Consolidation in the Global Pharmaceutical Industry: The Glaxo Wellcome and SmithKline Beecham…

Consolidation in the Global Pharmaceutical Industry: The
Glaxo Wellcome and SmithKline Beecham Example

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 By the mid-1980s, demands from both business and government
were forcing pharmaceutical companies to change the way they did business.
Increased government intervention, lower selling prices, increased competition
from generic drugs, and growing pressure for discounting from managed care
organizations such as health maintenance and preferred provider organizations
began to squeeze drug company profit margins. The number of contact points
between the sales force and the customer shrank dramatically as more drugs were
being purchased through managed care organizations and pharmacy benefit
managers. Drugs commonly were sold in large volumes and often at heavily
discounted levels. The demand for generic drugs also was declining. The use of
formularies, drug lists from which managed care doctors are required to
prescribe, gave doctors less choice and made them less responsive to direct
calls from the sales force. The situation was compounded further by the ongoing
consolidation in the hospital industry. Hospitals began centralizing purchasing
and using stricter formularies, allowing physicians virtually no leeway to
prescribe unlisted drugs. The growing use of formularies resulted in buyers
needing fewer drugs and sharply reduced the need for similar drugs.

he industry’s first major wave of consolidations took place
in the late 1980s, with such mergers as SmithKline and Beecham and Bristol
Myers and Squibb. This wave of consolidation was driven by increased scale and
scope economies largely realized through the combination of sales and marketing
staffs. Horizontal consolidation represented a considerable value creation
opportunity for those companies able to realize cost synergies. In analyzing
the total costs of pharmaceutical companies, William Pursche (1996) argued that
the potential savings from mergers could range from 15–25% of total R&D
spending, 5–20% of total manufacturing costs, 15–50% of marketing and sales
expenses, and 20–50% of overhead costs. Continued consolidation seemed likely,
enabling further cuts in sales and marketing expenses. Formulary-driven
purchasing and declining overall drug margins spurred pharmaceutical companies
to take action to increase the return on their R&D investments. Because
development costs are not significantly lower for generic drugs, it became
increasingly difficult to generate positive financial returns from marginal
products. Duplicate overhead offered another opportunity for cost savings
through consolidation, because combining companies could eliminate redundant
personnel in such support areas as quality assurance, manufacturing management,
information services, legal services, accounting, and human resources.

The second merger wave began in the late 1990s. The sheer
magnitude and pace of activity are striking. Of the top-20 companies in terms
of global pharmaceutical sales in 1998, one-half either have merged or
announced plans to do so. More are expected as drug patents expire for a number
of companies during the next several years and the cost of discovering and
commercializing new drugs continues to escalate. On January 17, 2000, British
pharmaceutical giants Glaxo Wellcome PLC and SmithKline Beecham PLC agreed to
merge to form what was at the time the world’s largest drug company. The merger
was valued at $76 billion. The resulting company was called Glaxo SmithKline
and had annual revenue of $25 billion and a market value of $184 billion. The
combined companies also would have a total R&D budget of $4 billion and a
global sales force of 40,000. Total employees would number 105,000 worldwide.
Although stressed as a merger of equals, Glaxo shareholders would own about 59%
of the shares of the two companies. The combined companies would have a market
share of 7.5% of the global pharmaceutical market. The companies projected
annual pretax cost savings of about $1.76 billion after 3 years. The cost
savings would come primarily from job cuts among middle management and
administration over the next 3 years.

 Case Study Discussion Questions

 1. What drove change in the pharmaceutical industry in the
late 1990s?

 2. In your judgment, what are the likely strategic business
plan objectives of the major pharmaceutical companies, and why are they
important?

 3. What are the alternatives to mergers available to the
major pharmaceutical companies? What are the advantages and disadvantages of
each alternative?

4. What do you think was the major motivating factor behind
the Glaxo SmithKline merger, and why was it so important?

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