The Year Ahead:Pharma & Healthcare in 2017Wednesday 7 December 2016

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OverviewKey Expenditure Forecasts

Macroeconomic Outlook

Elections And Political Events

Emerging Markets

Developed States

Competitive Landscape

Innovation Environment

Global Health Risks

Key Takeaway Views

Allergan CEO Brent SaundersUS Food and Drug Administration (FDA)

GSK CEO Designate Emma Walmsley

European Medicines Agency (EMA)

President-elect of the US Donald Trump

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Key Expenditure ForecastsStrong fundamentals underpin attractiveness of sector

Russia To Outperform In 2017 Increasing Sub-Regional Cooperation

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Per-capita spending in 2017 (USD)

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Chart: Pharmaceutical sales growth in 2017, % y-o-y. Source: BMI Chart: Regional pharmaceutical markets in 2017. Size of bubble = absolute market size (USDbn). Source: BMI

Sub-Saharan Africa

Asia Pacific

Middle East & North Africa

Latin America

Europe

North America

Resilience of investment in healthcare facilities and personnel to be reinforced.

General trend of more government involvement in emerging markets and higher private sector activity in developed states.

With the exception of pricing pressures, growing signs of improved market access.

Forecasts are increasingly influenced by macroeconomics and politics.

The outcome of US presidential election is a mixed result for pharmaceutical companies. Drug pricing remains the key issue worrying drugmakers, and this concern was present well before the candidates started their campaigns.

FranceItaly

BrazilGermany

SpainJapan

UKMexico

USRussia

TurkeyChinaIndia

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Local currencyUSD

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Persistent world trade weakness will continue to weigh on global growth.

Mexico and China will be the key 'losers‘, while Russia will be the main 'winner' among emerging markets.

Commodity exporters will gain tailwinds from rising commodity prices.

Challenging economic conditions in 2015-16 have allowed reform in certain emerging markets.

Macroeconomic OutlookTrumponomics takes centre stageThe surprise election of Donald Trump as US president has materially changed the outlook for the global economy in 2017-18, and this is influencing healthcare sectors around the world.

Chart: Brent crude oil price (USD). Source: Bloomberg, BMI

Below Consensus On Developed Markets

Source: BMI

Minimal Relief For Oil Producers

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2017($50-60)

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Emerging economies real GDP growth, % 4.0 3.9 4.3 4.4

Gold, USD/ounce 1,160 1,250 1,300 1,400

Brent crude oil price, USD/barrel 54 46 55 68

USD/EUR 1.11 1.07 1.05 1.02

CNY/USD 6.28 6.67 6.97 7.25

JPY/USD 121 107 105 108

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Elections And Political EventsItaly is the next potential source of eurozone instability

Country/ Organisation

Election Type/ Event Date Dominant Party/Nominated

Candidate Opposition Party/Candidate(s) Expected Outcome STPR

Hong Kong Chief Executive Mar-17 Leung Chun-ying TBA Too uncertain 81.0

UK/EU Article 50 By Mar-17 UK expected to trigger Article 50 for Brexit - Negotiations to

last two years 78.3

Venezuela Regional By Mar-17 N/A N/A N/A 35.0

FrancePresidential Apr-May 2017 Francois Hollande (Socialist Party)

(TBC) François Fillon (Les Republicains), Marine Le Pen (National Front),

others

Republicains win in 2nd

round 76.0

Legislative Jun-17 Socialist Party Les Republicains, National Front, others Too uncertain

Iran Presidential May-17 Hassan Rouhani TBA Rouhani win 62.5

Germany Legislative Sep-Oct 17 Christian Democratic Union-Social Democratic Party grand coalition

Die Linke, Alliance/the Greens, Alternative for Deutschland (AfD),

Free Democrats, othersCDU-SPD coalition 82.3

China Party Congress Autumn 2017 Communist Party of China N/A Leadership

reshuffle 80.2

Sources: BMI. N/A = not applicable, no clear party, or no house view. TBA = to be announced. TBC = to be confirmed. STPR = Short-Term Political Rating; high number = low political risk/low number = high political risk

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Brazil - USDbnBrazil - EURbn

Turkey - USDbnTurkey - EURbn

Mexico - USDbnMexico - EURbn

India - USDbnIndia - EURbn

Russia - USDbnRussia - EURbnChina - USDbnChina - EURbn

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Certain companies are re-focusing on ‘Top-20’ markets for growth.

Weak currencies are the main source of discontentment from multinationals.

Increasingly demonstrating the characteristics, both positive and negative, seen in developed markets.

Despite changing expectations of reality, long-term outlook remains buoyant due to strong fundamentals.

Emerging MarketsA lower priority for most pharmaceutical firmsEmerging pharmaceutical markets are in a cycle of under-performance compared with developed pharmaceutical markets, with Brazil particularly disappointing.

Volume Strategy To Remain

Chart: Absolute growth in emerging pharmaceutical markets in US dollar and euro terms. Source: BMI

Most EM Currencies To Depreciate

"We think we're really aligned with where the river is flowing. The river is flowing for more volume. We're

going to focus on that, get that volume out there at a fair price, get a good return on our R&D investment, but not be fixated on defending ever and ever higher prices

in the developed world.”

GlaxoSmithKline CEO Andrew Witty, May 2015

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Rejection of Proposition 61 by voters in California removes significant risk in the US.

Western Europe’s outlook has improved compared with five years ago, but still very challenging.

Leading contenders for the European Medicines Agency (EMA) include Milan, Stockholm or Copenhagen.

Japan’s progress in addressing high drug prices is being offset by reductions in the ‘drug lag’.

Developed StatesThe US to remain the most attractive market globallyCompanies that generate a high proportion of sales in the US will continue to outperform, due to attractive fundamentals of that market, and weak currencies elsewhere.

Chart: US consumer price inflation. Source: U.S. Bureau of Labor Statistics

The Two-Markets TheorySpike In Medicine Prices

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Prescription drugs Medical careAll items

“I think the market is reacting to the fact that in the pharmaceutical business, there are two markets. There's

a market of branded, patented-protected products, which increased prices in 2015 [by 2.8%], then a market

of difficult-to-make generics, or generics that are exclusive, where we've seen certain actors take what

society believes is unreasonable price increases.”

Pfizer CEO Ian Read, November 2016

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AbbVie > Stemcentrex

Canon > Toshiba Medical Systems

Fresenius > IDCSalud

Amsurg > Envision

Abbott > Alere

Mylan > Meda

Quintiles > IMS

Pfizer > Medivation

Abbott > St Jude

Shire > Baxalta

Bayer > Monsanto

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Allergan’s ‘Social Contract with Patients’ will be replicated explicitly and implicitly by other companies.

Stratification of the pharmaceutical market into sub-sectors is under-appreciated.

De-diversification trend seen over the past few years has mostly played out.

More non-healthcare companies, particularly technology firms, will enter the health sector.

Competitive LandscapeImportance of not being a ‘bad actor’ cannot be over-statedAlthough pharmaceutical companies are under the highest level of scrutiny ever, this is not an uncommon situation, and one that the industry has successfully addressed in the past.

Chart: Leading CEOs according to length of tenure. * = stepping down

Lower Valuations To Support Targeted M&A

Chart: Healthcare M&A announced in 2016 (USDbn). Source: Bloomberg

Set To Fall Below The AverageNovo Nordisk - Lars Rebien Sorensen * 15 years 11 months

GlaxoSmithKline - Andrew Witty * 9 years 7 months

Roche - Severin Schwan 8 years 8 months

Eli Lilly - John Lechleiter * 8 years 7 months

Novartis - Joseph Jimenez 6 years 10 months

Daiichi Sankyo - Joji Nakayama 6 years 5 months

Pfizer - Ian Read 5 years 11 months

Merck & Co - Kenneth Frazier 5 years 10 months

Astellas - Yoshihiko Hatanaka 5 years 5 months

Johnson & Johnson - Alex Gorsky 4 years 7 months

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Pharmaceutical R&D spending growth to moderate this year (+3.5% in 2016 versus +5.3% in 2015).

Possibility of swifter approvals and reduced effectiveness requirements from US FDA.

Fewer late-stage product candidates being involved in costly phase III trials.

Stand-out technological advances in 2016 include artificial pancreas and cancer immunology.

Innovation EnvironmentInvestigating new drugs and medical interventions is a high risk enterpriseSustained reinvestment of revenues into R&D activities, internally or acquired, is the key to future success for a pharmaceutical company.

Dominated By Gilead Franchise Extension

Chart: Consensus 2017 sales forecasts for drugs approved in 2016 (USDbn). Source: Bloomberg

Set For Drop In 2016

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NME/new BLA filings NME/new BLA approvalsChart: Number of US drug approvals. Source: CDER

Zepatier

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Defitelio

Exondys 51

Xiidra

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Risk category Risk Impact Probability

Infectious disease outbreak/epidemic/pandemic

Infectious disease agent unknown to science Very high Low

Emerging agent (e.g. increased spread of Zika virus) High High

Established agent (e.g. mutation of HIV or influenza virus) High Low

Environmental changesSignificantly increased distribution of disease-carrying mosquitoes (more malaria, dengue, chikungunya etc.) Moderate Moderate

Acute exacerbation of pollution in urban areas Moderate Moderate

Financial markets crashSharp drop in prices of commodities leading to reduced healthcare budgets Low Moderate

Economic downturn-induced mental health issues Low Moderate

Misuse of technology

Hacking of insulin pumps, pacemakers etc. Moderate Low

Theft of electronic health records Moderate Low

Unnecessary accidents involving automated cars Low Low

Natural disastersTerrestrial origin (earthquakes, tsunami, hurricanes, droughts, forest fires, floods, volcanic eruptions etc.) Moderate Moderate

Extraterrestrial origin (gamma ray burst from supernova, impact event, solar flares etc.) Very high Very low

Antibiotic resistanceSharp increase in agricultural antibiotic usage in emerging markets Moderate ModerateEmergence of multi-drug resistant bacterial strains, leading to closure of healthcare facilities Low High

War and conflictDirect impact of hostilities (e.g. death and injuries) Moderate Low

Indirect impact of hostilities (e.g. escalation of European migrant crisis) Moderate Low

Recreational drug dependenceExisting drugs (e.g. escalation of opioid epidemic) Low Moderate

Introduction of new 'designer' drugs of unknown toxicity Low Moderate

Global Health RisksMostly low or moderate impact and probability

Source: BMI.

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US healthcare stocks will experience additional volatility in coming months, and possibly years.

There will be more attention on non-pharmaceutical/medical device healthcare spending.

Healthcare’s status as an attractive investment opportunity to be reinforced.

Important not to neglect influence of macroeconomics and politics.

Key Takeaway ViewsDownside risks offset by strong fundamentals Pharmaceutical companies will face an increasing number of external risks to their operations, with many of these challenges emanate from the global financial crisis of 2007/08.

Steepening Growth TrajectoryMedical Devices Outperformance

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Medical DevicesPharmaceuticalsSystems & Services

Chart: Global healthcare expenditure according to sector (USDtrn). CAGR = compound annual growth rate. Source: BMI

5-year CAGR = 4.8%5-year CAGR = 5.3%

Chart: Relative share price performance. Source: Bloomberg

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S&P 500 IndexMedical devicesPharmaceuticalsBiotech

Q & A