More generics consolidation coming? Novartis deal rumors point up the industry's troubles

If Novartis does snap up Amneal to beef up its own Sandoz unit, the deal will say as much about the state of the generics industry as it does about Novartis.

True, Novartis is having trouble with its Alcon ophthalmology unit and it's been shopping for deals for some time. But generics companies have their own struggles, and building up by dealmaking is one way to combat them.

Pricing pressures are putting a damper on sales and profits, and many analysts believe this pressure will only increase. The bigger generics makers are consolidating to become even bigger, because scale means better margins. FDA generic approvals have sped up considerably --up 32% in fiscal 2016, on top of a 10% boost the prior year, according to RBC Capital Markets analysts--which only adds to competitive pressure.

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Consider the earnings reports this quarter, capped off by Teva’s on Tuesday. The bigger companies -- Teva, Mylan and Sandoz, plus the top Indian generics makers -- all reported a pricing drag on generic sales in the mid-single digits, percentage-wise. After Evercore ISI analyst Umer Raffat dug into Mylan’s Q3 numbers last week, he estimated a “high teens” decline in the company’s generics business. 

Distributors, including McKesson, suffered on declines in generic drug prices, too. And some smaller pharma companies, Endo included, reported price declines of 10% or more.

So, like many drugmakers on the branded side, generics makers now have “a reduced ability to take aggressive price action on portions of the base business” to increase sales and boost margins, RBC analyst Randall Stanicky said in a recent note.

Meanwhile, the FDA is under pressure to speed generics through the approval process, thanks to Mylan’s EpiPen pricing scandal and the attention it brought to copycat drugs with few-to-no generic competitors. Several senators and U.S. reps proposing stepped-up review for drugs with little competition in the marketplace.

“[A] further acceleration is coming,” Stanicky wrote in a report focusing on the generics business. That might help companies with “complex generics,” which are more difficult to develop and produce, giving them some protection from future competition. Not so good for companies that rely on traditional pills and other formulations.

The backlog of approval applications at FDA stands at 4,000 and the agency is working to clear them out, Stanicky notes. And, according to the agency’s recently released priorities for 2017 and beyond, the FDA is planning a renewal of the Generic Drug User Fee Act that would limit review time to 8 months.

Of course, Sen. Bernie Sanders and Rep. Elijah Cummings are proposing limits on generic drug price increases. And in terms of competition holding back price inflation, that's not always the case; some companies have pushed through big hikes even as new entrants hit the market.

Theoretically, Mylan’s scale--after its deals for Abbott Laboratories’ generics, Sweden’s Meda and some small pickups--and Teva’s even heftier presence now that it has swallowed Allergan’s generics business are bound to prod Novartis toward a Sandoz-building deal.

Stanicky said that a Sandoz-plus-Amneal combo would meld the third-largest generic pipeline in the U.S. with the 10th-largest, putting Sandoz on track to not only benefit with an immediate sales boost from the buy, but long-term with more drug launches.

Even better, as Raffat noted Monday, Amneal’s drug development has increasingly focused on injectables, one category of “complex generics” -- and on niche areas such as dermatology, w

And it would give Sandoz more manufacturing capacity, as Raffat pointed out in a Monday note; Amneal has 12 manufacturing sites, six of them in the U.S. That said, Novartis has been more focused on reducing its manufacturing footprint than growing it, but Sandoz may now have niche needs that Amneal could satisfy.

Look for the consolidation discussion to continue in generics, because the pricing problems, accelerating approvals and margin pressure aren’t going away anytime soon, Stanicky said.

“[W]e also argue that the sector needs to consolidate as one of the offsets to this cyclical pressure that we think can get worse,” the analyst said, adding that, if Novartis does buy Amneal, the deal “could re-ignite discussions around the need for consolidation and how that plays into (or doesn’t)” as Perrigo reviews its strategy and as other mid-size generics players weigh possible mergers and buyouts.

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