Merck’s Big Deal May Not Beget Another, CEO Frazier Says

May 07, 2014 4:10 pm ET

(Updates with closing share price in eighth paragraph.)

May 7 (Bloomberg) -- Hours after Ken Frazier announced the biggest deal he’s made in three years as Merck & Co.’s leader, he cautioned investors not to expect any quick follow-ups.

“We’re not serial mergers and acquirers,” Frazier said in an interview after his Whitehouse Station, New Jersey-based based company announced it had sold its over-the-counter business to Bayer AG for $14.2 billion.

During a time when competitor Pfizer Inc. has reorganized its company, divested two units about the same size as Merck’s OTC business and announced it was pursuing a $100-billion-plus deal that may be the biggest ever in the industry, Frazier is preaching patience. It’s a message he’s been pushing since he became chief executive officer in 2010, and one that’s often left investors frustrated.

“You need big moves to have a meaningful impact,” said Alex Arfaei, an analyst with BMO Capital Markets, when asked about the similarities to Pfizer.

In a modest office two floors above a Boston auditorium where he’d just faced investors a few minutes earlier, Frazier, 59, said he’s relying on what he describes as decades of tradition and science at the company to guide him on his way.

“Merck did the Schering-Plough merger in 2009,” Frazier said, referring to a $47 billion deal. “Before that the last major merger Merck did was with Sharpe & Dohme in 1953.”

That deliberateness is -- for some investors -- part of the problem. Merck, and to an extent Frazier, have suffered from the impression that their company has not made the same type of moves as New York-based Pfizer to spur potential growth and shore up investor confidence, said BMO’s Arfaei.

Merck shares fell 2.2 percent to $55.84 at 4 p.m. New York time. The stock has gained 23 percent in the last 12 months.

Subtle Shift

Investors had been demanding bigger changes for some time, but “there seemed to almost be a dismissal of considering other alternatives,” Arfaei said.

Now, he said, there is a “a subtle shift.”

Before becoming CEO, Frazier was the lawyer who oversaw the company’s legal defense of lawsuits over Vioxx, the painkiller that cost Merck billions after being withdrawn from the market for safety reasons. He was named to the top job on Nov. 30, 2010, taking over a company that had already started eliminating 15,000 jobs and closing facilities after its acquisition of Schering-Plough Corp. the year before.

His ascension to CEO belies modest roots. His mother died when he was 12, leaving his father, a janitor at United Postal Service, to raise three children alone in a North Philadelphia neighborhood. In college, he sold tadpoles and newts to a local aquarium store to make pocket money.

Tony Scherrer, director of research at Smead Capital Management Inc. is a fan of Frazier’s deliberate style. Merck is Smead Capital’s fourth-largest holding, comprising 4.6 percent of the total, or 777,511 shares.

No ‘Icing’

With Merck, “no one really believes there is going to be much icing on the cake,” he said in a telephone interview. “No one is paying for the chance that there will be. So the odds as an investor are very favorable.”

Frazier’s sale of the over-the-counter business means “he’s going on offense and trying to reposition the company to go back to their core,” Scherrer said. “Valuation matters to us dearly. That’s a beautiful part of the Merck story.”

Others in Boston to hear Merck’s presentation were less kind, despite the announcement of the sale. The company’s stock fell 2.6 percent by the end of the day, as investors listened to Merck management present on the company’s pipeline and commercial prospects.

It’s ’’a real snoozer so far... no compelling upside surprises yet,’’ wrote Mark Schoenebaum, an analyst at ISI Group LLC.

Easy to Overlook

Even a $14.2 billion deal is easy to overlook in the frenzy of mergers and acquisitions going on. Less than halfway through the year, 2014 has been the biggest period of drug-industry dealmaking in at least 12 years, with $212 billion of corporate takeovers announced or proposed, according to data compiled by Bloomberg.

For Merck, the next step may be a series of smaller acquisitions designed to boost their pipeline, according to Frazier and Roger Perlmutter, the company’s head of research and development.

“We have enough financial firepower and enough administrative capabilities to manage any kind of transaction,” Perlmutter said.

Informed that “any kind” now could mean a $100 billion megamerger like Pfizer’s, he scaled back. “There’s a pretty broad range of companies ranging from the quite small, private companies to those of modest size in the marketplace.”

The divestiture of the OTC unit may help, said Lawrence Hrebiniak, emeritus professor of management at the Wharton School at the University of Pennsylvania in Philadelphia.

‘All Things’

“The company is realizing it can’t be all things to all people,” he said. “We’re losing patents, part of the industry is becoming commoditized. We have to focus on core strengths and build that into a stronger strategic thrust.”

“My assessment is that this is a fairly risky strategic move. They had some wonderful consumer products, even if they’re not sexy. Getting rid of them, and going to where they haven’t had a great track record, it is a risky strategy. Bayer seems to be getting the better end of the deal. Time will tell. Maybe Merck has something up its sleeve we don’t know about.”