Make Big Pharma great again

Britain’s big drug companies lead the world, but they are stagnating, says Matthew Lynn. Time for a shake-up.

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Emma Walmsley: pondering a break-up

Britain's big drug companies lead the world, but they are stagnating. Time for a shake-up.

With a combination of brilliant research and development (R&D), high-end manufacturing, and savvy marketing, this country has built a fantastically successful group of major drugs firms. Glaxo created the world's biggest selling medicine, the ulcer treatment Zantac, and used that as a platform to create what for a time was one of the country's largest companies. AstraZeneca built an unbeatable franchise in cancer and ulcer medicines to become one of the world's largest drugs groups. Shire carved out a position in hyperactivity medicines that catapulted it into the big league in just a few years. The industry has been an outstanding success story, creating plenty of wealth for shareholders, lots of well-paid jobs, and a steady flow of exports. But there is a problem.

There may be trouble ahead

Take the UK's two biggest companies. Glaxo has been through two huge mergers, first with Wellcome and then with SmithKline, to become GlaxoSmithKline (GSK), but emerged from the process not much larger than when it started and certainly not more successful. It has been drifting aimlessly for years. Over the last five years a strong bull market the shares have drifted down from £17 to £15. Back in August 1998 they were trading at £18. Over two decades they have gone nowhere. Sure, the company has churned out reliable dividends. With a 5% yield, it has become a utility rather than a growth business. But it has been a dismal performance.

In the last few weeks, its chief executive, Emma Walmsley, has been toying with the idea of breaking it up, splitting out the consumer unit that includes brands such as Horlicks and Night Nurse from its prescription business. So far that has been rejected, with the company instead betting on a cost restructuring and another massive investment in genetics to try and turbo-charge its discovery process. Will that work? Perhaps. But it is pretty much what GSK has been doing for 20 years and there is not much reason to expect better results this time around.

AstraZeneca has done better, but has hardly been setting the world alight. Its latest results were disappointing. Drug sales were down by 2%, and core operating profits by 34%. Some of its new drugs such as the lung-cancer treatment Tagrisso are starting to perform well, but as it loses patents elsewhere overall sales are still declining. That is hardly encouraging.

Stop the slide into irrelevance

Twenty years ago, pharmaceuticals was a growth business. It still should be. Populations are ageing rapidly and older people need a lot more medical care. Health systems are consuming increasing percentages of GDP in every major developed country. The drugs giants should be growing at a decent clip. Instead they are stagnating.

Only four years ago, the City allowed AstraZeneca to fend off a £69bn hostile bid from Pfizer. It accepted the argument that the company had a brighter future standing alone. Shareholders have supported GSK through a couple of decades of bids and deals, relaunches and restructurings without having very much to show for all that patience. But the formula clearly isn't working any more. Both companies are weighed down by expiring patents and sluggish R&D.

Earlier this year, the third major British drugs company, Shire, was sold to Japan's Takeda for £46bn, a huge premium to its price before the deal was announced. A sale might well the best solution for the other two remaining UK giants as well. Both of them are still strong enough to command a good price if there was a competitive auction. But there are other solutions as well. Both companies could be demerged into smaller units, perhaps focused on specific diseases. That way they would be a lot nimbler, and potentially a lot more innovative as well. The City has given both companies plenty of time to reinvent themselves. Now it is time to insist on new management, a sale or a break-up. Otherwise one of the UK's most successful industries will slide into irrelevance.

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