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Exam 4: Planning: Developing Business and Acquisition Plans: Phases 1 and 2 of the Acquisition Process

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Consolidation in the Global Pharmaceutical Industry: The Glaxo Wellcome and SmithKline Beecham Example By the mid-1980s, demands from both business and government were forcing pharmaceutical companies to change the way they did business. Increased government intervention, lower selling prices, increased competition from generic drugs, and growing pressure for discounting from managed care organizations such as health maintenance and preferred provider organizations began to squeeze drug company profit margins. The number of contact points between the sales force and the customer shrank dramatically as more drugs were being purchased through managed care organizations and pharmacy benefit managers. Drugs commonly were sold in large volumes and often at heavily discounted levels. The demand for generic drugs also was declining. The use of formularies, drug lists from which managed care doctors are required to prescribe, gave doctors less choice and made them less responsive to direct calls from the sales force. The situation was compounded further by the ongoing consolidation in the hospital industry. Hospitals began centralizing purchasing and using stricter formularies, allowing physicians virtually no leeway to prescribe unlisted drugs. The growing use of formularies resulted in buyers needing fewer drugs and sharply reduced the need for similar drugs. The industry’s first major wave of consolidations took place in the late 1980s, with such mergers as SmithKline and Beecham and Bristol Myers and Squibb. This wave of consolidation was driven by increased scale and scope economies largely realized through the combination of sales and marketing staffs. Horizontal consolidation represented a considerable value creation opportunity for those companies able to realize cost synergies. In analyzing the total costs of pharmaceutical companies, William Pursche (1996) argued that the potential savings from mergers could range from 15–25% of total R&D spending, 5–20% of total manufacturing costs, 15–50% of marketing and sales expenses, and 20–50% of overhead costs. Continued consolidation seemed likely, enabling further cuts in sales and marketing expenses. Formulary-driven purchasing and declining overall drug margins spurred pharmaceutical companies to take action to increase the return on their R&D investments. Because development costs are not significantly lower for generic drugs, it became increasingly difficult to generate positive financial returns from marginal products. Duplicate overhead offered another opportunity for cost savings through consolidation, because combining companies could eliminate redundant personnel in such support areas as quality assurance, manufacturing management, information services, legal services, accounting, and human resources. The second merger wave began in the late 1990s. The sheer magnitude and pace of activity is striking. Of the top-20 companies in terms of global pharmaceutical sales in 1998, one-half either have merged or announced plans to do so. More are expected as drug patents expire for a number of companies during the next several years and the cost of discovering and commercializing new drugs continues to escalate. On January 17, 2000, British pharmaceutical giants Glaxo Wellcome PLC and SmithKline Beecham PLC agreed to merge to form what was at the time the world’s largest drug company. The merger was valued at $76 billion. The resulting company was called Glaxo SmithKline and had annual revenue of $25 billion and a market value of $184 billion. The combined companies also would have a total R&D budget of $4 billion and a global sales force of 40,000. Total employees would number 105,000 worldwide. Although stressed as a merger of equals, Glaxo shareholders would own about 59% of the shares of the two companies. The combined companies would have a market share of 7.5% of the global pharmaceutical market. The companies projected annual pretax cost savings of about $1.76 billion after 3 years. The cost savings would come primarily from job cuts among middle management and administration over the next 3 years -How would you classify the typical drug company's strategy in the 1970s and 1980s: cost leadership, differentiation, focus, or hybrid? Explain your answer. How have their strategies changed in recent years?

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Historically, drug companies tended to p...

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A cost leadership strategy is most appropriate when pursued concurrently by a number of firms in the same industry with approximately the same market share.

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Corporate objectives are defined as what is to be accomplished within a specific period.

Nokia’s Gamble to Dominate the Smartphone Market Falters The ultimate success or failure of any M&A transaction to satisfy expectations often is heavily dependent on the answer to a simple question. Was the justification for buying the target firm based on a sound business strategy? No matter how bold, innovative, or precedent-setting a bad strategy is, it is still a bad strategy. In a bold move that is reminiscent of the rollout of Linux, Nokia, a Finnish phone handset manufacturer, announced in mid-2008 that it had reached an agreement to acquire Symbian, its supplier of smartphone operating system software. Nokia also announced its intention to give away Symbian's software for free in response to Google’s decision in December 2008 to offer its Android operating system at no cost to handset makers. This switch from a model in which developers had to pay a license fee to create devices using the Symbian operating system software to a free (open source) model was designed to supercharge the introduction of innovative handheld products that relied on Symbian software. Any individual or firm can use and modify the Symbian code for any purpose for free. In doing so, Nokia is hoping that a wave of new products using Symbian software would blunt the growth of Apple’s proprietary system and Google’s open source Android system. Nokia is seeking to establish an industry standard based on the Symbian software, using it as a platform for providing online services to smartphone users, such as music and photo sharing. According to Forrester Research, the market for such services is expected to reach $92 billion in 2012 (almost twice its size when Nokia acquired Symbian), with an increasing portion of these services delivered via smartphones. In its vision for the future, Nokia seems to be positioning itself as the premier supplier of online services to the smartphone market. Its business strategy or model is to dominate the smartphone market with handsets that rely on the Symbian operating system. Nokia hopes to exploit economies of scale by spreading any fixed cost associated with online services over an expanding customer base. Such fixed expenses could include a requirement by content service providers that Nokia pay a minimum level of royalties in addition to royalties that vary with usage. Similarly, the development cost incurred by service providers can be defrayed by selling into a growing customer base. The implementation strategy involved the acquisition of the leading supplier of handset operating systems and subsequently to give away the Symbian software free. The success or failure of this vision, business strategy, and implementation strategy depends on whether Symbian can do a better job of recruiting other handset makers, service providers, and consumers than Nokia's competitors. The strategy to date seems to be unraveling. At the time of the acquisition, Symbian supplied almost 60 percent of the operating system software for smartphones worldwide. Market researcher Ovum estimates that the firm’s global market share fell to less than 50 percent in 2010 and predicts the figure could decline to one-third by 2015, reflecting the growing popularity of Google’s Android software. Android has had excellent success in the U.S. market, leapfrogging over Apple’s 24 percent share to capture 27 percent of the smartphone market, according to the NPD Group. Research-In-Motion (RIM), the maker of the Blackberry, remained the U.S. market share leader in 2010 at 33 percent. Dell Computer’s Drive to Eliminate the Middleman Historically, personal computers were sold either through a direct sales force to businesses (e.g., IBM), through company-owned stores (e.g., Gateway), or through independent retail outlets and distributors to both businesses and consumers (e.g., CompUSA). Retail chains and distributors constituted a large percentage of the customer base of other PC manufacturers such as Compaq and Gateway. Consequently, most PC manufacturers were saddled with the large overhead expense associated with a direct sales force, a chain of company-owned stores, a demanding and complex distribution chain contributing a substantial percentage of revenue, or some combination of all three. Michael Dell, the founder of Dell Computer, saw an opportunity to take cost out of the distribution of PCs by circumventing the distributors and selling directly to the end user. Dell Computer introduced a dramatically new business model for selling personal computers directly to consumers. By starting with this model when the firm was formed, Dell did not have to worry about being in direct competition with its distribution chain. Dell has changed the basis of competition in the PC industry not only by shifting much of its direct order business to the internet but also by introducing made-to-order personal computers. Businesses and consumers can specify online the features and functions of a PC and pay by credit card. Dell assembles the PC only after the order is processed and the customer’s credit card has been validated. This has the effect of increasing customer choice and convenience as well as dramatically reducing Dell’s costs of carrying inventory. The Dell business model has evolved into one focused relentlessly on improving efficiency. The Dell model includes setting up super-efficient factories, keeping parts in inventory for only a few days before they are used, and selling computers based on common industry standards like Intel chips and Microsoft operating systems. By its nature, the Dell model requires aggressive expansion. As growth in the PC market slowed in the late 1990s, the personal computer became a commodity. Since computers had become so powerful, there was little need for consumers to upgrade to more powerful machines. To offset growth in its primary market, Dell undertook a furious strategy to extend the Dell brand name into related electronics markets. The firm started to sell “low end” servers to companies, networking gear, PDAs, portable digital music players, an online music store, flat-panel televisions, and printers. In late 2002, the firm began to sell computers through the retail middleman Costco. Michael Dell believes that every product should be profitable from the outset. His focus on operating profit margins has left little for product innovation. Dell’s budget for new product R&D has averaged 1.3% of revenues in recent years, about one-fifth of what IBM and Hewlett-Packard spend. Rather than be viewed as a product innovator, Dell is pursuing a “fast follower” strategy in which the firm focuses on taking what is currently highly popular and making it better and cheaper than anyone else. While not a product innovator, Dell has succeeded in process innovation. The company has more than 550 business process patents, for everything from a method of using wireless networks in factories to a configuration of manufacturing stations that is four times as productive as a standard assembly line. Dell’s expansion seems to be focused on its industry lead in process engineering and innovation resulting in super efficient factories. The current strategy seems to be to move into commodity markets, with standardized technology that is widely available. In such markets, the firm can apply its finely honed skills in discipline, speed, and efficiency. For markets that are becoming more commodity-like but still require some R&D, Dell takes on partners. For example, in the printer market, Dell is applying its brand name to Lexmark printers. In storage products, Dell has paired up with EMC Corp. to sell co-branded storage machines. As these markets become more commodity-like, Dell will take over manufacturing of these products. This is what happened at the end of 2003 when it took over production of low-end storage production from EMC. In doing so, Dell was able to cut production costs by 25%. The success of Michael Dell’s business model is evident. Its share of the global PC market in 2003 topped 16%; the company accounts for more than one-third of the hand-held device market. At the end of 2003, Dell’s price-to earnings ratio exceeded IBM, Microsoft, Wal-Mart, and General Electric. Dell has had some setbacks. In 2001, the firm scrapped a plan to enter the mobile-phone market; in 2002 Dell wrote off its only major acquisition, a storage-technology company purchased in 1999 for $340 million. Dell also withdrew from the high-end storage business, because it decided its technology was not ready for the market. -In your opinion, what market need(s) was Dell able to satisfy better than his competition?

The implementation strategy refers to the way in which a firm chooses to implement its business strategy.

An acquisition plan defines the objectives to be achieved by acquiring another firm, management's preferences as to how the acquisition process should be managed, resources required, and the roles and responsibilities of those responsible for implementing the plan.

Examples of corporate level strategies include which of the following:

A planning-based acquisition process consists of both a business plan and acquisition plan, which drive all subsequent phases of the acquisition process.

The acquisition plan establishes a schedule of milestones to keep the process on track and clearly defines the authority and responsibilities of the individual charged with managing the acquisition process.

Nokia’s Gamble to Dominate the Smartphone Market Falters The ultimate success or failure of any M&A transaction to satisfy expectations often is heavily dependent on the answer to a simple question. Was the justification for buying the target firm based on a sound business strategy? No matter how bold, innovative, or precedent-setting a bad strategy is, it is still a bad strategy. In a bold move that is reminiscent of the rollout of Linux, Nokia, a Finnish phone handset manufacturer, announced in mid-2008 that it had reached an agreement to acquire Symbian, its supplier of smartphone operating system software. Nokia also announced its intention to give away Symbian's software for free in response to Google’s decision in December 2008 to offer its Android operating system at no cost to handset makers. This switch from a model in which developers had to pay a license fee to create devices using the Symbian operating system software to a free (open source) model was designed to supercharge the introduction of innovative handheld products that relied on Symbian software. Any individual or firm can use and modify the Symbian code for any purpose for free. In doing so, Nokia is hoping that a wave of new products using Symbian software would blunt the growth of Apple’s proprietary system and Google’s open source Android system. Nokia is seeking to establish an industry standard based on the Symbian software, using it as a platform for providing online services to smartphone users, such as music and photo sharing. According to Forrester Research, the market for such services is expected to reach $92 billion in 2012 (almost twice its size when Nokia acquired Symbian), with an increasing portion of these services delivered via smartphones. In its vision for the future, Nokia seems to be positioning itself as the premier supplier of online services to the smartphone market. Its business strategy or model is to dominate the smartphone market with handsets that rely on the Symbian operating system. Nokia hopes to exploit economies of scale by spreading any fixed cost associated with online services over an expanding customer base. Such fixed expenses could include a requirement by content service providers that Nokia pay a minimum level of royalties in addition to royalties that vary with usage. Similarly, the development cost incurred by service providers can be defrayed by selling into a growing customer base. The implementation strategy involved the acquisition of the leading supplier of handset operating systems and subsequently to give away the Symbian software free. The success or failure of this vision, business strategy, and implementation strategy depends on whether Symbian can do a better job of recruiting other handset makers, service providers, and consumers than Nokia's competitors. The strategy to date seems to be unraveling. At the time of the acquisition, Symbian supplied almost 60 percent of the operating system software for smartphones worldwide. Market researcher Ovum estimates that the firm’s global market share fell to less than 50 percent in 2010 and predicts the figure could decline to one-third by 2015, reflecting the growing popularity of Google’s Android software. Android has had excellent success in the U.S. market, leapfrogging over Apple’s 24 percent share to capture 27 percent of the smartphone market, according to the NPD Group. Research-In-Motion (RIM), the maker of the Blackberry, remained the U.S. market share leader in 2010 at 33 percent. Dell Computer’s Drive to Eliminate the Middleman Historically, personal computers were sold either through a direct sales force to businesses (e.g., IBM), through company-owned stores (e.g., Gateway), or through independent retail outlets and distributors to both businesses and consumers (e.g., CompUSA). Retail chains and distributors constituted a large percentage of the customer base of other PC manufacturers such as Compaq and Gateway. Consequently, most PC manufacturers were saddled with the large overhead expense associated with a direct sales force, a chain of company-owned stores, a demanding and complex distribution chain contributing a substantial percentage of revenue, or some combination of all three. Michael Dell, the founder of Dell Computer, saw an opportunity to take cost out of the distribution of PCs by circumventing the distributors and selling directly to the end user. Dell Computer introduced a dramatically new business model for selling personal computers directly to consumers. By starting with this model when the firm was formed, Dell did not have to worry about being in direct competition with its distribution chain. Dell has changed the basis of competition in the PC industry not only by shifting much of its direct order business to the internet but also by introducing made-to-order personal computers. Businesses and consumers can specify online the features and functions of a PC and pay by credit card. Dell assembles the PC only after the order is processed and the customer’s credit card has been validated. This has the effect of increasing customer choice and convenience as well as dramatically reducing Dell’s costs of carrying inventory. The Dell business model has evolved into one focused relentlessly on improving efficiency. The Dell model includes setting up super-efficient factories, keeping parts in inventory for only a few days before they are used, and selling computers based on common industry standards like Intel chips and Microsoft operating systems. By its nature, the Dell model requires aggressive expansion. As growth in the PC market slowed in the late 1990s, the personal computer became a commodity. Since computers had become so powerful, there was little need for consumers to upgrade to more powerful machines. To offset growth in its primary market, Dell undertook a furious strategy to extend the Dell brand name into related electronics markets. The firm started to sell “low end” servers to companies, networking gear, PDAs, portable digital music players, an online music store, flat-panel televisions, and printers. In late 2002, the firm began to sell computers through the retail middleman Costco. Michael Dell believes that every product should be profitable from the outset. His focus on operating profit margins has left little for product innovation. Dell’s budget for new product R&D has averaged 1.3% of revenues in recent years, about one-fifth of what IBM and Hewlett-Packard spend. Rather than be viewed as a product innovator, Dell is pursuing a “fast follower” strategy in which the firm focuses on taking what is currently highly popular and making it better and cheaper than anyone else. While not a product innovator, Dell has succeeded in process innovation. The company has more than 550 business process patents, for everything from a method of using wireless networks in factories to a configuration of manufacturing stations that is four times as productive as a standard assembly line. Dell’s expansion seems to be focused on its industry lead in process engineering and innovation resulting in super efficient factories. The current strategy seems to be to move into commodity markets, with standardized technology that is widely available. In such markets, the firm can apply its finely honed skills in discipline, speed, and efficiency. For markets that are becoming more commodity-like but still require some R&D, Dell takes on partners. For example, in the printer market, Dell is applying its brand name to Lexmark printers. In storage products, Dell has paired up with EMC Corp. to sell co-branded storage machines. As these markets become more commodity-like, Dell will take over manufacturing of these products. This is what happened at the end of 2003 when it took over production of low-end storage production from EMC. In doing so, Dell was able to cut production costs by 25%. The success of Michael Dell’s business model is evident. Its share of the global PC market in 2003 topped 16%; the company accounts for more than one-third of the hand-held device market. At the end of 2003, Dell’s price-to earnings ratio exceeded IBM, Microsoft, Wal-Mart, and General Electric. Dell has had some setbacks. In 2001, the firm scrapped a plan to enter the mobile-phone market; in 2002 Dell wrote off its only major acquisition, a storage-technology company purchased in 1999 for $340 million. Dell also withdrew from the high-end storage business, because it decided its technology was not ready for the market. -How would you describe Dell's current implementation strategy (i.e., solo venture, shared growth/shared control, merger/acquisition, or some combination)? On what core competencies is Michael Dell relying to make this strategy work?

This move followed Dow Chemical Company's purchase of Rohm & Haas. The justification for both acquisitions was to diversify earnings and offset higher oil costs. How will these combinations offset escalating oil costs?

From a Social Media Darling to an Afterthought—The Demise of Myspace It is critical to understand a firm’s competitive edge and what it takes to sustain it. Sustaining a competitive advantage in a fast-moving market requires ongoing investment and nimble and creative decision making. In the end, Myspace appears to have had neither. ______________________________________________________________________________ A pioneer in social networking, Myspace started in 2003 and reached its peak in popularity in December 2008. According to ComScore, Myspace attracted 75.9 million monthly unique visitors in the United States that month. It was more than just a social network; it was viewed by many as a portal where people discovered new friends and music and movies. Its annual revenue in 2009 was reportedly more than $470 million. Myspace captured the imagination of media star, Rupert Murdoch, founder and CEO of media conglomerate News Corp. News Corp seemed to view the firm as the cornerstone of its social networking strategy, in which it would sell content to users of social networking sites. To catapult News Corp into the world of social networking, Murdock acquired Myspace and its parent firm, Intermix, in 2007 for an estimated $580 million. But News Corp’s timing could not have been worse. Between mid-2009 and mid-2011, Myspace was losing more than 1 million visitors monthly, with unique visitors in May 2011 about one-half of their previous December 2008 peak. Advertising revenue swooned to $184 million in 2011, about 40% of its 2009 level. In the wake of Myspace’s deteriorating financial performance, News Corp initiated a search for a buyer in early 2011. The initial asking price was $100 million. Despite a flurry of interest in social media businesses such as LinkedIn and Groupon, there was little interest in buying Myspace. In an act of desperation, News Corp sold Myspace to Specific Media, an advertising firm, for only $35 million in mid-2011 as the value of the MySpace brand plummeted. What happened to cause Myspace to fall from grace so rapidly? A range of missteps befuddled Myspace, including a flawed business strategy, mismanagement, and underinvestment. Myspace may also have been a victim of fast-moving technology, fickle popular culture, and the hubris that comes with rapid early success. What appeared to be an unimaginative strategy and underinvestment left the social media field wide open for new entrants, such as Facebook. Myspace may also have suffered from waning interest from News Corp’s top management. As consumer interest in Myspace declined, News Corp turned its attention to its acquisition of the Wall Street Journal. Culture clash also may have been a problem when News Corp, a large, highly structured media firm, tried to absorb the brassy startup. With a big company, there are more meetings, more reporting relationships, more routine, and more monitoring by senior management of the parent firm. Myspace managers’ attention was often diverted in an effort to create synergy with other News Corp businesses. In the new era of social media, the rapid rise and fall of Myspace illustrates the ever-decreasing life cycle of such businesses. When News Corp bought Myspace, it was a thriving online social networking business. Facebook was still contained primarily on college campuses. However, it was not long before Facebook, with its smooth interface and broader offering of online services, far outpaced Myspace in terms of monthly visitors. Myspace, like so many other Internet startups, had its “fifteen minutes of fame.” Adobe’s Acquisition of Omniture: Field of Dreams Marketing? On September 14, 2009, Adobe announced its acquisition of Omniture for $1.8 billion in cash or $21.50 per share. Adobe CEO Shantanu Narayen announced that the firm was pushing into new business at a time when customers were scaling back on purchases of the company’s design software. Omniture would give Adobe a steady source of revenue and may mean investors would focus less on Adobe’s ability to migrate its customers to product upgrades such as Adobe Creative Suite. Adobe’s business strategy is to develop a new line of software that was compatible with Microsoft applications. As the world’s largest developer of design software, Adobe licenses such software as Flash, Acrobat, Photoshop, and Creative Suite to website developers. Revenues grow as a result of increased market penetration and inducing current customers to upgrade to newer versions of the design software. In recent years, a business model has emerged in which customers can “rent” software applications for a specific time period by directly accessing the vendors’ servers online or downloading the software to the customer’s site. Moreover, software users have shown a tendency to buy from vendors with multiple product offerings to achieve better product compatibility. Omniture makes software designed to track the performance of websites and online advertising campaigns. Specifically, its Web analytic software allows its customers to measure the effectiveness of Adobe’s content creation software. Advertising agencies and media companies use Omniture’s software to analyze how consumers use websites. It competes with Google and other smaller participants. Omniture charges customers fees based on monthly website traffic, so sales are somewhat less sensitive than Adobe’s. When the economy slows, Adobe has to rely on squeezing more revenue from existing customers. Omniture benefits from the takeover by gaining access to Adobe customers in different geographic areas and more capital for future product development. With annual revenues of more than $3 billion, Adobe is almost ten times the size of Omniture. Immediately following the announcement, Adobe’s stock fell 5.6 percent to $33.62, after having gained about 67 percent since the beginning of 2009. In contrast, Omniture shares jumped 25 percent to $21.63, slightly above the offer price of $21.50 per share. While Omniture’s share price move reflected the significant premium of the offer price over the firm’s preannouncement share price, the extent to which investors punished Adobe reflected widespread unease with the transaction. Investors seem to be questioning the price paid for Omniture, whether the acquisition would actually accelerate and sustain revenue growth, the impact on the future cyclicality of the combined businesses, the ability to effectively integrate the two firms, and the potential profitability of future revenue growth. Each of these factors is considered next. Adobe paid 18 times projected 2010 earnings before interest, taxes, depreciation, and amortization, a proxy for operating cash flow. Considering that other Web acquisitions were taking place at much lower multiples, investors reasoned that Adobe had little margin for error. If all went according to plan, the firm would earn an appropriate return on its investment. However, the likelihood of any plan being executed flawlessly is problematic. Adobe anticipates that the acquisition will expand its addressable market and growth potential. Adobe anticipates significant cross-selling opportunities in which Omniture products can be sold to Adobe customers. With its much larger customer base, this could represent a substantial new outlet for Omniture products. The presumption is that by combining the two firms, Adobe will be able to deliver more value to its customers. Adobe plans to merge its programs that create content for websites with Omniture’s technology. For designers, developers, and online marketers, Adobe believes that integrated development software will streamline the creation and delivery of relevant content and applications. The size of the market for such software is difficult to gauge. Not all of Adobe’s customers will require the additional functionality that would be offered. Google Analytic Services, offered free of charge, has put significant pressure on Omniture’s earnings. However, firms with large advertising budgets are less likely to rely on the viability of free analytic services. Adobe also is attempting to diversify into less cyclical businesses. However, both Adobe and Omniture are impacted by fluctuations in the volume of retail spending. Less retail spending implies fewer new websites and upgrades to existing websites, which directly impacts Adobe’s design software business, and less advertising and retail activity on electronic commerce sites negatively impacts Omniture’s revenues. Omniture receives fees based on the volume of activity on a customer’s site. Integrating the Omniture measurement capabilities into Adobe software design products and cross-selling Omniture products into the Adobe customer base require excellent coordination and cooperation between Adobe and Omniture managers and employees. Achieving such cooperation often is a major undertaking, especially when the Omniture shareholders, many of whom were employees, were paid in cash. The use of Adobe stock would have given them additional impetus to achieve these synergies in order to boost the value of their shares. Achieving cooperation may be slowed by the lack of organizational integration of Omniture into Adobe. Omniture will become a new business unit within Adobe, with Omniture’s CEO, Josh James, joining Adobe as a senior vice president of the new business unit. He will report to Narayen. This arrangement may have been made to preserve Omniture’s corporate culture. Adobe is betting that the potential increase in revenues will grow profits of the combined firms despite Omniture’s lower margins. Whether the acquisition will contribute to overall profit growth depends on which products contribute to future revenue growth. The lower margins associated with Omniture’s products would slow overall profit growth if the future growth in revenue came largely from Omniture’s Web analytic products. -Do you believe the transaction can be justified based on your understanding of the strengths and weaknesses of the two firms and perceived opportunities and threats to the two firms in the marketplace? Be specific.

Consolidation in the Global Pharmaceutical Industry: The Glaxo Wellcome and SmithKline Beecham Example By the mid-1980s, demands from both business and government were forcing pharmaceutical companies to change the way they did business. Increased government intervention, lower selling prices, increased competition from generic drugs, and growing pressure for discounting from managed care organizations such as health maintenance and preferred provider organizations began to squeeze drug company profit margins. The number of contact points between the sales force and the customer shrank dramatically as more drugs were being purchased through managed care organizations and pharmacy benefit managers. Drugs commonly were sold in large volumes and often at heavily discounted levels. The demand for generic drugs also was declining. The use of formularies, drug lists from which managed care doctors are required to prescribe, gave doctors less choice and made them less responsive to direct calls from the sales force. The situation was compounded further by the ongoing consolidation in the hospital industry. Hospitals began centralizing purchasing and using stricter formularies, allowing physicians virtually no leeway to prescribe unlisted drugs. The growing use of formularies resulted in buyers needing fewer drugs and sharply reduced the need for similar drugs. The industry’s first major wave of consolidations took place in the late 1980s, with such mergers as SmithKline and Beecham and Bristol Myers and Squibb. This wave of consolidation was driven by increased scale and scope economies largely realized through the combination of sales and marketing staffs. Horizontal consolidation represented a considerable value creation opportunity for those companies able to realize cost synergies. In analyzing the total costs of pharmaceutical companies, William Pursche (1996) argued that the potential savings from mergers could range from 15–25% of total R&D spending, 5–20% of total manufacturing costs, 15–50% of marketing and sales expenses, and 20–50% of overhead costs. Continued consolidation seemed likely, enabling further cuts in sales and marketing expenses. Formulary-driven purchasing and declining overall drug margins spurred pharmaceutical companies to take action to increase the return on their R&D investments. Because development costs are not significantly lower for generic drugs, it became increasingly difficult to generate positive financial returns from marginal products. Duplicate overhead offered another opportunity for cost savings through consolidation, because combining companies could eliminate redundant personnel in such support areas as quality assurance, manufacturing management, information services, legal services, accounting, and human resources. The second merger wave began in the late 1990s. The sheer magnitude and pace of activity is striking. Of the top-20 companies in terms of global pharmaceutical sales in 1998, one-half either have merged or announced plans to do so. More are expected as drug patents expire for a number of companies during the next several years and the cost of discovering and commercializing new drugs continues to escalate. On January 17, 2000, British pharmaceutical giants Glaxo Wellcome PLC and SmithKline Beecham PLC agreed to merge to form what was at the time the world’s largest drug company. The merger was valued at $76 billion. The resulting company was called Glaxo SmithKline and had annual revenue of $25 billion and a market value of $184 billion. The combined companies also would have a total R&D budget of $4 billion and a global sales force of 40,000. Total employees would number 105,000 worldwide. Although stressed as a merger of equals, Glaxo shareholders would own about 59% of the shares of the two companies. The combined companies would have a market share of 7.5% of the global pharmaceutical market. The companies projected annual pretax cost savings of about $1.76 billion after 3 years. The cost savings would come primarily from job cuts among middle management and administration over the next 3 years -In your judgment, what are the likely strategic business plan objectives of the major pharmaceutical companies and why are they important?

Do you believe that Facebook is justified in its aggressive acquisition strategy? What are the assumptions implicit in this strategy? Are they credible? Why? Why not?

Which of the following are ways to implement a firm's business strategy?

Dell Computer is one of the best known global technology companies. In your opinion, who are Dell's primary customers? Current and potential competitors? Suppliers? How would you assess Dell's bargaining power with respect to its customers and suppliers? What are Dell's strengths/weaknesses versus it current competitors?

A firm should choose that strategy from among the range of reasonable alternatives that enables it to achieve its stated objectives in an acceptable time period without regard for resource constraints.

All of the following represent commonly found components of a well-constructed business plan except for

A competitive self-assessment involves an analysis of the firm's absolute strengths and weaknesses.

Pepsi Buys Quaker Oats in a Highly Publicized Food Fight On June 26, 2000, Phillip Morris, which owned Kraft Foods, announced its planned $15.9 billion purchase of Nabisco, ranked seventh in the United States in terms of sales at that time. By combining Nabisco with its Kraft operations, ranked number one in the United States, Phillip Morris created an industry behemoth. Not to be outdone, Unilever, the jointly owned British–Dutch giant, which ranked fourth in sales, purchased Bestfoods in a $20.3 billion deal. Midsized companies such as Campbell’s could no longer compete with the likes of Nestle, which ranked number three; Proctor & Gamble, which ranked number two; or Phillip Morris. Consequently, these midsized firms started looking for partners. Other companies were cutting back. The U.K.’s Diageo, one of Europe’s largest food and beverage companies, announced the restructuring of its Pillsbury unit by cutting 750 jobs—10% of its workforce. PepsiCo, ranked sixth in U.S. sales, spun off in 1997 its Pizza Hut, KFC, and Taco Bell restaurant holdings. Also, eighth-ranked General Mills spun off its Red Lobster, Olive Garden, and other brand-name stores in 1995. In 2001, Coca-Cola announced a reduction of 6000 in its worldwide workforce. As one of the smaller firms in the industry, Quaker Oats faced a serious problem: it was too small to acquire other firms in the industry. As a result, they were unable to realize the cost reductions through economies of scale in production and purchasing that their competitors enjoyed. Moreover, they did not have the wherewithal to introduce rapidly new products and to compete for supermarket shelf space. Consequently, their revenue and profit growth prospects appeared to be limited. Despite its modest position in the mature and slow-growing food and cereal business, Quaker Oats had a dominant position in the sports drink marketplace. As the owner of Gatorade, it controlled 85% of the U.S. market for sports drinks. However, its penetration abroad was minimal. Gatorade was the company’s cash cow. Gatorade’s sales in 1999 totaled $1.83 billion, about 40% of Quaker’s total revenue. Cash flow generated from this product line was being used to fund its food and cereal operations. Gatorade’s management recognized that it was too small to buy other food companies and therefore could not realize the benefits of consolidation. After a review of its options, Quaker’s board decided that the sale of the company would be the best way to maximize shareholder value. This alternative presented a serious challenge for management. Most of Quaker’s value was in its Gatorade product line. It quickly found that most firms wanted to buy only this product line and leave the food and cereal businesses behind. Quaker’s management reasoned that it would be in the best interests of its shareholders if it sold the total company rather than to split it into pieces. That way they could extract the greatest value and then let the buyer decide what to do with the non-Gatorade businesses. In addition, if the business remained intact, management would not have to find some way to make up for the loss of Gatorade’s substantial cash flow. Therefore, Quaker announced that it was for sale for $15 billion. Potential suitors viewed the price as very steep for a firm whose businesses, with the exception of Gatorade, had very weak competitive positions. Pepsi was the first to make a formal bid for the firm, quickly followed by Coca-Cola and Danone. By November 21, 2000, Coca-Cola and PepsiCo were battling to acquire Quaker. Their interest stemmed from the slowing sales of carbonated beverages. They could not help noticing the explosive growth in sports drinks. Not only would either benefit from the addition of this rapidly growing product, but they also could prevent the other from improving its position in the sports drink market. Both Coke and PepsiCo could boost Gatorade sales by putting the sports drink in vending machines across the country and selling it through their worldwide distribution network. PepsiCo’s $14.3 billion fixed exchange stock bid consisting of 2.3 shares of its stock for each Quaker share in early November was the first formal bid Quaker received. However, Robert Morrison, Quaker’s CEO, dismissed the offer as inadequate. Quaker wanted to wait, since it was expecting to get a higher bid from Coke. At that time, Coke seemed to be in a better financial position than PepsiCo to pay a higher purchase price. Investors were expressing concerns about rumors that Coke would pay more than $15 billion for Quaker and seemed to be relieved that PepsiCo’s offer had been rejected. Coke’s share price was falling and PepsiCo’s was rising as the drama unfolded. In the days that followed, talks between Coke and Quaker broke off, with Coke’s board unwilling to support a $15.75 billion offer price. After failing to strike deals with the world’s two largest soft drink makers, Quaker turned to Danone, the manufacturer of Evian water and Dannon yogurt. Much smaller than Coca-Cola or PepsiCo, Danone was hoping to hype growth in its healthy nutrition and beverage business. Gatorade would complement Danone’s bottled-water brands. Moreover, Quaker’s cereals would fit into Danone’s increasing focus on breakfast cereals. However, few investors believed that the diminutive firm could finance a purchase of Quaker. Danone proposed using its stock to pay for the acquisition, but the firm noted that the purchase would sharply reduce earnings per share through 2003. Danone backed out of the talks only 24 hours after expressing interest, when its stock got pummeled on the news. Nearly 1 month after breaking off talks to acquire Quaker Oats because of disagreements over price, PepsiCo once again approached Quaker’s management. Its second proposal was the same as its first. PepsiCo was now in a much stronger position this time, especially because Quaker had run out of suitors. Under the terms of the agreement, Quaker Oats would be liable for a $420 million breakup fee if the deal was terminated, either because its shareholders didn’t approve the deal or the company entered into a definitive merger agreement with an alternative bidder. Quaker also granted PepsiCo an option to purchase 19.9% of Quaker’s stock, exercisable only if Quaker is sold to another bidder. Such a tactic sometimes is used in conjunction with a breakup fee to discourage other suitors from making a bid for the target firm. With the purchase of Quaker Oats, PepsiCo became the leader of the sports drink market by gaining the market’s dominant share. With more than four-fifths of the market, PepsiCo dwarfs Coke’s 11% market penetration. This leadership position is widely viewed as giving PepsiCo, whose share of the U.S. carbonated soft drink market is 31.4% as compared with Coke’s 44.1%, a psychological boost in its quest to accumulate a portfolio of leading brands. -Under what circumstances might the Quaker shareholder have benefited more if Quaker had sold itself in pieces (i.e., food/cereal and Gatorade) rather than in total?