PFE/AZN: R&D Productivity in the Context of a Theoretical Merger

Richard

The data in this note are extracted from: “Biopharmaceuticals R&D Productivity: Metrics, Benchmarks, and Rankings for the 22 Largest (by R&D spending) US-Listed Firms”, available at www.hiddenpipeline.com

Increasing firm size = declining R&D productivity, both across (larger firms produce less innovation per R&D dollar than smaller firms) and within firms (smaller firms become less productive as they grow). It follows that mergers are more likely to impair than to improve R&D productivity

PFE and AZN’s economic returns to R&D spending (the relationship between Year 1 R&D and Year 10 earnings) currently are negative, in-line with or slightly below the (falling) peer average

Both PFE and AZN spend about as many R&D dollars per (quality-adjusted) idea as peers. The number of ideas each company produces per R&D dollar is falling rapidly alongside the peer average, and this explains much of each company’s (and the peer group’s) overall trend of declining R&D returns. Both companies produce ideas of average quality as compared to peers

Unlike its peers, and unlike AZN, PFE has achieved high average ranks in the (phase 2 and earlier) research areas it has chosen to focus on. Of the 22 areas that account for just more than 80 percent of PFE’s phase 2 and earlier innovation, PFE has a top 3 rank in all but 5 areas, and an average rank of 2.5. AZN has an average rank of only 7.1 in the 24 research areas that account for 80 percent of its phase 2 and earlier innovation, and holds top 3 ranks in just 8 of these areas. Combined, the theoretical NEWCO would hold a top 3 rank in all but 1 of the 26 research areas that accounted for 80 percent of its phase 2 and earlier innovation, and a best-in-class average rank of 1.8

Consensus sales estimates of PFE’s current products decline by $9.8B through 2020. If all of PFE’s registered and phase 3 products are approved and their consensus sales are achieved, PFE’s late stage pipeline will deliver $8.4B by 2020, or 86% of the amount needed to keep PFE’s total sales flat. Assuming normal late stage attrition, PFE’s pipeline should be expected to deliver roughly $5.4B, or just 55% of the amount needed to keep total sales flat

Consensus sales estimates of AZN’s current products decline by $6.3B through 2020. If all of AZN’s registered and phase 3 products are approved and their consensus sales are achieved, AZN’s late stage pipeline will deliver $3.5B by 2020, or 56% of the amount needed to keep AZN’s total sales flat. Assuming normal late stage attrition, AZN’s pipeline should be expected to deliver roughly $2.3B, or just 37% of the amount needed to keep total sales flat

In R&D productivity terms, a PFE/AZN combination is accretive only in the sense that the NEWCO has higher average ranks in its target research areas than either company alone; however the incremental benefit to the PFE shareholder is very small. The combination should be expected to be dilutive to PFE’s R&D ‘footing’ in two important respects: 1) R&D productivity falls with increasing firm size; and 2) AZN’s pipeline is less able to cover AZN’s pending exclusivity losses than PFE’s pipeline is to cover PFE’s pending losses

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