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15-26
Mergers and Acquisitions




Pharmaceutical companies were consolidating through both vertical and horizontal
integration. The vertical integration was an attempt to move closer to the patients by
merging with or acquiring major drug buyers, PBMs, HMOs, and other large networks.
By integrating vertically, drug companies were seeking access to patients and inclusion
on drug formularies.
The horizontal integration of drug companies was being driven by a number of fac-
tors. First, buyer strength was increasing through consolidation in this segment of the
market as well. Second, the cost to develop new drugs was rising, making it dif¬cult for




The Uphohn Company
many companies to go it alone. Third, pharmaceutical markets were becoming increas-
ingly worldwide as more countries sought to improve their health care systems, and as
drug companies looked for larger markets over which to spread their costs. Companies
weaker in some markets than in others were seeking to join with companies in a similar
situation, but with different markets so that the combined company would be strong in
all markets. Fourth, under pressure to reduce costs, drug companies were seeking ef¬-
ciency gains through economies of scale. And last, companies with weak product devel-
opment pipelines were looking for new products to sell.
Examples of horizontal integration were both more numerous and larger in size than
those of vertical integration. Further, horizontal integration was the more “proven” strat-
egy. However, some analysts believed that vertical integration was the more signi¬cant
trend for the longer term structure of the industry.


The Industry™s Future
Despite the increasing competitive pressures faced by individual companies, the long-
term economic factors appeared positive for the industry as a whole. Several of these
factors pointed towards a growing industry and the increased use of pharmaceuticals: the
population had been aging, particularly in the U.S.; an increasing number of health in-
surance plans covered prescription drugs; the use of pharmaceutical products tended to
be more cost effective than hospitalization; an increasing number of countries were at-
tempting to improve their health care systems; and ¬nally, the pharmaceutical industry
was relatively recession proof.


UPJOHN™S POSITION
Upjohn operated in several market segments. Its pharmaceutical product sales were
divided into six areas: central nervous system; steroids, anti-in¬‚ammatory, and analgesic;
reproductive and women™s health; critical care, transplant, and cancer; infectious disease;
and metabolic. Although primarily in human prescription and nonprescription drugs,
Upjohn was the world™s ninth largest producer of animal pharmaceuticals. The company
also had signi¬cant bulk pharmaceutical chemical sales and had spent some $100 million
on two new production facilities in 1994. Upjohn™s top ten human pharmaceutical prod-
ucts accounted for approximately 56 percent of company sales (see Table A).
623
Mergers and Acquisitions




15-27 Part 3 Business Analysis and Valuation Applications




Table A Upjohn™s 1994 Top Selling Human Pharmaceutical Products9
Percent Increase
1994 Sales (Decrease)
Product Description ($ millions) 1994 over 1993
.........................................................................................................................
Xanax Anti-Anxiety/Panic Disorder $ 342 (45.2)%
Micronase Oral Anti-Diabetes 271 (4.2)
Cleocin Antibiotic 248 6.4
The Uphohn Company




Provera Sex Hormone 211 2.4
Solu-Medrol Injectable Steroid 153 7.7
Depo-Provera Injectable Contraceptive 134 86.1
Ibuprofen Analgesic, Anti-In¬‚ammatory 129 3.2
Rogaine Hair Loss Treatment 122 10.9
Ansaid Anti-In¬‚ammatory 105 (14.6)
Halcion Hypnotic Sleep Induction 104 (14.0)
Total Top 10 1819 (10.8)
Other Products Various 1456 11.9
Total All Products 3275 (1.9)
.........................................................................................................................

To a certain extent, Upjohn™s problems were not unique: the problems it faced were
those typical to many companies in the industry. As the world™s nineteenth largest phar-
maceutical company, Upjohn was a mid-sized company in an industry where success
was increasingly characterized by larger companies and by small innovative companies.
Middle tier companies such as Upjohn were at a disadvantage to their larger competitors
in dealing with major buyers. Upjohn was particularly hard hit by the loss of patent pro-
tection on four key drugs and the ensuing generic competition that led to a $400 million
decline in sales on these products. For one of these drugs, Xanax, Upjohn™s highest sell-
ing product, generics were selling at 20 percent of Xanax™s price prior to patent expira-
tion. Despite the loss of Xanax sales dollars, Upjohn was able to maintain approximately
80 percent of its Xanax unit volume sales by the introduction of its own generic equiv-
alent. Upjohn was also weak in international sales. This was particularly true in Europe,
a market approximately the same size as the U.S. market but where Upjohn had sales of
only one-third its U.S. sales. Further, there were signi¬cantly better opportunities for
sales growth in overseas markets than in the more highly competitive U.S. market.
Another problem faced by Upjohn was a weak product development pipeline. While
the company claimed its pipeline was “one of the strongest in Upjohn™s history, with ten
compounds in late-stage development,”10 analysts noted that none of these new drugs
were expected to be blockbusters. The weak pipeline remained despite Upjohn spending

.........................................................................................................................
9. Pharmacia & Upjohn Merger Prospectus, September 15, 1995; Upjohn™s 1994 Annual Report; and Joseph P Ric- .
cardo and Scott J. Shevick, Analyst Report, The Merger: Upjohn Co., Pharmacia AB , Bear Stearns & Co. Inc., Sep-
tember 18, 1995.

10. The Upjohn Company 1994 Annual Report, p. 4.
624 Mergers and Acquisitions




15-28
Mergers and Acquisitions




18.5 percent of sales or $607 million on R&D in 1994. On the positive side, 25 percent
of 1994 sales were from products introduced since 1992, and between 1990 and 1994,
Upjohn had cut in half the time necessary to move a product through its R&D pipeline.
In January 1993, Upjohn hired John Zabriskie as its new CEO. Zabriskie, who arrived
at Upjohn after nearly 30 years at Merck, then the industry™s largest company, began a
number of initiatives aimed at improving Upjohn™s performance. These initiatives in-
cluded cutting costs, particularly in marketing and administration, reducing the work-
force by some 1,300 people,11 selling off non-core activities, such as the Asgrow Seed




The Uphohn Company
Company and part interest in a chicken breeding venture, and consolidating sixteen
divisions into three”R&D, manufacturing, and marketing. (For more details, see Ex-
hibit 1: Upjohn Company - 1994 Letter to Shareholders and Financial Review.)


THE PHARMACIA MERGER
Given the strategic problems Upjohn faced in the changing pharmaceuticals market, and
the general belief that size was an important factor in determining success, the compa-
ny™s announcement of the proposed merger was of little surprise.


Details of the Merger
The proposed merger had Upjohn and Pharmacia executing a tax-free exchange of
shares (pooling of interests) to create a new company named Pharmacia & Upjohn, Inc.
One Upjohn share would be exchanged for 1.45 shares in the new company, while Phar-
macia shares would be exchanged one-for-one. (See Exhibit 2: Abridged Merger Pro-
spectus.) The new company would have 504 million shares outstanding, with 248
million held by Upjohn shareholders and 255 million held by Pharmacia owners. In the
new company, Upjohn™s Zabriskie would be the President and CEO while Pharmacia™s
Jan Ekberg would serve as Nonexecutive Chairman. An Upjohn executive would serve
as CFO. Pharmacia & Upjohn™s board of directors would be formed from an equal num-
ber of current Upjohn and Pharmacia board members. Pharmacia & Upjohn would have
corporate headquarters in London and operational headquarters in Kalamazoo, Michi-
gan; Stockholm/Uppsala, Sweden; and Milan, Italy. A special meeting of Upjohn stock-
holders was to be held on October 17, 1995, to vote on the proposed merger. The merger
had the unanimous support of Upjohn™s board of directors. Exhibit 3 shows data on the
stock prices of Upjohn and Pharmacia around the merger announcement.


Pharmacia
Pharmacia was the world™s eighteenth largest pharmaceutical company, with 1994 sales
of $3.4 billion. Headquartered in Sweden, the ¬rm™s predecessor, Procordia AB, was
.........................................................................................................................
11. Between 1988 and 1994, Upjohn had eliminated 4,600 jobs.
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Mergers and Acquisitions




15-29 Part 3 Business Analysis and Valuation Applications




part of a state holding company along with a number of unrelated businesses until the
late 1980s. Between 1989 and 1993, the company evolved through a series of mergers
and acquisitions to become primarily an international health care company focused in
pharmaceutical products. During this period, Procordia also divested a signi¬cant por-
tion of its lines of branded consumer products and changed its name to Pharmacia. Fol-
lowing the 1993 acquisition of the Italian ¬rm FICE, with its approximately $900 million
in sales, Pharmacia sales were 59 percent in Europe, 16 percent in each of North Amer-
ica and Japan, and 9 percent in the rest of the world. Only 8 percent of Pharmacia sales
The Uphohn Company




were in their home country. At the end of 1994, Pharmacia employed 18,600 individuals
worldwide.
Pharmacia was a market leader in several product areas including cancer treatment,
growth hormones, cataract surgery products, intravenous nutrition, allergy diagnostics,
smoking cessation, and chemicals for biotechnology R&D. See Table B for information
on Pharmacia™s top selling products which accounted for 44 percent of company sales.
In an effort to combine the several companies that had formed Pharmacia, and to bet-
ter meet the increased competition in the pharmaceuticals industry, Pharmacia had
undergone signi¬cant restructuring between 1993 and 1995. This restructuring included:
a consolidation and reduction in the size of the combined sales and marketing organiza-
tions; rationalizing production facilities, including a reduction from 52 to 43 plants and
the planned reduction in plants to 22 by 1998; the elimination of some 1,300 jobs,
mainly from the middle management ranks; and a refocusing of R&D onto fewer projects
in fewer areas.

Table B Pharmacia™s 1994 Top Selling Human Pharmaceutical Products12
Percent Increase
1994 Sales (Decrease)
Product Description ($ millions) 1994 over 1993
..................................................................................................................................
Genotropin Growth Hormone $ 335 1.2%
Healon Cataract Surgery Aid 208 (1.9)
Farmorubicin Anticancer 191 11.7
Allergy Diagnostics Blood Tests for Allergies 175 8.7
Adriamycin Anticancer 140 6.1
Sermion Senility Disorders 105 (2.8)
Nicorette Smoking Cessation 105 1.9
Fragmin Blood Clot Treatments 100 (8.3)
Intralipid Intravenous Nutrition 88 1.1
Salazopyrin In¬‚ammatory Bowel Disease 84 9.1
Total Top 10 1531 2.7
Other Products Various 1921 (3.4)
Total All Products 3452 (0.7)
..................................................................................................................................
12. Pharmacia & Upjohn Merger Prospectus, September 15, 1995; Pharmacia™s 1994 Annual Report; and Joseph P Riccardo .
and Scott J. Shevick, Analyst Report, The Merger: Upjohn Co., Pharmacia AB , Bear Stearns & Co. Inc., September 18, 1995.
626 Mergers and Acquisitions




15-30
Mergers and Acquisitions




Pharmacia™s business strategy was somewhat different than the typical pharmaceuti-
cal company. The industry in general pursued the broad general practitioner market seg-
ment while Pharmacia focused on the smaller segment of hospitals and specialists.
Pharmacia had no blockbuster drugs in its product development pipeline, partly as a re-
sult of this niche-market strategy, but rather relied on a larger number of products with
smaller potential sales. Further, at least one analyst believed that Pharmacia stock was
somewhat undervalued because of the lack of a high-pro¬le blockbuster drug in the pipe-
line.13




The Uphohn Company
The Combined Companies
The August 20 merger announcement described the combined company as follows:
The company, named Pharmacia & Upjohn, Inc., would have had combined
1994 sales of nearly $7 billion, with prescription pharmaceutical sales placing it
in the top ten in the worldwide industry. Annual research and development
expenditures will exceed $1 billion, also in the top tier of the pharmaceutical
industry. The complementary geographical strengths of the two companies will
give Pharmacia & Upjohn sales ranking among the top five pharmaceutical
companies in Europe, top 15 in North America, and top 20 in Japan (also among
the top two or three non-Japanese companies in Japan). Pharmacia & Upjohn
will have a broad product portfolio with sales exceeding $500 million in six key
therapeutic areas. Sales growth in Pharmacia & Upjohn, led by 28 product

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