Mergers rooted in demands of the market

A familiar set of arguments lies behind the latest mega-merger to hit the pharmaceuticals industry - the agreed marriage of Upjohn of the US and Sweden's Pharmacia to create one of the world's top 10 ethical drugs companies. In modified form the same sort of logic is used to justify bid and merger fever in the other sectors bitten by the bug - media, financial services and defence. Is this latest obsession with the "big is beautiful" philosophy of corporate life any more justified than it has been in the past? Or is it just another outbreak of costly and ultimately worthless empire-building?

Using the Upjohn-Pharmacia tie-up as an example, let's examine the argument. Primarily the merger is about cost-cutting - some $500m of it annually. It is also about globalisation and concentration in what remains a highly fragmented industry. Even the mighty Glaxo Wellcome, now the world's largest, has no more than 6 per cent of the global market. Most analysts believe concentration has a long way to go yet. Two factors drive the process: customer pressure on prices and the steadily rising cost of R&D.

With pressure on drug prices increasing across the board, it is generally assumed that only very large companies can sustain the level of spending on research and development necessary to compete across the therapeutic spectrum. The increased cost of pharmaceutical R&D, moreover, is only partially a function of tougher standards and the law of diminishing returns. It is also caused by the fact that the lucky break - discovering a blockbuster product by stumbling across it - is an increasingly rare form of drug development. Targeting an ailment and hunting the right compound for treatment, the method used most commonly these days, is a more costly and exacting process.

What looks like a heady rush of "me too" thinking among the big pharmaceutical companies, therefore, has a relatively respectable backdrop of arguments to support it. The same is true of the other sectors riding the merger wave. All seem to be driven by the familiar themes of globalisation, deregulation, rapidly changing technology and the "more for less" demands of the customer.

Whether any of these mergers individually live up to the claims being made for them is, of course, a different matter. Not everyone in pharmaceuticals is as firm and committed a believer in the need for consolidation as Sir Richard Sykes, chief executive of Glaxo. The board of Wellcome thought it a lot of tosh.

Some managements will not be up to the task and quite a few of the claimed benefits will almost certainly prove illusory. None the less, the present merger boom is on the whole more strategically based and visionary than that of the Eighties, where the predominant theme was financial engineering. It is also firmly rooted in the demands of the marketplace. For these reasons the current wave looks like more than simple management aggrandisement. Unlike most previous merger booms, there might actually be something in it for shareholders too.

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