Returning recalled brands to stores might not be enough to keep Johnson & Johnson atop the OTC market as Bayer AG closes the deal making it No. 2, with eyes on the global lead, and GlaxoSmithKline PLC and Novartis AG look within nine months to launch their JV with market-leading potential.

Bayer on Oct. 1 closed its acquisition of Merck & Co. Inc.’s consumer care business following receipt of antitrust approvals. The German firm, which agreed to pay $14.2 billion with certain amounts remaining contingent on antitrust approvals in Mexico and Korea, in the deal announced in May, aims to become the top OTC player and says other consumer product acquisitions could follow.

"We intend to continue the expansion of our attractive over-the-counter business both through organic growth and bolt-on acquisitions," CEO Marijn Dekkers said in a Bayer statement.

The firm says pro forma sales of the combined OTC businesses in 2013 were $7.4 billion, with Merck’s business contributing around $2.2 billion ([A#05140512005]).

Bayer says it is the OTC sales leader in North America and Latin America, leading in dermatology and gastrointestinal products, No. 2 in the cold, allergy, sinus and flu and the nutritionals categories and third in analgesics.

Although the Glaxo-Novartis JV announced in April has yet to launch, Bayer already is rearranging the OTC market hierarchy. The German firm says it is No. 2 globally “behind the combined OTC businesses of Novartis and GlaxoSmithKline, following the completion of their announced joint venture in 2015, and ahead of the world's previous industry leader Johnson & Johnson.”

Glaxo and Novartis, meanwhile, look to actually close their agreement to combine their OTC businesses in the first half of 2015, with GSK shareholder approval and other conditional and regulatory clearances, such as anti-trust approvals, needed ([A#05140428004]).

Bayer Has What It Takes

Market analysts, posting research notes following Bayer’s open house with company executives on Sept. 30, say they expect the firm has the management and brand name chops to climb to the top of the OTC market.

Bryan Garnier analyst Eric Le Berrigaud said Bayer executives were clear about their consumer health care aims.

“Bayer is very confident in extracting value from the [Merck] deal, in particular as it will globalize brands that are so far strong but regional with the example of Berocca going into the U.S. or Claritin going in the emerging markets. It takes time to establish brands in countries like Russia (4 to 5 years) but it is then highly rewarding and Bayer is close to the turning point,” Le Berrigaud wrote.

Bayer launched its Berocca brand effervescent energy supplement in the U.S. in July. Allergy drug Claritin was among Merck’s leading OTC brands after the firm gained the line in its 2009 acquisition of Schering-Plough Corp.

UBS Equities analysts also like what they see in Bayer’s OTC outlook. “Brand management and export globally proving to be very successful” for the firm’s consumer business, they say.

Additionally, Bayer’s “track record in Brazil, China, Russia in particular makes them confident they can replicate that success in driving sales of Merck's products, using Bayer's regional infrastructure,” UBS analysts say.

‘Complex’ Move For GSK, Novartis

GSK and Novartis combined their consumer product operations in a two-part deal that also moved Novartis’ non-flu vaccines business to Glaxo for up to $7.1 billion plus milestones and royalties. Analysts were positive about the firms’ agreement, calling the OTC JV a good move for both.

Deutsche Bank analysts in April said “the combined transactions make strong strategic sense for GSK,” in part because the U.K. firm’s “OTC business will be elevated to #1 globally (and it will rank #2 only to J&J in the wider Consumer Health category).”

Prestige Tops Independents, Sanofi, Pfizer Ride Switches

While multiple firms nip at J&J’s heels for the top spot in OTC sales, Prestige Brands Holdings Inc. is not threatened for the lead in nonprescription drug sales among independent marketers – those not part of pharmaceutical firms.

Prestige, which reported 1.3% growth in OTC product sales to $124.2 million in the April-June period, its fiscal 2015 first quarter, has grown its drug business through acquisitions, and CEO Matthew Mannelly expects Bayer’s acquisition of Merck’s consumer business and the GSK/Novartis combination to launch a JV will make additional brands available.

Sanofi was an early starter in the competition to shake up the OTC sales rankings. Soon after he became CEO in 2008, Chris Viebacher identified doubling the firm’s OTC sales in five years.

Sanofi also has expanded its consumer business through acquisitions, but the firm made big steps in OTC sales with the Rx-to-OTC switches of Allegra Allergy and Nasacort 24HR and could take another substantial step in the nonprescription drug sales race with exclusive rights from Eli Lilly & Co. to apply for OTC approval of erectile dysfunction drug Cialis in the U.S., Europe, Canada and Australia.

The French firm reported 20.2% growth for its consumer products business to $1.1 billion in the April-June period, partly driven by $34.8 million from the February U.S. launch of Nasacort 24HR and from 53.8% growth in Allegra Allergy sales to $126 million.

Pfizer Inc. has not made a commitment to the consumer space similar to Sanofi’s as speculation surfaces periodically that the firm will sell its consumer products business, which it gained in its 2009 acquisition of Wyeth after leaving the OTC space in a 2006 divestment to J&J. However, the firm in May launched Nexium 24HR – an OTC switch of the blockbuster Rx product licensed from AstraZeneca PLC – and is considering submitting a new drug application for an OTC version of Lipitor, the largest-selling Rx drug ever.

Additionally, although Novartis’ OTC business has been hurt in the past couple years by quality-control problems, the Swiss firm is correcting the problems and it brings “a strong collection of brands” to the JV, Deutsche Bank analysts wrote.

Societe Generale analyst Stephen McGarry called the Glaxo/Novartis deal “the most complex and innovative that we have seen” in the pharma industry, but said, “it provides both Novartis and GSK with better platforms for growth that fit each company’s strategy.”

Novartis faced a challenge growing its consumer business, and acquiring additional brands, rather than exiting the space, would come “likely expensively,” McGarry wrote in April.

The JV agreement includes a 20-year put option that allows Novartis to sell its share after three years. “We would expect Novartis to exit completely in due course,” McGarry said.

Competition Not Only J&J Concern

The potential J&J could be surpassed in the OTC space increased when the GSK/Novartis JV was announced and again when Bayer added Merck’s consumer business, but the firm’s hold on the top spot already was slipping after manufacturing quality-control problems forced widespread recalls.

Under a March 2011 consent decree, J&J’s McNeil Consumer Healthcare business shuttered one manufacturing facility and slowed production at two others, cutting off sales of several iconic self-care brands. J&J/McNeil and FDA agreed to the decree following an investigation prompted by a string of recalls of the Tylenol, Motrin, Zyrtec and Benadryl lines in 2009 and 2010 Also see "FDA Enforces Consent Decree Over J&J/McNeil's OTC Manufacturing" - Pink Sheet, 14 March, 2011..

Chief Financial Officer Dominic Caruso recently said J&J is looking to expand its consumer business after it satisfies the consent decree but currently is focused on restoring the OTC business to its previous revenue level. The firm’s consumer market deals could include building scale in emerging markets, such as its acquisition in 2008 of Beijing Dabao Cosmetics Co. Ltd. in China, its 2006 acquisition of French adult and baby skin care product firm Groupe Vendome and its 2013 acquisition of rival baby care firm Shanghai Elsker Mother & Baby Co. in China Also see "J&J Looks To Expand Consumer Business After Consent Decree Obligations End" - Pink Sheet, 11 September, 2014..

Market analysts at Trefis, on the other hand, see becoming smaller as the better strategy for J&J’s consumer business.

In a June research note, Trefis researchers said J&J/McNeil’s March 2014 sale of the K-Y intimate lubricants brand to Reckitt Benckiser Group PLC is a good start for a “rational strategy.”

“The move was hardly surprising from Johnson & Johnson’s perspective, as its consumer business holds little value for its stock due to low margins. The essence is that there is a good chance that the company will continue to downsize its consumer … and focus more on the growing pharmaceutical segment,” according to the Trefis note.

Other analysts, though, cannot imagine J&J without a market-leading OTC business. A Sept. 4 BMO Capital research note says the OTC business is J&J’s “largest and best known franchise” and led the global market in 2013 with 27.4% of segment sales, $4 billion.

“With management’s continued efforts to meet consent decrees and complete the return of the iconic OTC brands to shelves, we believe Johnson & Johnson’s OTC franchise will improve its margins and market share in the coming years,” wrote BMO analysts.

Morningstar analysts like the consumer business’s contribution to J&J’s sales, saying the diversity of the firm’s operations is “a major pillar” and “the company is not overly dependent on one particular operating segment.”

Lonely At The Top? Not In OTC Sector As Bayer, GSK/Novartis Challenge J&J

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