“The more things change, the more they remain the same.”
So said the 19th century novelist and journalist Alphonse Kerr. That man would probably be astounded to see how many others have used that simple quote to explain profound occurrences across many aspects of business and of life.
The nature of the consolidation that took place across the outsourcing industry in 2005 was different in many respects from that experienced in the preceding 12 months. Yet, while the names of the participants changed, their motives, perspectives, perceptions, and philosophies were very similar to those of the companies who found merger partners in 2004.
Any way you measure it, overall consolidation activity was robust in 2005.
• The companies we track were involved in more than 70 separate mergers or acquisitions, about double the number we reported for 2004 in the January/February 2005 issue of Contract Pharma. That 2004 total was meaningfully higher than the numbers we recorded in 2003 (a dozen) and 2002 (19), although in those years we were not quite as inclusive in our definition of outsourcing as we have been in the past two years.
• It’s important to recognize that 2005 was the second straight year of strong financial performance for most companies in the outsourcing business, following the slowdown in revenue and earnings growth rates experienced in late 2002 and early 2003.
• The past 12 months were also characterized by a mini-boom in total M&A activity; we estimate full-year results will show total transactions worth approximately $3.0 trillion. This volume would be almost 60% greater than the 2004 transaction volume of $1.9 trillion. That figure, in turn, was marginally better than the completed deal volumes of $1.3 trillion and $1.2 trillion recorded in the troubled years of 2003 and 2002, respectively.
At Contract Pharma’s Contracting and Outsourcing Conference last September, we discussed a few major trends that characterized the M&A activity of 2005:
• Diversification
• Extension and Growth
• Private Equity Funding.
We did not identify those trends a priori at the beginning of the year, but distilled them only after examining the number and nature of transactions that were proposed and/or consummated in the first half of the year. At this writing, there are only a few weeks left in the year. It’s an appropriate time to comment on several themes that emerge from a closer look at the consolidation activity across the entire year. In so doing, we’ll examine a bit more closely many particularly meaningful business combinations that gave rise to our identification of those trends. Following our custom, we will also preview some of the consolidation activity we envision for 2006.
As a reminder, in 2004 we saw:
• Charles River Laboratories expand its preclinical business and enter the clinical arena with the acquisition of Inveresk,
• SFBC International enter the Phase II-IV trials business by buying PharmaNet,
• United Biosource establish its evidence-based platform company with three separate acquisitions, and
• Patheon Inc. put a major stake in the commercial contract manufacturing area with the acquisition of MOVA Pharmaceutical.
There were several transactions in 2005 we consider to be particularly meaningful, but we’ll leave it to the future to help determine whether the label “transformational” really fits.
Aptuit, Inc. raised an initial $150 million from the private equity firm Welsh, Carson, Anderson & Stowe. Chief executive officer Michael Griffith, chief operating officer Frank Wright and chief financial officer Jon Tropsa were the core management team that ran Chirex Inc. in the late ‘90s. That company’s services included contract process R&D and contract manufacturing of active pharmaceutical ingredients (APIs). In mid-2000, Rhodia acquired it for about 3.7x revenue. In the third quarter of 2005, Aptuit completed the acquisition of the Preclinical Services, Pharmaceutical Sciences, and Clinical Trials Supplies business units from Quintiles; it also acquired the clinical trial supply services company Almedica International from its private ownership group.
Thus, Aptuit entered 2006 with an annual revenue base of approximately $225 million, facilities in the U.S., UK, and Asia, and more than 1,400 employees. In November, the company also agreed to acquire InfoPro Solutions, which provides industry standard IT systems and services to drug development firms from its locations in the U.S., Europe and India. Based on the track record of its founders, we suspect Contract Pharma readers will be hearing more about Aptuit in the coming months.
In 2004, Fisher Scientific made a fundamental improvement to its business when it used $3.9 billon worth of stock to acquire Apogent Technologies, and $410 million of cash to acquire Oxoid Group Holdings and Dharmacon, Inc. All three companies were providers of high-margin specialty products that brought greater profitability to this old-line distribution firm. In 2005, it sought to differentiate itself from other distribution competitors by using $250 million of cash to acquire McKesson BioServices, Lancaster Laboratories and Cellomics Inc. These acquisitions have boosted the revenue base of the Fisher Clinical unit to an estimated level of $300 million. It is clearly the leader in providing clinical packaging and distribution services, and one that can also offer laboratory service performed concomitantly with clinical development programs. Moreover, it the only participant in those areas that also provides customers with a full assortment of laboratory products and supplies. Having this unusual breadth of capabilities should enable the company to leverage all its relationships to the benefit of Fisher’s various business units and the detriment of smaller, less broadly-based competitors.
In last year’s consolidation review, we noted the emergence of CRC Development into a $20 million CRO, following the consummation of its third acquisition in three years. In 2005, management renamed the company Premier Research Group, and made additional acquisitions in Germany (EPA Euro Pharma) and the U.S. (PharmData). Annualized revenue now stands at more than $30 million, spread across the U.S., UK and Europe, and making the company an interesting mid-sized CRO to watch. Premier completed a public flotation of stock on the Alternative Investment Market (AIM) of the London Stock Exchange in December 2004, and has been able to use both cash and stock to finance its expansion. By the way, this company’s success suggests the basic fallibility of the years-old idea that there would no longer be a future for a mid-sized CRO.
In October, Clinical Data, Inc. (CLDA) completed the acquisition of Genaissance Pharmaceuticals (GNSC). In doing so, it became the first traditional diagnostics company to make a major investment in the molecular diagnostics arena.
CLDA markets clinical chemistry and hematology instrumentation, diagnostic assays, and consulting services to clinics, small hospitals and physician office laboratories. GNSC develops products based on its proprietary pharmacogenomic technology. It currently markets two clinically relevant molecular diagnostic tests. GNSC now has a streamlined path to various marketplaces for its new products, and CLDA has a potential pipeline of new products to differentiate itself from other diagnostic suppliers. We have always been intrigued with the promise of personalized medicine, and will watch closely to see if management can use GNSC’s scientific platform to make CLDA a more successful commercial enterprise.
In 2004, Ventiv Health expanded beyond its traditional contract sales business with three acquisitions in clinical staffing/recruiting (Smith Hanley), biostatistics and data management (HHI Services), and pharmaceutical compliance services (Franklin Group). In 2005, it continued to expand by purchasing another provider of compliance management and support services (Pharmaceutical Resource Corp.), and a healthcare marketing and communications firm (inChord Communications). We would definitely characterize the effect of all the company’s acquisition activity during the past 24 months as transformational. In 2006, Ventiv should generate generate less than 40% of its revenue and operating profits from its traditional contract sales activities. It entered the year with a broad-based advertising, marketing, and communication platform, dedicated to serving the needs of the pharmaceutical industry, and built to withstand temporary disruptions in the contractual flow of one aspect of its business. Other outsourcing firms should be jealous of the solid strength of this business platform.
We would be remiss in not discussing several company-transforming divestitures that also occurred last year.
In July, AAIPharma sold its Pharmaceutical Division to Xanodyne Pharmaceuticals. From 2001 to 2003, AAI had used acquisitions to build a drug business whose annual sales to-taled more than $119 million. (Its CRO activities approximated $80 million in that year). Throughout 2004, the company experienced severe problems with its inventory and distribution system, as well as with competition. It underwent several management changes, and eventually decided to exit the drug business and concentrate solely on its CRO service business. The company filed for protection under Chapter 11 of the U.S. Bankruptcy Code in May 2005. At this writing, it is still operating as a debtor-in-possession under the jurisdiction of the Bankruptcy Court. In early November, management filed a plan of reorganization.
In September, MDS Inc. announced a significant restructuring of its business across the global life sciences market. Chief executive officer Stephen DeFalco, who had taken office in July, announced plans to divest non-core businesses in diagnostics, medical supplies and distribution, and venture capital. He also announced the company’s intention to sharpen the focus of the MDS Life Sciences division by closing three sites, divesting the bio-safety and pharmaceutics units, and purchasing a preclinical pharmacology business. In November, the company took the first tangible step in implementing this program, with the sale of its interest in the Source Medical distribution company to its partner Cardinal Health. MDS has long had a most unusual business mix both in its life sciences division (consisting of both CRO services, and hi-tech capital equipment) and across the company (with its presence in diagnostics and medical supplies distribution). It could be several quarters before the remainder of the restructuring plan is complete.
As already noted, last July, Quintiles Transnational sold its Preclinical Services, Pharmaceutical Sciences, and Clinical Trials Supplies business units to Aptuit, Inc. for $125 million in cash, i.e. about 0.7x revenue. In 2004, the company had sold its specialty dermatology products company Bioglan Pharmaceu-ticals to Bradley Pharmaceuticals for $183 million in cash. An October 2005 transaction did not involve the sale of a unit, but in raising $250 million of debt to fund its new Duloxetine Royalty Sub., Quintiles was able to pay down the remaining $154 million of its outstanding term loans. Since using $1.8 billion of cash, stock and debt to take the company private in September 2003, Quintiles has recorded strong revenue and profit growth in its Product Development and Commercializa-tion segments. The company has used its cash flow and the proceeds of its asset sales to repay all of the $325 million in term debt it acquired in financing the privatization transaction. It currently has cash and equivalents of $493 million and long-term debt of $450 million, represented by 10% Senior Subordinated Notes due in 2013.
In each of the past several years, we have seen examples of U.S.-based companies acquiring firms overseas, and European, Asian, and Japanese companies establishing or expanding their presence in the U.S. and other countries outside their own headquarters territory. The past year was marked by a continuation of this trend.
The following U.S.-based firms concluded acquisitions in Europe or Asia.
In addition, internationally-based firms such as Dishman Pharmaceuticals and Chemicals, LAB International, MDS Inc., and QIAGEN have used the acquisition route to expand geographically.
There were, however, several transactions that represented a break with tradition, or that were more strategically important and financially material than most others.
The most obvious break in tradition saw India-based Jubilant Organosys acquire the NY-based Target Research Associates in October. This followed by only three months Jubilant’s acquisition of a 64% stake in Trinity Laboratories and its wholly owned subsidiary Trigen Laboratories. Target Research provides a full range of clinical research services. Trinity/Trigen is a generics pharmaceuticals company with a portfolio of approved and developmental ANDAs and a 60,000-sq.-ft. cGMP manufacturing facility in Maryland. Jubilant describes itself as a composite pharmaceutical industry player, with the largest Custom Research and Manufacturing Services (CRAMS) business in India. Its two recent acquisitions will augment its pharmaceutical development and clinical research business units. In 2004, Jubilant acquired two related generic pharmaceutical firms in Belgium. In fiscal 2006 (ending March 31) this publicly-traded firm should generate annual revenue in excess of $300 million, with its Pharmaceutical and Life Sciences segment contributing close to 50% of that total. Jubilant is likely to continue expanding internationally, even while optimizing its business prospects with the increasing number of drug development firms intent on doing more business in India.
Another acquisition involved a large Indian-based company. Bilcare Limited provided its drug development customers with more than $30 million worth of integrated packaging designs, systems and materials in the fiscal year ended March 31, 2005. In July, it acquired ProClinical Inc., a pharmaceutical services and packaging company based in suburban Philadelphia, PA, thus establishing its first manufacturing facility in the U.S. It serves customers around the world from this and other facilities in India, Singapore, Brazil, and Germany.
We have already noted the expansion of Premier Research Group. In early 2004, UK-based CRC Development roughly doubled its size with the acquisition of PA-based Premier Research. Later that year, CRC adopted the Premier name as it completed a public flotation of shares on the Alternative Investment Market of the London Stock Exchange. We expect this mid-sized CRO to continue growing by acquisition in 2006—and believe it will continue to expand beyond the borders of the countries in which it now operates.
Over the years, only a handful of drug companies have acquired outsourcing firms. More specifically they have acquired the technical capabilities embodied in small outsourcing firms. In February 2005, Takeda Pharmaceutical in Japan continued this trend with the acquisition of Syrrx Inc. Syrrx uses its high-throughput X-ray crystallography capabilities to determine the three-dimensional structures of selected drug targets, then uses that knowledge to designing potential drug candidates. Takeda has integrated those technologies into its own R&D pipeline, even while continuing several rational drug design projects with other pharmaceutical development organizations.
Finally, as the reader must know by now, the proposed acquisition of the U.S.-based information solutions company IMS Health by the Dutch publisher VNU NV was terminated in November, following the announced opposition of the acquiring firm’s major shareholders.
More than half of the consolidation transactions that occurred in 2005 were completed by buyers that wanted to expand their existing business in some way. Most buyers sought “breadth,” trying to enhance their current list of offerings. Others sought “depth,” preferring to build a stronger position in their already established business categories. Using this path to growth can be more effective than growing organically, particularly if it enables a company to add customers and competent managers.
In the preceding sections, we commented on many transactions that support the expansionary aims of the buyers. Here we present some specific information about some additional transactions. All were important, but none seemed as meaningful as the ones we discussed earlier.
• Accelovance expanded its presence in the site operation/ management business with the purchase of the assets of nTouch Research. The company now operates 10 clinical sites in the U.S. It provides Phase II-IV clinical trial services that include investigator selection, patient recruitment and study management services for pharmaceutical, contract research organization (CRO), and biotechnology industries. The company’s second mission is to form partnerships to take advantage of the growing medical research market in China. It recently opened its second site in that country.
• Over the years, the Battelle Memorial Institute has built a $150 million business under its Health and Life Sciences Division. With the acquisition of Carestat, Inc. (renamed Battelle CRO Inc.) that organization greatly enhanced its clinical trials service capabilities. When combined with other resources, this unit will enable Battelle to provide a full range of services to support its government and industrial clients as they pursue various types of healthcare product development projects.
• While still focusing on internal expansion for most of its growth, Covance Inc. returned to the list of acquiring companies with the purchase of GFI Clinical Services. That former unit of West Pharmaceutical Services has 80 Phase I beds and 100 employees in Evansville, IN.
• Dendrite International enhanced its presence in sample compliance management and privacy-safe database marketing with the acquisitions of BuzzeoPDMA Inc. and Optas, Inc., respectively. Both are important components of the company’s shift from being just a provider of sales force effectiveness tools to one offering solutions to enhance the effectiveness of marketing, sales and clinical trial programs.
• In a pending transaction that will involve the issuance of stock, publicly-owned CEA Acquisition Corp. will acquire eTrials Worldwide from its private owners. Shareholders of eTrials will own approximately 60% of the new company’s outstanding shares, and will act as operational and executive management. Thus, eTrials will join Datatrak, eResearch Technology, and Phase Forward in competing for investor attention in the still evolving EDC segment of outsourcing.
• In its own attempt to move from being a simple provider of information into one with capabilities in analytics and consulting, IMS Health acquired PharMetrics. That firm tracks the longitudinal health history of health plan participants. Its combination with IMS will provide healthcare stakeholders with integrated data on pharmaceutical and medical service usage.
• Phase Forward extended its range of E-products with the acquisition of Lincoln Technologies. Lincoln has developed a system for monitoring large databases to look for safety issues. This pharmacovigilance capability seems complementary to the Clintrace AER system already sold by Phase Forward.
We’ll end this report by repeating what we wrote at the beginning. The more things change, the more they remain the same. We expect to see more consolidation in 2006.
• Full service CROs still want to increase their business in specific service categories
• Manufacturing service firms want to serve more needs of mid-sized drug companies and those manufacturing biologics.
• Firms of all sizes and stripes need to prune non-strategic or otherwise inappropriate business operations.
• Providers of E-services need to offer more complete product suites and not just point solutions.
• Private equity firms will continue to support the emergence of new, highly-focused industry participants.
• Valuations (a subject we have not discussed much this review) will remain reasonably good, but will continue to depend heavily on the historic and anticipated performance of the target and the urgency of the buyer.
• Integration will continue to be ignored by most observers of the M&A transactions list, but will continue to separate the true winners from those acquirers that just build a bigger business, not a better one.
We end by repeating the last sentence, still appropriate, from our Industry Consolidation article in the January/ February 2005 issue of Contract Pharma: “We think it would be naïve to ignore the influence that another tough year for the drug industry could have on our expectations for continuing consolidation in the pharmaceutical outsourcing business.”
Michael A. Martorelli is a Research Partner at the investment banking and capital advisory firm Fairmount Partners. For additional commentary on the topics covered in this article, contact him at michael.martorelli@fairmountpartners.com.
