A growing, but ageing and increasingly obese population; a change in disease profiles brought about by economic growth and climate change; the globalisation of the market place – the pharmaceuticals and biotechnology sector faces challenges on a number of levels.
At the same time, the traditional business model is breaking down – the R&D pipeline of “big pharma” is becoming less productive. “There is an ever-rising bar to bringing products to market,” says Janita Good, head of life sciences at law firm Osborne Clarke. The inescapable truth is that the industry “now spends far more on R&D and produces far fewer new molecules than it did 20 years ago”, says a report from PwC, Pharma 2020: The Vision.
In 2006, $55.2bn was spent on R&D in north America, more than double the amount spent in 1996, but “the US Food and Drug Administration (FDA) approved only 22 new molecular entities (NMEs) and biologics, a far cry from the 53 it approved in 1996”. As a result, in 2006, Big Pharma relied on medicines that have been on the market for more than five years for more than 90 per cent of its total pharmaceutical revenues. According to Chris Bryce, chemicals and life sciences practice leader at Marsh, the insurance broker, drugs with sales of $100bn are coming off patent in the next three years.
The loss of patent protection leads to a massive decline in revenue thanks to the rise of generics, which is now a $84bn market and has put further pressure on traditional pharma business models. Some pharma companies are buying up generic rivals as a result, as Novartis did with Hexal last year, while emerging markets generics groups such as India’s Ranbaxy are expanding into Europe and the US. Israel’s Teva is another group that is expanding aggressively, either through acquisition (the $7.4bn purchase of Ivax in the US, for example) or by challenging patents in the courts.
The generics industry is just one more threat to the pricing power of pharma companies. Those who foot the bills, whether it is governments or insurers, are becoming less willing to pay high prices. This is partly because of the strain put on health systems by the ageing population and is spurred by the existence of cheaper, generic alternatives to many drugs. “There is increasing pressure from patients and payers to rationalise the price of products,” says Tim van Biesen, a partner in Bain’s global healthcare practice. “The industry has not had to demonstrate the health or economic value of its products before – prices used to be based on the price of rival products – but we expect value-based prices to emerge. If the industry does not come up with a plan, organisations such as Nice [the National Institute for Health & Clinical Excellence] in the UK will.”
One company that has looked at this idea is J&J, which has proposed that the UK’s National Health Service pay for the cancer drug Velcade, but only for people who benefit from the medicine, which can cost $48,000 a patient. If a patient does not see satisfactory results after a trial treatment, J&J will refund the cost of the drug. Four multiple sclerosis drugs are also being offered in the UK on a risk-sharing basis.
Generics are part of a wider trend of outsourcing in the sector – many companies now conduct drugs trials in emerging markets such as China and India. This saves them money, but leaves them open to problems because standards are not as strict as in the west. Pfizer found itself embroiled in litigation in Nigeria, for example, after an outbreak of meningitis when it was accused of testing an unproven drug on 100 children. The company denies the claims, but its reputation has been hit by the affair.
Such controversies, combined with anger at the lack of transparency over pricing, have led to a loss of confidence in the sector, says Veronique Menou, pharmaceuticals analyst at Innovest Strategic Investors. Direct marketing in the US has also tarnished the image of the sector. “Rebuilding trust is a key challenge because, in the past, companies have failed to show transparency over pricing, drugs trials or support of patient groups,” says Ms Menou. Innovest says GlaxoSmithKline and Eli Lilly are well-regarded for their disclosure over clinical trials.
The one area that has been producing a steady pipeline of new treatments recently is the biotechnology sector, to the extent that many analysts say biotech groups have become effectively an outsourced form of R&D. Here, Roche’s tie-up with Genentech, which has given the Swiss group a healthy pipeline of new drugs, including cancer treatment Avastin, is seen as the model.
Biotech has another advantage – it is harder to make and get approval for generic versions of biotech drugs, known as biosimilars, and those that do win favour will not offer as big a discount as current generic drugs because costs of development will be higher.
The emergence of biotech has led to a number of UK companies being snapped up – Cambridge Antibody Technologies was bought by AstraZeneca, while UCB bought Celltech as far back as 2004 and Eli Lilly purchased Icos at the start of the year.
Pharma groups are also having to get to grips with the increasing globalisation of their markets – in 2005, the US was responsible for 47 per cent of sales, with most of the rest coming from Europe and Japan. But according to Jo Pisani of PwC, by 2020 the E7 countries (China, India, Brazil, Russia, Mexico, Indonesia and Turkey) will make up 19 per cent of a global pharma market worth $1,300bn, from 8 per cent of the $518bn market in 2004.
As a result, those companies that are dealing with the problems of access to medicine are well placed to profit from the rise of these markets, says Ms Menou of Innovest.
She cites Glaxo and Novartis as being noted for research into neglected diseases such as malaria and tuberculosis while those two companies, as well as Merck and Roche are known for policies on differential pricing of drugs for emerging markets. “With the emergence of the middle classes in these markets, it is important to have relationships already in place in these countries,” she adds.
Biotech companies that are able to diversify away from healthcare are also well-placed, according to Emma Howard-Boyd, head of socially responsible investment at Jupiter Asset Management. One such company is Danish group Novozymes.
It has a pharmaceutical unit, but is also well known for its production of enzymes, which are used in the food industry, cleaning products and, most promisingly, the development of second-generation cellulosic biofuels.
Next month: Retail
Get alerts on Fund management when a new story is published