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Schering Regroups After FDA Rejection

The company plans to rely on the sales of other drugs, particularly in overseas markets.

OKLAHOMA CITY -- When European regulators approved

Schering-Plough's

(SGP)

groundbreaking anesthesia drug late last month, investors assumed that the

U.S. Food and Drug Administration

would bless the drug as well.

That turned out to be a mistake. Just two days after the action in Europe, the FDA ignored its own expert advisors and rejected the drug.

Although the agency agreed that Sugammadex worked just fine, it felt so concerned about potential allergic reactions, which barely surfaced during clinical trials, that they issued a "not-approvable" letter that could delay Sugammadex's introduction to the U.S. market for years.

"We view today's delay (not-approvable letter for a drug targeting an unmet medical need following a unanimous panel vote) as yet another incidence of the high level of FDA conservatism facing the pharma group," JP Morgan analyst Chris Schott declared late last month. "Over the past two years, roughly 50% of FDA (drug applications) have had a worse-than-expected outcome."

Unfortunately, Schott concluded, "we do not expect this trend to improve in the near term."

Despite the FDA's rejection of Sugammadex, Schering-Plough still boasts four different blockbusters and its strongest pipeline in years. Due to tough conditions here in the U.S., however, the company fully expects to sell most of those drugs tht are designed to treat everything from arthritis to schizophrenia far away from home.

Merck's

(MRKC)

2004 withdrawal of Vioxx, a once-popular painkiller linked to heart problems, changed the landscape for the entire pharmaceutical industry.

The FDA has grown increasingly wary of approving new drugs that might pose safety risks. Meanwhile, U.S. customers have stopped taking some popular blockbusters that have been on the market for years.

For example, Schering-Plough has seen domestic sales of its powerful cholesterol-lowering drugs Vytorin and Zetia fall off sharply following a small study that raised questions about how well they work.

With tough conditions at home, Schering-Plough has been forced to look outside its own borders for new opportunities to grow. The company relies on foreign markets for roughly 70% of its sales.

By contrast, industry heavyweight

Pfizer

(PFE) - Get Pfizer Inc. Report

still generates nearly half of its sales here in the U.S. Other big names in the business, including

Merck

(MRK) - Get Merck & Co., Inc. (MRK) Report

and

Eli Lilly

(LLY) - Get Eli Lilly and Company (LLY) Report

, lean on the U.S. even more.

So far, Schering-Plough's strategy appears to be working. With its broad geographic reach and its diversified portfolio -- including big units focused on animal science and consumer health -- the company has managed to weather setbacks here at home and grow faster than its peer group. The company's stock, up 17 cents to $20.22 on Wednesday, currently trades in the upper half of its 52-week range.

Still, Schering-Plough had high hopes that Sugammadex would become its next worldwide hit. The drug promises a new standard of care because it can reverse anesthesia blocks far faster than current alternatives. While Sugammadex will arrive in Europe later on this year, analysts doubt that the drug will find its way into U.S. hospitals before the start of the next decade.

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Schering-Plough CEO Fred Hassan has fretted over this pattern for some time. "Only a few years ago, the FDA took great pride regarding how many new products were approved first in the United States," he said in a conference call this spring. "We were the science innovator and the regulatory gold standard. Now, you hardly hear about this."

"Instead, it is the EMEA (European Medicines Agency) that is becoming the agency that acts faster with less political interference and with high science," Hassan insisted. "So the U.S. environment is clearly becoming more negative, while other markets are becoming increasingly more important."

The FDA failed to answer a list of questions from

TheStreet.com

about its drug-approval process.

Overseas markets

Schering-Plough's top revenue generator has never been marketed in the U.S.

In a prescient move a decade ago, Schering-Plough convinced Centecor (a rising biotech company now owned by

Johnson & Johnson

(JNJ) - Get Johnson & Johnson (JNJ) Report

) to sell it the foreign marketing rights for a new drug called Remicade.

Under the deal, Schering-Plough would pay Centecor $50 million then split any of its profits from the company's breakthrough treatment for Crohn's disease.

Schering-Plough quickly went to work overseas, selling enough Remicade during the drug's first full year on the international market to recoup its entire cash investment in the enterprise.

Today, with Remicade approved in Europe for a whole host of autoimmune disorders, the drug generates more revenue than any other blockbuster in the company's portfolio.

With sales expected to top $2 billion this year, Hassan notes, Remicade has become "the equivalent of six products treating devastating and serious diseases."

Last quarter, in fact, Remicade generated as much revenue for Schering-Plough as Vytorin and Zetia did combined. Yet the cholesterol drugs, sold through a partnership with Merck, still carry more weight.

"Over the last three years, distributions from the MSP (Merck/Schering-Plough) partnership, net of partner contributions, have totaled an incredible 65% of SGP's cash flow from operations," Gimme Credit analyst Carol Levenson explained in research note this spring.

"MSP has been a great growth booster as well. The partnership's sales were up 40% last year, while SGP's (excluding acquisitions) rose only 14%" during that same timeframe.

Now, Schering-Plough must rely on other drugs to fuel the company's growth. Hurt by negative results from a small study known as ENHANCE, domestic sales of Vytorin and Zetia have started to decline.

Schering-Plough can still count Vytorin and Zetia among its growth drivers outside the U.S., however. Even as Americans have abandoned the drugs - and federal politicians have started investigating their safety - foreign customers continue to buy them in high numbers. All told, international sales of the drugs rose 37% during the latest quarter.

Painful rejection

Still, Schering-Plough could use some new backup hits right now. With its cholesterol franchise suffering here in the U.S., the company is counting on new high-margin drugs to boost its performance.

Late last year, Schering-Plough paid a rich premium for European-based Organon BioSciences because of all the late-stage drugs in its pipeline. Sugammadex ranked as one of the two most promising drugs in that portfolio and appeared to face the surest path to FDA approval.

The other potential hit, a new psychiatric drug known as Asenapine, could face challenges.

"We are aware that the regulatory part of the FDA that deals with (psychiatric) products is a pretty tough division, based on the results we've seen with other companies' applications," Hassan confessed this spring. "But we are hopeful that we can bring this one through."

Schering-Plough always sounded very confident when discussing Sugammadex's chances. In February, for example, the company said that it had fielded no real challenges from the FDA during the agency's review of its new drug. Even after a tough advisory panel meeting this spring, the company kept banking on approval.

So did most analysts.

"It was clear that the agency raised some significant safety concerns," one of them admitted during a conference call in March. "But my observation was a very robust rebuttal from the clinicians on the panel in favor of the product."

The analyst then went a step further by suggesting that "the pendulum may be swinging back in favor of pharma" at the FDA.

Yet, even then, Hassan clearly had his doubts. He agreed that the fallout from Vioxx had lasted "a long time." However, he noted that the FDA had remained cautious -- approving just 17 drugs in 2007.

"We are in a risk-averse mode; there's no question about it," he stated as the FDA began deciding Sugammadex's fate. But "at some point, the pressures are going to build up because patients are not having access to new medicines.

"We are looking forward to that day."