Why Investors Needn’t Fear the ‘Patent Cliff’

by Beth Gaston Moon | March 16, 2012 8:00 am

Why Investors Needn’t Fear the ‘Patent Cliff’

Cliff 300x131 Why Investors Needn't Fear the ‘Patent Cliff’[1]Used among health care and biotech firms, the phrase “patent cliff” might sound melodramatic, but it’s for good reason. Sales of brand-name medications have been known to drop as much as 90%[2] within a few years of their patents expiring. Generic competition moves in and the majority of consumers naturally flock to the more affordable choice[3].

Think about it in terms of the simple lemonade-stand analogy. Let’s say you make the only lemonade in town (nay, on the planet) that both tastes good and improves the disposition of anyone drinking it. Suddenly, your secret family recipe is unleashed upon the world and anyone can whip up a batch. You are likely to lose some business, especially if the stand down the street can make very similar lemonade a lot cheaper.

In 2012, a handful of drug companies (and their shareholders) are preparing for the impact of patent expiration. Among them:

The good news when it comes to the “patent cliff” is that it can be planned for. Companies, analysts and shareholders are painfully aware of the impact and can prepare accordingly. Some companies look for acquisition targets to add more potential drugs to their pipelines or become more aggressive with their own in-house R&D efforts. Others focus on cost-cutting measures.

For investors, playing the patent cliff can turn into a “buy the rumor, sell the news” scenario, as investors adjust their portfolios in advance of any patent expiration. As a result, the impact on expiration day itself can be minimal.

Take FRX, for example, which bid adieu the patent of its top-selling drug Wednesday. TEVA quickly swooped in, nabbing the rights[11] to sell the first generic version of the antidepressant. FRX lost all of one penny during the session and is actually up 12% on a year-to-date basis.

If you are holding one of these stocks, you might want to look into what company officials are planning for their post-patent life. With the right strategy, it’s certainly possible to bounce back (or even thrive) after a drop from the patent cliff.

Take the example of Pfizer (NYSE:PFE[12]). It lost the patent for Lipitor — the world’s best-selling drug — in November. In preparing for this big change, Pfizer altered its sales model[13] for the cholesterol-lowering medication, focused efforts on other drugs in its pipeline and partnered with pharmacy benefit managers (PBMs).

PFE shares hit a short-term bottom at the end of November and have subsequently rallied almost 20%.

As of this writing, Beth Gaston Moon did not hold a position in any of the aforementioned securities.

Endnotes:
  1. [Image]: http://investorplace.com/wp-content/uploads/2012/03/Cliff.jpg
  2. have been known to drop as much as 90%: http://www.bloomberg.com/news/2011-08-05/novartis-has-blockbuster-diovan-plans-after-patent-expires-1-.html
  3. naturally flock to the more affordable choice: http://www.npr.org/blogs/health/2011/10/24/141596137/big-name-drugs-are-falling-off-the-patent-cliff
  4. FRX: http://studio-5.financialcontent.com/investplace/quote?Symbol=FRX
  5. AZN: http://studio-5.financialcontent.com/investplace/quote?Symbol=AZN
  6. TEVA: http://studio-5.financialcontent.com/investplace/quote?Symbol=TEVA
  7. SNY: http://studio-5.financialcontent.com/investplace/quote?Symbol=SNY
  8. BMY: http://studio-5.financialcontent.com/investplace/quote?Symbol=BMY
  9. MRK: http://studio-5.financialcontent.com/investplace/quote?Symbol=MRK
  10. NVS: http://studio-5.financialcontent.com/investplace/quote?Symbol=NVS
  11. nabbing the rights: http://www.bloomberg.com/news/2012-03-14/teva-wins-fda-approval-for-first-generic-lexapro-for-depression.html
  12. PFE: http://studio-5.financialcontent.com/investplace/quote?Symbol=PFE
  13. altered its sales model: http://beta.fool.com/summertime2/2011/11/27/how-big-deal-patent-expiration-just-ask-pfizer/24/

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