Biotech revolution changed the pharmaceutical industry, triggering a wave of risky collaborations between rivals. Based on the research findings, we answer the question why cooperation in the field of immuno-oncology is a better strategy for Pfizer and Merck KGaA, which aim to achieve competitive advantage quickly and with minimum effort. Combining their assets and core expertise companies realize benefits of greater size and variety in the conduct of research, development and commercializing of their new breakthrough therapy for cancer treatment.

1. Pfizer and Merck
cooperate to fight
cancer
Analyzing the companies’ benefits
Based on Pre-Thesis Research Paper
Popova Evgeniia

2. ACKNOWLEDGMENTS
This publication (with minor changes) arises from class assignment
paper with the original title “Pfizer and Merck cooperate to fight
cancer – Analyzing the companies’ benefits” written for the course
“Business Cooperation: Case Studies” in the University of Muenster.
I wish to recognize the valuable help of my supervisor Dipl.-Math.
Dr. Eric Christian Meyer provided during my research.
Check out for pre-print version on
https://ssrn.com/abstract=3061160

3. 3
ABSTRACT
Biotech revolution changed pharmaceutical industry triggering a
wave of risky collaborations between rivals. Based on the research
findings, we answer the question why cooperation in the field of
immuno-oncology is a better strategy for Pfizer and Merck KGaA,
which aim to achieve competitive advantage quickly and with
minimum effort. Combining their assets and core expertise
companies realize benefits of greater size and variety in the conduct
of research, development and commercializing of their new
breakthrough therapy for cancer treatment.
INTRODUCTION
Biotech revolution changed pharmaceutical industry promoting
the role of alliances and product licensing cooperative agreements as
technologies of drug research and development (R&D) advanced.
This development has in turn triggered a new trend – risky
“competitive” cooperation between rivals in attempts to realize
advantages of greater size and variety in the conduct of R&D. This
paper examines strategic alliance between Pfizer and Merck KGaA to
find out benefits companies gain through cooperation strategy
employed.
Benefit is defined in the Cambridge English dictionary as a
“helpful or good effect, or something intended to help” meaning in
the economic concept that partnership is formed to provide
advantages for the parties. In contest of this paper “Benefit of
cooperation” refers to a positive effect companies achieve through
combining their complementary assets and competencies.
Analysis is carried out on the methodological basis. Conditions
of the deal and nature of R&D in pharmaceuticals determine
application of concepts of economies and core competencies.

4. 4
First, the large variety of therapeutic classes of medicines opens
the way to specialize in certain of them and to develop different types
of competencies (skills necessary for the development of antibiotics
differ from those in the field of psychotropic drugs): both Pfizer and
Merck specialize on immunology. The relevance of one or another
class of drugs (and respectively the competencies needed to develop
it) depends on the operating environment: both companies focus on
immuno-oncology and develop complementary type of drugs. This is
the base for application of concept of core competencies.
Second, pharmaceutical industry relies heavily on investment in
R&D. Due to high costs of R&D large organizations are favored
over small. To achieve required scale in development and marketing
operations companies enter into collaborative agreement. This is the
base for application of the concept of economies of scale.
The main objective of this paper is to determine sources of
benefits of cooperation for Pfizer and for Merck by focusing on the
tradeoff companies undergo to gain competitive advantage. This
paper highlights how companies can succeed by cooperating instead
of competing as they combine their expertise in the field of immuno-
oncology. The study explores how cooperation can be derived as a
response to specific challenges in pharmaceutical industry and
illustrates the importance of economies of scale and scope in both
companies’ activities.
FRAMEWORK CONDITIONS
Biopharmaceutical industry - a major source of medical
innovation and a high-technology and knowledge-intensive industry -
involves scientific research in emerging or unexplored fields of
medicine. Hence it is characterized by high fixed costs of
development and relatively low incremental costs of production (see
Danzon, 2006, OECD, 2000, Charles L. Hooper, 2008).

5. 5
Cancer drugs are expensive to develop due to high level of proof
required by the Food and Drug Administration (FDA). The path
through the review process is long and expensive and doesn’t
necessarily result in commercial product. But once new medicine is
approved and brought to market, it is cheap to produce. This means
that a pharmaceutical company to simply break even must price its
drugs well above its production costs (see Charles L. Hooper, 2008).
At the same time, health insurance pays part of the drug costs
for patients: as payers cover oncology drugs, cancer drugs do not
compete on price (see Reuters, 2017). Therefore, existence of
government’s healthcare programs leads to the market exclusivity of
biopharmaceutical companies
While failure rates during R&D are high (according to OECD of
10 000 products only 100 reach human trials and only 10 are
marketed), clinical approval success rates are low. It is particularly
true for oncology drugs with very low success rates and likelihood of
approval. Clinical development success rates in 2005-2015 suggest
that this probability lies around 5% and rises if compounds are
developed in an alliance (see Thomas et.al, 2016, Danzon et.al, 2003).
Clinical trials are very complex and much time (on average 12
years from discovery to launch of a new drug) is required to undergo
all the stages. Although oncology drugs are approved the fastest of all
14 disease areas, it remains a very challenging drug development area.
However, recent successes in immunotherapies point toward
successful drug programs in immuno-oncology field in coming years
(see Thomas et.al, 2016).
Pharmaceutical firms rely heavily on patent protection, which is
fundamental for ensuring a continuing flow of innovative new drugs.
Only intellectual property rights guarantee that a patent product can’t
be made and distributed by others and provide income flows enough
to finance R&D (see OECD, 2000, p.8). Patent protection is effective
for at least 20 years from the date of the filing, but an effective
lifetime of a new drug introduced in the market and the period of
economic benefit from the patent is much less due to delays in the

6. 6
regulatory approval process (see Kiriyama, 2011, pp.16-17).
These factors determine specifics of competition in
pharmaceutical industry (“competition in innovation” with large
pharmaceutical firms competing in developing new therapies) and
contribute to the recent development in the sector (consolidation).
CONCEPT OF ECONOMIES
Concept of economies is the starting point for understanding
how pharmaceutical companies deal with the challenges of drug
development process. Economies are cost advantages that companies
obtain due to size, scale of output or organizational structure,
meaning that firms can become more efficient by increasing their
size, pooling resources, or combining competencies.
As marginal cost of drug production is low, average costs of
drug development decline when it is conducted on a larger scale
creating thus economies of scale. The reason is that with the growing
scale of development organization can employ more specialized
resources to supervise its clinical trials and to invest in specialist
software that is particularly tailored to the needs and experience of
the firm (see Cockburn&Henderson, 2001).
Since development on a larger scale is often conducted with
adoption of more effective technologies increasing returns are
available to the larger businesses. Often drug development and
promotion are more efficient when conducted within one
organization instead of separately. Due to returns to scope, for
example, a large “combined” organization can transfer competence
and knowledge among different projects and apply expertise
generated within one area to another area at a low or zero marginal
cost. For this reason, economies of scope give advantage to a
company when it produces a complementary range of products
focusing on its core competencies.

7. 7
As development activities require coordination of a wide range
of expertise and a lot of investment, large organisations often have
advantages over small. They can easier carry R&D by spreading the
fixed costs over a larger sales base (due to expanded distribution
network for example) or effectively raise capital to fund risky
projects. Meanwhile the cost of developing a prescription drug that
gains market approval has risen to $2.6 billion (according to estimates
of Tufts Center for the Study of drug development).
Although, increasingly, new drugs originate in small firms,
inventors market less than 30% of biotechnological drugs on them
own (see Levine, 2009). Small firms often don’t have required
capabilities to bring their compounds to the late-stage trials and
commercialize them. So, they out license their products to more
experienced firms or enter collaborations for later-stage drug
development and regulatory review (see Danzon, 2006).
CORE COMPETENCIES
Unique expertise at a corporate level, which determines the
organization's unique competitive position, is the key to sustainable
success of pharmaceutical company in the long run. It allows to
outperform rivals by concentrating resources in the areas, where the
company can offer best possible product/service for its customers,
switching at the same time away from market segments, where the
firm is weak. It arises from firm-specific knowledge and competitors
cannot copy it quickly enough to affect company’s position. Such
distinctive competence is called core competence.
The concept of core competence, which lies behind current
wave of outsourcing and consolidation activities in pharmaceutical
industry, is one of the most prominent ideas currently shaping the
world of business cooperation. It was introduced by Prahalad and
Hamel, who defined core competence as “the collective learning in

8. 8
the organization […] how to coordinate production skills” and
compared it to the root system that provides a large tree (diversified
corporation) with “nourishment, sustenance and stability” (Prahalad
and Hamel, 1990, p.81). Porter mentions “distinctive abilities”, which
represent “the most formidable artillery” of the firm in the battlefield
of competition and “defend against existing competitors” (Porter,
1980, pp.71, 57).
Core competencies arise from “the complex interplay” between
tangible (land, equipment)intangible (brand name, reputation)
resources and capabilities (c.f. Rothaermel, 2008, p. 208) in the
process of adapting through innovation to the environment.
Therefore, conditions of market demand determine the relevance of
specific skills to be developed within the organization.
Prahalad and Hamel derive long run competitiveness from an
ability “to build […] the core competencies that spawn unanticipated
products” and “to reinforce them”. They mention that expertise can
be dispersed over several areas, creating thus a wide range of final
products for a variety of markets. In this sense, exceptional skills help
building up and diversifying the company’s portfolio.
As core competencies have quite specific nature, they cannot be
simply acquired on the open market. One of the alternative options
to get access to unique expertise is to enter into collaborative
agreement with the organization that has the necessary knowledge
and skills.
TERMS OF AGREEMENT
The perfect example of such cooperation is strategic alliance
between Pfizer and Merck KGaA. Merck started cooperation with
Pfizer in 2014 as a research and development opportunity in the
Health care business sector. As a part of strategic alliance potentially
worth more than $2.8Billion, two companies combine

9. 9
complementary assets and competencies to co-develop and co-
market breakthrough therapy for cancer treatment. Overriding
objective of strategic alliance is to share risks of development and to
accelerate the companies’ presence in the “hottest area of cancer
research” (Reuters, 2014) - immuno-oncology.
Under the terms of agreement Pfizer made an upfront payment
of $850Mio (according to Firstwordpharma – the largest on record
for a Phase I product licensing collaboration) and proposed
additional up to $2Billion for the right to jointly develop and
commercialize Avelumab initially discovered by German Merck.
Pfizer also agreed to bear one-half of development expenses and to
evenly split defined income components after commercializing the
drug. In return, Merck got certain co-promotion rights for Pfizer’s
asset XALKORI in the key United States market.
Avelumab is an experimental medicine for treatment of a rare
and aggressive form of skin cancer called Merkel cell carcinoma
(MCC) - less than 20% patients with MCC survive beyond 5 years. It
represents new class of drugs known as checkpoint inhibitors PD-L1.
The drug’s filling for approval in the United States and Europe
for treatment of metastatic MCC began in 2016. In May 2017
Avelumab was approved by US Food and Drug Administration
(FDA) by the name BAVENCIO under accelerated approval
procedure based on tumor response rate and duration of response. In
September 2017 it was approved for the use in European Union
(EU) for treatment of patients with MCC becoming the first
approved immunotherapy in the EU for the given indication (see
Zacks, 2017).
XALKORY is a chemotherapy developed by Pfizer. It is already
approved in the U.S., Japan and the European Union (EU) for
treatment of non-small cell lung cancer (NSCLC) - the most
common type of lung cancer, which however has many subtypes and
can be difficult to treat.
Under the terms of agreement companies also advance Pfizer’s
PD-1 antibody into Phase I trials and test Avelumab in combination

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with Pfizer’s agents in multiple regiments.
According to Pfizer’s press release, in 2014 company recorded
$1.2Billion of Research and development expenses associated with
collaborative arrangement with Merck.
PROFILES
Pfizer
Pfizer is one of the world’s largest global research-based
biopharmaceutical and consumer healthcare companies with market
capitalization of $216.6Billion (as of October 2017). It develops and
markets prescription medicines in 11 therapeutic areas (from
oncology and cardiology to HIV/AIDS), including blockbuster drugs
like Viagra (for erectile dysfunction) or Lyrica (for neuropathic pain).
Most of them, however, are in maturity stage and will lose soon
patent protection.
Pfizer operates through two business segments: Pfizer
Innovative Health (IH) and Pfizer Essential Health (EH). The first
segment offers prescription medicines and vaccines in several
therapeutic areas, including oncology and immunology products, for
which Pfizer retains patent protection. The second segment includes
products that will lose or have lost intellectual property rights. Its
portfolio consists of branded generics, biosimilars and infusion
systems. Pfizer EH also has an R&D unit and engages in contract
manufacturing business, which operates under licensing and
collaborative agreements. Its partners include Cellectis SA,
AstraZeneca plc, Eli Lilly & Company and Merck KGaA.
Pfizer employs more than 90,000 people worldwide and
conducts a lot of biomedical research. It generated revenue of
$52.8Billion in 2016 with $29.2Billion from IH segment and
$23.6Billion from EH segment (Pfizer’s financial report for 2016).
The company pursuits an aggressive M&A strategy and has spent
around $20 Billion on acquisitions in 2016.

11. 11
Although Pfizer generates half of the total consolidated revenue
is the US, the drug maker has a strong global presence. Company
operates in more than 75 countries, including countries of Asia-
Pacific Region (around 8% of sales in Japan), Western Europe and
Emerging Markets (China, Russia).
Pfizer Inc. was founded in 1849 as a manufacturer of fine
chemicals and is headquartered in New York, New York. Its shares
are traded on the New York Stock Exchange as a component of
Dow Jones Industrial Average.
Merck
Merck is a technology company in healthcare, life science and
performance materials with circa 50 000 employees. It is the oldest
chemical and biopharmaceutical company with major research and
development centers in Darmstadt (Germany). Its shares are traded
on the Frankfurt Stock Exchange since 1995 as a component of Dax
Index of Germany’s top companies. Market capitalization of Merck is
€40.6Billion (as of October 2017).
Merck itself states that it is “a leading company for innovative
and top-quality high-tech products” in healthcare, life science and
performance materials, which operates to “improve the quality of life
for patients, to foster the success of customers and to help meet
global challenges”.
Merck was founded in 1668 as a “family business”. It is still
majority owned (more than 70 Percent) by Merck family. Company
was long known by its broad chemical background and core skills in
organic chemistry. Today Merck is the leading producer of liquid
crystals for Flat TV’s. At the same time Merck successfully engages in
development of prescription medicines, biopharmaceutical and
biosimilar products. Company serves European, North American and
Emerging markets.
The company has six businesses – Biopharmaceuticals (EMD
Serono), Consumer Health, Allergopharma, Biosimilars, Life Science
(Millipore Sigma) and Performance Materials (EMD Performance

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Materials) – and generated sales of €15Mio in 2016 (Merck annual
report, 2016).
BENEFITS FOR PFIZER
Collaboration with Merck through acquisition of rights to jointly
develop and commercialize Avelumab enables Pfizer to have access
to “one of the most promising fields of medicine” (Bloomberg, 2017)
– immuno-oncology. The largest on record for a Phase I product
upfront payment of $850Million demonstrates Pfizer’s interest in
winning access to Merck’s core agent, as it enables American
company to keep pace with its competitors by bringing to the market
new breakthrough therapy for cancer treatment.
Pfizer with a gap in its immuno-oncology portfolio was actively
looking for inventors – partner firms who could fill this gap. Earlier
in 2014 Pfizer made $118Billion takeover bid for British group Astra
Zeneca, which was unsuccessful. After that fail American company
shifted its focus toward Merck’s cancer pipeline.
Merck’s anti-PD-L1 inhibitor, which works by blocking a
tumor’s ability to evade the defense of immune system, is an
important product for Pfizer both from clinical and commercial
perspective. Not only because it targets a major unmet need in the
market for patients with MCC with only few treatment options
available, but also because Merck’s antibody PD-L1 is a ligand to
Pfizer’s receptor PD-1 that opens the way for testing companies’ core
agents in interaction, which “has shown promising clinical success as
a cancer immunotherapy target” (ABCAM).
Thus, by combining complementary assets with German
company that has deep expertise in neurology, fertility, endocrinology
and an attractive pipeline of potential therapies in immuno-oncology
Pfizer aims to create a new asset class with a wide range of marketing
applications. This will strengthen company’s presence in oncology,
where Pfizer is currently weak. According to financial report of the

13. 13
company, oncology drugs generated only $4.6Billion in 2016 far
behind internal medicine drugs and vaccines with combined sales of
$15.9Billion in 2016.
Through the collaboration with Merck Pfizer gets agents
targeting both PD-L1 and PD-1 inhibition. Each of them can be used
as monotherapy and in combination with other drugs that are already
effective in different indications. As result, PD1/PD-L1 program
enables Pfizer to create a robust portfolio of immuno-oncology drugs
for treatment of multiple cancer types, which can successful compete
in the market compensating for losses due to patent expirations on
other drugs (Pfizer has lost more than $20Billion in 2011-2016
according to Motley Fool).
Pfizer announced in 2016, that currently 30 immuno-oncology
clinical development programs (testing PD1/PD-L1 therapy in
various regiments) are on-going, ten of which are potentially
registration enabling trials. According to the company, initial sales of
Avelumab “could already materialize” in 2017 generating about
$579Million in sales to 2020 (estimates of analysts’ by Bloomberg).
Due to long cycles in active ingredient development alliance with
experienced Merck is beneficial for Pfizer from time perspective, as
the company gets access to capabilities and competencies it cannot
develop quickly enough internally to move into the first wave of
immuno-oncology based therapies, where a handful of competitors is
already available across multiple cancer indications (Merck Co.,
Bristol-Meyers-Squibb and Roche Holding).
Through combination of resources with Merck Pfizer applies
expertise generated by German company to internal areas at a low
marginal cost (economizing thus on scope) and advances its own
anti-PD-1 antibody into Phase 1 trials significantly reducing the
timeframe for development and avoiding the duplication in R&D.
Collaboration with Merck on promotion of XALKORY in US is
also beneficial for Pfizer. Even though Pfizer is a large
pharmaceutical company it still lacks access to distribution networks.
Merck, which has established infrastructure, niche expertise in

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specialty care and knowledge of the clinical oncology community, is
the right partner for Pfizer to effectively promote XALKORY.
Even though Pfizer is one of the leading pharmaceutical
companies in regard to R&D, company has failed to market new
breakthrough products in recent years. Most promising products in
Pfizer pipeline (like Xtandi or Eucrisa for atopic dermatitis) result
from acquisitions. The deal with Merck and access to its core assets
and competencies enables Pfizer to avoid additional investment and
to ensure sustainable growth and profitability over the long term.
BENEFITS FOR MERCK
Strategic Alliance with Pfizer is beneficial for German
conglomerate as well, as it strengthens Merck’s oncology business in
a very important US market and significantly reduces the cost and the
timeframe of development of new therapy. At a time when
Merck&Co’s melanoma drug Keytruda and Bristol Meyers Squibb
Co’s lung cancer drug Opdivo, are among top-selling medicines
globally, the transition is key for Merck’s future success in emerging
field of immuno-oncology.
Merck indicated in September 2014 that it was seeking a partner
for clinical development and commercialization program of
experimental medicine Avelumab (anti-PD-L1), as the innovator
didn’t have the capabilities to efficiently do it on his own. Avelumab,
which was expected to serve a large US market and to be the
company’s most significant product launch in years, was in Phase I
study at the time. A cash rich Pfizer with profound commercial
expertise and an established distribution infrastructure in the US
proposed more than any other company for the German asset in the
initial stage of development and agreed to bear half of the costs
during the drug development, which substantially raised the speed of
bringing Avelumab into phase 2 and 3 studies and increased the

15. 15
chance for the medicine to be approved and brought to market.
Thus, collaboration with Pfizer enabled to generate income flow
enough to bring Avelumab to the late-stage trials and regulatory
review and supported Merck’s development activities in immuno-
oncology. Currently Merck is being spending almost 2Mio Euro on
R&D activities in Healthcare business sector (76% of Group R&D
spending). In 2016 Merck announced that its R&D costs increased
year-over-year by 15%, however, reimbursements amounting to
84Mio Euro due to strategic alliance with Pfizer compensated high
R&D costs.
Collaboration with Pfizer due to continuous cash flow
significantly shortened timeframe for development and marketing of
PD-L1 accelerating thus Merck’s entry into immuno-oncology
market. In 2016 FDA had accepted jointly developed Avelumab for
priority review, which reduced the review time from 10 to 6 months.
More important is however, that strategic alliance with Pfizer,
which has strong brand image in the US, enables Merck to reach
global scale in operations by sharing the distribution network with
American giant and entering into the key US oncology market. The
deal foresees not only agreement on co-development and co-
commercialization of Avelumab, which brings Merck half of the
revenue from marketing of the drug, but also co-promotion rights for
XALKORY developed by Pfizer.
XALKORY is an already established product in US oncology
market with generated sales of $561Mio (a growth of 17% year-over-
year basis) in 2016. Since 2013 its revenue almost doubled and is
expected to grow further due to increasing rate of diagnosis for ALK
(anaplastic lymphoma kinase) gene mutation in major markets (see
Market Realist, 2016).
Earlier German conglomerate announced that it has established
a strong salesforce for XALKORI based in US markets with premier
cancer centers. Building on this first entry Merck aims to progress
expanding in the US market with additional immuno-oncology
therapies.

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CONCLUSION
After analyzing the case it can be concluded, that both Pfizer
and Merck benefit from the cooperation. Application of the concepts
of economies and core competencies provided the following
evidence:
Strategic Alliance between Pfizer and Merck is driven by
economies of scale and scope in R&D and marketing on the
background of competitive and regulatory challenges. Pfizer, which
was looking to fill a gap in its portfolio of immuno-oncology drugs,
gains advantage by returns to scope rather than returns to scale. For
Merck, which aims to get access to the key US market, both effects
appear to be relevant.
Both Pfizer and Merck benefit from the cooperation by the
possibility to gain access to the tangible (distribution networks, cash)
and intangible (expertise in the immunology, knowledge of market
and customers) assets of another firm. Companies access expertise,
which complements their own core competence. Pfizer relies on
Merck’s expertise in development of immuno-oncology drugs and
knowledge of US specialty care market combining it with its own
tangible and intangible assets on hand. Merck advances development
and marketing program of its new cancer therapy to the later stage
trials combining its efforts with a cash rich and experienced
American partner economizing thus on R&D costs. Through transfer
of marketing rights for XALKORY, developed by Pfizer, Merck
gains access to the key US market becoming thus one of the leading
biopharmaceutical companies with a greater share in the global
marketplace.

17. 17
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