If you have ever turned on a commercial radio station or
walked into a pharmacy the name Blackmores might be familiar. As you probably
know, Blackmores sell a wide range of different vitamin supplements and health
products, aimed at people wanting results with anything from pregnancy to
weight loss. What you may not know, is their share price has been going through
the roof lately. If you’d have been clever enough to buy $1,000 worth of
Blackmore’s shares 12 months ago you’d have made yourself over $4,250 dollars
as of last week.
As nice as it is to see a local Australian success story and
all that, to quote Spiderman’s dad, “with great power comes great
responsibility,” and once a company’s total valuation starts pushing 3 billion I
feel it is time to look at them a little more closely.
Why I’m
suspicious
Vitamin supplements walk a fine line between pseudo and
actual science. While there is little doubt that people with specific diet
problems or illnesses can benefit from certain vitamin supplements, the
evidence for the use of supplements for healthy people eating a normal diet is pretty
contentious, and some of the more specific products that Blackmores sell seem
to have little evidence at all. Blackmores dance around this by an elegant use
of the word “may” in a number of their advertisements as in the below statement
regarding a folate product:
“may reduce the
risk of birth defects of the brain and/or spinal cord.”
Or the below in regards to a Magnesium product they sell.
Magnesium may help
to:
·
Relieve muscle cramps and spasms
What makes all of this
questionable is that Blackmores sells its products at chemists and pharmacies,
alongside drugs that require a much higher standard of evidence before they can
be sold to the public. What’s more, Blackmores offers free courses to pharmacists
and GPs on the benefits of vitamin supplements. These courses have somehow been
accredited, meaning GPs and pharmacists get recognition towards their required
professional development if they complete a course on the benefits of
supplements paid for by a company that specializes in selling the exact same
products. Can anyone else smell a conflict?
Of course, Blackmores would undoubtedly claim
that they take health and wellness just as seriously as pharmaceutical
companies and have just as much right as anyone for their products to be sold
in a pharmacy. While I’m ill-equipped to examine this claim from a medical
standpoint, I can look at it from a financial one. What can we learn about the
legitimacy of Blackmores as a serious health company by comparing them to
companies in the more traditional pharmaceutical space?
The comparison
I have compared
Blackmores with two well-known pharmaceutical companies, Johnson & Johnson
and Glaxo Smith Kline. Both Glaxo Smith Kline and Johnson & Johnson get a
large portion of their revenue from selling generic, non-prescription drugs to
pharmacies at prices similar to Blackmore’s products. Panadol comes from Glaxo
Smith Kline while Nicorette is a Johnson & Johnson product.
1.
Gross Margin
Gross margin is calculated by dividing the direct costs that
go into making a product by total revenue. It’s a good measure of the
underlying profitability of a company. One of the most well-known
characteristics of the pharmaceutical industry is its high margins, so this is
a good place start our comparison. The below graph compares the profit margins
of GlaxoSmithKline, Johnson & Johnson and Blackmores.
2.
Advertising and marketing
Unlike Johnson & Johnson and Glaxo Smith Kline,
Blackmores do not list their total advertising cost in their financial
statements so we will have to do some digging for this comparison.
On Blackmores’ 2015 Profit and Loss statement Blackmores
shows a charge of just under 35 million dollars for “selling and marketing”
costs. No further breakdown is provided on these figures. This cost would cover
both their advertising and celebrity endorsements (Blackmores has endorsement
deals with both Michelle Bridges and Li Na,) and the cost of their sales staff.
As a company that sells products wholesale or through their website Blackmores
would not need to maintain a significant sales force, so let’s be overly
generous and say that 10million of this 35 million is for sales, with the
remaining $25 million going to advertising.
In addition to the “selling and marketing” expense, Blackmores
lists a “promotional and other rebates” expense for just over $83 million
dollars. Again, Blackmores give no additional context to this charge anywhere
else in the document, so we will have to use some logic to work out what this
charge is for. A rebate is a partial refund given to a customer. The ATO is
pretty strict about how a company recognizes rebates, as they do not want
companies to be able to manipulate their revenue by artificially increasing
their sales costs and using rebates to cover the difference. For a company to
list a rebate on their profit and loss as opposed to just discounting their
revenue by the same amount the ATO say it must:
“directly relate to readily identifiable marketing and
promotional services that are designed to secure a benefit to the supplier”
Based on this, we can infer that this $83 million is direct
payment made to Blackmores wholesale customers for them to advertise Blackmore’s
products to the public. Among other things, this would cover the payment
Blackmores must make to Chemist Warehouse for those countless ads for
Blackmores products.
When you add the $83 million dollars in promotional rebates
to the $25 million dollars in direct advertising you get a grand total of $108
million spent on advertising, or 23% of Blackmore’s total revenue. Let’s
compare this to the advertising spends of Johnson & Johnson and Glaxo Smith
Kline.
3.
Research and development.
High Research & Development costs are probably one of
the most defining features of the pharmaceutical industry. The process of
developing a single drug for market was estimated by Forbes to cost at least $4
billion dollars in 2012. As Glaxo Smith Kline and Johnson & Johnson both
focus mainly on generic drugs, we can expect their research & development
costs to be lower than the industry average.The below graph compares our three companies in their
percentage of Research & Development spend.
Again, the difference is stark. Blackmores, a company that
brought in nearly 500 million dollars in revenue last year spent a paltry 9
million dollars on Research & Development. When you consider that Blackmores released 170
new products and range extensions last year, we can estimate that Blackmores is
only spending on average $52,000 on researching each product before release, or 0.0013% of Forbes’ estimated
average development cost. While I think it is reasonable to expect a vitamin
and supplement to spend a lower amount of money on Research & Development,
a difference this large is hard to justify.
Conclusions
The above comparisons do not paint a flattering picture of
Blackmores. It takes in a similar profit margin to our two pharmaceutical
companies, yet its Research and Development expense is less than a fifth of
both companies. Instead of spending money or researching the efficacy of its
products, Blackmores has chosen to plough money into advertising and marketing
campaigns. Even if you are a passionate believer in the benefits of vitamin
supplements, it is hard to argue that a strategy like this is conducive for
maximising the health outcomes of their customers. While Blackmore’s corporate
strategy seem to be working wonders for its shareholders, it seems its
customers aren’t getting as good a deal.
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