Buy back or pay for­ward?

Financial Mirror (Cyprus) - - FRONT PAGE -

When Bri­tish Prime Min­is­ter David Cameron asked me to lead a re­view into the prob­lem of an­timi­cro­bial re­sis­tance, the last thing I ex­pected was that ac­cept­ing the po­si­tion would lead me to ques­tion one of the most popular tools for cor­po­rate fi­nan­cial man­age­ment: share buy­backs.

The prob­lem of an­timi­cro­bial re­sis­tance is a se­ri­ous one. Left un­ad­dressed, it could be re­spon­si­ble by 2050 for the deaths of some ten mil­lion peo­ple a year, more than cur­rently die of can­cer, along with an as­ton­ish­ing $100 trln in eco­nomic dam­age. For­tu­nately, how­ever, there is much we can do to mit­i­gate the threat – pro­vided that ad­e­quate re­sources are made avail­able.

One im­por­tant av­enue to pur­sue is the devel­op­ment of new drugs. In a forth­com­ing pa­per, the Re­view on An­timi­cro­bial Re­sis­tance es­ti­mates that bring­ing new an­timi­cro­bials to mar­ket and im­prov­ing their ad­min­is­tra­tion will cost about $25 bln – a sig­nif­i­cant sum, but one that pales in com­par­i­son to the costs to so­ci­ety if the prob­lem is not checked. It is also roughly what two of the world’s largest phar­ma­ceu­ti­cal com­pa­nies will spend this year buy­ing back their own shares.

While the re­view has yet to come up with rec­om­men­da­tions for fi­nanc­ing the devel­op­ment of new drugs, it seems clear to me that it is well within the ca­pac­ity of the phar­ma­ceu­ti­cal in­dus­try to con­trib­ute. A com­mon ar­gu­ment made by drug com­pa­nies is that they need to be guar­an­teed a re­ward if they are to in­vest in de­vel­op­ing medicines that are un­likely to de­liver the kind of re­turns that other in­vest­ments may pro­vide. The only sure way to guar­an­tee drug devel­op­ment, the ar­gu­ment goes, is to al­low prices to rise un­til de­mand matches sup­ply.

And yet there is a good rea­son why the phar­ma­ceu­ti­cal in­dus­try can and should play a ma­jor role in fi­nanc­ing some­thing like a com­mon “In­no­va­tion Fund” to pro­vide fi­nanc­ing for early-stage re­search into solv­ing the prob­lem of an­timi­cro­bial re­sis­tance. And that rea­son is one that I be­came familiar with dur­ing my years at Gold­man Sachs: en­light­ened self-in­ter­est.

Six years af­ter the erup­tion of the global fi­nan­cial cri­sis, the bank­ing in­dus­try is still widely blamed for the catas­tro­phe. And, as a re­sult, banks are be­ing hit with reg­u­la­tory con­straints that limit some as­pects of their busi­ness. I sus­pect that if the in­dus­try had shown greater lead­er­ship on is­sues – for ex­am­ple, ex­ces­sive ex­ec­u­tive pay – they would have found them­selves in a much more fa­vor­able en­vi­ron­ment to­day.

The same is true of the phar­ma­ceu­ti­cal in­dus­try. Share buy­backs can some­times be le­git­i­mate, but on other oc­ca­sions they do not seem jus­ti­fied – es­pe­cially when con­sid­ered from the stand­point of en­light­ened self-in­ter­est. In De­cem­ber, the phar­ma­ceu­ti­cal gi­ant Merck spent $8.4 bln to ac­quire Cu­bist Phar­ma­ceu­ti­cals, a Mas­sachusetts-based drug-maker that spe­cialises in com­bat­ing Me­thi­cillinre­sis­tant (MRSA), a bac­te­ria that has be­come re­sis­tant to many types of an­tibi­otics.

In early March – less than three months af­ter the ac­qui­si­tion – Merck an­nounced it would close down Cu­bist’s early-stage re­search unit, lay­ing off some 120 staff and per­haps crip­pling its ef­forts to in­tro­duce new drugs into the pipe­line. Three weeks later, Merck an­nounced that it would spend an ad­di­tional $10 bln to buy back some of its shares. It is dif­fi­cult for an out­side ob­server not to draw a con­nec­tion be­tween the two de­ci­sions.

Of course, du­bi­ous buy­backs

are not



the phar­ma­ceu­ti­cal in­dus­try. Ap­ple is an­other good ex­am­ple. The com­pany’s lat­est quar­terly sales re­sults show how the com­pany has be­come some­thing more than a tech­nol­ogy firm; it is now a ma­jor mid­dle-class Chi­nese con­sumer brand. Within a year, China will likely be a big­ger mar­ket for its prod­ucts than the United States.

And yet, even more strik­ing than this con­fir­ma­tion of the still-ris­ing im­por­tance of the BRIC (Brazil, Rus­sia, In­dia, and China) economies is the sheer size of Ap­ple’s on­go­ing buy­back pro­gramme. In April, the com­pany an­nounced it had au­tho­rised an ad­di­tional $50 bln to be used for re­pur­chas­ing shares, bring­ing the to­tal to $140 bln.

Com­ing at a time when the tech­nol­ogy in­dus­try is un­der in­creas­ing scru­tiny in the de­vel­oped world as gov­ern­ments strug­gle with bud­get short­falls and ris­ing debt, this seems to me to be a ques­tion­able de­ci­sion. Com­pa­nies’ abil­ity to min­imise their global tax bur­den, while boost­ing their earn­ings per share through buy­backs – in some cases fi­nanced with debt – does not strike me as a sta­ble trend.

When com­pa­nies are gen­uinely un­able to iden­tify ar­eas of re­search and in­vest­ment that would help their busi­ness (and em­ploy­ees and clients), they are bet­ter off re­turn­ing the sav­ings to share­hold­ers in the form of higher div­i­dends than au­tho­ris­ing buy­backs. Or, bet­ter yet, in a world con­fronted with a host of prob­lems – from cli­mate change to an­timi­cro­bial re­sis­tance – in­dus­try lead­ers should begin ask­ing them­selves how they can con­trib­ute to avert­ing the crises of the fu­ture.

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