Merck's Verona Acquisition: Plugging A $4B Hole In A $20B Gap
Merck's recent acquisition announcement sends a strong signal regarding its urgency to tackle the impending Keytruda patent cliff. The pharmaceutical leader has made an agreement to acquire the COPD drug manufacturer Verona Pharma for $10 billion, adding yet another potential blockbuster to its expanding collection of post-Keytruda assets.
The Verona Deal: What Merck Gets
Verona Pharma's most valuable asset is Ohtuvayre, an inhaled medication for chronic obstructive pulmonary disease that received FDA approval in June 2024. With anticipated peak annual sales of $4 billion, the drug is a significant addition to Merck's revenue diversification strategy. This acquisition was expected given our earlier analysis underscoring Merck's urgent need to address the Keytruda patent cliff set for 2028. Additionally, see – ProKidney: What's Happening With PROK Stock?
The Math Still Doesn't Add Up
Although this acquisition signifies progress, it's evidently insufficient to resolve Merck's fundamental issue. The company anticipates a potential $15-20 billion decline in Keytruda's sales as biosimilar competition enters the market. Even if Ohtuvayre achieves its peak sales forecast, this acquisition is expected to generate only $3-4 billion in annual revenue contributions, covering roughly 20% of the anticipated Keytruda decline.
The Bigger Picture
This deal aligns with Merck's broader diversification strategy, which incorporates the promising Winrevair for pulmonary arterial hypertension and a robust pipeline of 20 potential blockbuster drugs with a combined potential of $50 billion. The company has shown its readiness to invest capital aggressively, following prior acquisitions such as the $11.5 billion Acceleron purchase and the $680 million Harpoon Therapeutics deal.
Nevertheless, the overall impact of these actions still seems inadequate to completely counterbalance the eventual decline of Keytruda. While Merck has built a solid pipeline and commenced new product launches, the timeline remains tight and the revenue gap significant.
The Investment Reality
For Merck stock to experience substantial growth, the company must assure investors that it has a thorough solution to not only mitigate the effect of Keytruda biosimilar competition but also to achieve sales growth even after the patent expiration. That level of assurance does not appear to be materializing at this time. For context, Merck stock has decreased by 16% year-to-date, lagging behind the broader S&P 500 index, which has risen by 7%, and several of its peers such as Johnson & Johnson and AbbVie, both of which have increased by 6%
The acquisition of Verona Pharma is a step forward, yet it also underscores the scale of Merck's challenge. At $10 billion for a drug with $4 billion peak sales potential, the company is investing in assets that provide only partial remedies to a significant revenue gap.
Looking Forward
Merck's acquisition strategy reflects management's understanding of the Keytruda cliff and their determination to address it. However, the company will require several more transactions of a similar scale, effective pipeline execution, and possibly some level of market expansion to completely substitute Keytruda's contribution. Until investors perceive a clearer trajectory for growth beyond 2028, Merck's valuation is likely to remain under pressure despite these strategic initiatives. For context, at its current price of around $85, MRK stock is trading at a little under 11 times its trailing adjusted earnings of $7.79 per share. This is lower than the stock's historical average price-to-earnings ratio of roughly 15 times. Of course, other factors are also influential, including slowing Gardasil sales in China. Additionally, see – Merck's Valuation Ratios.
In summary, the race against the 2028 patent cliff persists, and although Merck is putting forth significant effort, it remains uncertain whether the company can maintain its growth narrative. Merck's heavy dependence on Keytruda is a considerable concern for investors, as nearly half of the company's total sales are derived from this single product. This is precisely why sector diversification is a crucial factor we evaluate for our Trefis High Quality (HQ) portfolio. This strategic focus on achieving a balanced mix of companies across sectors has allowed the HQ portfolio to outperform the S&P 500, attaining returns exceeding 91% since its inception.
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