Smithkline Is Buying A Benefits Company It's Acquiring Diversified Pharmaceutical Services. The Cost: $2.3 Billion.

Posted: May 04, 1994

SmithKline Beecham said yesterday it would make its debut in the managed- health-care business by spending $2.3 billion in cash for a Minnesota firm that handles prescription-drug benefits.

SmithKline is joining the latest trend embraced by the pharmaceutical industry, acquiring a firm that plays an important role in deciding what medicines patients will use and how much they will cost.

The British health-care firm with U.S. headquarters in Philadelphia chose as its partner Diversified Pharmaceutical Services Inc., which now manages the pharmaceutical benefits for almost 11 million Americans through their health

plans. It is considered one of the largest companies of its kind in the nation, supervising $2 billion in drug spending.

"Why shy away from a new market segment that is fast growing and fits with what we do for a living?" asked J.P. Garnier, chairman of SmithKline's worldwide pharmaceutical operations. "It makes sense to do it."

Since industry leader Merck & Co. made a foray into the prescription-drug benefits business last summer, drug firms have struggled to craft their own strategies. Some of those plans are now emerging.

Indeed, in a separate announcement yesterday, Pfizer Inc. said it had formed a $100 million joint venture with Value Health Inc., a provider of managed-care programs. Last month, three major drug firms - including Rhone- Poulenc Rorer Inc., of Collegeville - entered into alliances with Caremark International Inc. to provide medicines through its mail-order and retail-drug programs.

"It is monkey see, monkey do," said James Keeney, a financial analyst for Mabon Securities. "Right now it makes sense to me. There is no doubt that the pharmaceutical marketplace has radically changed from 18 months ago or even 12 months ago. The payers are now in control of the pharmaceutical industry. Before it was the prescriber."

In this new environment, drug firms are trying to hold onto their piece of the market, said Robert M. Goldberg, a senior research fellow at Brandeis University. Other firms, at least for the moment, are taking different paths to cope with the changing health-care climate.

For instance, Eastman Kodak Co. yesterday disclosed that it planned to sell its pharmaceutical subsidiary, Sterling Winthrop Inc., of New York, whose American research headquarters is in Montgomery County. Two days ago, Switzerland's Roche Holdings Ltd. said it would acquire Syntex Corp., of Palo Alto, Calif., for $5.3 billion in cash.

"Companies are scrambling, trying to adapt to the new environment, and they are not sure how to do it," said Mick Kolassa, research associate at the University of Mississippi who studies the drug industry.

Viren Mehta, a New York financial analyst for Mehta & Isaly, said the moves afoot were aimed at solidifying the economic clout of the large companies.

"These are trying times with an uncertain future," he said. "It is going to be the survival of the fittest."

SmithKline shares rose 12.5 cents to $28.25 in New York Stock Exchange trading. Shares of United HealthCare Corp., of Minnetonka, Minn., which owns Diversified Pharmaceutical, gained $2.375 to $46.50.

"For United HealthCare, it was excellent," said Tom Callan, a financial analyst for PNC Bank in Philadelphia. "I don't see any drawbacks, and I see a lot of pluses."

Company executives see the benefits of the deal - SmithKline's largest since its merger five years ago - three ways: Their revenues will grow. Their medicines will be distributed more widely through preferred lists - called formularies - implemented by Diversified. And they will be privy to data to help their marketing and research efforts.

The deal gives SmithKline exclusive rights to information on 1.6 million members of health maintenance organizations owned by United HealthCare. Using it, SmithKline executives say, they will learn more about how drugs are used, what works best, what customers want and what they are willing to pay for medicines.

For this information, SmithKline will pay United Healthcare a fee under a six-year cooperative agreement.

SmithKline "will maintain its commitment to leadership in discovering and developing pioneer drugs, but now is the time for us to move beyond the traditional role of selling pharmaceuticals toward a new role as manager of total health care," said Jan Leschly, the firm's chief executive.

SmithKline officials said they would pay Diversified Pharmaceuticals through the company's cash reserves and by borrowing an unspecified amount. The company said the deal would not dilute its earnings this year.

David Koppe, United HealthCare treasurer, said his firm planned to use the money to reinvest in its businesses, but had not decided on specifics.

"United HealthCare gains a strong, mutually beneficial relationship with a global leader in the pharmaceutical industry," said William W. McGuire, the firm's chief executive.

The deal stipulates that United HealthCare continue to use Diversified as its drug-management program for six years. The caveat, however, is that the price must be competitive.

Henry Blissenbach, Diversified's president, said his company had had a dialogue with between 10 and 15 firms since last summer when Merck bought Medco Containment Services Inc. for $6 billion.

"It was definitely our feeling that we need to align ourselves with a pharmaceutical manufacturer," he said. "I am convinced we would not have been able to compete very long if we did not do that."

He said a big drug firm offers a number of things that Diversified needs, including a strong U.S. sales and marketing presence. The firms also hope to market their services abroad.

Diversified Pharmaceutical generated almost $40 million in operating profits in 1993 and about $142 million in sales.

The sale is pending government review.