Pharm Exec's 11th Annual Industry Audit - Pharmaceutical Executive


Pharm Exec's 11th Annual Industry Audit

Pharmaceutical Executive

The revenue picture

Enterprise Value
Surprisingly, turmoil in the biopharmaceutical market has not forced a change in the revenue ranking of the 24 companies (Annual Sales table). In fact, we see a remarkable level of stability, with the specialty firm Shire and Abbott's injectable generics spinoff, Hospira, joining the group this year to replace Genzyme and Cephalon, which were acquired by Sanofi and Teva, respectively. Leadership in the top 10 of sales changed not at all, except for the inclusion for the first time of Roche in the survey, which pushed Bristol Myers Squibb down a notch, to number 11. Top-ranked Pfizer maintained its perch, with $67.4 billion in sales, or more than 25 times the $2.7 billion sales of the smallest of the 24, Endo Pharmaceuticals. Ironically, Pfizer was alone in recording a slight drop in sales against the previous year, while Endo, in spite of its small size, earned the top spot in revenue growth, gaining 58 percent over 2010. In fact, the biggest growth spurt took place towards the bottom of the chart, with Endo's blistering pace nearly matched by the niche players Celgene, Watson, and Shire. The contrast proves the adage that the bigger you are, the harder it gets to move the revenue needle forward.

It should be noted, however, that sales growth is not the most relevant element of performance. The numbers can be "gamed" depending on when and where you start to measure. In addition, its importance can be overstated if the numbers are driven by merger and acquisition activity, which creates inefficiencies, bloat, and strategic drift that leads to stagnation over time. The better growth is organic, achieved internally through a company's own process improvements and in-house labs and R&D. The paradox is that when sales reach way into the billions, bureaucracy takes over and organic growth becomes harder to attain.

Enterprise value growth

Enterprise Value to Sales
Enterprise value (EV) is a critical metric because it is a straightforward signal of shareholder value. You either create shareholder value—or you destroy it. The impact on the investor can be dramatic. To put it in perspective, what if in 2000 you chose to invest $1,000 each in two companies, Hewlett-Packard (HP) and Amgen. Five years later, the $1,000 spent on HP stock was worth only $500, while the $1,000 that went to Amgen could be cashed out at more than $30,000.

Gross Margin
Technically, enterprise value (EV) is comprised of market capitalization (total number of shares of common stock outstanding times the price of the stock on a given day) plus cash and cash equivalents minus debt. It is a mark of what the value of a company is if you considered buying it, plus or minus a competitive premium. It is close to market capitalization: valuing a company by its total common stock outstanding at a price on a given day. But when you buy a company you use cash/cash equivalents on the balance sheet to purchase and you also acquire the acquired firm's debt. These latter can be deceptive, so EV is the better measure.

EV itself is similar to sales volume. One would expect larger sales revenues to correlate with larger EV ratios. As noted in the Enterprise Value table, Pfizer had the highest EV for 2011—a reflection of the recovery of its stock price due to CEO Ian Read's "back to the core" strategy—followed by J&J and Roche, all quintessential Big Pharma firms. Notwithstanding J&J's seemingly endless cycle of product recalls, it managed to plump up shareholder value by over 5 percent. Again, smaller players—Biogen-Idec, Endo and Shire—as well as Bristol-Myers Squibb, created the most shareholder wealth. But there are exceptions. Hospira posted the largest decline in EV from some unwelcome safety side effects of growth and the cost sensitivity of its hospital injectables business.

Enterpise value to sales (EV/sales)

Another key metric related to EV growth is the ratio of enterprise value to sales. We call this ratio the "equalizer" because it serves to normalize differences in size and scale. The absolute size of a firm's enterprise value tracks it sales volume and hence creating or adding to shareholder returns becomes a key indicator of overall value. EV/sales is similar to a ratio called the PEG ratio, or the relationship between the price to earnings multiple and estimated earnings growth. The higher the ratio, the inference is that things can only get better for a firm, i.e., "you ain't seen nothing yet." The lower the ratio relative to its peers suggests a firm's best days are behind it and growth and profit will be increasingly harder to come by.

Net Income to Sales
Although EV/sales decreased overall for the group compared to last year, where a firm places on the list (Enterprise Value to Sales table) is still a strong indicator of its future potential. Here, the biotechs rule: Celgene and Biogen-Idec, along with Novo Nordisk, continue to impress, while Endo rises in the ranks dramatically, from 20th in 2010 to 11th this year. Teva, in contrast, encountered a steep fall in the ranks compared to last year, mainly because of some costly acquisitions and investments. Interestingly, Forest Labs comes in last on the list, even though it boosted shareholder value by 20 percent. Investor maverick and Forest board member Carl Icahn should get some thanks for the spike in enterprise value despite the low EV/Sales ratio, which nevertheless suggests the company is going to face some big difficulties in the post Lexapro era.


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