Valuation of H. Lundbeck A/S including the real option ... - PURE

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MSc in Finance and International Business




Master Thesis 2012


Registration: August 1
st

2011

Submission:
January 3
rd

2012

Author:



Selma Palic

Academic advisor
:
Baran Siyahhan





























Aarhus School of Business and Social
Sciences



Aarhus University

Department of Economics & Business








Winter 2012



Valuation of H. Lundbeck A/S including the real option
analysis of development
of a

new CNS drug

Page
1


The table of contents

1.

Introduction

................................
................................
................................
................................
................................
..........................

3

1.1.

Motivation

................................
................................
................................
................................
................................
...................

3

1.2.

Problem statement

................................
................................
................................
................................
................................
.....

5

1.3.

Delimitations (not done finish after you finish the project)

................................
................................
................................
........

6

1.4.

Methods (not done finish after the project is done)

................................
................................
................................
...................

6

1.5.

Scope and structure

................................
................................
................................
................................
................................
....

7

2.

Presentation of H. Lundbeck A/S

................................
................................
................................
................................
.........................

8

2.1.

Short history presentation

................................
................................
................................
................................
..........................

8

2.2.

The vision, mission and values of the company

................................
................................
................................
..........................

9

2.3.

The breakdown of turnover

................................
................................
................................
................................
......................

10

3.

Pharmaceutical Industry and development

................................
................................
................................
................................
......

10

3.1.

Market(s) definition

................................
................................
................................
................................
................................
..

10

3.2.

Global pharmaceutical industry characteristics

................................
................................
................................
........................

11

3.3.

Market(s) size, share and growth

................................
................................
................................
................................
..............

11

3.4.

Key factors for success (KFS)

................................
................................
................................
................................
.....................

14

3.5.

The future growth markets

................................
................................
................................
................................
.......................

14

4.

Strategic analysis

................................
................................
................................
................................
................................
................

16

4.1.

PESTEL analysis

................................
................................
................................
................................
................................
..........

16

4.2.

Industry analysis Porter’s five forces

................................
................................
................................
................................
.........

22

4.3.

Competitor profiling

................................
................................
................................
................................
................................
..

27

4.4.

Conclusion in a SWOT framework

................................
................................
................................
................................
.............

34

5.

Reorganizing financial statements

................................
................................
................................
................................
.....................

36

5.1.

Accounting issues:

................................
................................
................................
................................
................................
.....

36

5.2.

Capitalized expenses

................................
................................
................................
................................
................................
.

38

6.

Analyzing historical performance

................................
................................
................................
................................
......................

40

6.1.

NOPLAT

................................
................................
................................
................................
................................
.....................

40

6.2.

Invested capital

................................
................................
................................
................................
................................
.........

41

6.3.

Free Cash Flow

................................
................................
................................
................................
................................
..........

42

6.4.

Revenue growth analysis

................................
................................
................................
................................
...........................

43

6.5.

Operating performance in the ROIC analysis framework

................................
................................
................................
..........

45

6.6.

The historical stock market performance compared to the peer group

................................
................................
...................

49

7.

Forecasting

................................
................................
................................
................................
................................
.........................

51

8.

Estimating cost of capital

................................
................................
................................
................................
................................
...

51

8.1.

Lundbeck’s capital structure

................................
................................
................................
................................
.....................

53

Page
2


8.2.

Lundbeck’s cost of debt

................................
................................
................................
................................
.............................

54

8.3.

Lundbeck’s cost of equity the CAPM

................................
................................
................................
................................
.........

55

8.3.1.

The risk free rate

................................
................................
................................
................................
..............................

55

8.3.2.

The company’s beta

................................
................................
................................
................................
.........................

56

8.3.3.

The market risk premium

................................
................................
................................
................................
................

59

8.3.4.

The

cost of equity

................................
................................
................................
................................
............................

60

8.4.

Conclusion the resulted WACC

................................
................................
................................
................................
..................

60

9.

Valuation of H. Lundbeck A/S

................................
................................
................................
................................
............................

61

9.1.

Valuation with real options theoretical aspect

................................
................................
................................
.........................

61

9.1.1.

Discussion of real option method

................................
................................
................................
................................
....

62

9.1.2.

The framework for Real Option Valuation

................................
................................
................................
.......................

63

9.1.3.

The critic of the real option approach

................................
................................
................................
.............................

66

9.2.

Real option valuation

................................
................................
................................
................................
...............................

66

9.2.1.

The static NPV analysis

................................
................................
................................
................................
....................

70

9.2.2.

The actual real option valuation

................................
................................
................................
................................
......

72

9.2.3.

The sensitivity analysis
................................
................................
................................
................................
.....................

73

9.3.

DCF valuation

................................
................................
................................
................................
................................
............

74

9.3.1.

Scenario analysis

................................
................................
................................
................................
..............................

74

9.3.2.

The base case scenario

................................
................................
................................
................................
....................

75

9.3.3.

The best case scenario

................................
................................
................................
................................
.....................

76

9.3.4.

The worst case scenario
................................
................................
................................
................................
...................

77

9.3.5.

Estimating the continuing value (note)

................................
................................
................................
............................

77

9.3.6.

Calculating and interpreting results

................................
................................
................................
................................
.

78

9.3.7.

Sensitivity analysis

................................
................................
................................
................................
...........................

82

9.3.8.

Plausibility analysis

................................
................................
................................
................................
..........................

83

9.4.

Valuation with multiples (comparables)

................................
................................
................................
................................
...

83

10.

Conclusion
................................
................................
................................
................................
................................
......................

86

Literature list

Appendicies

1
-
11




Page
3


1.

Introduction

1.1.


Motivation

It is
estimated that by 2030 (assuming no increase in fertility), in most of the western countries there will be
more people
in their 70s than in their 20s.
1

In the light of the rapid increasing rates of population aging for
the
world’s

wealthy nations and
as the result
the raise in health problems associated with this population
segment, like Alzheimer’s disease
,

D
epression

and Parkinson’s disease to mention fe
w.
To quote Medical
news today depression amongst older people arises due to their lifestyle, which fosters loneliness since

older people used to go to the corner shop, the post office, or pub, and this was a reason t
o dress nicely and
make an effort, but because these local services are disappearing, taking the opportunities for new
connections with them, this diminishes self
-
esteem and leads to

depression and associated medical
problems

2
.

As for Alzheimer’s disease,

it is estimated that in the near future more than 35 million people
worldwide will by 2015 suffer from Alzheimer’s disease.
3
5LJKW?QRZ?³
Alzheimer's disease is the seventh
leading cause of all deaths in the United States and the fifth leading cause of deat
h in Americans older than
the age of 65 years. More than 5 million Americans are estimated to have Alzheimer's disease


By 2050, the
incidence of Alzheimer's disease is expected to approach nearly a million people per year, with a total
estimated prevalenc
e of 11 to 16 million persons
”.
4


All this makes it interesting
to analyze

a Danish pharmaceutical company
H. Lundbeck A/S that specializes
in treating all of the diseases mentioned amongst other disorders in central nervous syste
m (CNS)
as
Huntington’s disease, Epilepsy and Psychotic disorders such as Schizophrenia.
Pharmaceutical industry in
which the company operates is less
affected

by the

cyclical changes such as

past financial crisis.

This is
because people are still sick whether th
ere is a crisis or not and they need their
medicine
, therefore

H.
Lundbeck A/S as any other pharmaceutical company will not suffer that much during a economic recession.
Because of new potential financial crisis

in the aftermath of
debt

issues of some Euro
pean countries with the
prospect to follow in Greece footsteps are countries Italy and Spain, not to mention
US debt
problems as of
august this year resulting o
n 4th of august the following headline on the Bloomberg homepage

U.S. Stocks



1

http://www.l
ewrockwell.com/spl3/global
-
aging
-
crisis.html

2

http://www.medicalnewstoday.com/articles/218134.php

3

http://www.bloomberg.com/apps/news?pid=conewsstory&tkr=LUN:DC&sid=aFuDuK3g0D2c


4

http://www.ncbi.nlm.n
ih.gov/pubmed/18631956


Page
4


Plunge in Biggest Retreat Since 2009.
5
It is interesting for the new and old investors to look at stabile stocks
such as Lundbeck’s to invest in, and to look closer at.

It shoul
d be mentioned that H. Lundbeck A/S faces

important positive and negative ch
anges that could also
effect

the fair
share
value of the company in the nearest future, such as

aftermath of financial economic crisis
in form of health care reforms in US and Europe. T
he US healthc
are reform passed in March last year

effect
s
the prices on

drugs for the poorest, and elderly people, and also putting new fees on the pharmaceutical
industry, making

it more costly for
H. Lundbeck A/S

to operate in the US market than before.

In Europe
(Greece, Spain and Germany) reimbursements and price reductio
n on prescription drugs will have noticeable
impact on the company’s profitability.

Another negative change is the futu
re patent expiration of the

depression drug Lexapro/Cipralex in 2012 in US market and 2014 in Europe
market accounting for 56% of
revenue

in 2010
6
. There is a possibility that patent expiration will contribute
to higher competition

from
possible market entrants

(generic products)

on these markets and
give
potential profit loss.

Couple of
encouraging

changes

with
likely

positive impact on the profitability

can be mentioned
: I
n

form of

resent and
new product opportunities,

2010 release of a new untypical antipsychotic medication Sycrest in
bo
th Europe and US markets, and
Lexapro drug has been recently approved in Japan. T
he seven new
pipeline
products are post proof of concept in clinical
division

ranging from treatment for psychosis, stroke, epilepsy,
Lennox
-

Gastaut syndrome and new drug for alcohol dependence. Especially positive is launch of the new
drug for depression

in 2014 (LU AA21004) replacing the old depression drug
Cipralex/
Lexapro

with patent
expiration already mentioned.

The analyst firm Jefferies & Co from NASDAQ on third of august this year classifies H. Lundbeck’s A/S
shares to be a strong buy for the
investors.
7

So the question will be, is this advisable recommendation, and is
the company’s fair share value overvalued looking from the outside perspective?

So with all the above taken into consideration, especially the presented changes in the company a
nd the
market, with the financial crises, to answer this question the fair
value of H. Lundbeck’s A/S ordinary shares
will be estimated.




5
http://www.bloomberg.com/news/2011
-
08
-
04/yen
-
slumps
-
after
-
japan
-
intervenes
-
to
-
curb
-
rise
-
most
-
asian
-
stocks
-
advance.html

6

http://www.lundbeck.com/investor/Financials/Reports/Files/UK_versions/Annual_report_2010.pdf page 29
.

7

http://www.nasdaq.com/earnings/analyst_recommendations.asp?symbol=HLUKY&selected=HLUKY



Page
5


1.2.


Problem statement

The main aim of the thesis is to estimate fair share value of Lundbeck’s ordinary shares, in order
to asses if
it’s advisable for the present and future private investors to continue buying the company’s shares.

In other words is the current fair share value of Lundbeck’s ordinary shares overvalued or
undervalued compared with the market?


This problem

will be addressed by answering following sub questions:


First of all from the Lundbeck’s strategic point of view these questions that follow are seen to be important
for assessing the current and the future prospects of the company and thereby the fair
share price.


How is the political and legal environment
effect
ing Lundbeck’s profitability, and what exogenous
factors are having most significant impact on the company?


Who are Lundbeck’s biggest competitors in the pharmaceutical industry? How is Lundbec
k’s
competitive position in this industry?


What is the company’s strategy to maintain and improve the competitive position in relation to the
main competitors found?


What is Lundbeck’s growth strategy?


Secondly the financial aspect is also of paramount

importance therefore the following questions will be
considered.


Based on the accountin
g figures during the period 2007
-
2010, how does Lundbeck’s present
economical performance looks like, an
d what is characterizing these 4

years of economical
developmen
t?


Does Lundbeck’s
growth consist of sustainable factors (organic growth) or contrary of temporary
changes such as favorable fluctuations in exchange rates?


Finally the actual valuation of Lundbeck will be conducted with three valuation methods, where
one is
discounted cash flow based model: enterprise discounted cash flow model (EDCF). Additionally because it
Page
6


is a pharmaceutical company with considerable R&D investment it is seen as important to take account of
this flexibility the real option valuati
on will be carried out
, but only of new CNS drug
. The final valuation
method is seen as a useful supplement to the above valuation methods already mentioned. It is valuation with
multiples (comparables). Thus the following questions are to be answered:


What is the estimated cost of capital (WACC) of the company?


What does real option analysis imply?


What is the fair share price of the Lundbeck’s ordinary shares according to the EDCF


meth
od and

does it imply the same share price compared with the result

given by multiples method?


H
ow sensitive is

real option model and
EDCF method?


How plausible is the resulting fair share price?

1.3.


Delimitations


This thesis is primary of theoretical form, where existing strategic and theoretical model
s will be applied in
practice.
With this in mind, theory pa
rt will be briefly touched upon. The enterprise DCF valuation model
and strategic models applied during the analysis are assumed to be known by the reader, and will not be
discussed further in sepa
rate theoretical part. However a
s a way to inform readers about existing
Real option
valuation models a theoretical discussion will be made. This is done b
ecause an elaboration of the theory is
seen as a description and also

due to limited number of pages

it will be a
very
minor part of the final paper. It
is seen more important to apply the theory and models than to describe them.
Furthermore due to limited
number of pages the estimation and forecast of important exchange rates and overall risk assessment
as
initially
planned to be
included in the project will be omitted as well. Hereby I also delimit the
contents of the
project

from the information available from December 2011, since it is
most likely that the bigger part of the
analysis will be finished b
y that time.


1.4.


Methods


The main data used for the thesis will be annual statements from the Lundbeck’s homepage and other data
found useful like peer group information, industry info, and such. Orbis database is found to be one of the
sources, togeth
er with competitors’ homepages, and other available databases. Furthermore data necessary
for estimating cost of capital and multiple analy
ses will be extracted and
processed in Datastream due to no
access to a Bloomberg terminal.

Page
7


Finally Excel will be u
sed for reform
ulation of annual statement,
final calculation of WACC

and forecasting
.
All the calculations will be burned on a disc and submitted together with the thesis.

1.5.


Scope and structure

The scope and structure of the thesis will be as follows.

After the introduction part with problem statement,
delimitation and so on, will Lundbeck be pr
esented, followed by a short description and analysis of the
pharmaceutical industry and its development started with
the market/markets definition, because it is
important to know from the start what market and industry is strategically analyzed. There is no room for
doubt when this is concerned.
This part is included due

to importance of future industry developments to
the
final forecast and valuation, the growth expectation of the markets concerning disorders in the central
nervo
us system (CNS).
Strategic ana
lysis will follow and

will be divided into: 1. environmental analysis and
2.
i
ndustry

analysis and 3. competitor
profiling.

The strategic internal factor analysis will be omitted due to
page limitations of the final rapport, although it is also an important part of the strategic analysis.
Environmental analysis will be analyzed in form of PESTEL framework where this
breakdown is chosen
because legal part is found to be essential. Porter’s five forces will be an industry analysis, and is performed
because it is the main tool for industry analysis for a certain company.
After competitor profiling everything
will

be summ
arized in a SWOT framework.


Reorganizing financial statements will be performed next reformulating income statement and calculating
NOPLAT
8
, reformulating balance sheets and performing invested capital calculations, and finally calculating
the free cash
flow, that is going to be used for the final valuation. Reorganizing financial statements is
important because the operating and financial items have to be separated to enlighten the performance of
Lundbeck, and thereby improve the valuation.
In this part
only most important assumptions will be
presented, and the final calculations and reformulations will be enclosed in the appendix as an overview.


As a natural way to continue when the reformulation is finished the analysis of historical performance wil
l
follow. It will consist of
NOPLAT, Invested capital and FCF analysis, revenue
growth analysis
,

operating
performance analysis

in the ROIC analysis framework
, and finalized by
the historical stock market



8

NOPLAT stands for Net Operating

Profit Less Adjusted
Taxes

Page
8


performance analysis compared to the peer group.

Al
l this is done to put Lundbeck’s performance in
perspective both in historical and competitive way, to better forecast the future performance.


The next part consists of forecasting, and cost of capital estimation. Forecasting
will be a short one
covering
assumptions of the forecast period, due to page limitations the detailed forecasting assumptions

will only be
presented in the a
ppendix as a
n

overview.
When estimation of cost of capital is concerned will first
Lundbeck’
s capital structure be cove
red
, followed by estimation of

cost of debt, CAPM
and a conclusion of
the resulting WACC.


Finally
the valuation of
Lundbeck

will be conducted initiated with
a Real option valuation

and the theoretical
aspect, followed by enterprise DCF valuation
and multiple analyses.
As a final part
an overall conclusion is
made.

2.

Presentation of H. Lundbeck A/S
9

The aim of the following part is twofold. First it is written to

shortly

introduce the company at hand to
potential readers, and second it serves as
prel
ude for later analysis both strategic and economic.


2.1.

Short history presentation
10

The story for company H. Lundbeck A/S begins nearly 100 years ago, 14
th

august in 1915 when Hans
Lundbeck founds the compan
y in Danish capital Copenhagen. The company back than was
quite

different
from today’s,

it operated as trading company and not a
s a

pharmaceutical company as today.

H. Lundbeck
A/S as trading company was trading everything from cameras, machinery, biscuit
s and so much more. First
in the 1930
s

when the worldwide economic crisis hit, when the medicine and cosmetics that compan
y
purchased

ready packed was not possible due to Danish Government restrictions on foreign currency, the
company begins it
s

first prod
uction.
The main event in 30
s

is that they launched they first medication for
treatment of wounds Epuctan.

In 40s the company goes from trading company to
an

organic chemistry
manufacturing one, with its own
research

& development

activities
.

B
y looking fo
rward in time from
4
0s to
80s we reach the decade, when H. Lundbeck A/S begins the company
’s strategic

transformation to a



9

http://www.lundbeck.com/default.asp


10

http://www.lundbeck.com/aboutus/history/milestones/default.asp


Page
9


company we know today
due to lack of commercial success.
They found that the key for success was to
specialize, and they did
exactly that
by focusing on
diseases of Central Nervous System

(CNS)

as they
overall strategy. Furthermore from that time they begin having they own sales companies, apart from going
trough agents
.
The major events before that was the launch of the Truxal
medicine treating schizophrenia in
the late 50s, and later in the 70s the launce of the extended drug Fluanxol for psychosis patients

as a result of
C
ital
o
pram invention. In the
1999

the
company went through an IPO and was

listed on Copenhagen Stock
Exchan
ge.

During the 90s the
focus lies

on
becoming world leader in treating mental disorders.
In the years
after

2000 the company engaged in R&D partnerships, in

-

licensing, and own drug development.
A
s

product
partners
hip
Merck & Co resulted in the launce of
the Alzheimer’s disease drug Ebixa.

After 2010 and
forward Lundbeck enhances its presence in Asia for example by promoting Lexapro in China. The broad
characteristic of this decade so far is increased international presence, and broader CNS portfolio.
Curr
ently
it is a global company, where the global market they operate in is classified into three markets: Europe, USA
and International markets
11
.

As a rounding remark the following quote

fits well

for the company today
:

“Lundbeck is a global
pharmaceutical company conducting research into, developing, manufacturing, marketing, selling and
distributing pharmaceuticals for the treatment of disorders in the central nervous syste
m (CNS), including
Depression, S
chi
zophrenia, Alzheimer’s disease, Pa
rkinson
’s

disease, Huntington's disease, Epilepsy and
I
nsomnia.”
12

If the reader is interested a complete description of Lundbeck’s product portfolio and pipeline
are disclosed in Appendix 1.




2.2.

The vision, mission and values of the company

Any
establish
ed
company has a statement of a vision, mission and the values of the company
, which has a
purpose of distinguishing the company from competitors and as well position the company as a unique.
The
Lundbeck
’s

vision

is to become a world leader in treating
psychiatric

and neuro
logic

disorders and to
improve the quality of life for those patients suffering is a company’s
mission
.
The three values which



11

International markets
consists of according to following presentation
http://www.lundbeck.com/investor/Presentations/Financial_presentations/Files/Roa
dshow_pres/Roadshow_Q1_2011.pdf

are:
Asia
(incl. Japan), Australia, Middle East, Africa, Latin America and Canada,

where reported revenue from

international markets
include three more countries
Isreal, Turkey and Russia
.


12

http://www.lundbeck.com/media/facts_and_background/fast_facts/uk/default.asp?media


Page
10


describe best the company’s culture and what the company stands for are: 1.
Imaginative
-

Dare to be
differe
nt, 2.

Passionate
-

Never give up and finally 3.

Responsible
-

Do the right thing
.
13







2.3.

The breakdown of turnover

This part of the report has a purpose to visualize and understand the Lundbeck’s breakdown of turnover
presented in
business segment tur
nover and geographical turnover in a figure framework, and several times
during the paper this figure will be referred to.


Figure 2.1:
2010

t
urnover
breakdowns

of
Lundbeck’s
business segments

and geographical

breakdown

in percent

of total revenue



Source:

Data used for the figure is from
http://www.lundbeck.com/investor/Financials/Reports/Files/UK_versions/Annual_report_2010.pdf


see pages 24, 25 and 27
.

Besides the data the final figure is my own product

.What international markets consists of see page 8 footnote 11 of this paper
.



3.

Pha
rmaceutical Industry and development

The time has co
me for an industry framework

the starting point is to define the market(s) Lundbeck operates
in.

Th
ere next the
global pharmaceutical industry characteristics will be outlined. M
arket size,

share

and
growth

will be outlined

next
, followed by key factors for success in the industry (KFS), and finalized by
narrowing future growth
markets. Under market size growth, and share Lundbeck’s submarkets such as
depression market, epilepsy
and so on
will all

be analyzed simultaneously.


3.1.


Market(s) definition

Since Lundbeck’s products are marketed in three geographical markets Europe, USA and International
markets, the market is considered to be a global one. Moreover it is a specialized pharmaceu
tical company
focusing on producing and marketing in the area of CNS disorders, in consistence with Porter’s generic



13

http://www.lundbeck.com/aboutus/our_culture/vision_mission_values/default.asp


Cipralex/Lexa
pro (Anti
-
depressant)

56%

Ebixa (Anti
-
Alzhermer's)

16%

Azilect (Anti
-
Parkinson's)

7%

Xenazine
(Huntington'
s disease)

4%

Sabril
(Epilepsy)

1%

Other
pharmaceuti
cals

14%

Other
revenue

2%

USA

25%

Internation
al markets

20%

Other
revenue

2%

Europe

53%

Page
11


strategies in the pharmaceutical industry Lundbeck is following a focus generic strategy. This is in order to
exploit
the core competences
in
CNS market

acquired during the years
, in
order to acquire the competitive

advantages. Furthermore Lundbeck has since the 2000 changed the strategy for acquiring market share to
include strategic alliances with some of the competitors, in R&D partnership
s and in
-
licensing, such as
Merck and Co. and involved in mergers and acquisitions. So all in all in the global pharmaceutical industry
Lundbeck operates on the global CNS market
, with several main sub
-
markets: depression market,
Alzheimer’s market, Parkin
son’s market, H
un
tington’s market, epilepsy market and p
sychotic disorder
marke
t.

3.2.


Global pharmaceutical ind
ustry characteristics
14

The global pharmaceutical industry is more and more characterized by fast consolidation and concentration,
in form of merger
s and acquisitions but also alliances or collaborations in R&D and marketing as a prevailing
strategic standpoint. The strategic synergies in marketing and drug development are the main outcomes of
consolidations and alliances.

In turn it also means changi
ng structure of competition and increased
competitiveness.

The lack of introduction of new products and 2011 expiration of main blockbuster drugs
are characterizing the industry despite increased
R&D
investments
. Furthermore the industry is characterized
by quick development of the world generic markets and for branded products generics are in turn
increasingly pressuring prices and market share

due to regulatory compliances.


3.3.


Market(s) size, share and growth

The global pharmaceutical market was expecte
d to have value of $ 693 billion in 2010, but ended up to be $
791 billio
n

i.e.
a 5% growth between year 2009 and 2010.

According to Datamonitor’s expectations for 2010
the largest market share will have cardiovascular therapeutic area of 19.60% of total m
arket

value
, but the
interest lies here in the CNS therapeutic area which was forecasted to have 18.60% of total value a second
largest
forecasted
therapeutic area
in the global pharmaceutical market
. However
according to IMS world
review 2011, CNS account
ed for the 16% of total global pharmaceutical market being the biggest market in
2010, sharply followed by cardiovascular (14%) and Alimentary (13%)

therapeutic markets see table 3
.1.








14

http://media.mmm
-
online.com/documents/19/outlookpt1_4530.pdf
, Caruso, Dav
id “
The market effectiveness: the key
competency for pharmaceutical growth, Kesic, Dragan “Strategic analysis of the world pharmaceutical industry” 2008.

Page
12


Table 3
.1
:

Global Pharmaceutical market size, share
and growth in 2010
1

Global Pharmaceutical market







Total value of $ 791 billion

2009
-
2010 growth

2010 (IMS world review 2011)

2010 (Datamonitor expected numbers)

Other therapeutic purposes


-


49.00%

38.80%

Cardiovascular

3%

14.00%

19.60%

CNS

5%

16.00%

18.60%

Alimentary

5%

13.00%

14.40%

Respiratory

5%

8.00%

8.60%

Total

5%

100.00%

100.00%

Source:

My own design, but the data for the figure is based on Lundbeck’s 2011 3
rd

quarter road show p.86 and Datamonitor

In total the global CNS market size or value was at $ 125 billion, with a growth of 5%. The biggest
therapeutic area in the Global CNS market in 2010 was the market for anti
-
psychotics with a 20% market
share, followed by
anti
-
depressive & and mood stab

ma
rket
s

accounting for 16%. On the third and fourth
place anti
-
epileptic and anti
-
Alzheimer’s

markets with 10% and 7% of market share

are placed
.

The smallest
market share of 2% contributes the drugs used in alcohol dependence.
What is important for the anal
ysis is
how big the growth of the markets in the previous year

was
, because it shows what markets are mature with
lower growth and what markets have potential to be
future growth markets.
With 17% growth psycho
stimulants seems to be the most promising mar
ket, followed by anti
-
Alzheimer’s (12%) and anti
-
psychotics
(9%) market and also drugs used in alcohol dependence have a solid growth of 8%, se
e figure 3
.1. The
smallest and negative growth of
-
3%, is seen in the anti
-
epileptic market. From above it seems
that Lundbeck
strategy to invest in a R&D of a drug used in alcohol dependence is a wise choice and wise strategic move,
for future profitability when this market seems to have accelerating growth.











Page
13


Figure 3
.1:

Global CNS market

size, share and growth in

2010
1



1

The inner circle is growth 2009
-
2010, and upper circle is share of global CNS market

Source:

My own design
,

but

the data for the figure is based on
Lundbeck’s 2011 3
rd

quarter
road show

p. 86


According to “The global use of medicines: outlook through 2015”, the mature markets with negative
estimated growth in 2015 are anti
-
psychotics, anti
-
depressants markets. The market with most promising
growt
h is ADHD treatments with forecasted growth in a range of 4%
-
7%. The other two growth markets are
anti
-
epileptic and anti
-
Alzheimer’s markets. That anti
-
epileptic market is a growth market, is kind of in
contradiction with the historical numbers from 2010,

which had a negative growth. The reason for the
difference could be that in the future bigger
awareness and acceptance of the disease in some regions of the
world will give rise to

higher

spending in the future. It is a very positive outlook for Lundbeck
that the
second largest revenue contributor in 2010 comes from anti
-
Alzheimer’s market, which according to above
have a promising growth opportunity. The negative is that anti
-
depressant market, the number one revenue
contributor for the company, seems to
be a mature market and with a biggest stagnation in

a range
-
5% to
-
8%, see table 3
.2.










9%

4%

-
3%

12%

17%

4%

8%

20%

16%

10%

7%

6%

3%

2%

Antipsychotics
Antidepressive & mood
stab.
Anti-epileptics
Anti-alzheimers products
Psychostimulants
Anti-Parkinson
Drugs used in Alcohol
depedence
Global CNS
market value of
$ 125 billion
a
nd growth +5%

Page
14


Table 3
.2
:

Estimated spending and growth of some of CNS’ therapy classes in 2015
1

Forecasted CNS therapy classes in 2015

Estimated spending

Estimated growth

Anti
-
psychotics

$18
-
22 billion

-
3% to
-
6%

Anti
-
depressants

$13
-
16 billion

-
5% to
-
8%

Anti
-
ep
ileptics

$13
-
16 billion

1% to 4%

ADHD

$9
-
11 billion

4% to 7%

Alzheimer's

$9
-
11 billion

1% to 4%

Source:

My own
design, but the data for the table is based on
: “The Global use of medicines: outlook through 2015 from IMS Institute

for healthcare informatics, May 2011, Appendix 4 p. 26



Currently in the global pharmaceutical ma
r
ket

the Americas region with 51.8
% of market share is a biggest
market, followed by Europe of 28.2% and Asia
-
Pacific of 20% market share.

Besides looking at the overview
of geographical market share let us turn to the question what companies have highest market share in the
global pharmac
eutical market? The top four companies in 2010
were

Pfizer (10% market share), Merck & Co
(5.6%), Sanofi Avensis (5.0%) and Novartis (4.4%).

3.4.


Key factors for success (KFS)

The term key factors for success can be defined as in Lync
h, Richard (“Corporate strategy”
p. 809): “
Those
resources, skills and attributes of the organizations in an industry that are essential to deliver success in the
market place, and it is not those factors that apply to an individual company. “

The KFS

is useful for later
strategic analysis, as a way to assess what is important to
analyze and narrow down factors of interest.


In the global pharmaceutical indust
ry the standard KFS’s are
investment in
R&D together with marketing
and sale
s activities (
Kesic Dragan 2009
), but accordingly to

Caruso, David
“The market effectiveness: the
key competency for pharmaceutical growth”
, there are additional and new key factors emerging for survival
in the industry the optimization of the information and collaborat
ion in both R&D and marketing.



3.5.


The future growth markets
15


An

important question is what is the outlook for global pharmaceutical market in the medium term? It is
estimated that spending on the medicines will reach over $ 1,000 billion in 2015, but with slowing annual
growth between 3
-
6%. Furthermore the outlook for

Lundbeck’s two biggest revenue market contributors



15

http://imshealth.com/imshealth/Global/Content/Document/IMS_Pharmerging_White_Paper.pdf
;
“The Global Use of
medicines: outlook through 2015”,

IMS Institute for healthcare informatics, may 2011; Snyder, Glenn et. al. “
The new
p
harmaceutical market landscape
”;

Campbell, David et al
“Pharmerging shakeup; new imperatives in a redefined world
”, IMS
2010,and
http://www.reuters.com/assets/print?aid=USN1921921520100420


Page
15


Europe and US is expected to have a declining trend of global spending from now to 2015. The spending on
drugs in top EU5 countries is forecasted to fall from 20% to 13%. The US share of global spending w
ill in
2015 account for 31% compared to 41% in 2005. The current and future growth markets are seen to be 17
emergent markets a so called Pharmergent markets, with China in the leading position. In 2005 these
countries had only 12% of market share but it i
s estimated that in 2015 this number will grew dramatically to
28% of total spending. The other important prediction possibly
affecting

the Lundbeck’s future profitability
negatively is accelerating shift towards generics in 2015 forecasted to be 39% vs. 2
0% in 2005. What is also
discouraging is a prospect of rapid growth in the Pharmergent markets that is only lead by rise in generic
share of spending a 70 % outside developed markets. Furthermore it does not seem to be a good future
outlook, because the sp
ending of branded products will be nearly the same in 2015 as in previous year. This
is due to lower volume growth of branded drugs, because of patent expirations reducing spending by $120
billion through 2015, but the slight increase will come from the po
pulation increase and drug use.

As mentioned already the future large and growing markets are the “Pharmergent markets”: China, India,
Brazil, Mexico, Russia, Turkey and South Korea (Snyder, Glenn). According to IMS latest report these were
the 7 emergen
t countries, which for three years ago
gave the name “Pharmergent market”, because of the
major shift in growth seen at that time away from the mature developed economies; US, Japan, France,
Germany, Italy, Spain and Canada. Since then due to external mark
et factors including economic crisis, now
the
following
four markets are
seen as biggest growing markets; 1. China

(20
-
23%)
,

2. Brazil

(7
-
10%)
, 3.
Russia
(14
-
17%) and 4. India (11
-
14%).

The annual
growth of these markets
compared to 3
-
6% growth rates
of de
veloped markets, which is also exp
ected to grow through year 2014 are mu
ch higher see above
parentheses
(Reuters

2010
)
16
. So the characteristics

of current and future market are

the
dramatic swing in
power to the P
harmerging markets, which will be the
biggest contributor to global growth in the next five
years.

Therefore it is seen as a very positive strategic factor that Lundbeck
currently
operat
es in the three out
of four biggest Pharmergent markets except of India.
Seen in the light that China is the

highest growing
market and is forecasted to be in the 3
rd

place in 2013 of the global pharmaceutical market, t
he launch in
2011 of Lexapro in China and Japan gives a positive outlook for the company, furthermore in October the
company engaged in a
n

establ
ishment of a research centre in China.











16

http://www.reuters.com/assets/print?aid=USN1921921520100420


Page
16


4.

Strategic analysis

To explore g
eneral environment
,

analysis with PESTEL framework is conducted, followed by the
competitive industry analysis in a
Porter’s five forces framework.

Before a conclusion of a strategic analysis,
a short competitor profiling will be conducted. Finally

a conclusion of the strategic analysis is summarized in
a SWOT framework.





4.1.

PESTEL analysis


Political

and Legal
:

The most important current and future political issue
effect
ing Lundbeck and entire healthcare environment
negatively is hea
lthcare regulat
ions, p
utting the
ceilings on pharmaceutical
prices and reimbursements
.
Europe market

and EU in particular

is characterized by constant price pressure from healthcare reforms in the
individual countries,
effect
ing negatively company’s revenue.
17

Given that
Europe market is
Lundbeck
’s
biggest revenue contributor in 2010 (53%), the healthcare

regulations in this geographical area are of
considerable importance to the company’s profitability in the future.
As pointed out by Moody’s in June
2011 it is most likely that intensified pressure on EU drug prices will see the light during 2011 and in f
uture,
as a result of several European countries budget deficit problems, especially Greece

and
Spain
. Following
quotation gives a good picture of the problem facing pharmaceutical companies:

“National heal
th program
s
in these countries may seek to impose

further drug price cuts to help repair public finances, adding to the
negative pressure on pharmaceutical companies' cash flows…
where
squeeze on healthcare spending likely to
spur generic products
"
18

Not only healthcare reforms

in Europe are a problem but,

also in other Lundbeck

s
markets
, USA and China. In particular in US the 2009 Medicare reform is forcing all Americans to have
health care insurance putting new
rebates

and price discount rules on prescription drugs. For example there is
50% price discount on drugs provided through Medicare and 7% on generic products.
19

What t
his will mean

to pharmaceutical companies as Lundbeck will first be seen in long

term due to the
fact that the Medicare
reform will fully be implemented in 2011. It could have two
effect
s, due to more people are insured there will
be more drug sales though with lower prices, that could give rise in the companies’ revenues, or it could
mean that costs
will be too high for pharmaceutical companies that they will lose revenue.
The certain impact



17

Annual reports 2007
-
2010

18

T
he quote is from:
http://www.reuters.com/article/2011/06/08/pharmaceuticals
-
europe
-
idUSLDE7571JE20110608


19

http://www.aarp.org/content/dam/aarp/health/healthcare_reform/2011_05/HCRLaw
-
Factsheet
-
at
-
a
-
Glance.pdf

Page
17


will be that generic products will benefit the most, because the focus is on
“consumerisation” an increase
patient demand for more choices and
cheap medicine.
There
is also a plan

for Health Care Reforms in China.


Legally the company is protecting its patents and intangible assets and have pending litigations see page 26
note 31.






Economic
:
20

In the light of today’s global economic climate wounded by the past financial crisis and seen together with
this year’s extensive
economic
turbulence throughout the globe this factor is probably one of the most
important subjects to address not only in gen
eral but also concerning the threat it possesses on the
companies’ profitability today and in the future.

In general the profitability threat a company faces in the
aftermath of a financial crisis and economic turbulence is primarily coming from
consumer a
nd business
confidence deterioration induced by

weakening

of global capital markets,
increasing unemployment rates,
inflation
and downward

pressure on the wages coupled by
high number of company bankruptcies. For
consumers this means that they are more
price
s

sensitive

and risk
averse implying increas
ing

saving rates
i.e.
saving for gloomy days, and searching for cheaper goods and commodities.
Transferring this problem to
pharmaceutical industry it suggests an increase in sales of generic drugs since the
y are sold at considerable
lower prices than branded ones
, possibly
affecting

the Lundbeck’s profitability negatively.
Furthermore as
discussed in the political factor prior, governments are also
squeezing

the pharmaceutical companies’
revenue by health
re
forms that put

pressure on the drug prices, provoked by the economic turmoil.
According
to world economic outlook from September this year, the global economy
outlook
is not promising given the
fact that slowing growth and rising risks are the
current
dile
mmas, in other words activity is weakened,
consumer and business confidence has
dipped

dramatically and downside risks are growing.
The negative
economic
outlook has

its origin in multiple economic shocks that hit the
global
market in 2011
. The shocks
are

ranging

from extreme financial turbulence in the Euro area with countries as Greece, Italy and Ireland in
the deep sovereign debt crisis

to aftermaths of the Japanese earthquake and tsunami
effect
ing negatively US
automotive market
. Furthermore

current an
d earlier unrest in the oil producing Middle East countries, and the
last and not least Standard & Poor’s U.S sovereign credit rating downgrade in the
A
ugust this year
from
AAA rating to AA+ caused by government’s high budget deficit and rising debt burden

with the prospect of



20

http://www.elibrary.imf.org.www.baser.dk/view/IMF081/11731
-
9781616351199/11731
9781616351199/Other_formats/Source_PDF/11731
-
9781463940874.pdf

Page
18


another downgrade in next 12 to 18 months, gives rise to the market volatility in US but also around the
globe.
21

Since the 78% of Lundbeck’s revenue in 2010 comes from Europe (53%) and US (25%) market it is
significant to look closel
y at the economic outlook in those two regions.

In Europe current economic performances as well as future projections are mixed ones among European
countries according to Economic Outlook from September 2011. Therefore the European area is divided into
th
e Advanced Europe, Central Eastern Europe (CEE) and Euro Area. Ove
rall the projected

inflation

for CEE
and Euro Area are most likely to drop from current percentage levels. In CEE the inflation is about to decline
from 5.25 % in 2011 to 4.50% in 2012, and
in Euro Area the fall is from 2,

50% to 1, 50% in 2011

and 2012
respectively. The same inflation tendency is also the case in US a decline from 3% in 2011 to 1, 25 % in
2012, due to commodity price fall which peaked during this year. In all areas in genera
l the real GDP growth
is expected to slow down, due to sluggish household consumption in Advanced Europe and fall in both
domestic and external demand in CEE countries
. The annual Real GDP growth is going

down
from high 4,

25% in 2011 to 2,
75% in 2012
projections for CEE countries. In Euro Area due to high commodity prices on
real disposable income, together with fiscal tightening and financial turbulence which gave drag on activity
and decline in consumer and business confidence

and financing

implied s
harply growth decline in 2
nd

quarter
of 2011 from Annual Real GDP of 2% in 1
st

quarter to 0.25 % in 2
nd

one, and projected growth of slightly
above 1% in 2012.
In U.S. current growth is a sluggish one a growth fall of 1,75 % point from 2,75 % in
2010 to 1
%

in 2011, and it is estimated that the economic growth will be modest for years to come with
1.75% growth in 2012.
As it is evident that the economic performance varies between European countries a
few of them like Denmark, Germany and Switzerland have cl
ose to average pre
-
crisis growth rates, with
unemployment rates at or below pre
-
crisis levels, other countries like Greece, Ireland and Portugal have
recessions or fragile growth with very high unemployment, and rest of the region grew
less than pre
-
crisis

averages. The current unemployment in U.S. of 9.1% is not likely to changes throughout year 2012, since
persistent economic slack and weak job growth is a reality. Furthermore the wages are held back, with very
high unemployment rate and weakened economic

situation the workers have low negotiation power when
wages are negotiated.






21

http://www.reuters.com/article/2011/08/06/us
-
usa
-
debt
-
downgrade
-
idUSTRE7746VF20110806

Page
19


What it implies first and foremost that the financial turmoil in the Euro area could cause depreciation of euro
against any currency outside the euro area in particular

USD. This
could indirectly

mean
devaluation

or a
weakening
of
DKK

as well
,

since
DKK

is pegged to the Euro
via the ERMII. In a case of a weakened DKK it
will imply higher revenues in local currency from US and other regions outside Euro zone.
Lundbeck
treats
the foreign currency fluctuations or risk

such as these by use of financial instruments

so called hedging
forward contracts, if interested see note 25 in 2010 annual statement.

It is positive that inflation rates in all regions are of declining tren
d in other words operating business of
Lundbeck will not be
effect
ed that much due to smaller incentives to increase sales prices, since growth of
costs of goods sold are about to be lower.
Furthermore the economic weakenin
g of the global capital markets

s
eems not to
affect

Lundbeck’s liquidity due to low debt ratio and good accessibility to capital markets.
Besides the already discussed
effect
s of the crisis on Lundbeck’ s business it is worth mentioning that
pharmaceutical companies are not cyclical compa
nies and are less exposed to systematic market risk the
same way people must eat they also need the necessary medicine. Therefore the medical products are bought.




















Social:


In contrast to other factors in this analysis there is not much to say here besides already pointed out in the
introduction

of increasing ageing of the population in the Western world

and increasing
global
population
growth
.

For example
according
to World Bank
in 2050 there is projected to be about 2 billion more people
than now, and
we have reached

7 billion people

in 2011.
22

The reason that

no other important measurable
social factors exist is
that

the company’s current product portfolio consists
of treating hereditary diseases
from Huntington’s dieses to Schizophrenia, together with treating diseases mostly associated with elderly
people like Alzheimer’s and Parkinson’s disease, where social and cultural factors as a lifestyle have no
impact on.

O
ne can argue that depression is dependent on social factors like not being satisfied with the
current life
, loneliness, stress or

other lifestyle factors. However it is very hard to measure and therefore
is

not included in the analysis.









22

http://www.worldbank.org/depweb/english/beyond/beyondco/beg_03.pdf

Page
20


Technological
:

The relevance of this factor cannot be underestimated in the light of how immense it is in the pharmaceutical
industry to introduce new drugs and new patents, especially in the branded part of the market. In very few
words it represents
competitive advantage and future business surviv
al for Lundbeck

as they
as well
on their
homepage p
oint out: “..
innovative research and development is

the basis for our future”
23
.

The rise in R&D
expenditures relative to revenue from past four years speaks
for itself how innovation is important for the
company; from 19.60 % in 2007 to 25.80%, 23.20% and 20.60% in 2008, 2009 and 2010 respectively.

More
to the point Lundbeck has currently 9 drugs in development in their pipeline. The

investments in R&D is not

the only technological factor important for Lundbeck

as a middle sized company
, it is also important to work
in collaborations with other pharmaceutical companies in research & development of new drugs for faster
market introduction rates of the new drugs

and more economical process, which stands for new research
initiatives and a new way
s

of business. This is evident in
Lundbeck’s
seven
current R&D collaborations
:
1.
Takeda Pharmaceutical Company Limited, 2. Genmab A/S, 3. Kyowa Hakko Kirin Co., Ltd., 4.

Biotie
Therapies Corp. 5. Paion AG, 6. Zenobia Therapies, Inc. and 7. Vernalis plc.

Besides

presenting

th
e
Lundbeck’s level of R&D expenditure it is insightful to compare it to company’s biggest competitors found
in competitor profiling. The

Lundbeck’s av
erage R&D expenditure

from 2007
-
2010 of 22.30%, is only
surpassed by Forest Laboratories with 23.48%, sharply followed by Shire (20%) and Eli Lilly and Company
(19.63%)
. However the majority of the biggest players in
the industry have below 17% average
: Pf
izer (15.70
%), GlaxoSmithKline (15 %), Novartis (16.60%), AstraZen
eca (15.81%). This split in average

of smaller
middle
-
sized pharmaceutical companies as Lundbeck that have high percentage of revenue invested in R&D
and market leaders as Pfizer that have
much lower investments, indicates that bigger companies with bigger
pipelines and p
roduct portfolios are not that sensitive to patent expirations and tough industry competition
that they do not have to invest big percentage of their revenue. Another thing
is that the investments of
leaders are in currency much higher than percentage than for the midsize companies due to higher revenues
of those companies. But all in all Lundbeck is technologically putting good effort and a promising one
compared to the peer
s.
An
d

as a rounding remark

the slightly related industry of biosimilars
and the possible
technological development in that industry could in future posses some threat in the pharmaceutical industry.











23

The quote is from:
http://www.lundbeck.com/global/brain
-
disorders/research
-
and
-
development

Page
21


Environmental
:

Even though
environmental factor
s

does not seem to have the same importance as the rest of the PESTEL
factors in this analysis, nevertheless it is
seen as relevant to address because of the increasing environmental
awareness around the world
, and also in the light of
Lundbeck’s own corporate strategy to have corporate
responsibility regarding health and environment since 2004.
Th
e
CO2 emission could possibly cause severe
climate changes around the world
only
through

small changes
in temperatures the so called
greenhous
e
warming is the primarily problem and a reason for increasing awareness. All though the
effect

of climate
change to some extant has in recent years been more visible with extreme weather changes in some regions
of the world
the awareness of the severity of the problem is a not a new one for example
UN convention on
climate change have been established
since
1995
, with conferences of the parties (COP) as an annual event,
to assess progress in dealing with this problem. Saving
tomorrow today is the COP 17 slogan, held this year
in Durban Africa.
24

As mentioned before Lundbeck has since 2004 had
long term effort in form of
Health,
Safety and environment strategy
, with transparent disclosure in the annual statements, under respons
ibility
and management. Furthermore this company
’s

awareness and focus on reducing the environmental footprint
has further been strengthen through
signing the United Nations Global compact in 2008, and therefore
following the ten principles of anti corrupt
ion, human rights, labor and also environment
al

in following
principles 7
-
10:


Principle 7
: Businesses should support a precautionary approach to
environmental challenges
,
Principle 8
: undertake initiatives to
promote greater environmental responsibility; and

Principle 9
: encourage the development and diffusion of environmentally friendly
technologies.

25

In particular in 2010 the company has invested in new production technology, in order to reduce s
pillage and
energy consumption.
The outcome of the company’s environmental strategy to the business as a whole is first
and foremost gained reputation of environment responsible company but also in saving money through lower
levels of energy consumed.
A
ll
in all Lundbeck has a strong environment
strategy

which the

company

will
benefit
from
in the future.






24

http://www.cop17
-
cmp7durban.com/en/about
-
cop17
-
cmp7/greening
-
cop17
-
cmp7.html

25

The quote is from:
http://www.unglobalcompact.org/AboutTheGC/TheTenPrinciples/index.html

Page
22


4.2.

Industry analysis Porter’s five forces

In order to get better insight what shapes Lundbeck’s strategy the industry analysis is a good tool for just
doing that. During the analysis
the g
lobal pharmaceutical industry will be
analyzed
, and when
seen
necessary
specific
CNS
market conditions will be

touched upon.

In following the five competitive forces proposed by
Michael E. Porter will be of interest as an analysis tool, consisting of following forces see figure
4
.1
below
.

Figu
re 4
.1
:

Porter’s five forces framework








Source:

The figure is from Porter, M. E. (2008).

THE FIVE COMPETITIVE FORCES THAT SHAPE STRATEGY

.Harvard Business Review,

86(1), p. 80


One more thing left to clarify

or define before the analysis.

I
n the framework above who are the players
concerning each force

in th
e g
lobal pharmaceutical industry? The rivalry among existing competitors

is
analyzed only in reference t
o pharmaceutical companies, biopharmaceutical ones are not included. Regarding
extant of buyers bargaining power the hospitals, government
agencie
s
, drug retailers and other medium to
large sized
buyers are seen as main buyers
, but there is also the end users the drugs are intended for
. In
general let’s call it health care providers and drug retailers. In similar fashion the key suppliers are define
d as
providers of production devices and pharmaceutical ingredients. Threat of new entrants does not need further
clarification

in contrast
explanation of
the threat of substitutes

is necessary.

F
or the branded drugs as
Lundbeck’s

the

first and foremost the generic manufacturers

and their products are seen as substitutes,
furthermore

the biosimilars

could also be considered as such.



T
h
reats of new entrants:

In light of the nature of the industry with stringent regulations concerni
ng safety and efficiency of the
marketed drugs putting very high burden on the existing companies in the market in form of
high
costs, time
and extensive risk, is in itself substantial burden to
be a considerable barrier to
a
ll future market entrants
.
Page
23


Neve
r the less the incumbents are protected by patents
,

making it possible for them to benefit and earn back
the development expenses

and most likely earn extensive profit. This high degree of property knowledge is
also
in itself
a barrier to future entrants.

The large multinational companies are also investing considerable
capital in R&D investments of developing new products which cannot be met under any circumstances by
the new or future entrants. Lundbeck itself is investing app. 21 % of its revenue in R&D
investments. In
other words there are very high entry barriers in the industry in form of high fixed costs,
knowhow;

it is
capital intensive industry with high degree of knowledge needed to develop new blockbuster drugs.

Due to
very low level of drug appro
vals and the time consuming effort to achieve this
(
takes more than 10 years
from a molecule is discovered to the marketed drug
)

that
it is very unlikely in branded drug market that
the
rise of new entrants

occur
. Furthermore it is getting less profitable in the
whole
industry due to global
reforming efforts to cut prices and c
osts of the drugs, as example can be mentioned

US Medicare.

The
existing companies competing in the market are trying to get new growth opp
ortunities by marketing their
drugs in the “Pharmergent” markets such as China, India

and

Mexico

with considerably less stringent
regulations

to mention some
. All in all it is evaluated that the likelihood of new entrants are of limited or
moderate degree

in the industry.






The power of suppliers:

Large companies as Pfizer are producing some of their own chemicals to avoid the pressure of suppliers.
Lundbeck is applying the same strategy, as it is fully integrated pharmaceutical company, co
ntrolling
everything from research and development to man
ufacturing and marketing of a
drug.
In general the
pharmaceutical companies are met with high switching costs, when they change the supplier due to
contracting issues. All in all most companies in th
e industry are diversifying their raw material suppliers to
reduce their degree of power by not relying too much to one or two suppliers. The supplier power is strong in
the rare or specialized components like new raw materials for new drugs and sterile ma
terials, where

suppliers

can charge higher prices. In the case of Lundbeck this could be the only factor where the suppliers
could have high degree of power, because all other needed row

material
s

are

seen to be homogeneous. Even
though in the industry there is a moderate degree of supplier power for Lundbeck in particular is
on
a very
low

level.




Page
24


The power of buyers:

There are many aspects to consider when analyzing the power of buyers; are th
ey buying a patent protected
drug, the size and number of buyers, is a generic drug present on the market and is the drug a p
rescribed one?

If the drug is patent protected buyers have limited buyer power as long as the company has the patent,
according to
Porter:
“Pharmaceutical companies that offer

patented drugs with distinctive medical benefits
have more power over hospitals, health maintenance organizations, and other drug buyers, for instance than
drug companies offering me
-
too or generic drugs.”
26

However when patent expires with future competition
of generic drugs present the buyers power increases considerably.

As it is going to be a problem when
Lundbeck’s depression drug Cipralex expires in US and Europe in the near future. There will be greater

price
sensitivity on this drug, due to generic drug presence. In the light of
large

number of buyers from hospitals to
retailers the buyers in general have limited buyer power over pharmaceutical companies. Though the size of
the buyer’s
matters also and
if the buyers are big international companies they have greater purchasing power
and can negotiate lower prices. Furthermore the pres
cription drugs as Lundbeck’s
,
imply
diminishing
power
of
drug retailer’s, because doctors at the end have all the power in
saying what drugs the patient needs. This
in turn means that patients have not existent power in deciding what drug to buy, and negotiate prices.
Besides all the above US health care reform is also giving buyers considerable power in what drugs patient
sho
uld buy and to what price.
27

Overall the
power of buyers is

of moderate degree.





The threats of substitutes:

The source of threats of substitutes in the global pharmaceutical industry is mainly coming from generics and
biosimilars,

but also through alternative medicine and counterfeit medicine of both branded and generic
drugs. The patents are protecting branded drugs from substitutes as long as patent do not expire. But when
that is reality generics are offering lower prices for th
e same drug
, because they are relying on benefits from
approvals granted to the innovator products they are copied from, acquiring no costs of themselves of clinical
trials and R&
D investments. Alternative medicine and treatment as psychologists and such, are seen as no
threat for prescription medicine as Lundbeck’s, they posses bigger threats to OTC drugs. The treatment with
drugs in CNS area is seen as necessary that these altern
ative treatments are seen more as a supplement and
not a threat. The bigger threat for substitutes is counterfeit medicine:
In 2007 in UK a drug of this kind



26

The quote is from:
Porter, M. E. (2008). “THE FIVE COMPETIT
IVE FORCES THAT SHAPE STRATEGY”
Harva
rd Business Review,

86(1), p. 8


27

If interested see PESTEL analysis
for further information.

Page
25


intended for treatment of bipolar disorder and schizophrenia was found in the legal supply chain.
28

All
though there is very low threat of substitutes in general in this industry, it is seen as a strong threat for
Lundbeck due to

patent expiration of blockbuster drugs

in very near future;

Cipralex (2012 (US), 2014
(Europe)), Ebixa (2014 (Europe)),
Azile
ct (2015 in most European countries), and Sabril (2015 (US)).





Rivalry among existing competitors:

In the
high competitive and highly regulated
global pharmaceutical industry the market is characterized by
many companies but the m
ajority of them are large multinational com
panies such as Pfizer, Merck & C
o,
Sanofi Avensis, Novartis and others. In 2010 the four companies mentioned above accounted for one quarter
of the total market share.
29

Due to the branding of the companies’ drugs
and patent protection the market is a
heterogeneous one, and taken together with the competition described above it adds up to monopolist
ic
competition in the industry, with Pfizer as market leader with the 10% market share
, sharply followed by the
other c
ompanies.
Furthermore because there is difference in competitors

in the industry

from big to mid
-

sized
companies, the market is a fragmented one.
The fact that there are many companies competing along
with the reality that at the top players of the indust
ry are approximately same size companies, the market
rivalry is intense or strong. All these
large
companies are competing
approximately in the same markets,
pharmaceuticals branded drugs, vaccines, over the counter medicines
(OTC)
and generics i.e. they h
ave a
broad product range. Lundbeck on the other hand is specialized company focusing
solely
on the CNS drug
s

in the category of branded pharmaceuticals, giving the company an upper hand in production and knowhow
in this treatment area which gives the comp
any the competitive advantage.
On the other hand the major
players as Pfizer benefit from scale economies in both manufacturing and R&D.
The nature of rivalry in this
industry is altered in consistence to Porter’s work by consolidations, either to diverse
product portfolio or
geographical reach. The Lundbeck acquisition in 2009 of Ovation Pharmaceuticals and
LifeHealth Lmtd. is
an example. With the acquisitions Lundbeck simultaneously diversified its product portfolio including
treatment of Huntington’s dis
ease with

Xenaz
ine, and epilepsy with Sabril and thereby also entering new
geographical area
the
US market.

During the past five years Lundbeck’s acquisition and rivalry alterations is
not the only one it is a way of business in the industry. As an example Pfizer acquired Wyeth in 2009,
AstraZeneca acquired MedImmune and Novartis acquired Chiron in 2006.
By the
se means the rivalry is



28

Datamonitor’s: Industry profile ”Global Pharmaceuticals”

(2010)


29

Ibid


Page
26


eased somewhat.
Because innovation is very important
to grant companies

exclusivity to the market it is also
primary competition tool in the pharmaceutical industry.
Another way of altering the means of the
competition is through co
llaborations

with competitors

in technological innovations and marketing, i.e. use
of in licensing.

In
-
licensing is also a broadly used method in the industry and by Lundbeck as well. The
company’s

top products

today as well as future products
are in
-
licen
sed ones
;

Ebixa, Azilect, Circadin and
Nalmefene are all in
-
licensed.
30

Figu
re 4
.2
:

Drivers of the degree of rivalry in the global pharmaceutical market in 2010




Source:

The figure is from
Datamonitor, Industry
profile

“Global pharmaceuticals” figure 10. Page 23, the degree 0
-
5, zero means no rivalry and 5 strong rivalry.



So the competition in technological innovation and marketing ability is also eased a notch by collaboration,
but the rivalry of the incumbents i
s still intensified due to high R&D investments, other investments and high
fixed costs.
The rough industry rivalry intensifies for mature products such as Cipralex/Lexapro in
Lundbeck’s portfolio, where the rivalry is not only with incumbents’ products bu
t also a direct competition
with generic ones.
In the industry it is a constant battle to protect the existing patents and intangible rights.
Lundbeck is presently involved in pending court trials especially for depression compound (Esitalopram) in
Europe
and International Markets.
31

Undesirable result of such patent disagreement is loss of rights, implying

price competition with generic products which are lower priced as a rule and most possibly resulting in the



30

For further info see product overview Appendix 1

31

The exact companies are
Austria, Belgium, Brazil, Canada, Denmark, Finland, France, Germany, Hon
g Kong, Hungary, Latvia, Lebanon, the