J&J Mounts Remicade Challenge

In a Schedule 14A proxy statement filed on May 20, 2009 Merck & Co. (MRK - Analyst Report) disclosed that it had received notification from Johnson & Johnson’s (JNJ - Analyst Report) Centocor subsidiary of its intention to terminate, through arbitration, the distribution agreement with Schering-Plough Corp (SGP) for Remicade and golimumab (Simponi). As we detailed in prior reports and blogs, we had expected some sort of challenge from J&J, so the recent news comes as no surprise.

In March 2009 Merck and Co. and Schering-Plough announced a merger agreement whereby the companies would combine in a deal currently valued at approximately $48.8 billion. The deal was structured as a “reverse-merger” with Schering-Plough being the surviving entity. Merck believes that the “reverse-merger” structure will avoid triggering a change-of-control provision in Schering-Plough’s agreement with J&J relative to rights to Remicade and golimumab.

J&J discovered both compounds and licensed ex-U.S. marketing rights to Schering-Plough. If it was deemed that there indeed was a change of control of Schering-Plough, J&J would have the right to reclaim 100% of the rights to both compounds.

Remicade is a potent autoimmune disorder drug used for the treatment of arthritis, psoriasis, Crohn’s disease, ulcerative colitis and ankylosing spondylitis.  Golimumab is a next-generation Remicade product which received FDA approval in April 2009 and is awaiting approval in the E.U. Remicade generated almost $5.9 billion in worldwide revenue in 2008, including $2.1 billion in sales outside the U.S. which Schering-Plough booked as revenue.

Remicade as been a huge contributor to both companies’ revenue over the last 5 years and has recently become an increasingly important product as the companies struggle with challenges in growing other parts of their pharmaceutical businesses. Revenue growth in J&J’s pharmaceutical business fell 1% in 2008 as generic competition to its anti-psychotic drug Risperdal and safety concerns surrounding its anemia drugs caused sales of the multi-billion dollar drugs to plummet.

Had it not been for the 13% growth that Remicade contributed, J&J’s pharmaceutical sales would have been even weaker. We model Remicade and golimumab to contribute $4.6 billion (equal to 19% of total pharmaceutical sales) in sales to J&J in 2013, implying annual growth of 4% from 2008 compared to a 1% annual decline in J&J’s total pharmaceutical sales over that same period.

Meanwhile, Schering-Plough and Merck’s cholesterol franchise has been experiencing significant declining sales as a result of adverse comments by a panel of cardiologists at a widely followed cardiology conference in March 2008. The result was sales of Zetia and Vytorin falling 10% in 2008.

The weak economy has compounded Zetia/Vytorin’s problems as consumers shift to the much cheaper simvastatin (generic Zocor), resulting in first quarter sales of the cholesterol drugs falling 21%. Merck and Schering, through a joint-venture, co-promote Zetia and Vytorin. The drugs were at one time considered the growth-engine of both companies but now that responsibility must be shifted to other products.

Remicade and golimumab, in our opinion, will be significant contributors to revenue growth at Merck/Schering-Plough, assuming the combined company retains rights to the compounds. Remicade contributed 29% sales growth to Schering-Plough in 2008.

We expect Remicade and golimumab to contribute combined sales of $3.5 billion to Schering-Plough/Merck by the year 2013 – implying annual growth of almost 11% from 2008. Compare this to the 5% annual revenue growth of Schering-Plough and 3% annual decline in Merck’s sales that we have modeled for the separate companies over the 2008 – 2013 period and the importance of Remicade/golimumab to the combined companies becomes evident.

Besides the weakness in the cholesterol business, Merck is contending with softening sales of blockbuster respiratory drug Singulair and its cervical cancer vaccine Gardasil.

There are still additional compelling reasons, other than the expected strong contribution to revenue growth, for both companies to vigorously defend their rights to the drugs. Both Remicade and golimumab are biologics which provide the companies with high selling prices, huge margins and virtually no current threat from generic competition.

Merck/Schering-Plough noted that the merger is expected to close in the fourth quarter of this year and is not contingent of retaining rights to Remicade/golimumab.  However, given the importance of the drugs, we expect Merck/Schering-Plough will do everything possible to retain rights to the compounds.

Read the full analyst report on JNJ

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Read the full analyst report on SGP