Teva bids for Mylan amid pressure on copycat drugmakers

If timing is everything, then Teva, the world's biggest maker of generic drugs, has chosen a tricky moment to try to pull off the biggest pharmaceuticals deal of the year.

The Israeli group's proposed $40.1bn acquisition of Mylan would create a copycat medicines group with unparalleled scale and influence. It hopes to consolidate the market and increase its pricing power at a time when spiking costs for some generic drugs are already drawing attention from US policy makers and complaints from pharmacy chains.

Last month, the US Department of Health and Human Services launched a probe into generic drug price increases at the behest of two congressional lawmakers concerned about rising prices. Separately, Walgreens, one of the largest US pharmacy chains, listed higher costs for copycat medicines as one of the reasons it recently announced the closure of 200 stores.

Against this background, Mylan, based in the US but domiciled in the Netherlands, is fiercely resisting Teva's advances and is attempting to torpedo the deal by pursuing its own transaction: the $32.7bn acquisition of Perrigo, an Ireland-based maker of cough and cold remedies.

Mylan argues that a Teva-Mylan combination could be blocked by regulators that "will, and should care . . . about pricing power and potential for drug shortages".

US regulators have good reason to worry about rising prices for generic drugs, which are chemically identical versions of medicines that have lost patent protection.

A 100mg pill of Amitriptyline Hydrochloride, prescribed for depression and pain, today costs $1.07. That may sound small compared with specialist drugs that cost as much as $1,000 a pill, but the pricetag has jumped by 2,487 per cent in under two years: in July 2013, the same pill cost just 4 cents.

The price rise is particularly surprising because amitriptyline was first discovered by Merck in the 1950s, and cheaper generic versions have been on the market for more than 30 years.

But the drug is one of several commonly prescribed generic medicines with a skyrocketing pricetag. A 500mg capsule of Tetracycline, an antibiotic used for a long list of bacterial infections, now costs $8.75, for instance, compared with 5 cents in July 2013, a rise of more than 17,000 per cent.

Generic drugs have been one of the few effective weapons in the war against rising US healthcare costs, and now account for about 1 in 8 American prescriptions. Since 2008, the average price of branded prescription drugs in the US has almost doubled while the average price of generics has been cut in half, according to Express Scripts, the largest US pharmacy benefits manager.

That long-term trend is one reason most in the pharma industry think prices for generic drugs will eventually fall back, despite the current spike for some medicines.

Analysts say the current increases are being caused by temporary issues, such as a backlog of 4,000 generic approval applications at the US Food and Drug Administration and a recent crackdown by the FDA on drugmakers in India, such as Ranbaxy.

The Indian groups, which enjoy much lower labour costs, had been flooding the global market with cheaper pills, but they failed to meet stringent manufacturing standards for US imports. Many have had their licences revoked, although most analysts expect them to win new permits in the near future, while Chinese makers are also working hard to win licences.

"The Indian companies are getting better and better. The argument that Indians are not able to supply the global market is increasingly in the rear-view mirror. Now they're being inspected, they're hiring good people and getting good results," says Ronny Gal, an analyst at Bernstein.

With competition looming, Teva wants Mylan to bolster its own position, analysts say. Teva says it could achieve cost cuts and tax savings of $2bn a year if it were to buy Mylan, meaning it would be in a better position to still make a profit if prices fall. A larger company would also be able to resist demands for bigger discounts from pharmacy groups, which have been bulking up in their own round of consolidation (see below).

"In the next one to two years, there's going to be a headwind as [Indian] companies return to markets, and that's one of the issues Teva is looking at. If it can consolidate the number of players it could potentially see higher pricing for suppliers," says Jason Gerberry, an analyst at LinkedIn.

In some ways, Teva is late to the deals party, with many of the other big names in generics joining forces in recent years. It is more than two years since Watson, now called Actavis, embarked on a multiyear acquisition spree that saw it go from a copycat drugmaker with a market capitalisation of $8bn to a top 10 pharmaceutical group worth $111bn.

In the process, Actavis sharply switched its focus from generics to branded drugs, as evidenced by its $70bn takeover of Allergan last year. Non-generic medicines now account for about two-thirds of its revenues and 80 per cent of gross profits.

The economics for generic drugmakers have been good in recent years, as a "patent cliff" starting in 2011 saw many of the big pharma groups lose exclusivity on their drugs, creating an avalanche of copycat opportunities.

In another boon, companies that launch the first generic version of a drug are often given six months of exclusive sales as a reward for risking patent litigation in the US courts. That has enabled them to sell copycat pills at just slightly less than the branded version for 180 days before real competition starts.

However, most pharma companies have now stepped off their patent cliffs and, with fewer drugs available to copy, the generic industry is facing a precipitous fall of its own. To make things worse, many of the newer drugs that are coming off patent today are complex drugs made from large molecules, which are much harder to copy.

Teva has also tried to move away from pure-play generics. Copaxone, a branded drug for multiple sclerosis, accounts for more than a third of its earnings, although that drug too is about to face competition from knock-off versions.

"Teva is getting pressured by the loss of Copaxone and its investors are frustrated that they're making more money from Actavis," says Umer Raffat, an analyst at Evercore ISI.

While most analysts think Teva will end up winning its fight for Mylan, some question whether now is the right time to double down on generics.

Mr Gal says the company "might be able to better withstand pricing pressure" if it buys Mylan, but asks: "Why would you want to increase your exposure to a business facing secular pricing pressure and increased competition from the Indians, and, eventually, the Chinese?"

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