Merck integrates its risk management into its ongoing business planning processes. Identified risks and opportunities are taken into account in internal planning provided that it can be assumed that these risks and opportunities are probable in the planning period. The risks and opportunities presented in the risk and opportunities report below are those possible future events that could respectively lead to a further negative or positive deviation from planning.
Potential extraordinary negative developments, such as changes in customer demand or new political conditions, are identified, described and assessed as part of the internal risk management process. We can therefore take countermeasures early on if any events lead to deviations from planning. Risks in connection with investment decisions are mitigated by the use of detailed guidelines.
During the planning processes, potential business opportunities are also analyzed and discussed alongside risks. As part of its Group strategy, Merck actively pursues the opportunities that arise, investing selectively in, for example, growth markets. Furthermore, deviations from the macroeconomic conditions assumed in planning, such as economic growth and expected segment-specific developments, e.g. change in the demand for key products of the Merck Serono division, can lead to positive deviations from the planned results.
Political and regulatory risks and opportunities
As a global company, Merck faces political and regulatory changes in a large number of countries and markets.
Risk of more restrictive regulatory requirements regarding drug pricing, reimbursement and approval
In its Pharmaceuticals business, Merck faced increasingly restrictive requirements in 2013 in terms of drug pricing, reimbursement and approval, a trend familiar in many countries. These requirements can negatively influence the profitability of Merck’s products and jeopardize the success of market launches and new approvals. Close communication with health and regulatory authorities serves as a preventive measure to avert risks. The risks are classified on a market- and product-specific basis; overall this is rated as a medium risk to Merck.
Risk of stricter regulations for the manufacture, testing and marketing of products
In its Chemicals business, Merck must adhere to a multitude of regulatory specifications regarding the manufacture, testing and marketing of many of its products. More stringent regulations worldwide can have a negative impact on Merck’s production costs and product portfolio. Specifically in the European Union, Merck is subject to the European chemicals regulation REACH, which is designed to ensure a high level of protection for people and the environment. It demands comprehensive tests for chemical products. Test procedures can be costly and time-intensive, and lead to a rise in production costs. Moreover, the use of chemicals in production could be restricted, which would make it impossible to continue manufacturing certain products. As Merck is constantly pursuing research and development in substance characterization, and in the possible substitution of critical substances, the occurrence of this risk is thought unlikely. Nevertheless, it is still classified as a medium risk given its potential impact on the net assets, financial position and results of operations.
Risk of destabilization of political systems and the establishment of trade barriers
Like changes in monetary policy, the destabilization of political systems and the possible establishment of trade barriers can lead to declines in sales in certain countries and regions. Diversification in terms of products, industries and regions enables the mitigation of potential negative effects. The effects of corresponding risks are taken into account to the best of ability in the business plans for the countries and regions concerned. In particular, our business can furthermore be affected by macroeconomic developments in, for example, Venezuela and Argentina. Corresponding sales strategy measures have been introduced in these countries to minimize the impact on business. Nevertheless, the residual net risk could have a substantial effect on the net assets, financial position and results of operations and its occurrence is considered possible. Merck rates this as a medium risk overall.
Opportunity of positive benefit/risk assessment of Erbitux® for patients with metastatic colorectal cancer (mCRC)
At the end of 2013, the European Commission approved the updated labeling for one of the main products of the Merck Serono division, Erbitux® (cetuximab) for metastatic colorectal cancer, to include patients with RAS wild-type tumors. In doing so the European Commission followed the positive opinion from the Committee for Medicinal Products for Human Use (CHMP) of the European Medicines Agency (EMA) also issued at the end of 2013, which advocated the amendment of product information. The exact effect of the updated approval status can be quantified only with difficulty, but it could lead to slight additional increases in the sales assumed for Erbitux®.
Market risks and opportunities
Merck competes with numerous companies in the pharmaceutical, chemical and life science sectors. Rising competitive pressure can have a significant impact on the quantities sold and prices possible for Merck products and services.
Risk and opportunity of a changing market environment for multiple sclerosis products in the EU
In 2014, the Merck Serono division will face tougher competition as a result of significant changes in the market environment for multiple sclerosis products in the EU. Several new competitors to our product Rebif® are expected to enter the market. Strategies for defending market share have been launched and their impact as well as the development of the market, are being monitored on an ongoing basis. The Merck Serono division has made assumptions to this effect in its planning, however there could probably be an additional moderate impact nevertheless on the net assets, financial position and results of operations. This is rated as a medium risk. If there are delays in the market entry of competitors, a slight improvement in the sales situation for Rebif® compared to planning is possible.
Risk of greater competitive pressure due to biosimilars
Furthermore, biological products from the Merck Serono division could come under greater competitive pressure from biosimilars. Specific regulatory directives apply to the development and approval of competing biosimilars that use the reference data of biological products already approved. Frameworks have been drawn up in both the EU and the United States to enable biosimilars to enter the markets as soon as the exclusive rights of the original products expire. The products Rebif® and Gonal-f® could be affected in particular. The effects of corresponding risks are taken into account as far as possible in the plans for the countries and regions concerned.
Opportunity due to the existing partnership in the field of biosimilars
The prospects of the development and approval of biosimilars also entail opportunities for Merck. Over nearly the past two years, Merck has taken its first steps in this direction and, among other courses of action, has entered into a partnership with Dr. Reddy’s Laboratories Ltd., Hyderabad, India, for the joint development of a portfolio of biosimilars in oncology. The cost of development has been taken into account in Merck’s plans, while a significant contribution to sales development is not to be expected until the medium to long term.
Opportunity due to unexpectedly strong economic recovery in Europe and the United States
A stronger economic recovery in Europe and the United States than forecast by Merck, and the associated rise in investment activity by the private and public sectors is an opportunity for the Merck Millipore division in particular, as well as for the other divisions. Both public spending on academic institutions and the research costs of pharmaceutical companies recently came under heavy pressure as a result of the financial crisis and the high sovereign debt of many key countries. However, the probability of a more rapid recovery is low, and a possible effect is therefore also rated as immaterial.
Opportunity due to screen size growth in the display market
The development in the display market is currently being driven by growing screen sizes in particular. In addition, major events such as the FIFA World Cup 2014 in Brazil could stimulate consumer demand for the latest TVs. Therefore, we by all means see the possibility of a somewhat more positive development in the display market than forecast for 2014. However, the effect on sales and EBITDA pre one-time items in the Performance Materials division would be rather marginal in such a case as the market is dominated by other effects such as price pressure and continuing competition.
Opportunity due to positioning of core strategic brands in the Consumer Health division
There is the opportunity for the Consumer Health division in particular to further consolidate the position of its core strategic brands and to expand its presence in the emerging markets. An initiative has been launched for this purpose that can sustainably contribute to growth in sales and EBITDA pre one-time items. The transfer of the products Neurobion® and Floratil® to the division as of January 1, 2014 could provide additional impetus since this will enable Consumer Health to expand its focus on strategic brands.
Risks and opportunities of research and development
For Merck, innovation is a major element of the Group strategy. Research and development projects can experience delays, expected budgets can be exceeded, or targets remain unmet. Research and development are of special importance to the Pharmaceuticals business. Therefore, research and development projects are constantly monitored by the internal portfolio management system. In the course of portfolio management, we regularly evaluate and, if necessary, refocus research areas and all R&D pipeline projects.
Risks of discontinuing development projects and regulatory approval of developed medicines
Sometimes development projects are discontinued at a late phase of clinical development after high levels of investment. Decisions – such as those relating to the transition to the next clinical phase – are taken with a view to minimizing risk. Furthermore, there is the risk that the regulatory authorities either do not grant or delay approval, which can have an impact on earnings. Additionally, there is the danger that undesirable side effects of a pharmaceutical product could remain undetected until after approval or registration, which could result in a restriction of approval or withdrawal from the market.
Merck is currently not aware of any risks beyond general development risks that could significantly affect the net assets, financial position and results of operations.
Opportunities due to new initiatives in research and development
Merck has made major changes to pharmaceutical research and development in the past two years. A new organizational structure was implemented and the level of external research was raised. For example, the company’s own strategic venture capital fund MS Ventures was increased to € 100 million and research collaborations in Israel were intensified. The Merck Serono pipeline was redesigned and new development agreements were entered into, for example with Threshold Pharmaceuticals Inc. Similarly, Merck is pursuing an innovative approach in the development and performance of clinical trials, and has entered into a strategic alliance with Quintiles, the world’s largest service provider for biopharmaceutical development and marketing. Owing to the relatively long cycles in active ingredient development, Merck expects that the effects of these changes will not be reflected in the results of the Merck Serono division until some point in the medium to long term, but feels that there are excellent prospects for future sales and profitability.
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