Weak Dollar Hinders Drug Makers

European Companies See Declining U.S. Currency Boosting Revenue Pressures

07/12/2002
The Wall Street Journal Europe
Page M2
(Copyright (c) 2002, Dow Jones & Company, Inc.)

PARIS -- European drug companies that make their best returns in the U.S. will see some of that revenue evaporate as the dollar slips against key European currencies, adding to pressure over earnings uncertainty in the sector. In itself, a slide in U.S.-related revenue will have a relatively modest impact on earnings, analysts say. Most of these companies are hedged against currency movements, and have moved more of their costs to the U.S. from Europe in recent years.

But with company profits squeezed by generic competition, research-and-development inefficiencies and pressure to cut drug prices, a weaker dollar is likely to keep sentiment weighted against European pharmaceuticals stocks, analysts believe. The added pressure means there is little defensive appeal in the sector at the moment, they say. "A 5% fall in the dollar will have around 2% impact on earnings," said James Culverwell, an analyst at Merrill Lynch.

About half of the world's top 20 drug makers are based in Europe, but they earn as much as 50% of revenues and a good chunk of their profits in the U.S. Margins are better there, partly because European health care is often state-funded and pricing is therefore weaker.

However, a fall in the dollar means French and German drug makers are making about one-sixth less from medicines in the U.S. than they did a year ago, while Swiss firms make nearly one-fifth less. For U.K. pharmaceuticals firms, the fall could be one-tenth or more.

During the past month, the dollar has been hit by poor U.S. economic data, accounting scandals and fears of further terrorist attacks. In late June the euro and sterling soared to 25-month highs and the Swiss franc to a 33-month high, and they have largely stayed close to those levels.

The dollar is dropping faster and further than expected. A month ago economists expected euro-dollar parity at the year's end, with 1.50 Swiss francs to the dollar and $1.50 to the British pound. The Swiss franc and sterling have already passed those levels, and the dollar is nearly at parity with the euro.

Currency hedging allows firms to cushion the bottom line from lower U.S. revenue, but only for a limited period. In the longer term, a strong cost base in the U.S. can offset currency losses with savings in production or R&D. "The impact has to do with a cost-revenue match, rather than outright exposure," said UBS Warburg analyst Paul Major. Companies that report in dollars could even see their earnings rise.

Firms with a lower U.S. cost base, such as France's Sanofi-Synthelabo and Aventis SA and Switzerland's Novartis AG, are likely to suffer most from a weaker dollar.

Sanofi earns 41% of its operating profit in the U.S., much of it through royalties from U.S. partner Bristol-Myers Squibb Co. for best-sellers such as heart medicine Plavix and hypertension treatment Aprovel. But only about 11% of its costs are in the U.S.

"All these dollar-denominated royalties go straight to their bottom line," said UBS Warburg's Mr. Major. Sanofi's revenue for 2001 was 6.5 billion euros.

Sanofi declined to comment, but UBS predicts a 1% negative impact on earnings for every 1% decline in the dollar. Novartis, whose best-sellers include high-blood-pressure treatments Diovan and Lotensin, is also vulnerable. More than 40% of its 20.2 billion Swiss francs in drug sales last year came from the U.S. But Novartis reports in Swiss francs, the European currency that has gained most against the dollar, and nearly a third of its costs are in Switzerland.

"If a low dollar rate prevailed beyond 2002 we would be affected, as 43% of our sales are in U.S. dollars," a company spokesman said.

Aventis is under similar pressure. About 37% of its 17.67 billion euros in pharmaceuticals revenue last year came from the U.S., but nearly half of its costs are in Europe. Aventis' cash cows include cardiovascular treatment Lovenox.

Aventis declined to comment, but a French analyst estimated Aventis will give up about 0.4% of earnings between now and December 2003 for every 1% dollar decline.

The impact of dollar weakness on U.K. giant GlaxoSmithKline PLC -- the world's second-largest drug maker by sales -- and Switzerland's Roche Holding AG will be milder because their U.S.-based costs offset falls in U.S. revenue.

GSK earned about half of its GBP 20.5 billion (32.1 billion euros) revenue last year in the U.S., from best-sellers such as antidepressant Seroxat and asthma drug Advair.

However, GSK has a large part of its cost base in the U.S. and is seen as the most U.S.-focused of the European drug companies, despite reporting in sterling.

Similarly, Roche's U.S. revenue in 2001 made up almost 40% of its 18.7 billion Swiss francs in total pharmaceuticals revenue. But it has a large manufacturing base outside Switzerland, implying a modest impact on its earnings from a weaker dollar. Roche's best-sellers include antibiotic Rocephin.

Companies that report in dollars, such as Switzerland's Serono SA and Anglo-Swedish company AstraZeneca PLC, could even benefit from a continued fall in the currency.

For AstraZeneca, which gleaned about 53% of its 2001 revenue of $16.5 billion in the U.S., a dollar slide would reverse recent currency effects. Last year the currency's strength cut revenue by $571 million and operating profit by $79 million.