Merck & Company, Inc. - 2009 Case Notes Prepared by: Dr.

Mernoush Banton Case Author: Mernoush Banton

A. Case Abstract

Merck & Company, Inc. (www.merck.com) is a comprehensive strategic management case that includes the companys calendar December 31, 2008 financial statements, competitor information, and more. The case time setting is the year 2009. Sufficient internal and external data are provided to enable students to evaluate current strategies and recommend a three-year strategic plan for the company. Headquartered in Whitehouse Station in the U.S. state of New Jersey, Merck & Company, Inc. is traded on the New York Stock Exchange under ticker symbol MRK.

B.

Vision Statement

To make a difference in the lives of people globally through our innovative medicines, vaccines, biologic therapies, consumer health and animal products. We aspire to be the best healthcare company in the world and are dedicated to providing leading innovations and solutions for tomorrow.

C.

Mission Statement (Actual)

We have made it our mission to provide innovative, distinctive products and services that save and improve lives and satisfy customer needs, to be recognized as a great place to work, and to provide investors with a superior rate of return.

Mission Statement (Proposal)

To provide people worldwide (1, 3) with superior drugs (2) by developing innovations and solutions using the latest technology (4) to satisfy customer needs, and to provide employees (9) with meaningful work and advancement opportunities, and investors with a superior rate of return (5). We are committed to the highest standards of ethics and integrity (6). We devote extensive efforts to increase access to medicines through far-reaching programs help deliver help to people who need help (7). Through investments worldwide (3), we preserve and improve human life (8). 1. 2. 3. 4. 5. 6. 7. 8. 9. Customer Products or services Markets Technology Concern for survival, profitability, growth Philosophy Self-concept Concern for public image Concern for employees

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D.

External Audit

CPM Competitive Profile Matrix

Pfizer Critical Success Factors Price competitiveness Global Expansion Organizational Structure Employee Morale Technology Product Safety Customer Loyalty Market Share Advertising Product Quality Product Image Financial Position Total Weight 0.10 0.07 0.04 0.06 0.08 0.15 0.08 0.07 0.12 0.10 0.07 0.06 1.00 Rating 4 4 3 2 3 3 3 4 3 3 3 3 Weighte d Score 0.40 0.28 0.12 0.12 0.24 0.45 0.24 0.28 0.36 0.30 0.21 0.18 3.18

Bayer Rating 2 2 1 1 1 1 2 2 2 1 1 1 Weighte d Score 0.20 0.14 0.04 0.06 0.08 0.15 0.16 0.14 0.24 0.10 0.07 0.06 1.44

Merck Rating 3 3 2 3 2 4 4 3 4 2 2 4 Weighted Score 0.30 0.21 0.08 0.18 0.16 0.60 0.32 0.21 0.48 0.20 0.14 0.24 3.12

Opportunities 1. The industry is marked by rapid advances and is heavily based on research and development 2. The United States leads the world with the highest market share and is the home of five of the ten largest drug manufacturers 3. Japan is placed third with companies such as Sankyo Co., Takeda Chemical Industries, and Yamanouchi Pharmaceutical 4. The industry is highly concentrated: the 50 largest companies control more than 80 percent of the market 5. The pharmaceutical industry accounts for 27.3 percent of the healthcare sector 6. The industry has been growing at over 10 percent annually and many large drug companies supplement their own efforts by buying or licensing products from other companies 7. Increasing elderly population offers a good opportunity for drug companies

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Threats 1. Strong competition with approximately 1,500 companies in the U.S. 2. The pharmaceutical industry is capital intensive with exorbitant research and development costs 3. Drug discovery and development is a highly sophisticated process that can take several years to complete and may cost more than US$500 million 4. The cost of making a drug has escalated tenfold every 20 years 5. Large investment is required for a long period of time with almost no guarantee that the drug will even hit the market 6. Generic drugs rapidly enter the market when a patent expires by the original brand-named drug manufacturer 7. The U.S. Congress has been considering changing advertising laws, which will impact the drug companies considerably 8. The U.S. pharmaceutical industry spends almost twice as much on promotion as it does on research and development External Factor Evaluation (EFE) Matrix Key External Factors Opportunities 1. The industry is marked by rapid advances and is heavily based on research and development 2. The United States leads the world with the highest market share and is the home of five of the ten largest drug manufacturers 3. Japan is placed third with companies such as Sankyo Co., Takeda Chemical Industries, and Yamanouchi Pharmaceutical 4. The industry is highly concentrated: the 50 largest companies control more than 80 percent of the market 5. The pharmaceutical industry accounts for 27.3 percent of the healthcare sector 6. The industry has been growing at over 10 percent annually and many large drug companies supplement their own efforts by buying or licensing products from other companies 7. Increasing elderly population offers a good opportunity for drug companies Threats 1. Strong competition with approximately 1,500 companies in the U.S. 2. The pharmaceutical industry is capital intensive with exorbitant research and development costs 3. Drug discovery and development is a highly sophisticated process that can take several years to complete and may cost more than US$500 0.08 0.07 0.04 0.06 0.07 0.08 4 3 3 4 3 2 0.32 0.21 0.12 0.24 0.21 0.16 Weight Rating Weighted Score

0.07

0.28

0.05 0.07 0.08

4 2 3

0.2 0.14 0.24

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million 4. The cost of making a drug has escalated tenfold every 20 years 5. Large investment is required for a long period of time with almost no guarantee that the drug will even hit the market 6. Generic drugs rapidly enter the market when a patent expires by the original brand-named drug manufacturer 7. The U.S. Congress has been considering changing advertising laws, which will impact the drug companies considerably 8. The U.S. pharmaceutical industry spends almost twice as much on promotion as it does on research and development Total

0.08 0.05 0.06 0.07 0.07 1.00

2 2 2 3 2

0.16 0.1 0.12 0.21 0.14 2.85

Positioning Map
Price (High)

Pfizer Merck Bayer

Product Line (Narrow)

Product Line (Wide)

Price (Low)

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E.

Internal Audit
Strengths 1. 2. 3. 4. 5. 6. 7. 8. Continuous acquisition of companies has made the company stronger Strong distribution channel for all its products Having multiple segments helps the company to have higher market share Mercks revenue increased from 2006 to 2007 by US$1.56 billion Mercks net income more than doubled in 2008 Current asset increased by almost US$4.3 billion from 2007 to 2008 Committed to fostering diversity within the company Strong and reputable brand image Weaknesses 1. The problem with Vioxx created negative publicity for the company 2. Mercks revenue dropped by approximately US$347 million from 2007 to 2008 3. Merck carries more than US$1.4 billion in goodwill on its balance sheet and close to US$4 billion long-term debt 4. Very nominal expenditure in R&D which could impact the company long term 5. Hardly any increase in product sales from 2007 to 2008 6. Multiple products have been linked to negative health effects 7. Product quality (recalls)

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Financial Ratio Analysis (December 2009) Growth Rates % Sales (Qtr vs year ago qtr) Net Income (YTD vs YTD) Net Income (Qtr vs year ago qtr) Sales (5-Year Annual Avg.) Net Income (5-Year Annual Avg.) Dividends (5-Year Annual Avg.) Price Ratios Current P/E Ratio P/E Ratio 5-Year High P/E Ratio 5-Year Low Price/Sales Ratio Price/Book Value Price/Cash Flow Ratio Profit Margins % Gross Margin Pre-Tax Margin Net Profit Margin 5Yr Gross Margin (5-Year Avg.) 5Yr PreTax Margin (5-Year Avg.) 5Yr Net Profit Margin (5-Year Avg.) Financial Condition Debt/Equity Ratio Current Ratio Quick Ratio Interest Coverage Leverage Ratio Book Value/Share Adapted from www.moneycentral.msn.com Merck 1.80 3.80 212.30 1.19 3.45 0.95 Merck 9.6 NA NA 4.78 3.36 11.20 Merck 76.4 46.0 34.8 75.9 30.1 22.5 Merck 0.40 3.7 3.4 NA 2.1 10.86 Industry 3.20 5.10 38.80 8.49 15.83 14.40 Industry 15.3 18.2 5.0 3.08 8.10 12.20 Industry 72.9 24.0 18.7 72.1 21.3 15.9 Industry 2.30 1.9 1.6 20.6 4.7 11.51 S&P 500 -4.80 -6.00 26.80 12.99 12.69 11.83 S&P 500 26.7 16.6 2.6 2.25 3.48 13.70 S&P 500 38.9 10.3 7.1 38.6 16.6 11.5 S&P 500 1.09 1.5 1.3 23.7 3.4 21.63

Avg P/E 12/08 10.20

Price/ Sales 2.73

Price/ Book 3.42

Net Profit Margin (%) 32.7

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12/07 12/06 12/05 12/04 12/03 12/02 12/01

33.90 18.90 14.60 16.00 18.20 18.10 23.30 Debt/ Equity 0.33 0.32 0.39 0.45 0.40 0.44 0.47 0.55

5.27 4.21 3.18 3.11 4.63 6.01 6.44 Return on Equity (%) 41.6 18.0 25.2 25.8 33.7 42.3 37.3 43.9

6.94 5.38 3.86 4.11 6.59 6.98 8.33 Return on Assets (%) 16.5 6.8 9.9 10.3 13.7 16.2 14.3 16.0 17.0

13.5 19.6 21.0 25.4 29.3 31.7 33.3 Interest Coverage 39.0 8.8 16.6 19.1 27.2 25.8 24.7 21.5 20.3

Book Value/ Share 12/08 12/07 12/06 12/05 12/04 12/03 12/02 12/01 $8.90 $8.37 $8.10 $8.24 $7.83 $7.01 $8.11 $7.06

12/00 $6.43 0.47 46.0 Adapted from www.moneycentral.msn.com

Internal Factor Evaluation (IFE) Matrix Key Internal Factors Strengths 1. Continuous acquisition of companies has made the company stronger 0.07 4 0.28 Weight Rating Weighted Score

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2. Strong distribution channel for all its products 3. Having multiple segments helps the company to have higher market share 4. Merck's revenue increased from 2006 to 2007 by US$1.56 billion 5. Merck's net income more than doubled in 2008 6. Current asset increased by almost US$4.3 billion from 2007 to 2008 7. Committed to fostering diversity within the company 8. Strong and reputable brand image Weaknesses 1. The problem with Vioxx created negative publicity for the company 2. Merck's revenue dropped by approximately US$347 million from 2007 to 2008 3. Merck carries more than US$1.4 billion in goodwill on its balance sheet and close to $4 billion long term debt 4. Very nominal expenditure in R&D which could impact the company long term 5. Hardly any increase in product sales from 2007 to 2008 6. Multiple products have been linked to negative health effects 7. Product quality (recalls) Total

0.08 0.06 0.08 0.09 0.06 0.04 0.06

3 4 4 4 4 3 3

0.24 0.24 0.32 0.36 0.24 0.12 0.18

0.07 0.06 0.06 0.05 0.08 0.07 0.07 1.00

2 1 1 1 1 2 1

0.14 0.06 0.06 0.05 0.08 0.14 0.07 2.58

F.

SWOT Strategies
Strengths 1. Continuous acquisition of companies has made the company stronger 2. Strong distribution channel for all its Weaknesses 1. The problem with Vioxx created negative publicity for the company 2. Mercks revenue dropped by

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products 3. Having multiple segments helps the company to have higher market share 4. Mercks revenue increased from 2006 to 2007 by US$1.56 billion 5. Mercks net income more than doubled in 2008 6. Current asset increased by almost US$4.3 billion from 2007 to 2008 7. Committed to fostering diversity within the company 8. Strong and reputable brand image Opportunities 1. The industry is marked by rapid advances and is heavily based on research and development 2. The United States leads the world with the highest market share and is the home of five of the ten largest drug manufacturers 3. Japan is placed third with companies such as Sankyo Co., Takeda Chemical Industries, and Yamanouchi Pharmaceutical 4. The industry is highly concentrated: the 50 largest companies control more than 80 percent of the market 5. The pharmaceutical industry accounts for 27.3 percent of the healthcare sector 6. The industry has been growing at over 10 S-O Strategies 1. Invest additional funding in R&D, improving new product introduction (S2, S3, S8, O1, O4, O5) 2. Continue purchasing new companies in segments that the company is losing product sales or market share (S1, S3, S4, O2, O4, O5)

3.

4.

5. 6. 7.

approximately US$347 million from 2007 to 2008 Merck carries more than US$1.4 billion in goodwill on its balance sheet and close to US$4 billion long-term debt Very nominal expenditure in R&D which could impact the company long term Hardly any increase in product sales from 2007 to 2008 Multiple products have been linked to negative health effects Product quality (recalls)

W-O Strategies 1. Form joint ventures with companies who are not in direct competition with drug companies but are within health-related businesses for developing/introducing non-competing products (W2, W4, W5, O5, O6) 2. Increase quality control to improve reducing product recalls (W6, W7, O1)

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percent annually and many large drug companies supplement their own efforts by buying or licensing products from other companies 7. Increasing elderly population offers a good opportunity for drug companies Threats 1. Strong competition with approximately 1,500 companies in the U.S. 2. The pharmaceutical industry is capital intensive with exorbitant research and development costs 3. Drug discovery and development is a highly sophisticated process that can take several years to complete and may cost more than US$500 million 4. The cost of making a drug has escalated tenfold every 20 years 5. Large investment is required for a long period of time with almost no guarantee that the drug will even hit the market 6. Generic drugs rapidly enter the market when a patent expires by the original brand-named drug manufacturer 7. The U.S. Congress has been considering changing advertising laws, which will impact the drug companies considerably 8. The U.S. pharmaceutical S-T Strategies 1. Use the excess cash by acquiring biotechnology or other health related businesses (S4, S5, S6, T1, T2, T5) 2. Work with the government and the U.S. Congress in developing a medical program, discounting product pricing (S4, S5, S6, T8) W-T Strategies 1. Increase customer awareness by educating consumer of side effects, consequences of mixing drugs or unhealthy habits (W1, W6, T9)

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industry spends almost twice as much on promotion as it does on research and development

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G.

SPACE Matrix

FS
Conservative
7 6 5 4 3 2 1

Aggressive

CS

IS
-7 -6 -5 -4 -3 -2 -1 -1 -2 -3 -4 -5 -6 1 2 3 4 5 6 7

Defensive

-7

Competitive

ES
Financial Stability (FS) Return on Investment Leverage Liquidity Working Capital Cash Flow Financial Stability (FS) Average Competitive Stability (CS) Market Share Product Quality Customer Loyalty Competitions Capacity Utilization Technological Know-How Competitive Stability (CS) Average Environmental Stability (ES) Unemployment Technological Changes Price Elasticity of Demand Competitive Pressure Barriers to Entry Environmental Stability (ES) Average Industry Stability (IS) Growth Potential Financial Stability Ease of Market Entry Resource Utilization Profit Potential Industry Stability (IS) Average

3 4 4 4 4 3.8

-4 -3 -1 -4 -1 -2.6

-1 -2 -2 -2 -2 -1.8

4 3 5 4 4 4

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Y-axis: FS + ES = 3.8 + (-2.6) = 1.2 X-axis: CS + IS = (-1.8) + (4.0) = 2.2

H.

Grand Strategy Matrix

Rapid Market Growth Quadrant II Quadrant I

Weak Competitive Position

Strong Competitive Position

Quadrant III

Slow Market Growth

Quadrant IV

1. 2. 3. 4. 5. 6. 7.

Market development Market penetration Product development Forward integration Backward integration Horizontal integration Related diversification

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I.

The Internal-External (IE) Matrix

The IFE Total Weighted Score Strong 3.0 to 4.0 I Average 2.0 to 2.99 II Weak 1.0 to 1.99 III

High 3.0 to 3.99

IV

IV

VI

The EFE Total Weighted Score

Medium 2.0 to 2.99 VII

Merck & Company, Inc.

VIII

IX

Low 1.0 to 1.99

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J.

QSPM
Form joint ventures with companies who are not in direct competition with drug companies but within healthrelated businesses for developing / introducing noncompeting products AS TAS 4 4 --2 ----0.32 0.28 --0.12 -----

Key Factors Opportunities 1. The industry is marked by rapid advances and is heavily based on research and development 2. The United States leads the world with the highest market share and is the home of five of the ten largest drug manufacturers 3. Japan is placed third with companies such as Sankyo Co., Takeda Chemical Industries, and Yamanouchi Pharmaceutical 4. The industry is highly concentrated: the 50 largest companies control more than 80 percent of the market 5. The pharmaceutical industry accounts for 27.3 percent of the healthcare sector 6. The industry has been growing at over 10 percent annually and many large drug companies supplement their own efforts by buying or licensing products from other companies 7. Increasing elderly population offers a good opportunity for drug companies Threats 1. Strong competition with approximately 1,500 companies in the U.S. 2. The pharmaceutical industry is capital intensive with exorbitant research and development costs 3. Drug discovery and development is a highly

Weight 0.08 0.07 0.04 0.06 0.07 0.08

Use the excess cash by acquiring biotechnology or other healthrelated businesses AS TAS 3 3 --4 ----0.24 0.21 --0.24 -----

0.07

---

---

---

---

0.05 0.07 0.08

4 1 3

0.20 0.07 0.24

1 3 2

0.05 0.21 0.16

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sophisticated process that can take several years to complete and may cost more than US$500 million 4. The cost of making a drug has escalated tenfold every 20 years 5. Large investment is required for a long period of time with almost no guarantee that the drug will even hit the market 6. Generic drugs rapidly enter the market when a patent expires by the original brand-named drug manufacturer 7. The U.S. Congress has been considering changing advertising laws, which will impact the drug companies considerably 8. The U.S. pharmaceutical industry spends almost twice as much on promotion as it does on research and development TOTAL Strengths 1. Continuous acquisition of companies has made the company stronger 2. Strong distribution channel for all its products 3. Having multiple segments helps the company to have higher market share 4. Merck's revenue increased from 2006 to 2007 by US$1.56 billion 5. Merck's net income more than doubled in 2008 6. Current asset increased by almost US$4.3 billion from 2007 to 2008 7. Committed to fostering diversity within the company 8. Strong and reputable brand image Weaknesses 1. The problem with Vioxx created negative publicity for the company 2. Merck's revenue dropped by approximately US$347 million from 2007 to 2008 3. Merck carries more than US$1.4 billion in goodwill on its balance sheet and close to US$4 billion long-term debt 4. Very nominal expenditure in R&D which could impact the company long term 5. Hardly any increase in product sales from 2007 to 2008 6. Multiple products have been linked to negative health effects 7. Product quality (recalls) SUBTOTAL SUM TOTAL ATTRACTIVENESS SCORE

0.08 0.05 0.06 0.07 0.07 1.00 0.07 0.08 0.06 0.08 0.09 0.06 0.04 0.06 0.07 0.06 0.06 0.05 0.08 0.07 0.07 1.00

1 2 4 -----

0.08 0.10 0.24 ----1.62

3 4 2 -----

0.24 0.2 0.12 ----1.7

4 --2 4 --2 2 ----2 ----2 --1

0.28 --0.12 0.32 --0.12 0.08 ----0.12 ----0.16 --0.07 1.27 2.89

2 --4 2 --4 3 ----1 ----1 --4

0.14 --0.24 0.16 --0.24 0.12 ----0.06 ----0.08 --0.28 1.32 3.02

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K.

Recommendations

Form joint venture with smaller companies or companies that are in health-related sector but are not in direct competition with Merck by making and introducing health-related products such as vitamins, over the counter consumer products or small medical devices.

L.

EPS/EBIT Analysis
US$ Amount Needed: $300 million Stock Price: US$37.00 Tax Rate: 20.4% Interest Rate: 4.75% # Shares Outstanding: 3.1 Billion

EBIT Interest EBT Taxes EAT # Shares EPS

Common Stock Financing Recession Normal Boom $3,000,000,00 $5,000,000,00 $8,000,000,00 0 0 0 0 0 0 3,000,000,000 5,000,000,000 8,000,000,000 612,000,000 1,020,000,000 1,632,000,000 2,388,000,000 3,980,000,000 6,368,000,000 3,109,459,459 0.77 3,109,459,459 1.28 3,109,459,459 2.05

Recession $3,000,000,00 0 16,625,000 2,983,375,000 608,608,500 2,374,766,500 3,100,000,000 0.77

Debt Financing Normal Boom $5,000,000,00 0 $8,000,000,000 16,625,000 16,625,000 4,983,375,000 7,983,375,000 1,016,608,500 1,628,608,500 3,966,766,500 6,354,766,500 3,100,000,000 1.28 3,100,000,000 2.05

EBIT Interest EBT Taxes EAT # Shares EPS

70 Percent Stock - 30 Percent Debt Recession Normal Boom $3,000,000,00 $5,000,000,00 $8,000,000,00 0 0 0 13,300,000 13,300,000 13,300,000 2,986,700,000 4,986,700,000 7,986,700,000 609,286,800 1,017,286,800 1,629,286,800 2,377,413,200 3,969,413,200 6,357,413,200 3,106,621,622 0.77 3,106,621,622 1.28 3,106,621,622 2.05

70 Percent Debt - 30 Percent Stock Recession Normal Boom $3,000,000,00 $5,000,000,00 0 0 $8,000,000,000 3,325,000 3,325,000 3,325,000 2,996,675,000 4,996,675,000 7,996,675,000 611,321,700 1,019,321,700 1,631,321,700 2,385,353,300 3,977,353,300 6,365,353,300 3,102,837,838 0.77 3,102,837,838 1.28 3,102,837,838 2.05

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M.

Epilogue

Merck will pay Dynavax Technologies Corp. US$4 million to cover costs of the Heplisav program. This was based on partnership and the payment was the result of negotiation since December 2008. Merck backed out of the deal after the FDA put a hold on their joint venture testing program even though they lifted the hold later on. After collaborating on a new cancer drug, pharmaceutical giant Merck and GTx are parting ways, leaving the smaller player to fund clinical trials on its own. GTx will reacquire rights to cancer drug Ostarine and its selective androgen receptor modulator (SARM) program after dissolving its collaboration with Merck. Cutting ties with the larger drug company will bring GTx closer to becoming a self-sustaining and profitable company, says CEO Mitchell Steiner as the drug trials have faced significant delays during Merck's recent merger with Schering-Plough. ( Forbes, March 15, 2010)

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