Novartis's Bad Decision

published 8 June 2006

Novartis, Europe's sixth biggest drugmaker, put its investors at ease yesterday, reporting an impressive 9% hike in net profit in its second quarter. Despite worries that sales of the companies top-selling drugs could suffer, Novartis's patented drugs beat all sales expectations, with the group amassing net profit of $1.65bn. Analysts had reckoned the group would generate some $1.59bn, says Tom Armitage on Reuters.com.

So in light of the good result, the obvious question is: just why is Novartis spending so much money on buying off-patent drugmakers, when it's the patented industry that's making all the profit? The Swiss group recently bought two copycat drugmakers, Germany's Hexal AG and American group Eon Labs for some $7bn. Yet following the integration of the two groups into its Sandoz generic drugs unit, Sandoz has suffered from a $30m restructuring charge, and one very tough year compared to last year, with operating profit falling 40% to $79m. Its operating margins were 9% - less than a third of what the company's patented drugs earned.

Why are generics drugs not selling? For one, price competition, especially in the US, is worsening, says Robert Cyran on Breakingviews.com. And at the same time a number of Indian and Chinese competitors are making life very hard for the unit.

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The solution for Novartis? Sandoz is "a sideshow that distracts management" from what really counts: patented drugs. Why, when other drugs companies are dumping their copycat drug operations, would Novartis do the opposite? It's time for Novartis to "follow its competitors".