The pressure to succeed is enormous. Major drug producers have undergone massive mergers to find cost savings and critical mass in R&D and marketing. They also strive to grow organically through the internal discovery and development of new products. To complement or accelerate their efforts, they often look to small technology-based companies for capabilities or potential new drugs.

Meanwhile, the biotechnology industry has been growing and maturing over 25 years. It has garnered many new technologies. More than 300 product candidates are in late-stage clinical development--where success rates run about 80%--and more than 50 await regulatory approval.

In the past, small discovery-focused companies would have licensed away products relatively cheaply for royalties. Most of the major biotech products on the market are there because of the clinical development and marketing muscle of the large drug firms. But now, more biotech companies have their own products, strong R&D pipelines, and much of the competitive infrastructure of fully integrated drug businesses.

Many also are flush with cash from product sales, collaborative R&D funding, and recent stock market prosperity. From these positions of strength, biotech companies are growing through acquisitions and using their leverage to strike more lucrative and constructive partnerships with other biotech or big drug partners.

In the last 29 days of 2001, biotech companies initiated $20 billion in acquisitions, including Amgen's record-setting $16 billion bid for Immunex. Although the total value of transactions doubled in 2001, the number of deals fell.

MEANWHILE, major pharmaceutical firms slowed their merger activity. There were only two large deals in 2001--Johnson & Johnson buying Alza and Bristol-Myers Squibb getting DuPont Pharmaceuticals--and no megamergers.

Collaborative alliances between pharmaceutical producers and biotech firms announced in 2001 should amount to roughly $7 billion, says Scott W. Morrison, Ernst & Young's national director for life sciences. Although the value has increased about 10%, about 20% fewer deals were struck. Meanwhile, the number of alliances between biotech firms grew nearly 50%.

The most startling drug-biotech deal was Bristol-Myers Squibb's willingness to pay $2 billion to codevelop and copromote a single product: ImClone Systems' first and much-ballyhooed anticancer drug, Erbitux. ImClone is getting about 20 times what was the going rate for licensing a potential blockbuster just four years ago.

In the 17-year Erbitux deal, Bristol-Myers is paying half the money for a 20% equity stake in ImClone. The rest is due in three payments for signing the deal, filing the regulatory licensing application, and gaining approval. ImClone also is to receive about 39% of net sales, plus manufacturing revenues.

When they signed the deal in September 2001, Erbitux was in late-stage clinical trials and the Food & Drug Administration had given it fast-track review status. The partners completed the regulatory filing on Oct. 31, but on Dec. 28, FDA called the filing incomplete and refused to review it.

ImClone has had to offer explanations to angry shareholders suing the company and a congressional committee over its portrayal of clinical trials and the approval process. To an overflowing room at the recent JPMorgan H&Q health care conference in San Francisco, company President and Chief Executive Officer Samuel D. Waksal admitted that they "screwed up" in making the extremely serious mistake of not documenting required clinical data and in putting together a "faulty" application package.

Waksal emphasized his continued faith in the drug's efficacy and eventual approval. The company is talking with FDA on how to proceed and will seek the help of its more experienced, and, ImClone says, still committed, partner. Bristol-Myers didn't offer any comment.

However, Waksal's explanations haven't stemmed negative sentiments or a more than 60% slide in ImClone's stock price. The company still may have to conduct more clinical trials, which would delay refiling by a year or more and give similar drugs time to advance.

Analysts and consultants can only presume that Bristol-Myers did its homework on ImClone and Erbitux before signing. Morrison, for one, doesn't expect that the situation will change the pharmaceutical industry's strategy of doing deals, given the enormous pressures companies have to fill their pipelines and increase earnings.

"This is a cyclical industry with years of enormous prosperity and periods of enormous drought."

THERE MAY be changes, though, in structuring deals to try to reduce risk. "I believe the idea will be to tie more of the payments to actual clinical success, rather than making huge up-front payments that are not refundable," Morrison says.

Douglas Braunstein, head of mergers and acquisitions for JPMorgan, calls the drug industry's prevailing wisdom toward biotech "rent, rather than buy"--that is, make alliances, rather than acquisitions. "To the extent that they can take a minority investment and get access to the product, it is their preferred course of action," he told attendees at the firm's conference.

"It's more attractive from an [earnings] accretion and dilution standpoint," he explained. "Large pharmaceutical companies are remarkably sensitive about their earnings per share.

"And it's cheaper," he added. "Cash is an asset that they have in abundance and can provide as a function of milestone payments, rather than up front to shareholders."

Drug and biotech firms negotiated two trendsetting alliances in 2001, both involving greater sharing of risks and rewards. One was a $1.3 billion, 15-year R&D and commercialization partnership, in which Bayer and Curagen will split costs and profits on a 56% and 44% basis, respectively.

The Bayer-Curagen alliance is 10 times the size of what was a record-setting deal 10 years ago, BIO President Carl B. Feldbaum told licensing executives late last year. "Biotech companies are no longer supplicants; they are able to negotiate as near equals and act as true partners and collaborators with pharmaceutical firms," he said.

"The goal is no longer merely to secure large up-front payments and milestone commitments as, essentially, financing vehicles, but to retain a larger share of downstream revenues," he explained. "Profit sharing, codevelopment, and copromotion--these terms denote a tectonic shift in the balance of power."

Another deal was Millennium Pharmaceuticals' five-year alliance with Abbott Laboratories. Although Abbott will buy $250 million in Millennium stock, the companies are sharing unspecified costs in combining related genomics, drug discovery, and development efforts.

In the long term, alliances are positioning biotech firms to bring products to the market as real partners. Shorter term, they are boosting stock values and providing serious amounts of cash to fund other activities. On top of this, the industry raised a historic $35 billion from investors in 2000, followed by another $15 billion in 2001. Yet another $15 billion or so is expected to flow in this year.

"Compared with historical levels, it's been great, but the ramp-up in R&D spending for the industry has increased substantially, so reserves will be depleted," Morrison says. "This is a cyclical industry with years of enormous prosperity and periods of enormous drought."

HAVING CAPITAL means that many companies can even afford not to do deals and commercialize products alone--or at least advance them to later, and more valuable, stages for deal making. But this advantage is only "a function of a robust capital market, and it's burning rapidly," Morrison says.

Looking at the cash- and profit-rich companies, analysts and investors still want to know how and how well biotech companies will spend the money they now have to build their businesses.

Millennium announced in December that it will use $2 billion in stock to acquire Cor Therapeutics, which sells a leading heart drug, Integrilin. Although Integrilin sales were lower than anticipated at about $225 million in 2001, Cor expects sales to grow more than 30% per year over the next few years.

Analysts consider the deal a straightforward move to assemble the infrastructure needed to become a fully integrated drug company. Along with a rapidly growing product, Cor brings manufacturing, sales, and product development capabilities to Millennium's R&D and a product pipeline gained through an earlier acquisition. Millennium's management says the company will continue to look at acquisitions and expects to be profitable by 2004.

"Why create a biopharmaceutical company completely organically when you have the parts sitting out there?" proposed Matthew Murray, portfolio manager at Alliance Capital, at the JPMorgan H&Q meeting. Essentially overnight, companies can "put the parts together and say, 'Okay, we're a biopharmaceutical company,' " he noted.

"If Millennium ultimately succeeds, then I think a lot of others will follow that pattern," Murray added, "and there are many combinations like it out there to be done." Analysts believe the high-risk, capital-intensive biotech industry is ripe for consolidation. With more than 3,000 companies, there's not enough money or product success to sustain them all, and a lot of duplicate technology and capabilities.

Indeed, in the past year, the industry saw Celera Genomics acquire Axys Pharmaceuticals to bring drug discovery capabilities to its gene data platform. Small-molecule drug developer Vertex Pharmaceuticals bought high-throughput-screening company Aurora Biosciences to increase its productivity.

ALREADY PROFITABLE Cephalon recently bought out marketing partner Group Lafon, gaining full product rights and European reach in manufacturing and sales. The $450 million deal is easily justified, says Frank Baldino Jr., Cephalon's chairman and CEO, as it will be immediately accretive to earnings. "There aren't many deals we could construct like that," he adds, "and you should look for us to do more acquisitions."

In early December, MedImmune announced a $1.5 billion premium-priced stock offer to buy vaccine developer Aviron. MedImmune is already a fully integrated and profitable company with five products, although more than 85% of its sales and most of its sales growth in 2001 were from just one product.

Aviron, meanwhile, is on the cusp of commercializing its first product, the nasal influenza vaccine FluMist, which it expects to have annual sales of $1 billion within five years.

"MedImmune really had their cards in line when they did that acquisition," states Laurence J. Blumberg, president of Blumberg Capital Management. MedImmune's expertise is in infectious diseases, and the combination has clear R&D synergies, while bringing regulatory, manufacturing, and sales infrastructure to bear on FluMist.

Marrying strong R&D pipelines to existing commercial infrastructures is as important as acquiring a major product. "You've got to have a flow of products into a development organization and a sales force," says Dick Haiduck, a director at the merchant bank Burrill & Co. "You can't have one product every three years, and then let them sit there waiting for another."

The biotech industry's biggest deal--between Amgen and Immunex--was driven, some analysts believe, by product pipeline concerns. Although it's the industry leader with nearly $4 billion in annual sales and double-digit earnings growth, Amgen's success has been tied to two blockbuster products launched in 1989 and 1991. It took another decade for another major product to emerge: its recently approved, next-generation anemia drug Aranesp.

Similarly, 20-year-old Immunex took until 1998 to realize its first major product, the antiarthritis drug Enbrel. Limited production capacity has hampered the drug's recent sales growth, and Immunex' next nearest product candidate is only in midstage clinical trials.

On Dec. 17, Amgen offered to pay $16 billion--85% in stock and the rest in cash--to acquire Immunex. Sales of Enbrel are expected to approach $1 billion this year and $4 billion by 2005 as it gets approved for new uses and Amgen's resources expand production.

SOME ANALYSTS reacted negatively to the deal, as did trading in the companies' shares. The deal's nature has provoked some disparaging analogies to major pharmaceutical mergers driven largely by cost savings and economies of scale. In fairness, stocks of most biotech companies that announced mergers and acquisitions initially fell as investors responded to these relatively unfamiliar events.

Large pharmaceutical companies have "gotten very good at acquisitions, and the idea is ingrained in their psyches as part and parcel of growth," JPMorgan's Braunstein said at the meeting. He finds it an interesting change that biotech companies are more receptive to and thinking strategically about mergers and acquisitions, and not just their discovery engines.

Many analysts are skeptical about the deals, particularly the one between Amgen and Immunex. "Most mergers don't work," Murray commented. "If you compare growth rates [before and after], in most of these situations it just looks like the company slows down after the acquisition."

"When I see tons and tons of merger and acquisition activity, and the prospects for more, it calls into question what the organic growth models are for the companies that are in play," added Richard van den Broek, principal at Cooper Hill Partners.

Other analysts have been more positive, suggesting that the Amgen/Immunex combination will create a more diversified company. "There are economies of scale but also two great research organizations with proven track records of getting major products to the finish line," Morrison says.

Amgen also deserves comparison to major drug firms in that its $60 billion market valuation, not yet including Immunex' $15 billion, already surpasses the $50 billion values of Pharmacia and Schering-Plough and is approaching the $80 billion to $90 billion values of Eli Lilly, Abbott, and American Home Products. Morrison and others anticipate that a few other biotech firms might near these ranks in the next five years.

Along with market value, biotech companies have more financial flexibility to structure biotech acquisitions than do large drug companies.

Braunstein notes that the average price-to-earnings ratio for a drug producer's stock is about half that of most biotech companies, so its stock currency is less valuable. This makes the price of any acquisition by a large drug company, especially at a premium, unfeasible. The deals also would be highly dilutive to earnings per share and therefore undesirable. Thus, for the next year or two, he believes, biotech companies can probably make deals without fear of disruption from bigger competitors.

Analysts expect, however, that within a few years the relative price-to-earnings ratios--and thus who has the financial flexibility--will reverse. Pharmaceutical producers then, they believe, will use the opportunity to make biotech acquisitions.

Meanwhile, biotech companies are expected to be more serious and aggressive competitors in snapping up new technologies and late-stage or marketed products.

What's happened so far is "hardly the start of musical chairs within the industry," says G. Steven Burrill, CEO of Burrill & Co. He still expects a slight increase in biotech mergers this year, including what he calls another "marquee transaction."

"It's important to remember that only a handful of companies are positioned to pull one off," he says. "Individual deals happen for specific reasons, unique to each, and just because one combination happens, it doesn't lead to large-scale industry consolidation."

Big deals

Drug developers join forces through acquisitions and collaborations

	TARGET	DATE	DRIVERS	VALUE ($ MILLIONS)
ACQUISITIONS
Amgen	Immunex	Pending	Products, R&D	$16,000
Johnson & Johnson	Alza	June 2001	Products, R&D	10,500
Bristol-Myers Squibb	DuPont Pharmaceuticals	October 2001	Producer, sales	7,800
Millennium Pharmaceuticals	Cor Therapeutics	Pending	Products, R&D	2,000
Roche	Chugai Pharmaceuticals	Pending	Producer, sales	1,600a
MedImmune	Aviron	January 2002	Products, R&D	1,500
Merck	Rosetta Inpharmatics	May 2001	Genomics	620
Vertex Pharmaceuticals	Aurora Biosciences	July 2001	Drug screening	592
Cephalon	Group Lafon	December 2001	Products, sales	450
OSI Pharmaceuticals	Gilead Sciences, oncology	November 2001	R&D	200
Celera Genomics	Axys Pharmaceuticals	November 2001	Development	175
ALLIANCES
Bristol-Myers Squibb	ImClone Systems	September 2001	Product license	2,000
Bayer	Curagen	January 2001	Discovery	1,420
Novartis	Vertex Pharmaceuticals	May 2000	Discovery	800
Aventis	Millennium Pharmaceuticals	June 2000	Discovery	450
Abbott Laboratories	Millennium Pharmaceuticals	March 2001	Genomics	250
Bristol-Myers Squibb	Exelixis	July 2001	Development	200
Eli Lilly	Isis Pharmaceuticals	August 2001	Product license	200
a Roche to get 50.1% stake.

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Copyright © 2002 American Chemical Society