Novice Investing - Heart Attack on Merck and Schering

Date: Sunday 20th 2008f July 2008 12:37:59 PM

Heart Attack on Merck and Schering - 03/31/2008

By: Hari Wibowo

Our former sample porftolio pick, Merck & Co Inc. (MRK), and its marketing partner, Schering Plough Corp. (SGP), are crushed in early trading Monday. The New England Journal of Medicine has recommended Vytorin which is marketed jointly by both companies, to be used only for limited applications. This is because of a study claiming no other benefits of using Vytorin compared to Zocor. Zocor meanwhile has lost patent protection back in June of 2006 and was originally marketed by Merck itself.

Vytorin generated sales of $ 5 Billion last year and it affects Schering Plough more than it affects Merck since both split the revenue equally. Schering generated revenue of $ 12.7 Billion in 2007 versus $ 24.2 Billion for Merck. Thus, a $ 2.5 Billion revenue loss will probably put Schering Plough in a deep loss unless it can find a way to either 1) find new source of revenue or 2) cut its operating cost deeply. We believe that Schering's CEO, Mr. Fred Hassan, will refuse to sacrifice long term profit by cutting off its staff.

Back in January 2008, Merck and Schering Plough tumbled on the news of similar Vytorin study dubbed 'Enhance'. That week, Vytorin subscription tumbled by 10%. We believe that Vytorin will perform even worse than that since then. During this time span, both Merck and Schering Plough did not update us on the Vytorin revenue for the 1st quarter 2008. They don't have the obligation to. But, 1st quarter earning release for both companies would be interesting to hear and investors should not expect any pleasant news ahead.

As for Merck, this looks like the beginning of an end to its Vytorin franchise. Expecting the worse, Merck would lose $ 2.5 Billion of annual revenue from Vytorin. This is as bad as its Vioxx painkiller withdrawal. You would also expect some lawsuits to be filled with regards to Merck's letting Vytorin on the market. That won't be as bad as Vioxx as both Merck and Schering Plough can combine forces to thwart potential lawsuits.

When the Vioxx withdrawal was known world wide in 2004, Merck faced a $ 2.5 Billion revenue loss from Vioxx, patent expiration of Zocor with $ 4.5 Billion in 2006 and $ 30 Billion of potential lawsuit from Vioxx debacle. This time around, Merck faces a similar $ 2.5 Billion revenue loss from Vytorin, potentially huge lawsuit borne by Merck and Schering, but with several new successful drugs already on hand. Januvia, a type 2 diabetes drug, and Gardasil, cervical cancer vaccine reach a Billion dollar sales in 2007. As more applications are filed and overseas use are approved, expect these two drugs to contribute at least $ 3.5 Billion in revenues before 2010. During the darkest day with the Vioxx's debacle, Merck shares reach as low as $ 25 per share. For this Vytorin debacle, we expect it to be above this price when it is all said and done.

The loss of Vytorin revenue is unfortunate. We are prepared for the worst. With Vytorin revenue assumed to be $ 0 and less potential lawsuit than 2004's Vioxx withdrawal, we expect Merck shares to reach the lowest price in the $ 28- $ 32 per share range. It may not even reach this price at all. Currently, Merck is trading down 15% to $ 37.70 per share, a 52 week low. Should Merck trade down to our expected range of $ 28- $ 32, it will be a good time to evaluate the prospect of owning Merck once again in our sample portfolio.

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Disclaimer: The sole purpose of this article is educational. This article is merely the opinion of the writer and is not in any way a buy/sell recommendation regarding Merck & Co Inc. (MRK) or any other securities.

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