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AstraZeneca Plc After The Patent Cliff

The thing about technological and scientific change is that it can happen very quickly. University start-ups can be transformed into global titans  — think of Facebook. And internationally known giants can end up in the bankruptcy courts — think of Kodak.

The pace of change in the pharmaceutical industry is almost as fast as in the computer industry. Just think of recent innovations: biotechnology and biologics that provides many of today’s new medicines; stem cells that will soon mean you will be able to grow your own organs and body parts; gene sequencing that will soon be so cheap that it will be part of normal day-to-day medical screening, as well as novel diagnostics and vaccine technologies.

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As the worlds of computing and medicine collide, if anything this scientific revolution is accelerating, not slowing down.

Our first picture of the pharma industry post the patent cliff

In the 1980s and 1990s, the pharmaceutical industry was booming as drug after drug was launched. This was the rapid growth phase of the pharmaceutical industry, when companies such as GlaxoSmithKline and AstraZeneca (LSE: AZN) (NYSE: GSK.US) bought up companies and expanded their R&D facilities.

But the past decade has been a decade dominated by the pharmaceutical patent cliff. This is the idea that many of the industry’s main blockbuster drugs are nearing patent expiry. The question was how the pharmaceutical industry would adapt to a world where drug profits are falling rather than rising.

Now, for the first time, we are beginning to form a picture of Big Pharma post the patent cliff.

Of all the drugs companies, AstraZeneca was seen as the company that had the steepest patent cliff to negotiate. With the expiry of patents on multi-billion pound drugs such as Seroquel and Nexium, AZ’s profits have tumbled. Here are the simple numbers:

2011 EPS: 470p, 2012: 306p, 2013: 257p, 2014: 262p, 2015: 246p

In a few short years, AstraZeneca’s earnings per share has halved. The company’s P/E has thus increased from single digits to 14 in the current year and 15 next year — higher than the FTSE 100 average. The picture we have is of a company whose profits have fallen sharply, and is no longer the bargain it seemed a few years ago.

Restructuring, refreshing and recovering

AstraZeneca’s chief executive summarises the situation succinctly. The company is at the early stages of a long journey to recovery.

The goal in 2014 is to invest in research and acquisitions to rebuild the firm’s drugs pipeline. AstraZeneca is restructuring and refreshing its research centres and will reduce its global workforce by 10%. By 2017 the business aims to see a return to growth and to have restored its revenues to its 2013 level. By 2020 the company aims to have launched 10 blockbuster drugs since 2013. After 2020 the company should have achieved leadership in its core technical areas.

These goals are ambitious, but the fact that the company’s share price has increased by 30% in the past year shows the market’s confidence that AstraZeneca is now firmly on the path to recovery, and is past the worst of the patent cliff. I rate the shares a hold.

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Prabhat owns shares in none of the companies mentioned in this article. The Motley Fool has recommended shares in GlaxoSmithKline.