New Learning at American Home Products
In Alfred D. Chandler Jr's new history of the modern chemical and pharma industries, American Home Products follows a singular path to success. An excerpt from Shaping the Industrial Century.
The success of American Home Products reflects a unique path of learning. The company originated with the merger of several companies in related businesses. During the seventy years following its formation in 1926, the company's senior managers at their headquarters in New York City became skilled in moving out of lower-value into higher-value paths as technologies and markets changed. Before World War II those managers became proficient in monitoring the processes of production and marketing in each of the different paths. After the war they focused on expanding their high-tech prescription drug business. They relied, however, on licensing rather than building their own in-house capabilities for drug discovery and commercialization. In the low-tech OTC [over-the-counter] sector, they consistently maintained a strong profit performance. For this reason, of the world's thirty largest pharmaceutical companies in 1984, American Home Products ranked first in sales and twenty-eighth in R&D expenditures as a percentage of sales.23
As the historian Williams Haynes noted, by the end of the 1930s, American Home Products had acquired firms in six major businesses: "ethical drug preparations; publicly advertised medicinal, pharmaceutical and dentifrice preparations; food products; household products; cosmetics and toilet preparations; and chemicals, organic colors and pigments, dye stuffs and intermediates." Each of these product lines was administered through a separate division integrating product development and marketing, but without significant research capability. For all but chemicals and prescription drugs, the corporate focus was on marketing, especially advertising.24
In prescription drugs, the company's initial learning base emerged with the purchase in 1931 of John Wyeth & Brothers.
In prescription drugs, the company's initial learning base emerged with the purchase in 1931 of John Wyeth & Brothers, a respected mid-sized Philadelphia drug company established in 1860. The Wyeth family had made a substantial gift of its securities to Harvard University, and it was acquired from Harvard for virtually nothing.25 By 1931 Wyeth was producing vitamins, vaccines, and serums. In addition, in 1943, American Home Products acquired Ayerst Laboratories, a maker of cod-liver oil, vitamins, and estrogen. Ayerst, as the designated producer of penicillin for Canada's armed forces, provided American Home Products with a learning base in the antibiotic revolution at its very beginning.
Early in the postwar era, American Home Products moved out of chemicals but continued to expand its other lines, both by internal investment and acquisition. In pharmaceuticals, it concentrated on enlarging its OTC business by, as before, exploiting its advertising skills. By 1979 it had developed a broader line of new prescription drugs, beginning in 1968 with Inderal, a beta-blocker drug licensed from Imperial Chemical Industries (ICI). It then licensed from others, often foreign pharmaceutical companies, Orval (an oral contraceptive); Isodril, a coronary drug; estrogens for menopausal treatment; a new antihistamine and other antibiotics; and infant nutrition formulas. By 1979 prescription drugs accounted for 39 percent of total sales and 55 percent of net income. As the company expanded its high-technology line, it divested itself of its cosmetics and toilet preparations.26
In 1979 the remaining 61 percent of sales from its other divisions was fairly evenly divided. Over-the-counter drugs represented 14 percent and included Anacin (second in sales to Johnson & Johnson's Tylenol); Dristan and other cold and allergy-relief medicines; and drugs for asthma, hemorrhoids, and other ills. Canned and packaged goods brought in 11 percent, including such brands as Chef Boyardee spaghetti, Mama Leone's pasta, Gulden's mustard, and others. Confectionery, including Wrigley's chewing gum and Brach's candies, provided another 11 percent. Household products, including Ecko hardware, Woolite (a cold-water wash), Black Flag insecticides, and Old English furniture polish, added 14 percent. And finally, housewares, including PAM cooking spray, accounted for 13 percent.
In the early 1980s American Home Products decided to enlarge its higher-value-added healthcare business by attaching medical equipment to its portfolio and by divesting itself of the lower-margin non-healthcare divisions. In this restructuring, it benefited from the market for corporate control that in the 1980s was facilitating the selling of operating divisions and the acquiring of those of other companies. This shift in its product portfolio started in 1982 with the purchase of Sherwood Medical Company, the leading manufacturer of medical instruments, for $425 million. This entry into medical instruments was similar to the strategy of Squibb, but took place on a much more modest scale than that of SmithKline or Warner-Lambert. The disposal of the confectionery and household goods followed. In 1984 ensued the sale of its gum business back to its former owner, William Wrigley, and two years later the sale of its candy business to the Swiss firm of Jacob Suchard. In 1986 the Ecko housewares line was divested to the Packaging Corporation of America for $388.2 million, largely in cash. In 1990 the venerable British consumer-chemical producer, Reckitt & Coleman, acquired the household goods division of American Home Products for $1.3 billion.27
Proceeds from these sales, supplemented by retained earnings, helped to finance the expansion of the company's healthcare businesses. In 1986 American Home Products bought Chesebrough-Pond's hospital supply products division for $260 million to reinforce its earlier acquisition of Sherwood. In 1987 came the company's purchase of Bristol-Myers's animal healthcare division for $62 million and the acquisition of VLI, producer of a contraceptive sponge, for $74 million. Most important was the company's successful bid in 1988 of $3.18 billion for A. H. Robbins, a transaction that enlarged its OTC business, making it second in sales only to Johnson & Johnson. The purchase price included $2.5 billion to cover damages resulting from litigation involving Robbins's Dalkon shield contraceptive device that had forced that company into bankruptcy. The acquisition further strengthened American Home Products's new animal health unit and its established prescription drug line. In 1987, predating the Robbins transaction and the sale of the housewares division, 75 percent of the sales and 80 percent of net income of American Home Products derived from healthcare and the remainder primarily from food and household products.28
By 1991, 89 percent of sales and 92 percent of profits came from its broad portfolio of healthcare products, including prescription drugs (in which it was the leader in women's health care), OTC drugs (in which its Advil and Anacin were best-sellers), nutritional products (in which its infant formula preparations ranked just behind those of Abbott and Bristol-Myers in market share), and hospital supply goods. The remaining 11 percent of sales and 8 percent of profits still derived from food.29
Because American Home Products was more diversified than other pharmaceutical firms, the restructuring of its product portfolio resembled more that of the chemical companies than of its pharmaceutical competitors. Its executives, like those in chemicals, acquired managerial capabilities in maintaining and upgrading product portfolios through acquisition and divestiture. Acquisitions were financed almost wholly out of retained earnings and income received from divestitures. The resulting overall financial record was impressive. In 1991 its debt of $10.5 million rendered it a debt ratio of 3.2 percent. The restructuring of its portfolio raised the profit margin from 12.2 percent to 19.4 percent between 1982 and 1990, while earnings per share rose from $1.08 to $2.38. In 1991, its return on equity was 46 percent. From 1951 through the mid-1990s, the company's earnings and dividends increased every year.
This highly successful strategy and its resulting financial performance harbored one potential flaw. Over the decades the company had built impressive capabilities in production, and, more important, marketing, as well as those activities applicable to meeting regulatory requirements. But it had yet to develop in-house capabilities in R&D. It had not established contacts with the universities and other research institutions that were so vital to building a learning base in the new sciences. Nor was the company able to make headway through licenses alone in commercializing new biotechnology. This lack of technical capabilities led to two major acquisitions late in the twentieth century.
In 1989 American Home Products acquired, for $666 million, 60 percent of the equity of the Genetics Institute. It did so less than a month after that firm had lost a significant patent suit with Amgen. The deal nonetheless provided access to one of the most successful integrated learning bases in the new technology.30
This same lack of technical capabilities on the part of American Home Products appears to have accounted for the larger acquisition, that of American Cyanamid in July 1994, for which the company paid $9.7 billion in cash. American Cyanamid was the only major American chemical company that entered the prescription drug business on a significant scale during the antibiotic revolution of the 1940s. It expanded steadily and so successfully in prescription drugs that in 1992 it spun off its remaining chemical business to its stockholders. In addition, the American Cyanamid purchase included Immunex, one of the very few biotech startups that had surpassed $100 million in revenues. In this way the acquisition of American Cyanamid provided American Home Products with a technical learning base in the innovative technologies of the 1970s and 1980s that it could hardly have built with its own internal resources.31 (In 2002, American Home Products returned to its roots by renaming itself Wyeth Corporation, a designation that signaled its transformation from a diversified consumer products company into a pharmaceutical company.) [...]
The evolution of American Home Products (since 2002, the Wyeth Corporation) is an example of a still greater barrier to entry—that resulting from the creation of a new industry based on a new science, molecular genetics, and a new technology, rDNA. American Home Products's financial success since its beginnings in the 1920s rested on the abilities of its managers to perfect functional capabilities as they moved successfully out of old industries into new ones, beginning with chemicals, food stuffs, household products, cosmetics, healthcare, and OTC prescription drugs. After World War II, it concentrated increasingly on the pharmaceuticals, both prescription and OTC products. Here it relied almost wholly on licensing new product lines, which was the reason for a unique record. Of the top thirty U.S. pharmaceutical companies, American Home Products was first in sales and twenty-eighth in expenditures for R&D.
Licensing strategy had been successful because the company could count on the existing nexus of different industries in which they operated to provide the necessary ingredients, supplies, and services required to commercialize these products. This was not the case, however, with the coming of biotechnology. Although the fundamental new learning came in the 1960s, the basic nexus only began to appear in the 1970s and the very first new products in the 1980s. In this sense, American Home Products, the most successful company in terms of financial return, paid $10 billion in cash as an entry fee in order to become a player in a scientific revolution whose infrastructure was just being constructed.
This episode dramatizes the striking difference in the evolution of the chemicals and pharmaceutical industries since the 1970s. Without new learning from chemical science and engineering, the chemical companies have defined their strategic boundaries in a number of specialty chemicals whose basic technologies were commercialized in the 1920s and again in the 1940s and 1950s. In pharmaceuticals, new learning in biology culminating in the coming of a new science has created a medical revolution that should continue well into the twenty-first century.
23. James Taggart, World Pharmaceutical Industry (London: Routledge, 1993), p. 35; see also Gambardella, Science and Innovation, p. 84.
24. For an overview of American Home Products, see Haynes, American Chemical Industry, vol. 6, pp. 28–30; quotation from p. 28. Haynes noted that the company's products were "nationally advertised and distributed proprietary remedies, some of them having been on the market for thirty years bearing well-known brand names." See also Derdak, ed., International Directory, vol. 10 (1995), pp. 68–70, for a discussion of the company's acquisitions before the end of World War II that stresses its "marketing genius."
25. Moskowitz et al., Everybody's Business, also notes that Stuart Wyeth at his death in 1929 willed his controlling securities to Harvard. By 1931, the price of these had plummeted.
26. Moskowitz et al., ibid., pp. 213–215, lists product lines and percentages of total sales represented by each in 1979. The 1989 breakdowns of sales by line of business appeared in Stopford, ed., Directory of Multinationals, 4th ed. (1992), p. 87.
27. For the new strategy, see Fortune, July 25, 1983, p. 59. For Sherwood, see Business Week, Feb. 17, 1982, p. 92. For Wrigley, see Wall Street Journal, April 17, 1984. For Suchard, see Wall Street Journal, Nov. 26, 1986.
28. For more information on this and the next paragraph of text, see Gambardella, Science and Innovation, pp. 101–102. For Chesebrough-Ponds hospital supply, see Wall Street Journal, Sept. 18, 1986. For Bristol-Meyers animal health, see Wall Street Journal, Oct. 2, 1987. For A.H. Robbins, see Wall Street Journal, Feb. 17, 1987, and Jan. 26, 1998. For percentages, see Stopford, ed., Directory of Multinationals (1998), p. 72. The figures are undated but end with the year 1987.
29. For the financial information in this and the following paragraph of text, see Hoover's Handbook (1993), p. 110, and (1996), pp. 78–79; Derdak, ed., International Directory (1995), p. 70.
30. For the Genetics Institute, see New York Times, Sept 20, 1991.
31. Business Week, Sept. 15, 1994, p. 29; Chemical Week, Aug. 24, 1994 (unpaginated reprint); Hoovers Handbook (1997), pp. 78–79.
Reprinted by permission of the publisher from Shaping the Industrial Century: The Remarkable Story of the Evolution of the Modern Chemical and Pharmaceutical Industries by Alfred D. Chandler Jr., pp. 223–227, 228–229, Cambridge, MA: Harvard University Press, Copyright © 2005 President and Fellows of Harvard College. All rights reserved.
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