Pearlstein: Drug Company Mergers
Wednesday, January 28, 2009; 11:00 AM
Washington Post columnist Steven Pearlstein was online Wednesday, Jan. 28 to discuss drug company mergers.
Read today's column: Not What the Doctor Ordered
The transcript follows.
About Pearlstein: Steven Pearlstein writes about business and the economy for The Washington Post. His journalism career includes editing roles at The Post and Inc. magazine. He was founding publisher and editor of The Boston Observer, a monthly journal of liberal opinion. He got his start in journalism reporting for two New Hampshire newspapers -- the Concord Monitor and the Foster's Daily Democrat. Pearlstein has also worked as a television news reporter and a congressional staffer.
Pearlstein was honored with the Pulitzer Prize for commentary for his columns about mounting problems in the financial markets. His award was one of six Pulitzer Prizes won by The Washington Post this year.
Read Pearlstein's latest columns.
New York, N.Y.: Bank of America I-Banker here again. Last week I asked you why I shouldn't be upset that ML people had taken the majority of the leadership in the combined investment bank. You responded (in part) with: "So I'd turn the question on you and ask why you think these people are doing things that are against their own self-interest. Is it possible you and they have a simple disagreement about how inadequate you think these Merrill holdovers are? "
After this week, I think we are all in agreement. Ken Lewis was crooked in his dealings with board members, Thain was less than forthcoming or incredibly ignorant about his own company, and the transition team was all too willing to acquiesce to ML's wishes.
For all the chatters out there, yes, Wall Street banks are just as crooked as you think they are.
For Mr. Pearlstein, I ask if the Government will try to enforce board changes retroactively to banks they gave money to? And if not, will they in the future? I understand this is not a panacea to all ills, but it's a start. Thanks.
Steven Pearlstein: I think you'll see prodding for board and management changes at all the banks that are in the most trouble. But don't let's go in for change for change sake: if the old management was thrown out a year ago, that doesn't mean you have to throw out the management again this year.
Reston, Va.: I have seen a number of stories which reported that a significant percentage of borrowers who have received mortgage assistance have already entered delinquency (or have defaulted), and that this occurred less than a year after their mortgages were restructured.
What is different about the "foreclosure relief" plans being thrown about now that makes politicians think it will be any more successful than the existing relief option?
Steven Pearlstein: The re-default rates have been high, but I think that is because the workouts were really not serious workouts -- that is, the lender made a little concession and hoped it would work. To do these right, you have to get the monthly payments down to about 30-35 percent of income, through either interest rate or principal reduction. And that is not what they did on these early workouts. So let's not condemn the whole idea just because the lenders didn't really want to do it right the first time around.
Danvers, Mass.: Great critique on the merger question. It seems we may not benefit from these mergers. Should we make the same critique of their utilization of patent law? I mean, just how much incentive does someone need to innovate, and how much public benefit should we expect out of the process?
Steven Pearlstein: The pharmaceutical companies are ridiculously piggy in their opposition to patent reform.
Roanoke, Va.: Hi Steven, Thanks for your columns-- I have learned a great deal about financial markets from them, and congrats on the Pulitzer.
I must admit that I find your analysis of the big pharma market somewhat off-base. Much of what you say is true, regarding declining output in innovative drugs over the past eight or so years. The management of large companies has seemed poor-- Pfizer in particular has been on a long slide for about eight years. But the cause for the dropping innovation you suggest, as well as the policy solution, miss much of the story and are at best one sided. Most economists who study R&D in drugs and biologics find very high costs in bringing a drug to market-- and that these costs have been rising much faster than inflation. I would guess that an extension of the research of DiMasi and Grabowski to 2009 would find accelerating inflation in costs of R&D. The causes of the inflation are manifold, but certainly the review process is longer and more costly than anytime since PDUFA was first approved (and companies could bear some of the costs of review). Further, litigation risk has been rising, and may rise much further depending on the outcomes of cases like Wyeth V. Levine. Additional costs from potential future policy such as US price regulation or parallel importation may also be factored into current R&D decisions. Might these cost increases offset the efficiencies from merging?
Further, it is hard to argue the industry is not competitive. Companies usually compete for share, and the period from an innovation to a second imitator branded comparator has fallen from several years to several months. Further, many analysts wrongly assume that there is no price competition, as they compare list prices for drugs. However, inspection of what insurers or PBMs pay in net after proprietary rebates demonstrates otherwise. At the national level, expenditures since 2007 have increased by 1.6 percent, after a decade of double digit inflation ended in 2003.
With regard to the example of Ovation: as a for-profit company, prices should be optimized to maximize profits. Under-pricing a therapy has social costs too. By increasing its price, there are more rewards for future innovators who want to develop therapies for life-threatening heart conditions in prematurely born infants. Drug pricing is constrained by demand- insurance and agency issues may shift that demand outward, but if it were not true that drug pricing was not constrained, why did Ovation not increase their price by 2,600 percent? If we really want to affect their pricing, should we not revoke their patents?
As a final note (and if you comment on one, plesae pick this one!), consider research by academics like Kevin Murphy (Chicago), David Cutler (Harvard), William Nordhaus (Yale), Ernie Berndt (MIT), Patricia Danzon (Wharton) and others on the value of innovations in health care, especially drugs. The quantity and quality of life saved by the drug (and other medical) advances of the past 30 years may be equivalent to all of the non-medical GDP growth since then. Isn't the real public policy issue, in a dynamic sense, about what can be done to promote more innovations? For persons afflicted with Alzheimer's or MS or a host of under treated illnesses, what other avenues could likely supply remedies for their illnesses? Would the policy remedy you suggest to supposed over-merging help or hurt this issue, especially considering the opportunity for politicians to rail against the evil drug companies?
Thank you-- sorry for the long rant! I just feel that the media often misses the mark on this issue just about every time. Thanks for the excellent articles.
Steven Pearlstein: Well, this is a very, very good response. It is also the response that I would expect to get from the more responsible side of the industry. So let's go throught it, shall we.
First, it is true that the cost of bringing a drug to market has probably increased faster than inflation, and some of that blame goes on FDA but just as much goes on the industry itself for various reasons, including the efforts of one company to sabotage the applications of competitors. And it is true that there have been big damage awards against drug companies that have made them a bit more shy about bringing out new drugs and added to their costs, but only because they didn't really do their homework well and share that homework with regulators and the public. In other words, the companies are not blameless for driving up their development and litigation costs. But it is true those costs have gone up, and those costs ultimately have to be reflected in the price we pay for drugs.
Second, I think you don't mean that the time between when a drug is discovered, or licensed, and when it faces serious competition has been reduced to a matter of months. There are lots of drugs that enjoy virtual monopolies because they are the best treatment and there is nothing even close, and so people want it and need it. The industry has been reluctant to talk about how it prices its products, let alone sharing with us how it does it. I know because I have tried many times to talk with companies and industry associations about it and they simply refuse. I assume they treat customers and the government in the same way. So for them to complain that people don't understand how drugs is a bit hard for me to swallow.
That said, I never wrote that the industry is not competitive, just that it is not price competitive. When there are drugs that are similar or equivalent, then indeed there is some price competition at the PBM level, and this is where we got into those situations with the kickbacks that went by another name. Another example of slimy ethics on the part of the industry, by the way. But as an economist, you know very well that there is a difference between monopoly pricing and duoplogy pricing, and duopoly pricing and truely competitive pricing, and I think you'd be hard pressed to look at drug prices and conclude that this is truely competitive pricing in most instances. Just because there are two products doesn't mean the pricing is fully competitive, particularly in a cozy industry where people are smart enough not to get into self-defeating price wars with each other.
I don't know how Ovation priced its drug, and it is true the price wasn't infinity. But monopolists always have to consider the tradeoff between price and volume, even without any near competitor, and they usually don't set their price so they sell one unit at gazillions of dollars. There is a price at which Ovation understood that would generate huge pushback from docs or hospitals or Medicaid, or generate publicity that would be hurtful to its interest. And presumably it set the price at just below that threshhold. Unfortunately, it calculated wrong and now faces a suit by the FTC, which if it succeeds will only be able to force the company to disgorge its excess profits. So the worst that happens is that it has to give up the cookies it stole from the jar, and nothing more. And it will probably settle with the agency for something less. In other words, it acted as a rational, profit maximizing firm. But it also acted against the interest of the public and the interests of infants born with a hole in their hearts, their parents, and the neo-natal units that are treating them. In my mind, that is really scuzzy business behavior and the company deserves all the disapprobation that can be thrown at them. They're scum.
Finally, I'm well aware of the research that shows that the higher price we pay for health care in this country is worth it, considering the longer and healthier and fuller lives we have got from it. But that begs the point. There are some things, like some of the miracle drugs, that are responsible for the disproportionate share of that benefit, and there are lots of other things that contribute nothing but deadweight loss to the system and should be eliminated. So just becuase we are better off overall doesn't mean we shouldn't try to eliminate the stuff that costs too much relative to the benefit. And within that category there lies a significant amount of drug industry profit.
You are right that a key issue is what policies can promote more innovation in this area. We can talk about a number of those. But one thing that is not helping innovation at this point is further consolidation. It is true that these companies have to be of a certain size to tackle a big problem, like finding a cure for Alzheimers. But most of the big ones are probably big enough to participate in a corner of such efforts, either singly or in partnership with another firm, with generous backing from the federal research effort which comes to them AT LITTLE OR NOT COST TO THEIR SHAREHOLDERS. But further consoidation, in my opinion will not help innovation because, as we know from experience, the break-throughs don't usually come where you expect them to come and it helps to have a lot of different people taking a lot of different approaches tackle these problems.
New York, N.Y.: I'm a little surprised at the angry undertone of your column. I'm no fan of some practices of the pharmaceutical industry, but at least the industry at its core tries to develop drugs to improve our health.
Big finance, on the other hand, has as its core value trying to lavish itself with money while screwing the little guys and protecting its oligopolistic practices. In fact, you could probably substitute "Wall Street" for "Pharmaceutical" in your column. And besides, big pharma didn't create any CDO squared or negative amortization mortgages.
Steven Pearlstein: Gee, I haven't thought my observations about Wall Street have been particularly flattering ("fee-grubbing investment bankers"?). If you check the record, I don't think you would conclude I've been easy on Wall Street.
McLean, Va.: As I see it, they started the M&A route basically in 2000 with the Warner-Lambert merger, and somehow were unable to stop the gravy train.
In 2002, Pfizer merged with Pharmacia. Then in 2005, they acquire Vicuron Pharmaceuticals. Then in 2006, they sell off their consumer health care department to J&J. In 2007, they buy Coley Pharmaceutical. And now Wyeth?
Has all of this caused the firm to lose key employees? Has their R&D knowledge base been defragmented to the point of virtually disappearing? Could the Wyeth acquisition be an attempt to restore quality R&D personnel?
Steven Pearlstein: Good questions.
Princeton, N.J.: Your column was very interesting. There are some other aspects of the drug company problem you should know. Practically all basic research is done by the government Institutes or in Universities. The drug companies will only do research on a drug if someone else has shown it has a very good probability of success. As an example of this consider stem cell research. The reason we need Federal support is that drug companies will not take the chance on research even though it is consider promising by most experts.
Also Prof Alan Sager of BU has studied how the drug companies spend their money. They spend only 11 percent of their budget on research and development. They spend 19 percent on profit which is about double the average of other industries. His main point, however, is that the drug companies spend 34 percent of their budget on "marketing". This includes not only the odious ads we see everywhere, but the thousands of "pushers" who visit physicians offices. These "pushers" have no qualifications and frequently promote unapproved drug usage. The companies also make huge payments to doctors, both direct and indirect e.g. fake conventions at fancy resorts. There was an excellent article recently in the Post (or maybe the Times) Sunday magazine by a physician who was well paid by a drug company to travel around and give talks promoting one of their drugs. He discovered that the information they were giving him was incorrect. Even though he appreciated the money, he felt he had to stop this activity.
The main purpose of all this "marketing" is to get us to use new expensive drugs even when there are older cheaper drugs that do as well or even better or even in cases we do not need drugs at all. They could easily cut drug prices by a third and not affect their research at all.
Steven Pearlstein: All good points. I would say that the purpose of marketing is also to let doctors and patients know about a new drug, so some of that is legitimate. But as you know, the industry has gone way beyond legitimate. One thing taht I did not get to include in today's column was the fact the, on the day Pfizer announted its merger, it agreed to pay $2.3 billion -- that's $2.3 billion-- to settle a federa inquiry into the fact that it was peddling a drug that had been approved for one use to doctors and hospitals for uses that were not approved. Off-label marketing I think it is called. And that this followed by a month the previous record settlement of $1.4 billion by Eli Lilly for a similar offense.
Bethesda, Md.: You are 100 percent right that the Pfizer/Weyth deal should be stopped on anti-trust grounds. Pfizer has a reputation for closing research labs and firing scientists to "save money" in previous take-overs.
In addition, this deal depends on $30 billion of short term loans from the major banks that just received billions of dollars in Taxpayer bail-out money.
To pay the interest on these loans, the resulting company will fire or lay-off 20,000 workers.
So on one hand we are loaning money to banks which are going to help take-overs resulting in thousands being fired and with the other hand we are going to spend trillions of dollars to "create" jobs and pay unemployment benefits for the recently unemployed.
This is worse than a Ponzi scheme. This deal is a poster child for what is wrong in today's business environment.
Steven Pearlstein: Some good points here, except the one about government money and the banks.
Look, unless you want the Treasury making decisions on every loan that every major bank makes, you have to have some faith that bankers will do what is in the best interest of their shareholders, which is to make as much money making loans as they can without making so many bad loans that wipe out the gains from the itnerest rate spreads. And we have to stop this ridiculous thing of evey time a bank does anything, claiming that it did it with "government money."
The problem here is that this deal is really not good for the industry and long term innovation. The government should stop it on those grounds. But let's remember we still live in a capitalist country and part of capitalism means that bankers and business people are free to use their best judgment to maximize profits, and they are free to occasionally make mistakes in making those decisions. We know what happens when governments direct all lending, and it is not a better outcome. Let's remember that as we all go forward in this world where there is going to be a lot of public money injected into the private banking system.
Feel Sorry for Wyeth: I feel for the Wyeth people. I was a victim of the Pfizer merger with Warner Lambert. Pfizer got rid of most of us. They walked in on Day One and said the way you did things before was wrong. There is only one way now and that is the Pfizer way. Note to Wyeth people- if they offer you a buyout, take it and get out.
Steven Pearlstein: Thank for for that.
Troy, N.Y.: You bash the drug companies for the cost of their treatments. The one thing drugs have going for them is clinical data that says their benefit is more than a placebo effect. Most knee surgeries (study this summer from Baylor Medical Center I believe) cannot make that claim, bringing significant risks and costs, and possibly no efficacy. Health care is a tricky business.
Steven Pearlstein: It is indeed.
College Park, Md.: Do you foresee any major fallout from the Va. peanut plant revelations? Aggressive prosecutions? Shakeups at FDA?
I, like everyone who read the story (or commented, at least), am speechless that this could happen in the U.S.
Steven Pearlstein: Well, it happens. And if the allegations are true that somebody knowingly sold stuff with salmonella in it, that person needs to make arrangements for an extended sojourn behind bars.
Ithaca, N.Y.: Thank you for your thoughtful article today. Pfizer is a vampire corporation, buying up other successful pharma companies, sucking out the life blood (patent revenue), then throwing aside the desiccated corpse. Warner Lambert had a successful research lab, responsible for Viagra, and it is now an empty building. Who knows what other successful products this lab (and Upjohn) would have gone on to develop? The costs to society will not show up in any accountant's spreadsheet.
Steven Pearlstein: Sounds like some more reporting needs to be done on that Warner Lambert acquisition.
Annapolis, Md.: The record companies are trying to extend the lengths of copyright protection. Are you aware of any similar efforts by the pharmaceutical industry? That would solve a lot of their problems (and cost us a lot more)
Steven Pearlstein: Yes, they are always looking for ways, legal and illegal, through legislation and the courts and the regulatory process, to extend their patents. Every day. It's what they do.
Steven Pearlstein: Sorry but that's all the time I've got today, folks. See you next week.