Sizing Up the Vioxx Effect at Merck

Getting a handle on what a win or loss means for the drugmaker proves vexing.
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A Texas jury was expected to begin deliberations in the first Vioxx trial Wednesday, and drugmakers and consumers will be watching closely considering the thousands of lawsuits filed against

Merck

(MRK) - Get Report

over the arthritis drug it pulled from the market Sept. 30.

The jury's verdict will make headlines, but it's hard to determine if the verdict will create a precedent or momentum against, or for, Merck. The company was a defendant in 4,100 Vioxx-related personal injury lawsuits as of June 30.

"If Merck loses, investors should not extrapolate to other pending cases, given the plaintiff-friendly nature of the venue, which is exactly what the plaintiffs want Wall Street to do to get Merck to settle," says Jami Rubin of Morgan Stanley in a recent report to clients. Closing arguments were scheduled for Wednesday.

Another analyst, Tim Anderson of Prudential, wrote in a research report earlier this week that trying "to bracket Merck's Vioxx-related legal exposure at this early stage is, in our opinion, largely an effort in futility."

Different states have varying rules of evidence, legal standards and guidelines for assessing civil penalties. State courts have different guidelines than federal courts, where some Merck cases are scheduled. And each plaintiff-patient's medical history and Vioxx usage is different.

Making the Case

The uncertainty hasn't stopped people from guessing on the Texas trial's impact. "We think the odds are against Merck, and that the share price could contract more than 5% but less than 10%" if Merck is hit with a big judgment, Anderson says.

However, a negative verdict "probably doesn't afford much precision when calculating Merck's total financial exposure," says Anderson, who has a neutral rating on the stock. He doesn't own shares, and his firm doesn't have an investment banking relationship with the company.

"Be prepared for a big number," warns Rubin. "Assuming a plaintiff victory, which we view as a highly likely event, investors should brace themselves for a very large verdict."

Rubin, who has an equal-weight rating on Merck, says she had always assumed a "low probability" of a Merck victory because of the trial's location. She believes Merck will have a "very strong case" for an appeal due to what she calls "substantial errors" by the trial judge. Rubin doesn't own shares, and her firm has had an investment banking relationship with Merck.

The jury in Angleton, Texas, is deliberating Carol Ernst's complaint that Vioxx caused the death of her husband, Robert, 59, who took the drug for eight months to alleviate pain in his hands. He died suddenly in 2001. Carol Ernst claims that Merck knew Vioxx posed cardiovascular risks many years before the company pulled the drug from the market.

Merck says it withdrew the drug only after clinical trials showed that people who took the drug for more than 18 months had a higher risk of heart attack and stroke than did people receiving a placebo. Merck says Robert Ernst died of an irregular heartbeat, which hasn't been linked to Vioxx-related injuries.

Merck withdrew Vioxx voluntarily. In February, a Food and Drug Administration advisory committee voted 17-15 that

Vioxx could be returned to the U.S. market under certain restrictions for some patients. The FDA and Merck are discussing the matter, although the drug giant says it hasn't decided whether to revive Vioxx.

In July, a

panel of medical advisers to the Canadian government recommended by a 12-1 vote that Vioxx be reinstated with certain restrictions. Merck plans to discuss the matter with Canada's health department.

Assessing Costs

Bringing Vioxx back to the market might provide some support for Merck in its legal battles, but it's difficult to predict Merck's final legal expenses.

Morgan Stanley's Rubin says Merck's share price now reflects an $8 billion legal bill. "An overreaction to the potential loss of the Ernst case would ... be a buying opportunity for investors seeking a high yield and an underappreciated pipeline," she says.

Merck's stock was trading Wednesday at $30.50. Since mid-February, the stock has been bouncing between $30 and $35. The stock closed at $45.07 on Sept. 29, the day before the Vioxx announcement, and fell to $33 the next day. The stock hit a 52-week low of $26 on Nov. 9.

"Our sense has been that the ultimate legal tab will not be of fen-phen-like proportions due to circumstances that are different from fen-phen," says Prudential's Anderson. Fen-phen is the diet drug cocktail that was linked to heart valve damage and other dangerous cardiovascular problems in the late 1990s.

Wyeth

(WYE)

made Pondimin which, when combined with the non-Wyeth drug phentermine, created the fen-phen cocktail. Wyeth pulled Pondimin and another diet drug Redux from the market in 1997.

Wyeth, then known as American Home Products, was sued by people claiming that Pondimin and/or Redux, when used independently or with phentermine, caused heart damage. The company is still settling fen-phen cases, and some plaintiffs continue to press their complaints. Wyeth has set aside $21.1 billion in reserves to handle its legal costs. The reserve balance was just under $6.6 billion June 30.

Wyeth has said 5.8 million people used the drugs. Merck has estimated that 20 million people in the U.S. took Vioxx, but it hasn't determined how many foreign patients took the drug.

Although Merck has established a $675 million reserve to finance legal defense costs, it hasn't established a reserve for potential damages. Analysts' estimates on Merck's Vioxx litigation costs have been all over the place, ranging from $4 billion all the way to a worst-case scenario of $55 billion if plaintiffs could prove negligence.

The personal injury suits vs. Merck involve 7,500 plaintiff groups. Merck is a defendant in 120 lawsuits seeking class-action status. The next state court case could start next month in New Jersey, and the first federal trial is expected to start in November in New Orleans.

Merck also is a defendant in a number of lawsuits alleging securities law violations in relation to its handling of Vioxx, and it's a defendant in some cases alleging violations of laws governing retirement savings plans. Plaintiffs outside the U.S. have filed Vioxx-related suits, too.