Think about Genzyme and its business model. What does a biotech company do? How do they succeed? What is Genzyme’s business model and financial strategy? What does Henri Termeer want for the company going forward?What is the business model for Relational Investors? What are their keys to success?Why is Relational Investors targeting Genzyme? We have noted that value is creating by investing in projects that return more than the cost of capital. Look at Exhibit 8 of the case. Suppose Genzyme’s cost of capital is 10%. Where is the company creating value? Where is it destroying value? What do you think should be done to improve?Evaluate Relational Investors’ criticisms and Genzyme’s defense for each of the following areas:Capital allocation (investing in new projects)Share repurchaseBoard of director compositionExecutive payWhat do you think Genzyme should do about its financial strategy?Is there any way Termeer could have avoided this conflict with Whitworth, or was it unavoidable?prepare a case report consisting of a brief one or two paragraph response to each of the six questions shown above. Limit your response to 4 pages, double-spaced, 12-point font and 1-inch margin. Write clearly, using proper grammar and punctuation.
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Genzyme and Relational Investors:
Science and Business Collide? (Abridged)
It was April 2009, which meant that for more than 20 years, Termeer had been the chairman and CEO of
Genzyme Corporation (Genzyme). Under his watch, Genzyme had grown from an entrepreneurial venture to
one of the country’s top-five biotechnology firms (Exhibit 1). The previous week, Termeer had sat in a
presentation by Ralph Whitworth, cofounder and principal of a large activist investment fund, Relational
Investors (RI). RI now had a 2.6% stake1 in Genzyme (Exhibit 2). Whitworth had a history of engagements
with the board of directors of numerous companies, and in several instances, the CEO had been forced to
resign. In January, when RI had announced its initial 1% investment in Termeer’s company, the two men had
met, and the discussion had been amicable. Whitworth and his team then traveled in April to Genzyme’s
headquarters and talked about Genzyme’s core business, value creation, and the lack of transparency in some
of the company’s communications.
Termeer was proud of his company’s accomplishments, shown by the number of people with rare diseases
who had been successfully treated with Genzyme products. He was also pleased with the long-term growth in
the price of Genzyme stock, which had easily outperformed the market over the last several years (Exhibit 3).
In fact, the company had just posted record revenues of $4.6 billion for 2008. Recently, however, he had
received an official warning letter from the U.S. Food and Drug Administration (FDA) regarding manufacturing
issues at one of the Genzyme facilities, and news on the impending health care reform bill had hit companies
in the health care sector hard. Genzyme’s stock price, which had declined by 21% over five trading days, had
yet to recover.
Termeer was in the middle of preparing for the shareholders’ annual meeting scheduled for May 21. He
wondered if RI was really about relationship building and that perhaps Whitworth genuinely wanted to help
Genzyme increase its performance. Or could there be other corporate activists or hedge funds monitoring his
company and looking to set its corporate policy? In any case, Termeer knew that it was important to react
appropriately to Whitworth and establish a strategy of how to handle such activist investors.
1
Relational Investors Form 13F, March 31, 2009.
This is an abridged version of “Genzyme and Relational Investors: Science and Business Collide?” (UVA-F-1660), which was prepared by Case Writer
Rick Green under the supervision of Professors Kenneth M. Eades and Pedro Matos. The case was written as a basis for class discussion rather than to
illustrate effective or ineffective handling of an administrative situation. Copyright 2018 by the University of Virginia Darden School Foundation,
Charlottesville, VA. All rights reserved. To order copies, send an e-mail to [email protected]. No part of this publication may be reproduced, stored
in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of
the Darden School Foundation. Our goal is to publish materials of the highest quality, so please submit any errata to [email protected].
Page 2
Biotechnology
Products among the 1,200-plus biotechnology companies in 2008 included innovations in the treatment of
multiple sclerosis, rheumatoid arthritis, cancer, autoimmune disorders, and diabetes. The level of R&D
expenditures made it crucial to get new drugs to market quickly. The FDA, however, was slow to approve drugs
in the United States. In 2008, the FDA approved 24 new drugs, out of which only 6 were biologic.2 By 2009, it
was estimated that new products took more than eight years to get through the clinical development and
regulatory process. Nevertheless, the industry had weathered the financial storms in 2007–2008 relatively well.
On the other hand, some industry observers were predicting that strong biotechnology companies might come
under increased M&A pressure from Big Pharma because these companies faced patent expirations on key
blockbuster drugs in the coming years.
Genzyme Corporation
Genzyme was founded in 1981 to develop products based on enzyme technologies.3 Shortly after Termeer
became CEO, Genzyme raised $28.5 million in its 1986 IPO and began trading on the NASDAQ (ticker:
GENZ). Termeer established Genzyme’s footprint in the treatment of genetic disorders. His goal was to create
targeted drugs to completely cure these diseases, despite the small populations that were afflicted.
Genzyme’s most rewarding product was the first effective long-term enzyme replacement therapy for
patients with a confirmed diagnosis of Type I Gaucher disease. This inherited disease was caused by deficiency
of an enzyme that produced several crippling conditions such as bone disease, enlarged liver or spleen, and
anemia. The product known as Cerezyme was approved by the FDA in 1991, but the annual price for this drug
was $150,000 per patient. Genzyme argued that the price reflected the combination of the high cost of
production plus the extraordinary investment in research to discover and develop the treatment. Cerezyme
along with Fabrazyme (to treat Fabry disease) and Myozyme (to treat Pompe disease) formed the core business
of the company and were developed and sold by its genetic disease segment.
Termeer had embarked on a diversification strategy via a host of acquisitions, some of which resulted from
the economic woes of other biotechnology firms whose clinical failures affected their funding abilities.
Termeer’s strategy was not without risks because even drugs acquired in late-stage development had not yet
been approved by the FDA. With these investments the company became organized into four major segments:
genetic disease (GD), cardiometabolic and renal (CR) and (BI), and hematologic oncology (HO).
Relational Investors
Whitworth, in his role as cofounder of RI, was a highly driven and performance-oriented investor. RI was
regarded as an activist investment fund. Whitworth trained his analysts to identify companies whose discounted
cash flow analysis provided a higher valuation than the market price. Whitworth viewed this value gap as the
result of an entrenched management taking care of itself at the expense of its shareholders,4 which came
primarily from firm diversification strategies that were not providing an adequate return to shareholders, poor
integration results with a merger partner or acquisition, or the misalignment of management incentives.
Steven Silver, “Biotechnology,” Standard and Poor’s Industry Surveys, August 19, 2010.
An enzyme is basically one of a number of proteins produced by the body that functions as a catalyst for a biochemical process.
4 Jonathan R. Laing, “Insiders, Look Out!,” Barron’s, February 19, 2007.
2
3
Page 3
Once a firm was targeted, RI typically took a 1% to 10% stake and engaged management with questions
backed up by a detailed analysis. Depending upon the responses from executives and directors, Whitworth
would follow one of several paths. For example, he might request certain changes or consider making criticisms
public regarding one or more executives or board members. In other instances, Whitworth might request a seat
on the board, suggest a change in executive management or board composition, or initiate a proxy fight.5
Management and board compensation was a favorite target of RI criticism but one that was never well received
by the target firm.
As one example, in late 2006, after RI had purchased $1 billion of Home Depot stock, Whitworth contacted
the board of Home Depot requesting changes in the company’s strategy. Specifically, RI criticized CEO Robert
Nardelli’s decision to shift the company’s focus to a lower-margin commercial supply business, which Nardelli
considered a growth opportunity. This proved to be commercially unsuccessful. As a result, Nardelli had
increased revenues, which was in keeping with his board-approved incentive contract, but earnings suffered.
After the engagement of RI, Whitworth’s partner joined the board, and Nardelli was ousted.
At its peak, RI’s engagements comprised a total portfolio of $8.4 billion at the end of third quarter of 2007.
Given the drop in share prices following the financial crisis and the impact of several redemptions from
investors, RI’s portfolio value had been reduced to $4.3 billion by the end of March 2009 (Exhibit 4).
What about Whitworth?
As Termeer reviewed Whitworth’s presentation slides, he noted that the main slide illustrated RI’s
calculation of the present value of each of Genzyme’s divisions plus its R&D pipeline (Exhibit 5). The slide
showed that Genzyme’s share price was trading at $34 below its fundamental value—a significant discount that
prompted Whitworth to offer recommendations as to how Genzyme could increase market value to close the
value gap:
1. Improve capital-allocation decision making to ensure that spending would be focused on the
investment with the highest expected return.
2. Implement a share-buyback or dividend program.
3. Improve board composition by adding more members with financial expertise.
4. Focus executive compensation on the achievement of performance metrics.
During his presentation, Whitworth explained why he anticipated that the years of successful growth were
about to lead to high positive cash flow for several years (Exhibit 6). Whitworth argued that when cash flows
grew quickly, CEOs often increased investment levels beyond the point of adding value to the company, and
the share price would decline. Based on RI’s cash flow return on investment (CFROI) analysis of Genzyme’s
business segments (Exhibit 7), Whitworth argued that value was already being destroyed by investing too much
money in the non-GD business segments, which had a relatively low CFROI. Therefore, Whitworth argued
that this capital would be better used as part of a share-repurchase program to return the money to the
shareholders. Moreover, he proposed that Genzyme’s balance sheet could support more debt to further
leverage the level of share repurchases.
5
Laing, “Insiders, Look Out!”
Page 4
Termeer had been successful building his company without relying on debt, which made the thought of
using debt to enhance a share-repurchase program difficult for him to accept.6 Even more important was his
strong belief that biotech required a long-term view to succeed. Whitworth seemed to see investments as simply
a use of cash, whereas Termeer welcomed the higher cash flows, as it would make it easier to fund the
investments that were critical to Genzyme’s business model and survival.
As Termeer reflected on the last 26 years spent creating and building Genzyme, he realized that
Whitworth’s RI fund had been a shareholder for less than a year and held only 2.6% of Genzyme’s shares. It
was no surprise that Termeer had such different ideas regarding what Genzyme had to offer to its owners and
to society. Termeer had identified three different approaches he could take to deal with Whitworth:
1. Fight Whitworth by enlisting the board to join him in what would be a public relations battle for
shareholder support.
2. Welcome Whitworth onto the board to reap the benefits of his experience in creating shareholder
value. In this regard, he could think of Whitworth as a free consultant.
3. Manage Whitworth by giving him some items on his list of demands but nothing that would
compromise the core mission of Genzyme.
Regardless of his approach, Termeer expected that Whitworth would probably request a hearing at the
board meeting, which was scheduled two days before the annual shareholders’ meeting on May 21. The prospect
of such a meeting with the board only served to emphasize the importance of Termeer having a strategy ready
for the upcoming call with Whitworth.
6
Geoffrey Gagnon, “So this is What a Biotech Tycoon Looks Like,” Boston Magazine, June 2008.
Page 5
Exhibit 1
Genzyme and Relational Investors:
Science and Business Collide? (Abridged)
Biotechnology Financial Metrics as of December 2008
Genzyme
GENZ
0.70
Amgen
AMGN
0.65
Biogen Idec
BIIB
0.75
Celgene
CELG
0.80
Cephalon
CEPH
0.70
Genentech
DNA
n/a
Gilead Sci.
GILD
0.65
$66.37
$17,967
$57.75
$60,464
$47.63
$13,720
$55.28
$25,381
$77.04
$5,295
$82.91
$87,304
$51.14
$46,528
$4,605
5.0
6.1
$15,003
11.8
21.9
$4,098
9.1
13.8
$2,255
n/a
n/a
$1,975
6.7
15.9
$10,531
n/a
n/a
$5,336
31.3
52.8
Net income
Net profit margin
$421
9.1%
$4,196
28.0%
$783
19.1%
($1,534)
-68.0%
$223
11.3%
$3,427
32.5%
$2,011
37.7%
EPS (weighted avg.)
P/E (trailing)
$1.57
42.3
$3.92
14.7
$2.68
17.8
($3.47)
n/a
$3.28
23.5
$3.21
25.8
$2.18
23.4
Dividends
Share buybacks (a)
$0
($143)
$0
($2,268)
$0
($739)
$0
$0
$0
($43)
$0
($780)
$0
($1,970)
$1,308
28.4%
$3,030
20.2%
$1,072
26.2%
$931
41.3%
$362
18.3%
$2,800
26.6%
$722
13.5%
Cash flow—operations
Cash flow—investing
Cash flow—financing
Inc (Dec) in Cash Flow
$759
(582)
(472)
($295)
$5,988
(3,165)
(3,073)
($250)
$1,564
(366)
(1,236)
($38)
$182
(522)
214
($126)
($2)
(108)
(184)
($294)
$3,955
(1,667)
(269)
$2,019
$2,204
(178)
(1,535)
$491
Cash Flow / share
($1.10)
($0.23)
($0.13)
($0.28)
($4.32)
$1.89
$0.53
Book value
Book value / share
Price/book
$7,306
$26.99
2.5
$20,386
$19.47
3.0
$5,806
$20.16
2.4
$3,490
$7.60
7.3
$1,503
$21.87
3.5
$15,671
$14.88
5.6
$4,152
$4.56
11.2
1.8%
1.8%
144.1
49.9%
33.3%
17.6
19.2%
16.1%
22.7
0.0%
0.0%
n/a
68.8%
40.8%
7.3
14.9%
12.9%
67.2
31.4%
23.9%
228.8
Amounts in $ millions
Beta
Price as of 12/31/2008
Market capitalization
Revenues
Return on Assets (ROA)
Return on Equity (ROE)
Research & development
R&D as % of revenues
Debt / Equity
Debt / Debt & Equity
Interest coverage ratio
NOTES:
(a) Share buybacks for Genzyme and Cephalon represent purchases to satisfy option exercises.
Data sources: Company 10-K filings, 2008; Steven Silver, “Biotechnology” exhibits.
Page 6
Exhibit 2
Genzyme and Relational Investors:
Science and Business Collide? (Abridged)
Top-10 Shareholders, March 31, 2009
Clearbridge Advisors, LLC
Barclays Global Investors, UK, Ltd.
Wellington Management Co., LLP
State Street Global Advisors, Inc.
The Vanguard Group, Inc.
Sands Capital Management, LLC
UBS Global Asset Management
Fidelity Investments
Relational Investors LLC
PRIMECAP Management Company
SG Gestion
Massachusetts Financial Services Company
Total shares outstanding:
Data source: Forms 13F filed by investors.
Shares Held
%
15,103,597
11,974,523
10,790,760
9,326,639
9,066,174
8,372,483
7,722,011
6,995,691
6,942,506
6,330,985
5,804,357
5,522,034
5.7%
4.5%
4.0%
3.5%
3.4%
3.1%
2.9%
2.6%
2.6%
2.4%
2.2%
2.1%
267,019,462
Page 7
Exhibit 3
Genzyme and Relational Investors:
Science and Business Collide? (Abridged)
Genzyme (GENZ) versus S&P 500 (S&P) and NASDAQ Biotechnology Index (NBI),
Weekly Close—Base = 1/1/2003
200%
150%
100%
GENZ
50%
NBI
S&P
0%
-50%
Jan-2003
Jan-2004
Jan-2005
Jan-2006
Jan-2007
Jan-2008
Jan-2009
Genzyme Daily Closing Price (GENZ)
GENZ
$85
$80
$75
$70
$65
April 9,
2009:
$56.38
$60
$55
$50
1‐Oct‐08
1‐Nov‐08
Data source: Bloomberg.
1‐Dec‐08
1‐Jan‐09
1‐Feb‐09
1‐Mar‐09
1‐Apr‐09
Page 8
Exhibit 4
Genzyme and Relational Investors:
Science and Business Collide? (Abridged)
Relational Investors—Calendar Year Performance (%)
Relational Investors
S&P
Alpha
2002
2003
2004
2005
2006
2007
2008
0.55%
40.77
16.49
9.89
9.29
−10.01
−40.01%
−22.12%
28.69
10.87
4.89
15.81
5.54
−37.01%
22.67%
12.08
5.62
5.00
−6.52
−15.55
−4%
Note: RI was not required to publicly disclose its performance results. CalPERS disclosed its investment returns in RI’s Corporate Governance
Fund, and this serves as a good proxy for RI’s performance.
Data source: “Performance Analysis for the California Public Employers’ Retirement System,” Wilshire Consulting (Santa Monica, CA),
September 30, 2010.
Page 9
Exhibit 5
Genzyme and Relational Investors:
Science and Business Collide? (Abridged)
Relational Investors’ Fundamental Valuation of Genzyme
Source: Relational Investors; Used with permission.
Page 10
Exhibit 6
Genzyme and Relational Investors:
Science and Business Collide? (Abridged)
Relational Investors’ Estimates of Genzyme’s Free Cash Flow
Source: Relational Investors; Used with permission.
Page 11
Exhibit 7
Genzyme and Relational Investors:
Science and Business Collide? (Abridge)
Genzyme—Estimates of CFROI by Segment (2008)
Note: Cash Flow ROI = Adjusted Cash Profits/Average Invested Capital.
Source: Relational Investors; Used with permission.
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