Tanabe and Taisho Get Big in Japan

Two of Japan's largest pharmaceutical companies, Tanabe Seiyaku and Taisho Pharmaceutical, are merging in response to hard times in the Japanese pharma industry. Their union, which will take at least a year to complete, will create a combined company with $4.3 billion in sales, ranking it third in Japan in revenues. The move won't solve both companies' weak pipeline problems, but it will increase their total R&D budget and give them more sales clout in the domestic market. And as many Japanese pharma companies struggle for survival, analysts believe more merger activity is inevitable.

Tanabe Seiyaku Co. Ltd. 's planned merger with Japan's largest OTC player Taisho Pharmaceutical Co. Ltd. is yet more evidence—should anyone need it—of hard times in the Japanese pharmaceutical industry. A weak economy, increasing pressure on already falling drug prices, historically low R&D investment, and growing competition from foreign companies have left many Japanese players—for the most part highly dependent on the domestic market—struggling for survival. Despite cultural resistance to consolidation of any kind, local companies have no choice but to join forces. In March Mitsubishi Chemical Corp. 's Mitsubishi Tokyo Pharmaceuticals Inc. and Welfide Corp. agreed to merge and most analysts believe there will be more such activity to come.

Tanabe is Japan's tenth largest pharmaceutical company with 2001 sales of $1.5 billion. The mainstay of its business, accounting for 15% of sales, has been the calcium antagonist diltiazem (Cardizem), long off-patent in the US and Europe, where it was licensed many years ago to predecessor companies of Aventis SA and Sanofi-Synthelabo. Aside from infliximab (Remicade), licensed in 1993 from Centocor Inc. (now a unit of Johnson & Johnson ), and likely to hit the Japanese market in mid-2002, Tanabe has very little in its late-stage pipeline to support growth. Nor can it expect much from its relatively small R&D investment, limited by a small sales base concentrated in the restrictive domestic market. At ¥20 billion (¥170 million), its R&D budget is just one fifth that of Takeda Chemical Industries Ltd. , Japan's largest player in market capitalization terms.

Taisho, meantime, having established itself firmly in the OTC market, was seeking to grow through expanding its small prescription pharmaceuticals business, which accounts for just a third of its $2.2 billion (¥270 billion) annual sales. But aside from its macrolide antibiotic clarithromycin (Clarith), licensed to Abbott Laboratories Inc. (for sale as Biaxin), an anti-ulcer agent derived from Chinese herbal medicine research called Solen, and a peripheral vasodilator Palux (Lipe PGE1), there isn't much in Taisho's portfolio, which is why the company had been on the lookout for collaborators. In August it signed a joint research agreement with Yamanouchi Pharmaceutical Co. Ltd. to develop anti-diabetic agents, following on from a number of deals during 2000, including those with J&J's Janssen Pharmaceutica NV , Idec Pharmaceuticals Corp. and Insmed Inc.

The Tanabe-Taisho deal will create a combined group with $4.3 billion (¥500billion in sales, ranking it third in Japan in revenue (and second on the market capitalization ladder). It isn't a merger in the US sense of the word—a one shot process focusing on efficacy gains and stripping out costs—but, says Deutsche Bank's pharmaceuticals analyst Mike Ward, "it's a merger in the Japanese sense, and that's a step forward." Like the Mitsubishi merger, which took more than six months to come into effect, this agreement will happen very gradually, via the creation of a holding company by next April and merging of operations by next October. Taisho shares will be exchanged for an equal number of shares in the merged entity, while Tanabe shareholders will receive 0.55 shares in the new company for each Tanabe share held. The stock ratio is based on current market prices for the two companies, but since Taisho's stock price has been falling and Tanabe's rising, it favors Tanabe. (The deal terms allow for the ratio to be changed, however, if both sides agree). Under the new structure, Tanabe will absorb Taisho's small prescription business, freeing up Taisho to focus on OTC and to take on Tanabe's more limited OTC operations.

Allowing the companies to focus on their core strength makes sense. Although the merger won't solve the pipeline problem, it will lead to a combined R&D budget of $430 million (¥50 billion), more than double Tanabe's. There may even, eventually, be small efficiency gains, although a spokesman at Tanabe plays down the prospect of significant job losses. The move also gives the combined company more clout in the domestic market as increasing numbers of non-Japanese firms, facing challenging growth prospects elsewhere, try to penetrate the world's second largest market. They're being helped as protectionist barriers fall—most significantly, Japan now accepts foreign clinical trial data (as long as it comes with a "bridging study" demonstrating relevance to Japanese patients) and the country's economic situation has made it easier for foreign companies to hire talented sales forces. As a result, points out Deutsche's Ward, "Even large companies in Japan are now being outgunned by Western companies." GlaxoSmithKline PLC and Pfizer Inc. have more sales people in Japan than two of the leading local players, Takeda and Shionogi & Co. Ltd. Newly merged Mitsubishi/Welfide now tops the chart.

The increasing Western presence in Japan has added to the pressure on local companies, for their part, to look beyond national borders for growth—most particularly, to the US. "This [merger] is just a start," explains Yoshio Yano of International Pharma Consulting in Kamakura City, Japan. "The next stage will be to build up an international presence." In this regard, the merger doesn't appear to help Tanabe or Taisho much, other than perhaps giving them some extra economic strength to use in bootstrapping themselves overseas. Neither have significant operations in the US.

Tanabe and Taisho aren't unusual. Sankyo Co. Ltd. , Daiichi Pharmaceutical Co. Ltd. , Eisai Co. Ltd. , and Chugai Pharmaceutical Co. Ltd. all have US subsidiaries, but little US marketing and sales infrastructure.

In the past, they simply outlicensed their drugs. But over the last half-decade, Japanese companies have been using their later-stage drugs, and Big Pharma's appetite for them, to drive better deals which give them at least a marketing presence in the US. Takeda is the most spectacular example, the only one of Japan's top ten players to have established a significant name outside Japan, first via TAP Pharmaceutical Products Inc. , its 1977 joint venture with Abbott Laboratories Inc. More recently, Takeda America, set up in 1993 after Abbott refused to let Takeda buy full control of TAP, is co-promoting pioglitazone (Actos) with Eli Lilly & Co. Less spectacularly, Eisai is, in a small way, involved in Pfizer's marketing of its acetylcholinesterase inhibitor Aricept for Alzheimer's—Eisai's name is on the label and the company has some promotional duties. Sankyo, which had entirely licensed away its rights to pravastatin (Pravachol), thought better of the idea in its next major deal, recrafting its licensing agreement with Warner-Lambert Co. on troglitazone (Rezulin) to give it a big stake in the product's marketing. But that joint venture suffered a fatal blow when Rezulin was withdrawn from the market; Sankyo then bought out the joint venture. More recently, GSK and Shionogi agreed to co-promote and share the profits from five drug projects (one from GSK, four from Shionogi) in the US and Europe.

Tanabe's international dealmak-ing has been less aggressive: it has by and large continued to stick with the outlicensing formula. Last year it outlicensed three early-stage drug compounds: a diabetes drug to J&J an integrin antagonist to GSK; and a product for erectile dysfunction to Vivus Inc. This year it outlicensed four further compounds to GSK. The merger won't change this strategy. "Tanabe has a long history of finding innovative products," contends company spokesman Yoshi Saso, "but we will carry on giving our drugs to overseas companies, as they can develop them faster," he explains.

Mergers between Western and Japanese companies are an obvious solution to both parties' dilemma, effectively trading access to each others' markets. Indeed, GSK and Bristol-Myers Squibb Co. reportedly approached Tanabe last year with collaboration proposals involving the Western companies taking a 30% stake. Last year, Belgium's UCB Group took over the pharmaceuticals business of Fujirebio Inc. , and Schering AG acquired Mitsui Pharmaceuticals Inc. (a division of Mitsui Group ).

Yet despite Japan's increasing openness, the Japanese still don't take kindly to acquisitions by foreign groups (indeed, foreign majority ownership of Japanese companies was prohibited until the 1970s). Notes Yoshio Yano: "If they do have to merge, they prefer to do so with another Japanese company." And Western firms worry that taking over Japanese companies risks undermining their relationships with doctors—the key franchise that would make an acquisition valuable in the first place. The GSK/Shionogi deal, says Ward, "is the nearest GSK could come to a full merger."

Still, no one believes that intra-Japan deals like Tanabe/Taisho will solve the long-term difficulties of such struggling companies. Yet the fact that Tanabe and Taisho are getting together at all suggests a dose of realism has come to Japanese boardrooms, where, until now, most managers have silently hoped that time, rather than mergers, will heal their ills.