8 Generic-Drug Makers for 2008

Imagine being able to predict the growing MP3 player market before it occurred.

Generic-drug makers can actually predict the growth of their industry, because it's written right in the patent-expirations column of the FDA's orange book. While the coming patent cliff is keeping pharmaceutical executives up at night, generic-drug makers are frothing at the mouth. Here's a brief look at eight generic-drug makers worth closer scrutiny.

Economies of scale
While it's not as expensive as running a drug through clinical trials, figuring out how to make knockoffs efficiently isn't cheap. In order to make money, generic-drug makers have to keep their development costs down. Since the development of the drug is a one-time cost, generic-drug makers can increase profits by increasing the number of drugs they sell.

Here's a look at four large generic-drug makers that should be able to use their size to muscle out a little more of the bottom line.

2007 generic drug sales through 9/30*

CAPS Rating (out of 5)

TEVA Pharmaceuticals (NASDAQ:TEVA)

$5,554

*****

Novartis (NYSE:NVS)

$5,198

****

Mylan (NYSE:MYL)

$1,499

***

Barr Labs (NYSE:BRL)

$1,396

****

*In millions; includes Active Pharmaceutical Ingredients (API) sales.

In the generic-drug business, Teva is the king. With the consolidation of pharmacies that purchase generic drugs, Teva believes its larger size should help, as it becomes one of the few companies large enough to fill the pharmacies' orders. Factor in sales of its multiple sclerosis (MS) drug Copaxone, which brought in $1.3 billion in the first nine months of last year, and Teva certainly does look like the king -- for now.

With Novartis, you're not only buying Sandoz, its generic-drug division, but also the branded-pharmaceuticals division that provides more than six times as much operating income as its generic counterpart. If you're a fan of big pharmaceuticals, but you'd like to hedge your bets with a generic-drug maker, Novartis provides it all in one nice package.

Mylan may look small compared to the last two, but it has closed its deal to buy Merck KGaA's much-larger generics drug business. The added sales should at least make Mylan competitive on the revenue side of things. It remains to be seen whether that will be enough to increase Mylan's bottom line, given the high debt it took on to purchase the top-line growth.

Rounding out the list, Stock Advisor pick Barr sets itself apart as a fairly specialized generic-drug maker. It's focused mostly on oral contraceptives, including its branded Plan-B emergency contraceptive. The acquisition of Pliva helped move it into this top group, giving it a global presence, but the debt it took on to make the purchase has hampered the growth of its bottom line.

Stealth mode
While being bigger often results in better margins, there's money to be made by the little guys, too. And remember, Fools, sometimes the little guy can add stellar growth to your portfolio.

My pick for our Black Friday Bargains series, Dr. Reddy's Laboratories (NYSE: RDY  ) , is making its mark in India, as well as Germany and the United States. With its move into follow-on biologics, I think we'll see continued growth from this generic-drug maker.

Caraco Pharmaceutical Laboratories was up more than 20% last year, thanks largely to its partnership with Indian drugmaker Sun Pharmaceutical. Caraco essentially swapped equity in the company for drugmaking formulas. That's cut down on R&D costs for Caraco while giving Sun a U.S. presence.

Like Barr, Watson Pharmaceutical has a series of branded products in addition to its generic drugs. But it's distinguished by a distribution business that markets other generic-drug makers' products. As you can imagine, it gets pretty sticky margins from distributing products with substandard margins themselves, but the segment could grow faster than Watson's scientists can develop knockoffs.

Over the counter
We're not talking about pink sheets here, but rather drugs that don't require a prescription. Drug makers will often try to increase the reach of a drug -- and thus its sales -- by asking the FDA to grant it over-the-counter status. That strategy has recently been a mixed bag for drug makers -- Johnson & Johnson's (NYSE: JNJ  ) Zyrtec-D was given the thumbs-up, but an FDA panel wasn't as convinced about Merck's (NYSE: MRK  ) Mevacor.

Perrigo specializes in making store-brand versions of popular drugs like Claritin and Nyquil. If you think more Zyrtecs and fewer Mevacors are in store, Perrigo should be able to capture that market -- in fact, it's already set up to market Syrtec.

Final Foolish thoughts
There's something gratifying about knowing that an industry in which you're about to invest has excellent chances for growth. I don't know whether 2008 will be the year for generic-drug makers, but the future certainly holds growth for this industry. With the health-care industry being fairly recession-proof, now seems like as good a time as any to start investigating generic-drug makers.


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