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Merck was being pilloried in the international press. The issue? Its role in the AIDS crisisin Sub-Saharan Africa, where the price of AIDS treatments far exceeded patients’ abilityto pay. The fallout from public opinion threatened not only Merck’s valued reputation, butthe international system of prices and intellectual property rights on which Merck’s businesswas based.
The pharmaceuticals industry is known for its enormous investments in research and devel-opment. The industry has long had one of the highest ratios of research and developmentexpenditures to sales, a standard measure of research intensity. On the whole, the researchhas paid off, both in the development of effective new drugs and in profits for the firms thatdeveloped them.
The industry also has a long history of charging different prices to different customers.
Prescription drugs, in particular, are often sold at wildly different prices in different coun-tries, and sometimes to different customers in the same country. Although this approachhas generated intense debate in the U.S., where the prices are often highest, industry leadersargue that high U.S. prices are necessary to finance cutting-edge research. Without highU.S. prices, they argue, drug companies would not find it profitable to develop many ofthese drugs at all. A persistent fear among pharmaceuticals manufacturers is that drugssold in poor countries at low prices would be redirected to rich countries and undercut thecompanies’ primary source of revenue. As a result, they sometimes charge high prices inpoor countries for newly developed drugs, or simply decline to sell there at all.
Underlying the business is a system of intellectual property rights. For drugs, the relevant rights are patents. In most developed countries, a company that develops a newdrug applies for a patent, which gives the company sole rights to the drug’s manufacture forsome period of time. Although patents are national, the so-called TRIPS agreement extendsbasic rights to all member countries of the World Trade Organization (WTO). Under theagreement, members must provide and enforce patent protection for at least 20 years oneligible products and processes.
The media frenzy over African drug prices was particularly troubling for Merck, which haslong prided itself on its commitment to scientific advancement in the service of humanity.
Charles Miller and Kenneth Goldman prepared this case under the supervision of Mariagiovanna Baccara,David Backus, Heski Bar-Isaac, Lu´ıs Cabral, and Lawrence White for the purpose of class discussion ratherthan to illustrate either effective or ineffective handling of an administrative situation. c NYU Stern Schoolof Business.
Its current mission statement includes: “Our business is preserving and improving humanlife . We value above all our ability to serve everyone who can benefit from the appropriateuse of our products and services, thereby providing lasting consumer satisfaction.” Merck’s actions appear to back up its lofty mission. After World War II, Merck sold much-needed antibiotic streptomycin at cost in Japan when patients there couldn’t affordto pay more. More recently, they gave away millions of units of Mectizan, a drug that curesriver blindness. (Both examples are from Collins and Porras, Built to Last, p 47.) Over 25 million people in Sub-Saharan Africa have HIV, out of approximately 36 millionpeople worldwide. In 2000, more than 3.8 million people in the region were newly infected,making the issue a top priority for the World Health Organization, AIDS activist groups,and the United Nations. According to the New York Times, only 10,000 of those infectedin Africa were getting the medicines they need.
The majority of AIDS therapy today takes the form of triple-therapy drug “cocktails,” in which a patient takes a combination of three different AIDS drugs, which might in-clude Crixivan (Merck), Stocrin (Merck), Zerit (Bristol-Myers), Videx (Bristol-Myers), andViramune (Boehringer-Ingelheim).
In the United States, the typical cost of a triple-therapy drug cocktail is about $10,000 per year, a figure far beyond the reach of African patients. For years, pharmaceuticalmanufacturers held discussions with various African nations regarding the sale of lowerpriced pharmaceuticals, but by January of 2001 only a small number of countries werebelieved to have reached agreements with drug companies.
In February 2001, Cipla, an Indian manufacturer of generic pharmaceuticals, offered tosupply a triple-therapy AIDS drug cocktail for $350 per year to Medecins sans Frontieres(Doctors Without Borders), a nonprofit medical group. Another Indian drug producer,Hetero Drugs Ltd., was reported to offer the same cocktail for $347 per year. Many observersfelt that both drugs violated patents on the original drugs.
Cipla aggressively targeting the AIDS market in Africa by offering drugs at much lower cost than U.S. and European companies. Cipla offered a triple-therapy drug cocktailto African nations for approximately $600, undercutting the first round of discounts by theWestern drug producers.
In March 2001, Bristol-Myers Squibb and Merck each made significant price concessions on their AIDS drugs sold in Africa. Bristol-Myers Squibb announced that it would sell twodrugs at slightly below cost and that it would not use its Zerit patents to block genericmanufacturers (such as Cipla) from selling Zerit knockoffs in the region.
Bristol-Myers Squibb sold Zerit and Videx for a combined price of $365 annually; Merck offered to sell its AIDS drugs at cost. The new price in Africa of Crixivan, Merck’sprotease inhibitor, is about $600 — about one-tenth the price of the drug in the U.S.
Merck’s Stocrin drug now costs $500 annually in Africa. A typical three-drug regimenwould include Zerit and Videx combined with Crixivan or Viramune (which costs $438 peryear) from Boehringer-Ingelheim.
But even the new, lower cost of a typical drug cocktail in Africa — between $803 and $965 annually, depending on which drugs are included — was higher than the price Ciplaoffered to African nations (about $600 per year, according to the Wall Street Journal).
In South Africa, where roughly 20% of adults carry the virus, 39 drug companies sued thegovernment to prevent South Africa from importing generic AIDS drugs such as the onesproduced by Cipla. One of the concerns of the Western drug companies was that such im-ports would effectively eliminate their patent rights in South Africa. (Cipla asked the SouthAfrican government to grant it compulsory licenses to make and sell eight different drugsthat were currently protected by patents.) According to the St. Louis Post-Dispatch, thePresident of Cipla, Dr. Yusuf Hamied, asked the pharmaceutical companies for permissionto manufacture their patented drugs under license, but they did not respond. Hamied thenasked the South African government to unilaterally grant his company a license, and offeredto pay 5% royalties.
Name-brand companies criticized this plan.
Europe, the Middle East and Africa, commented in the New York Times, “They [Cipla]are stealing my intellectual property, and I cannot accept that.” A South African officialat Boehringer Ingelheim commented, “If they accuse us of abusing our patent position, wecan only say that we have offered the governments of all developing countries preferentialpricing.” In April 2001, days before the lawsuit was to begin and under significant worldwide pressure, the companies dropped their case.
Before the suit was dropped, South Africa considered another approach. Under WTO guidelines, if a government declares the AIDS epidemic a “national emergency,” it canoverride existing patents and allow production and sale of generic versions. Taking thestep of declaring the epidemic a national emergency would have given the South Africangovernment more latitude than even successfully defending the lawsuit, according to theWashington Post. However, on March 15, 2001, the President Thabo Mbeki chose notto declare the AIDS epidemic a national emergency. According to the Washington Post,Mbeki’s decision was based on concern over the perception that the government was ignoringproperty rights and the effect this would have on foreign investment. He also notes thatWTO guidelines called for declaring a state of emergency “only to restore peace and order”and that “no such threats to the country’s security existed.” Meanwhile, pharmaceuticals executives worried that such low prices abroad would lead tosimilar demands in the U.S. “We should tell the American consumer, ‘You can have the samedeal when you are living on a dollar a day,’ ” an official at the World Health Organizationwas quoted as saying in the Washington Post. Raymond Gilmartin, Chairman of Merck,was quoted in the Wall Street Journal as saying, “We’re making a big assumption here thatthe American people and Congress will look at our discussions in Africa and realize thatthey should not be part of the debate about prices in other parts of the world.” Merck and other major pharmaceuticals companies have come to agreement with SouthAfrica and other poor countries to sell drugs to them at or near marginal cost. They alsoworked with international organizations to build health systems in which their drugs couldbe used effectively. A number of reports emerged of drugs targeted for poor countriesreappearing in Europe and the U.S. at reduced prices.
• What is Merck’s business model? How does it make money? • What are the advantages to Merck of selling AIDS drugs at cost in South Africa? • Can you think of analogous situations in this industry? Other industries?

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