Newly appointed head of R&D at Merck & Co. – Roger Perlmutter – is likely to see his division come under increased scrutiny following a weak first-quarter performance. Q1 performances across the board have generally disappointed over the past week, with currency effects and inventory movements cited as barriers to growth at Amgen, Bristol-Myers-Squibb and Pfizer. However, investors are likely to be more concerned by operational headwinds at Merck – most prominently a year-on-year decline in sales of Januvia.
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Merck too has seen its Q1 performance adversely impacted by non-operational factors, but these cannot fully explain a top-line performance that missed consensus by 4 percent. The sales performance of Januvia – which accounts for approximately 14 percent of Merck's revenues – has been exposed by increased pricing competition in the DPP-IV market, conceded management, in addition to 2012 revenue growth being boosted by heavy patient switching from thiazolidinediones – a trend that will not annualise over the next 12 months. See FirstWord Lists: The 20 biggest growing pharma products in 2012 - Sanofi's Lantus leads the way.
Forecasts for the product have already been reduced by a number of analysts, while Merck has recently moved to bolster its pipeline via a deal to combine Januvia with Pfizer's SGLT2 inhibitor ertugliflozin – a clear signal that the company expects combination products to hold an integral position in future treatment regimens (see ViewPoints: Can a collaboration between old rivals Pfizer, Merck & Co. ignite commercial excitement in SGLT2 space?. In addition, some regulatory concerns continue to shadow Januvia and a number of other diabetes products. See ViewPoints: Safety scrutiny continues to cast shadow over diabetes treatments.
Operational headwinds will also play a role in the company reducing its 2013 revenue and EPS guidance just three months after unveiling it – a climb down that will result in Merck losing a "little more" credibility, wrote Bernstein analyst Tim Anderson in a note to investors. Investor disenchantment has also been driven by a succession of setbacks in R&D, adds Anderson, with the recent departure of Peter Kim (and appointment of Perlmutter) widely attributed to this trend.
Expectations thus remain somewhat muted although some believe that Merck's mid-to-late stage pipeline remains underappreciated. There is opportunity there, suggests Anderson, albeit if late-stage assets have something of an 'old school' feel – a nod to the proliferation of small-molecule compounds that will likely be positioned in competitive markets where genericized incumbents already reside. The mid-stage pipeline – where Perlmutter is expected to have a better opportunity to shape development – is where attention is steadily shifting to.
His appointment offers a positive step in the right direction, notes Citi analyst Andrew Baum, as does a newly announced $7.5 billion share buyback programme. However, Baum suggests that the weakness of Q1 results should act as a "clarion call for management and shareholders." Management of expectations – both in terms of revenue and cost base – is a lesson that Merck needs to brush up, says Baum. Along a similar theme, the share buyback – while a positive move – was an "opportunity lost," claims Anderson, in the context of a disappointing quarterly performance.
Following a sustained bull run for both Big Pharma and biotech stocks, earnings this week have provided an unwelcome dampener. Amgen may have suffered – a 7 percent share price decline in light of its Q1 results – but other big biotech players have continued to track-upwards driven by key catalysts. However, while companies such as Gilead and Biogen Idec may have further capacity for share price growth, some will argue that Merck's decision to expand its buyback scheme rather than invest in acquisitions is a sign that smaller biotech players have become notably overpriced.
While Merck could perhaps do better in managing the expectations of its own shareholders, investor outlook across the sector as a whole could be primed for something of a reassessment if this week's earnings prove to a be a precursor.
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