The Smart Money Dumps Generic Drugs

Stocks:  (PFE)(MRK)(TEVA)

Conventional wisdom has been that generic drug companies are going to put Big Pharma out of business. As major drugs come "off patent", the generic guys snap them up and sell them at a discount, picking up all of that market share. Of course, the Wal-Mart $4 generic drug program and the desires of the new Democrats running Congress to drive down healthcare costs were going to help as well,.

Someone forgot to tell Wall St. Merck KGaA, the German chemical and drug company announced that it is dumping its generic business. They hope to get $5 billion to $7 billion for it, but whether that number holds up is anyone’s guess.

If the generic drug business is so great, why is a big firm like Merck getting out? Perhaps for the same reason that standalone generic drug company trades at near it 52-week low, just over $31.

The generic drug companies compete on price, so simply picking up share is not such a great deal if the margins are poor. Lose money on each prescription and make it up on volume.

More important, for all the gum flapping about the death of Big Pharma, Merck’s (the US Merck) stock is up over 30% since a year ago, Pfizer is up almost 10%, and Teva is down almost 30%.

Climbing a wall of worry stuff. Investors are not really betting that Big Pharma will run out of blockbuster drugs in its pipelines despite failures of key drugs like Pfizer’s torcetrapib. And, Big Pharma stocks outperformed biotech shares in 2006, a sign that the market may actually view the old-line companies as having value. (Pfizer does have a yield of 4.5%).

If there is an argument for putting money into generics, it is falling on deaf ears.

Douglas A. McIntyre can be reached at [email protected]. He does not own securities in companies that the writes about.