NEW YORK (CNN/Money) - Merck shareholders have already felt the pain of plunging stocks from the Vioxx scandal. As the drug giant faces litigation that could lead to billions of dollars in potential damages, investors should also brace themselves for the possibility of a plunging dividend.

Merck & Co. Inc. (down $0.03 to $30.80, Research) shareholders currently enjoy a dividend of about 5 percent. But next month, the first Vioxx civil case begins in a Texas courtroom. Depending on the outcome of that case and many more to follow, investors face the possibility that their dividend could be cut in half to pay down damages, according to an analyst.

Merck's "at a sensitive point and if the damage from Vioxx really becomes significant, then it could cause the company to become more defensive, reduce its generous dividend, and investors could face some near-term pain, as they have in the past," said David Moskowitz, analyst for Friedman, Billings & Ramsey.

Merck share prices have lost more than a third of their value since Sept. 30, 2004, when the company pulled Vioxx, an arthritis painkiller, from the market because of risks involving heart attacks and strokes. In November, Merrill Lynch analyst David Risinger projected that damages against Merck could total anywhere from $4 billion to $18 billion.

But Anthony Butler, an analyst for Lehman Brothers, said that Merck would not have to cut its dividend even if it has to pay damages, because the payments would be paid out incrementally.

"There's no evidence that the amount of payment will ever exceed the amount of cash," said Butler. "Nobody's had to cut their dividend because of liability."

Butler said that Wyeth (up $0.01 to $44.50, Research), maker of the diet drug combination fen-phen, did not suffer a dividend cut after the company agreed to pay a $3.75 billion settlement in 1999, when it was called American Home Products. The settlement went to thousands of people who used the diet drugs before they were removed from the market. The drug was taken off the market in 1997 after being linked to heart valve disease.

According to Merck, about 2,300 product liability lawsuits from about 4,600 plaintiff groups have been filed against the company. In addition, Merck said it faces 110 putative class actions alleging personal injuries, 16 securities suits, four derivative lawsuits and a dozen suits from the Employee Retirement Income Security Act.

So what should Merck do?

"Start settling the cases," said Moskowitz. "I think taking this to the courtroom could be damaging. [Settlement] keeps the issue out of the courtroom and out of the media and it puts a lid on potential damages."

Even with a "lid," Merck could still face billions of dollars in potential damages, as seen in the 1999 settlement with Dow Corning Corp. Dow Corning was ordered by a federal bankruptcy judge to pay $3.2 billion to 170,000 women who had health problems related to the company's silicone breast implants. Dow Corning was ordered to pay another $1.3 billion to settle claims from creditors and health care organizations. This was in spite of the fact that Dow Corning had a lid on potential damages.

"The breast implant settlement was capped because Dow Corning was in bankruptcy," said Elizabeth Cabraser, a partner with San Francisco firm Lieff Cabraser Heimann & Bernstein who is representing clients in the Vioxx case.

Vioxx is not alone. The entire industry for cox-2 inhibitors, drugs that kill pain by blocking enzymes that inflame arthritic joints, was hit hard in recent months. On April 7, the Food and Drug Administration asked Pfizer to take Bextra, a $1.3 billion drug, off the market and said it was considering a black box, its most serious warning, for Celebrex, a $3.3 billion blockbuster. These drugs were all approved by the FDA before entering the market.

Merck faces the first of its Vioxx plaintiffs on July 11, when Houston attorney W. Mark Lanier takes on the company in Texas Superior Court. Lanier is representing Carol Ernst, who blames Vioxx for the 2001 death of her husband.

New York law firm Hughes, Hubbard & Reed plans to defend Merck by demonstrating a lack of scientific evidence proving that Vioxx caused the plaintiff's death in the Ernst case.

"Merck believes that in upcoming cases it will be proven that Vioxx was not the cause of injury or death claimed by plaintiffs," said Kent Jarrell, spokesman for Hughes, Hubbard & Reed, national counsel for Merck.

The firm also plans to debunk reports that Merck continued to market Vioxx while knowing there were health problems. "Merck's actions were appropriate from beginning to end," said Jarrell.

Merck has set aside $675 million for litigation costs, but this would not cover damages. If damages exceed Merck's cash on hand, the company might have to cut into the dividend, said Friedman analyst Moskowitz, who said that Merck has "the highest dividend in the drug industry."

"If [Merck] does have to put some cash away for Vioxx settlements, we believe that could reduce dividends by half," said Moskowitz. He said this could plunge share prices down to "the low 20s."

"New management might decide to make that choice, to reinvest some of the cash from the dividend back into the company," said Moskowitz. He said he does not expect Merck to have "meaningful growth until the end of the decade or later."

In the wake of the Vioxx crisis, former chief executive officer Raymond Gilmartin stepped down on May 5 and was replaced by long-time Merck insider Richard Clark. When Clark took the top job, he said he was "fully committed" to maintaining shareholder value and would continue to focus on targeted acquisitions to fill its pipeline.

The importance of Vioxx cannot be overstated. In addition to the lawsuits, Vioxx brought in annual sales of $2.5 billion. With eight years remaining before patent expiration, the drug represents $20 billion in potential sales. This figure is almost equal to the 2004 sales total for Merck, which was $22.9 billion.

The Whitehouse Station, N.J.-based company also faces patent expiration of its top-selling product Zocor, a $5.2 billion statin, in 2006. Fosamax, a $3.2 billion treatment for osteoporosis, loses protection in 2008.

Merck's pipeline won't fill the gap, according to Fran Hawthorne, author of The Merck Druggernaut and Inside the FDA.

"[Merck] has a lot of nice vaccines in the works, but none of them are blockbusters," said Hawthorne. "[Merck] has to come down from the mountain and realize it can't do everything by itself. It needs joint ventures."

Drug development typically takes 10 years from the time a compound is discovered to its issuance on the market, assuming the drug is successful in clinical trials and the regulatory process. Successful joint ventures, in which the compound could acquire or partner with companies that have late-stage products, could expedite the process of getting profitable drugs into the marketplace.

But Merck had better act quickly, or it might get acquired itself, said Hawthorne.

"It will never be the old Merck because it will never be the biggest drug company in the world," said Hawthorne. "If it doesn't pull itself together in time, I think it will be a merger."

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Moskowitz and Butler do not own Merck stock and their companies do not do business with Merck.