerging
markets. 40
Moreover, ROE and ROA depend
as much on asset turnover (sales per
unit assets) as net income margins.
DrK (2008) estimates that when we
incorporate potential sales to
emerging markets (growing at an
estimated 12–15% up to 2010, then
falling back to a longer-term 5%),
despite an estimated drop in margins,
long-term EBIT growth for Big Pharma
of 4% (Compound Annual Growth
Rate 2007–2020) is realistic. This
is above the implied consensus for
long-term growth of -2% to +2%,
and could justify an upward re-rating
for the sector. 41
This lack of disclosure is increasingly
at odds with company statements
that emerging markets are now a
strategic priority.