Gross margin reflects pricing power, as expressed by the ability of a company to secure a generous mark up for its goods.
The higher the margin, the more pricing power a company has in hand. Obviously, management never wants to see those margins
go down. In a recent Fortune magazine piece, columnist Janice Revell recounts the iconic investor Warren Buffett's wisdom regarding pricing: "The ability
to hike prices is the single most important factor to consider when evaluating a business." Vadim Zlotnikov, chief market
strategist at AllianceBernstein, told Pharm Exec, "pricing power is the key to sustainable earnings growth. There is clear evidence that shares of companies with pricing power
dramatically outperform their peers." This is buttressed by the 12 years of audit results, where our "Fab Five" of consistently
top performers share a common characteristic of nosebleed pricing prowess.
Overall, as seen in the Gross Margin table, gross margin for the 24 stayed constant over the year, averaging 68.4 percent.
Celgene earned the highest markup, at slightly over 90 percent, increasing it by five basis points over 2011. As stated, you
don't want to see gross margin decrease, but this is what happened to Johnson & Johnson, Novartis, GSK, AstraZeneca, Lilly,
Amgen, Hospira, and Endo.
To put the stratospheric margins of the pharma industry in perspective, Apple, arguably the most innovative company in the
world despite spending less than three percent of sales on R&D, gets a gross margin of 45 percent on its iPhones. A key strategic
question for the industry is whether this top of the league performance on margins can continue in an era of soaring healthcare
costs, public budgetary constraints, and a surge of elderly people dependent on fixed incomes. Two prominent CEO members of
the 24, George Scangos of Biogen-Idec and Shire's Flemming Ornskov, have stated publicly the industry has to expect less—and
to work harder for each sale too.
Net income to sales: the profit metric
The Net Income to Sales table, profit (EBITDA) to sales, measures how well a company manages its pricing and controls expenses.
While gross margin was constant for the year, overall profitability decreased, from 26.2 percent to 24.9 percent, suggesting
a trend toward pricing power erosion and SG&A expenses that surged out of control. Not surprisingly, the biotechs and specialty
firms, with less overhead to wrestle down, demonstrated the highest profitability.
Sales to assets
Sales to assets is another way of reflecting how a company manages those margins by capitalizing on its inventory of assets.
The two go hand in hand—or should—because there are only two ways to make money: margin management and asset management. For
every dollar invested in assets, how much sales revenue is generated? As the Sales to Assets table shows, Novo Nordisk is
at the top with a very efficient, productive ratio of 1.19; that is, for every dollar Novo Nordisk invests in assets, that
dollar generates $1.19 in revenues. Roche came in at a distant second, with .70.
Net income to assets
Net income to assets is a critical metric, along with enterprise value growth and enterprise value to sales. There are companies
that excel at margin management or at assset management. You can count the companies that excel at these two primary ways
to make money on your right hand—and you won't need all your fingers. The Net Income to Assets table shows an overall average
decrease in this metric against the previous year. It is also evidences some pronounced contrasts: the most impressive number
is Novo Nordisk's—at 32.88, it is higher than some firms' gross margins. Roche, again, is second, at 15.10.
Sales to Assets
Sales revenue to employee
This metric indicates how productive a company's workforce can be. The higher the ratio, the more productive is its team.
The Sales to Employee table shows a dramatic overall decrease in employee productivity, from $898,000 per employee in 2011
down to $736,000 per employee in 2012. On the plus side, Teva's lean management approach helped it score a best-in-group 20
percent gain in sales per employee over 2011.
Net Income to Assets