Merck Joins the Low-Margin Party

Welcome to the party, Merck (NYSE: MRK  ) . I'm not exactly sure low-margin sales are your thing, but since all your comrades are here, I'm not surprised you joined the party.

The American drugmaker announced yesterday that it was partnering with Sun Pharma to establish a joint venture to sell branded generics in emerging markets.

Merck joins a growing list of drugmakers that have partnered with Indian pharmaceutical companies.

Company

Indian partner

GlaxoSmithKline (NYSE: GSK  )

Dr. Reddy's Laboratories (NYSE: RDY  )

AstraZeneca (NYSE: AZN  )

Torrent Pharmaceuticals

Bayer

Cadila Healthcare

Pfizer (NYSE: PFE  )

Biocon and Strides Arcolab

Abbott Labs (NYSE: ABT  ) went the acquisition route with an outright purchase of Piramal's Healthcare Solutions.

There's no doubt these deals will grow revenue. The citizens of emerging market countries such as India and China are demanding more and more medications. Set up shop, put a placard out front, and the rupee and yuan will come pouring in.

But how much profit can be made is an entirely different story. Drugmakers can't command the high prices they can get stateside. Last month, China slashed prices on drugs by an average of 21%. Low margin is the name of the game.

The companies may be able to make up in volume what they lose in net margins, but will the total profit be enough to justify the investment? It's not like there aren't other uses for pharma's capital. Would licensing a potential blockbuster result in more profits than branching out globally?

The pharma giants clearly don't think so, but I'm not sure investors should be drinking the Kool-Aid at the party. At the very least, don't be fooled by the revenue numbers that are sure to increase over the next couple of years. Keep an eye on the free cash flow to see if this party is a bust or not.

Looking for more international plays? Click here to grab The Motley Fool's free report "This Stock Is Set To Soar As China's First Global Brand Emerges."

Pfizer is a Motley Fool Inside Value selection. GlaxoSmithKline and Dr. Reddy's Laboratories are Motley Fool Global Gains recommendations. The Fool owns shares of Abbott Laboratories and GlaxoSmithKline. Motley Fool Alpha LLC owns shares of Abbott Laboratories. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

Fool contributor Brian Orelli, Ph.D., doesn't own shares of any company mentioned in this article. The Motley Fool has a disclosure policy.


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  • Report this Comment On April 12, 2011, at 7:23 PM, winbully wrote:

    Branded generics is not necessarily a low margin business. In countries where drug substitutability is not allowed the doctor writes the prescription for a particular brand of generic drug, and the pharmacy can not substitute it for the brand of their choice like they can in the US or EU. A top brand of generic can sell for a 300%+ premium to a lower end brand. Unlike in the US where where the minimum standards are pretty good there in the non-substitutable emerging markets an actual quality difference exists between the good and bad brands so there is value to the consumer as well for the good generic brands. This regime exists in countries like Russia and India.

    The business is also sticky as the pharmacies will only stock the generic brands that are commonly written by their area doctors. In short, it's a good business.

  • Report this Comment On April 12, 2011, at 9:51 PM, FarmaBiz wrote:

    Further, there is not enough discussion of the cost structure which is less in these markets. That will allow a lower price and maintain margin; granted it probably won't compensate fully, but there is more to this than meets the eye. Rather than low margin, it can be view as lower price with decent margin.

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