THE UPJOHN COMPANY: A STRATEGIC ANALYSIS This research analyzes the strategic situation at the Upjohn Company in mid-1995

. The Upjohn Company is headquartered in Kalamazoo, Michigan. The company (1) ma nufactures pharmaceutical and agricultural products, and (2) provides health car e services in both the United States and in foreign markets (Rho 1278). In mid-1 995, the firm employs approximately 16,900 persons (down approximately 20 percen t from five years earlier), and has approximately 46,620 stockholders. About 16 percent of the firm's outstanding common stock is closely held (down from approx imately 30 percent five years earlier). The individuals primarily involved in th e closely held shares are members of the Upjohn family. In mid-1995, Upjohn, along with Merck and Lilly, is a leader in pharmaceutical r esearch in the United States (Rho 1278). Research and development expenditures c onsume 18.2 percent of Upjohn's revenues (up approximately 30 percent from five years earlier). Management Problem Identification The pharmaceutical industry in the United States in mid-1995 generally is financ ially healthy (Rho 1250). Profitability projections for the companies competing within the industry, however, are mixed. The Upjohn Company, while profitable, i s not experiencing profitability growth over the preceding year, and the company is beset with on-going legal liability actions lodged by consumers (Rho 1278). Upjohn has traditionally sought and gener harmacia & Upjohn will be a powerful new competitor in the global pharmaceutical industry. For both Pharmacia and Upjohn, this merger is a bold strategic move t o build a highly competitive company as the worldwide pharmaceutical industry co ntinues to consolidate. The new company will be positioned to attain its goals o f revenue growth above the industry average and operating margins exceeding 25% by 1998. Jan Ekberg, President and CEO of Pharmacia Proposed Chairman of Pharmac ia & Upjohn This is a merger that truly constitutes far more than the sum of the parts. The new company will be able to take full advantage of uniquely compleme ntary geographic reach, product portfolio, pipeline and R&D strengths. As a resu lt of the merger, Pharmacia & Upjohn will have extensive financial and operating resources, market scope and earnings potential. Consequently, we fully expect t he new company to achieve additional growth in expected 1996 EPS as well as acce leration of future earnings growth. Above all, Pharmacia & Upjohn is expected to generate significantly enhanced value for shareholders. John L. Zabriskie, Ph.D ., Chairman and CEO of Upjohn Proposed President and CEO of Pharmacia & Upjohn O n August 20, 1995, The Upjohn Company and Pharmacia AB, two pharmaceutical compa nies incorporated in the U.S. and Sweden, respectively, announced that they were forming a merger of equals. With combined sales of nearly $7 billion, the new com pany would be the ninth largest pharmaceutical company in the world. Management and major shareholders alike seemed excited by the deal. William U. Parfet, grea t-grandson of founder W. E. Upjohn and a company director, stated, We recognize w ere being distanced from our heritage, and that tugs at you, but this is absolute ly the right thing for Upjohn to do in todays environment, and John Zabriskie is really the key.1 P 15 Mergers and... Upjohn Merger Case Analysis INTRODUCTION The 1990s saw a highly fragmented pharmaceutical industry with many competitors. The top ten firms in pharmaceutical sales held 28% market share in mid-1995. The top 50 firms held just over 60 percent. Changes were occurring in the pharmaceu tical industry in the 1990s. With pharmaceutical benefit management (PBM) firms w orking to reduce costs, pharmaceutical firms held less power. PBMs sought to red uce the number of supplier firms by only purchasing from the largest firms and r

equiring doctors to prescribe drugs from approved lists called formularies. Many pharmaceutical firms saw mergers as a means of reducing costs and increasing ma rket share. On August 20, 1995, two pharmaceutical companies by the names of Upj ohn Company and Pharmacia AB announced that they were forming a merger of equals. Upjohn Company, incorporated in the U.S., and Pharmacia AB, incorporated in Swed en, would combine to form the ninth largest pharmaceutical company in the world. PHARMACEUTICAL INDUSTRY: PRE-MERGER The pharmaceutical industry at the time of the case was very attractive. The att ractiveness of this industry can be determined using Porters Five Forces, a model for industry analysis. This model looks at barriers to entry, supplier power, t hreat of substitutes, and buyer power as they relate to industry rivalry. BARRIERS TO ENTRY The pharmaceutical industry has high barriers to entry. A company should expect to spend up to 15 years and up to $600 million to bring a new drug to market. On average, only one out of every 10,000 tested compounds becomes an approved drug . If a drug does make it to market, there is only a thirty-percent chance that r evenues from the drug will exceed R&D costs. Based on these industry averages, a new firm hoping to enter the pharmaceutical industry should be prepared to dish out at least $600 million, without seeing an income for 15 years. It would be h ard for a new entrant to obtain the capital necessary for this endeavor with lit tle certainty as to if they will ever be able to pay it back. Further barriers t o entry are probable in the future. The economies of scale created by the curren t consolidation occurring in the pharmaceutical industry will be hard to match. SUPPLIER POWER Suppliers to the pharmaceutical industry hold some amount of power in the pharma ceutical industry. The most important suppliers are those of intellectual resour ces. Companies employ thousands of scientists and physicians who are usually spe cialists in specified fields. Salaries expected by scientists and researchers ra nge from $100,000 to $5 million. In an increasingly technological world, new tec hnologies are readily available. In addition to intellectual suppliers, the only power would be from suppliers of advanced equipment and any compounds that cann ot be created in-house. THREAT OF SUBSTITUTES Substitutes for the medications created by the pharmaceutical industry are slim to none. The consumers of their products are those that are ill. The only way to treat a disease or other medical condition is through medication or hospitaliza tion. In the cases where medication is a viable option, the consumer is likely t o choose that option, as hospitalization or surgery are much more expensive, pai nful, and dangerous. Also, in most cases where hospitalization or surgery is nec essary, medications will still be used as a supplement. BUYER POWER The main pitfall of the pharmaceutical industry in 1995 was the power of the buy ers. A change was occurring, shifting the power from the industry to the buyers. This shift was due to the increasing formation of PBMs that were demanding lowe r costs for bulk purchases. These PBMs and individual plan administrators made a pproved lists, or formularies, for doctors to prescribe from. Exclusion from the se lists was practically a death sentence to a pharmaceutical firm, limiting pos sible buyers. RIVALRY Rivalry in the pharmaceutical industry at this time was at a good level. As stat ed before, the industry has low concentration, consisting of numerous firms. No one firm has significant market share. This allows existing firms the opportunit y for success. A firm is also only given market exclusivity on a newly developed drug for approximately 10.2 years, or as long as the patent lasts. After this t ime, other pharmaceutical firms are allowed to duplicate the drug as a generic b rand. This regulation on drugs insures that no one company will have an unfair a dvantage in gaining dominance in the industry.

UPJOHNS STRATEGY: PRE-MERGER Prior to its merger with Pharmacia, Upjohn operated in several market segments, ranking as the nineteenth largest pharmaceutical company in the world. Pharmaceu tical products were divided into the areas of central nervous system; steroids, anti-inflammatory and analgesic; reproductive and womens health; critical care, t ransplant and cancer; infectious disease; and metabolic. Upjohn also had signifi cant bulk pharmaceutical chemical sales and was the worlds ninth largest producer of animal pharmaceuticals. The problems Upjohn faced were the same as other pharmaceutical companies. They were a mid-sized firm in an industry where success was given more to larger comp anies and small innovative companies. Cost conscious buyers were putting pressur e on pharmaceutical companies to reduce prices and preferred to deal with larger companies that they could buy a larger variety of products from. Upjohn was als o running into problems with its patents expiring. They were hit hard by the los s of patent protection on four of their major drugs. One such drug was Xanex, an anti-anxiety/panic disorder medication that had held the ranking of Upjohns numb er one seller. With the loss of the patent protection other companies were able to produce generic versions of the drug. Upjohn produced its own generic version of its original drugs in order to maintain a portion of its prior sales. In the case of Xanex, they were successful in maintaining eighty-percent volume sales through the introduction of a generic version. Upjohn was also lacking in international sales prior to its merger with Pharmaci a. At this time there were more opportunities for sales growth overseas than in the highly competitive U.S. market, however Upjohns European sales were only onethird of its U.S. sales. Along with the need to expand overseas, at this time Up john was faced with a weak product development pipeline. With several major prod ucts losing patent protection, Upjohn needed new products to make up for that lo ss in revenue. While it had several compounds in the works, none of theses new d rugs were expected to be blockbusters. On a positive note, Upjohn had cut in half the time necessary to move a product through the R&D stage. Upjohn saw some strategy improvements after the hiring of John Zabriskie as the new CEO in 1993. Zabriskie aimed to improve Upjohns performance through a number of new initiatives. Under Zabriskie the firm aimed to cut costs, especially in m arketing and administration and reduce the workforce by about 1,300 people. Anot her initiative to enhance performance was to sell off unnecessary activities, su ch as the Asgrow Seed Company and part interest in a chicken-breeding venture. C onsolidation was the key to success at this time. Sixteen divisions were reduced into three R&D, manufacturing, and marketing. Upjohn took on a business level strategy, opting to differentiate product lines w ithin the pharmaceutical industry and increase sales by reducing costs on origin al drugs through the creation of generics. They were seeking to integrate horizo ntally, merging with a similar firm in the same industry. Other pharmaceutical f irms opted for a corporate-level strategy, seeking vertical integration over hor izontal. They diversified by merging with or acquiring firms that could offer th e capabilities needed in a pharmaceutical firms production and operations. UPJOHN-PHARMACIA MERGER In the 1995 pharmaceutical world, a merger between Upjohn and Pharmacia seemed l ike a logical decision. The pharmaceutical industry as a whole was seeing a larg e amount of consolidation. Buyers were now turning their attentions towards the large pharmaceutical firms that could offer them a variety of products at a low bulk price. The highly competitive U.S. market was forcing growth potential towa rds the international market. With less patent protection time leading to increa sed competition from generic versions of original drugs, firms needed a stronger product pipeline in order to survive. Although part of a strong industry, Upjoh n needed to make some changes to its strategy in order to remain successful. The proposed merger with Pharmacia would solve all of the aforementioned strateg y issues. The consolidation of the two companies into one would give the new fir m more resources. Economies of scale would lead to cost synergies. Equipment, R& D, administrative, and marketing expenses could be pooled together to work for b oth companies. The brightest minds from both firms would come together to create

an executive team that is doubly successful. Together, Upjohn-Pharmacia would b e the worlds ninth largest pharmaceutical company, gaining market share and attra cting more attention from buyers who only wanted to deal with large firms. Pharm acia was also a European company with a large market share in that region. Combi ned with Upjohns success in the U.S. market, the merged company would be able to dominate the international market. Upjohn-Pharmacia would also be able to pool i deas. Great minds would come together to create even more successful products. T he product development pipelines of the two companies would allow for a greater number of successful product launches from which to achieve sales volume. CONCLUSION: PHARMACEUTICAL INDUSTRY POST-MERGER The merger of Upjohn and Pharmacia would alter the pharmaceutical industry in tw o ways. First, Upjohn-Pharmacia would become a strong force in the market. As th e ninth largest pharmaceutical company in the world, it will take market share a way from smaller firms. With double the experience and resources they would be a much stronger force to deal with, and a strong international force. Secondly, i f the merger were successful it would set a precedent for other firms hoping to increase market share. Other companies will be forced to consolidate in order to compete. The more companies that consolidate the more the industry is going to change. The future may see a completely different and perhaps stronger pharmaceu tical industry with the exponential consolidation of intellectual and physical r esources.