Markets & Finance

S&P Affirms Ratings for Merck Amid Divestiture Announcement


On Jan. 29, Standard & Poor's affirmed its triple-'A' long-term corporate credit and senior debt ratings, as well as its 'A-1'-plus short-term corporate credit and commercial paper ratings on Merck & Co. Inc. (MRK). The action is in response to Merck's announcement of its planned divestiture of its pharmacy benefit manager (PBM) subsidiary, Merck-Medco. The outlook is stable.

Merck-Medco accounts for over half of Merck's current revenue base, but represents only a minimal portion of the combined company's earnings and cash flows, due to the fact that Merck-Medco, like its rival PBMs, includes the drug costs for prescriptions processed in its revenue number. Following the planned divestiture, which will be executed through a partial initial public offering of Merck-Medco in mid-2002 and a spin-off of the rest of the company within a year after the IPO, Merck will be more focused on its much higher margin pharmaceutical operations.

The top-tier ratings on Merck reflect the company's continued strong positions in the pharmaceutical industry and its substantial cash generation that is well in excess of ongoing needs.

Whitehouse Station, N.J.-based Merck is currently going through a period in which a number of its major pharmaceutical products have recently lost or will soon lose patent protection Vasotec, Pepcid, Mevacor, Prinivil, and Prilosec. Indeed, the company expects minimal earnings growth in 2002, due largely to the impact of generic competition.

However, newer products, including Zocor, Vioxx, Singulair, Fosamax, and Cozaar/Hyzaar, enjoy patent protection through at least 2005 and largely offset the impact of the expired patents. The breadth of its portfolio blunts concerns of slowing growth or increased competitive pressure on any one product, but also attests to the productivity and effectiveness of Merck's internal R&D program. The company intends to spend approximately $2.9 billion on pharmaceutical R&D in 2002, and projects to file or launch 11 new drugs from 2002 to 2006. Merck also plans to increase its emphasis on product in-licensing and targeted acquisitions.

Accordingly, the slowdown in earnings growth at Merck's pharmaceutical operations is expected to be temporary. In the interim, Merck is expected to maintain a very conservative financial position and a high level of financial flexibility, demonstrated by cash and investments that exceed debt, and by prospects for strong cash flow from its newer high-margin products.

OUTLOOK: STABLE. The divestiture of Merck-Medco should not cause any significant disruption to Merck's operations, given that Merck-Medco has largely operated as an independent entity. At the same time, Merck's core pharmaceutical development activities should benefit from management's greater attention to them. From Standard & Poor's RatingsDirect


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