Jim Miller is president of PharmSource Information Services, Inc., and publisher of Bio/Pharmaceutical Outsourcing Report.

Jim Miller

The contract manufacturing industry isn’t gaining market share. Could it be that the CMO business model is out of synch with the current realities of the bio/pharmaceutical industry?

PharmSource recently completed an analysis of the dose CMO industry’s share of new FDA approvals (1). Our research found that of the 90 new drug applications (NDAs) approved in 2013, 32 (36%) used CMOs for dose manufacture. This was below the 2004-2014 10-year average of 43%. 

Outsourcing for both new molecular entities (NMEs) and non-NMEs was below the long-term average. Among NMEs, 41% were outsourced, compared to 47% for the 10-year average. For non-NMEs, just 32% were outsourced, well below the 10-year average of 40%. 

The share of NDA approvals that are outsourced can vary widely from year to year. The share of NMEs that have been contract manufactured has ranged from just 37% in 2011 to 59% in 2008. Contract dose manufacturing of non-NMEs has ranged from 31% in 2011 and 2013 to as high as 60% in 2012.

Nevertheless, the data clearly suggest that contract dose manufacturing has largely plateaued in terms of its share of new product approvals at the 45% level over a sustained period.  Why can’t the CMO industry break through to manufacture a greater share of drugs?


Contract manufacturing arrangements for products approved in 2013 were negotiated in the 2008-2010 period. That was the middle of the global financial crisis, when heightened concerns about risks of all types may have driven companies to keep manufacturing in-house where they could more directly control things. The 2008-2010 period, however, was also the beginning of a new reality for the bio/pharmaceutical industry, and it is likely that stagnation of contract manufacturing may be rooted in the inability of CMOs to respond to that new reality. 

The old bio/pharmaceutical industry model was characterized by high volume products and generous annual price increases that fueled high profit margins and relegated cost-of-goods and inventory management to minor considerations. The new bio/pharmaceutical business model that has emerged in the past five years must incorporate smaller volume products that are expensive to manufacture but that face increasing resistance from the governments and insurance companies that are expected to pay for them. Further, the industry has become more global, with bio/pharmaceutical companies looking beyond their traditional markets to boost sales in emerging markets.


Most CMOs are not positioned to deal effectively with the changing industry realities. Nearly all CMO manufacturing sites are older facilities built by global bio/pharmaceutical companies to fit the old industry business model. They are expensive to operate thanks to their large footprints, bulky HVAC systems, and need for indirect labor to move products and commodities from one processing suite to a holding area to the next processing suite.  They require high unit volumes to spread the fixed costs to acceptable levels.

Further, most CMOs are not very flexible when it comes to scheduling production. They insist on locking down production schedules at least three months in advance, and don’t have the flexibility to adjust schedules for a particular client product in the face of market demand changes. Increasingly, bio/pharmaceutical companies are trying to produce to demand rather than to inventory and need more flexible manufacturing operations.

The traditional CMO proposition offers bio/pharma companies the opportunity to avoid the capital costs of building their own facility, and the fixed operating costs of running a GMP-compliant operation. This rationale still has currency for smaller companies, but it doesn’t really hold much sway with global bio/pharmaceutical companies—and many mid-size companies—that are generating record levels of cash flow. They are looking for manufacturing operations that can serve a global supply chain in a flexible and cost-effective manner. 


  The fact is that if one were to launch a CMO business today, its manufacturing assets would look nothing like the facilities that CMOs currently operate. Rather, a CMO built to fit the current bio/pharmaceutical business model would have the following characteristics:

Facilities would be purpose-built with much smaller footprints and more flexible configurations.

The equipment would be geared to smaller batch sizes; would incorporate continuous/multi-step processes like the new equipment that can blend, granulate, and tablet in a single unit; would use disposable or dedicated contact parts; and would be highly automated.

Sophisticated control and planning systems would enable short production scheduling and supply-chain management practices that would support just-in-time production.

These smaller, appropriately equipped facilities would be distributed in a global network that reflected the places where bio/pharmaceutical companies are trying to sell product (i.e., in emerging markets as well as North America and Western Europe). This would deliver significant cost savings to bio/pharmaceutical companies in the form of reduced logistics costs, tariffs, and other import-related expenses.
  

It is unlikely that we will see any CMOs moving toward this model in the foreseeable future. There will be significant upfront investment costs in establishing a network of such sites, and most CMOs currently generate barely enough cash flow to cover the capital investment needs of their current facilities.

However, establishing such a contract manufacturing network with a partner, say, one or more bio/pharmaceutical companies or a national government trying to establish a local bio/pharmaceutical infrastructure, could work. We know that bio/pharmaceutical companies are looking for manufacturing partners in a lot of third-tier markets like Algeria and Vietnam; we get inquiries about possible CMOs in such countries regularly.

CMO Market Penetration as Evidenced by Outsourced NDA Approvals

Jim Miller is president of Pharmsource Information Services, Inc., and publisher of 

Articles

Why can't the CMO industry break through to manufacture a greater share of drugs?

Are CMOs Out of Synch With Market Realities?

The CMO industry's value proposition is limiting its market penetration.

Stuck in Neutral

The CMO industry is undergoing a wave of ownership changes, including acquisitions, divestitures, and initial public offerings (IPOs). Ownership changes can lead to significant changes in a company’s strategy, focus, and prospects, so it is important for bio/pharmaceutical companies to review the implications of a key supplier’s change in ownership. 

Recently announced ownership changes read like a veritable “Who’s Who” of the CMO industry: 

Catalent Pharma Solutions (Somerset, NJ, USA) will become a publicly traded company after completing an IPO later this year. Catalent has been owned by a group of private equity firms, led by Blackstone Group.

Recipharm (Stockholm, Sweden) will also float an IPO, according to European press reports.

Patheon (RTP, NC, USA) and DSM Pharmaceutical Products (DPP
  Parsippany, NJ, USA) will be merged into an as-yet unnamed new private company owned by private equity firm JLL Partners and DSM N.V.  Patheon has been a public company while DPP has been a strategic business unit of publicly-traded DSM N.V.

JHP Pharmaceuticals (Parsippany, NJ, USA) is being acquired by Par Pharmaceuticals.

Cangene bioPharma (Baltimore, MD, USA) is being acquired along with its parent Cangene Corporation by Emergent BioSolutions.

Haupt Pharma (Berlin, Germany) has been acquired by private equity-backed CMO Aenova Group (Pahl, Germany). Haupt was previously owned by a private equity firm.
  


  These changes in control are generally a positive development for the industry.  They indicate faith in the long-term prospects for the CMO business model (at least some version of it) and, by assuring investors that they can realize the return on investments at some point, they attract further capital into the industry.

The change in ownership can also mean greater transparency into the performance and health of the CMO, which is a major benefit to CMO customers.  Public companies must report not only financial performance; they must also disclose potential threats and risks to their business, something private companies may not do.  

However, the transparency benefits will be muted in the recently-announced IPO events. Catalent and Recipharm already have been reporting their financial results, in Catalent’s case because they issued publicly-traded debt. Cangene has regularly revealed its CMO revenues in its earnings report but Emergent may not. With Patheon going from a public company to a private one, most disclosure will be lost. 

Changes of ownership are also good for the CMOs and their customers because they often mean improved access to new capital for investment.  Public companies can sell more equity to fund investments or acquisitions, or may obtain debt more readily because of their greater financial transparency.  Where a CMO has been sold from one private equity firm to another, the new owner may be more willing to fund additional capital spending than a previous owner that was reluctant to invest as it neared the end of its holding period.

Public companies can also use their stock to make acquisitions that add new capabilities or remake the company in other ways. In the current environment, publicly held CMOs may make acquisitions that add more proprietary products to their business models.


  Probably the greatest risk stemming from change of ownership is a change in strategy. A new owner could decide to re-dedicate manufacturing capacity for internal purposes (i.e., to manufacture proprietary products). Existing contracts would be honored but not renewed, forcing current customers to enter into a costly search for a new manufacturer and re-incur the costs of tech transfer and process validation.  New contracts would not be pursued.

The withdrawal of capacity following an acquisition could have significant consequences for the industry.  It would mean tighter capacity in the industry as new deals chased reduced industry capacity, just as current CMO customers were being forced to look for alternative sources. While the exit of capacity would hardly be felt in solid-dose manufacturing, the implications would be significant for injectables manufacturing, where demand is rising and exits of large CMOs (notably Ben Venue Laboratories) have left little margin for a further demand surge.

It’s important to note that, initially at least, none of the announced changes in ownership are likely to have negative implications for current CMO customers or the capacity balance in the industry. Both Par Pharmaceuticals and Emergent BioSolutions have stated their appreciation of the value of the CMO businesses they are acquiring and their intention to maintain the CMO business.  That is important because while both Cangene bioPharma and JHP Pharmaceuticals are small players in terms of CMO revenues, their injectables capacity would be missed in the overall market. 

The other risk that CMO customers should be mindful of is the possibility that management objectives will change even if the underlying strategy does not. Whereas private-equity owners are often willing to invest for long-term results and can withstand near-term volatility, public shareholders are usually looking for stable, predictable earnings and revenue growth. That is a challenge for the CMO business in particular, where revenues are often unpredictable since the CMO has no control over demand for the products it manufactures. Also, investors may prefer to see cash returned to them rather than funding the continuous investment that the capital-intensive CMO business requires.


  The recent spate of ownership changes are not exclusively a reflection of the state of the CMO industry.  The CMO business undoubtedly was not the driver for the JHP-Par and Cangene-Emergent BioSolutions deals: it was JHP’s proprietary products and Cangene’s biodefense products that drove those acquisitions.

Still, changes in ownership in the CMO industry are hardly a surprise.  After all, private equity firms buy companies fully intending to sell them or take them public at some point after a reasonable holding period. We expect several more ownership changes to be announced in the next three months, and bio/pharma companies should expect that change in ownership will be a fact of life for them. It’s generally not something to be feared, and will often be something to welcome.  But it will be good risk management for bio/pharmaceutical companies to be fully aware of the ownership structure and intent of the companies providing their goods for sale. 


 Jim Miller is president of Pharmsource Information Services, Inc., and publisher of 

Changes in company ownership shake up the CMO industry.

How Will CMO Ownership Changes Impact Market?

Under New Ownership

Research and development is the lifeblood of the bio/pharmaceutical industry. While lifecycle strategies and novel delivery systems can lessen revenue declines in the wake of patent expirations, drug companies can survive for only so long on reformulating older products. The industry must be able to introduce new therapies to maintain its growth and profitability.The pressure on bio/pharmaceutical companies’ R&D operations has never been greater. Companies need successful new products to rekindle growth and stem the loss of revenues and jobs following patent expirations. Because new clinical science is producing products that are more targeted than the broad market blockbusters they are replacing, R&D laboratories must produce a larger number of new products than ever before.


Despite the imperative to accelerate new drug development, indications are that the number of compounds entering clinical development has actually been declining. The number of new investigation new drug (IND) filings at FDA has been declining since 2008, down by nearly one-third. Further, registrations of new Phase II and Phase III clinical trials in the US government’s clinicaltrials.gov database have dropped 15%, with new filings by global bio/pharmaceutical companies down by more than 20%.

What is behind the apparent decline in R&D activity? It seems to be the confluence of a number of events that has upset R&D productivity, such as:

Global bio/pharmaceutical companies are redesigning their R&D model by narrowing their therapeutic focus, laying off scientists, dismantling isolated research campuses in favor of research facilities in medical research hubs such as Boston and San Francisco, and in-licensing or acquiring more pipeline candidates from early-stage companies.

Bio/pharmaceutical research is establishing a new scientific foundation based on genomics and biologics. Genomics is still a maturing science while most global bio/pharmaceutical companies are still building their expertise and infrastructure for developing biopharmaceuticals.

Bio/pharmaceutical companies are killing candidates earlier in the pipeline, before they incur the high costs of clinical development. The practice reflects, in part, the greater understanding of what makes compounds toxic and better tools for assessing toxicity in early development. It also reflects the fact that insurers and governments are insisting that new drugs deliver greater efficacy than the products already available. Payers are no longer willing to pay for expensive therapies that provide just a few more weeks of life to a cancer patient or a marginal decline in LDL (low-density lipoprotein) levels, for example, as an anticholesterol drug. Only drugs that deliver substantial clinical benefits are being advanced through the development pipeline. 

Late-stage clinical development is getting more expensive. Bio/pharmaceutical companies are saving money by delaying expensive formulation, methods development, and toxicology testing until after proof-of-concept is demonstrated. However, other factors are driving up the cost of clinical development. The need to prove therapeutic superiority means clinical studies must be conducted against marketed products, which must be purchased and blinded at great expense, rather than placebos. FDA guidance often requires more extensive compound characterization and analytical testing. Enrolling enough patients to get statistically significant results has become increasingly difficult and expensive. 

Smaller companies have been afraid to spend money too rapidly for fear that they won’t be able to replace spent funds, which has limited willingness to spend.

Whether the decline in R&D activity is permanent or transitory is a crucial question for the entire bio/pharmaceutical industry, and especially for CROs and CDMOs that support research and development. If R&D doesn’t rebound, the growth prospects of R&D services providers will suffer, and even commercial CMOs will see fewer opportunities coming their way.


  It is likely that most of the negative trends impacting R&D activity will correct themselves in due course. The disruption in R&D programs caused by the elimination of therapeutic programs and closure of R&D operations will settle down. The Silicon Valley-like cross-fertilization of ideas that bio/pharmaceutical companies are hoping to instigate by establishing R&D operations in medical research hubs will start to bear fruit. And financing for high-risk R&D is likely to return as the re-opening of the initial public offering window will convince venture capitalists that profitable exits are still possible.

Two factors, however, will continue to create strong headwinds for the growth of R&D: payers will continue to demand demonstrable efficacy and cost advantages for new drugs and the cost of R&D to demonstrate therapeutic value and cost-effectiveness will continue to escalate.

Those new demands will create new opportunities and challenges for CDMOs and CROs. The opportunities come from bio/pharmaceutical companies seeking to control R&D costs by turning to contract service providers, the costs of which can be made variable, over in-house capabilities whose costs are fixed. Benefits will also accrue to CDMOs and CROs that can come up with innovative, cost-effective solutions to the problem of controlling R&D costs.

The challenges will arise from the pressures on prices and margins as bio/pharmaceutical companies seek to negotiate better terms to manage their costs. They will also come from the continuous churn in projects as R&D programs are cancelled when they don’t meet the raised performance hurdles.

CDMOs and CROs that expect a continuation of the “good old days” of the mid-2000s are not facing the realities of today’s bio/pharmaceutical research and development environment.  The world has changed forever, and service providers need to face up to the new realities. 


Jim Miller is president of PharmSource Information Services, Inc., and publisher of

, tel. 703.383.4903, Twitter@JimPharmSource, info@pharmsource.com,  www.pharmsource.com.

The R&D model is in transition and creating new demands on contract services providers.

Evolving R&D Model Pressures Contract Services Market

As 2013 draws to a close, the bio/pharmaceutical industry continues to be reshaped by changes in the business climate. Financial, political, and scientific developments that began 10 years ago continue to force the transformation of the bio/pharmaceutical business model. The bio/pharmaceutical contract services industry may have only begun to feel the effects--and reap the opportunities--of that transformation.


  The expiration of patents on blockbuster drugs (i.e., the “patent cliff”) remains the predominant event reshaping the bio/pharmaceutical industry. Despite years of advance warning of the patent cliff’s approach, the global bio/pharmaceutical companies continue to indulge in waves of restructuring. Announcements of plant and laboratory closures, layoffs, and narrowed therapeutic focus still occur almost monthly, and it doesn’t look like they will end any time soon.

In recent years, the global financial and sovereign debt crises and subsequent government responses have cut both ways for the bio/pharmaceutical industry. On the negative side, governments and private insurers, especially in Europe but increasingly in the United States as well, have forced down the prices they are willing to pay for drugs and are refusing to pay for many new drugs altogether. These developments have placed bio/pharma company revenues under further pressure and have forced continuing cuts in R&D and manufacturing. Government budget cuts also threaten support for pharmaceutical research, especially the work of the National Institutes of Health in the US.

On the positive side, central bank efforts to hold down interest rates have led to increased demand for risky assets with the potential for high returns. This increased demand has fed the boom in initial public offerings that has provided opportunities for venture capitalists to realize large gains on their bio/pharmaceutical companies’ investments and encouraged investors to reenter the market.


  As these forces reshape the bio/pharmaceutical industry, they are creating new opportunities for contract services providers. The following is a list of some of the developments that are most worth watching.

 Global bio/pharma companies continue to look for ways to reduce fixed costs and make their cost structures more flexible. That interest has generated big returns for those clinical CROs that have secured strategic supplier relationships. Most major bio/pharma companies have turned over virtually all of their clinical monitoring and data management activities and staff to major CROs

On the manufacturing and product development side (i.e., formulation, analytical, and clinical supplies manufacturing), the effort to reduce fixed costs still promises significant opportunities to CMOs, CDMOs, contract laboratories, and packagers. Although a number of manufacturing facilities and labs have been closed, global bio/pharma companies are only just getting their arms around management of costs in the operations that remain open. Strategic partnering opportunities in analytical services, clinical trial materials (CTM) manufacturing and clinical supplies management are still in their early stages, and the larger analytical labs and CDMOs are positioning themselves for those opportunities.

 Global bio/pharmaceutical companies have cut back on internal early development efforts and turned more to in-licensing of candidates from early-stage companies. Most early-stage companies are committed to getting a compound through early development to proof-of-concept rapidly and at low cost, with the intention of out-licensing their promising candidates and never progressing to commercialization. Global bio/pharmaceutical companies and investors are channeling funds to early-stage companies, especially those with more advanced candidates.

Because of the maturity of the bio/pharmaceutical services industry, and the insistence of the venture capital firms that back them, early-stage companies are wholly dependent on CROs and CDMOs. Their rise has helped CDMOs focused on Phase I and II development to recover from the global financial crisis, and the candidates that they have out-licensed have sustained the late development service providers. The virtualization of discovery and early development is a long-term benefit to the contract development industry.

The desire to reduce the cost and risk of R&D has led bio/pharma companies of all sizes to embrace the proof-of-concept (POC) model, which calls for minimizing development efforts until there is evidence of safety and efficacy in human subjects. POC is leading to specialization in the CMC (chemistry, manufacturing, and controls) development sector, with smaller CDMOs specializing in the ability to fulfill CTM requirements relatively quickly and at low cost while commercial-scale CMOs are investing in their development capabilities to satisfy post-POC demand for formulation and manufacture of Phase III and commercial requirements.

The differing requirements for pre-POC and post-POC are driving CDMOs and CMOs to build integrated offerings that cater to their respective segments. Early-stage CDMOs are enhancing their packaging capabilities to meet client needs for a “one-stop” service that can get them into clinics as quickly as possible.  Commercial CMOs are recognizing that they must bolster their analytical and formulation development capabilities to meet the needs of clients that are beginning commercial development relatively late in the R&D process. Whether the restructured service offerings promise a new significant new revenue source, or just are a new requirement for staying in the game, remains to be seen. 

 Europe is becoming an increasingly difficult market for contract services companies as declining revenues constrain the ability to invest in R&D and more bio/pharmaceutical companies consolidate their European R&D operations. The difficult business conditions are driving more European CMOs to establish a presence in the US. For most of them at this point, it is just a business development presence, but some European CMOs are looking to acquire manufacturing sites in North America. Their challenge is that the opportunity to acquire redundant facilities from global bio/pharma companies at favorable prices, which worked so well for them in Europe, is practically non-existent in North America. Further, business-development practices in the US differ from those in Europe, so European CMOs could face a long learning curve trying to get established in North America

The European interest could be an opportunity for smaller CMOs and CDMOs in North America, which could be become acquisition targets for European companies trying to get established in North America. The recent acquisition of Cirrus Pharmaceuticals by Kemwell is an example of how a small North American CDMO could become a strategic opportunity for a company looking for a North American toehold

History has shown that contract service providers must continually redefine themselves to remain competitive as their markets change. Clinical CROs morphed from temporary staffing agencies into information technology innovators as the nature of clinical research changed. Similar shifts are expected to make over the CDMO and CMO industry in the coming years. 


Jim Miller is president of PharmSource Information Services, Inc., and publisher of 

Ongoing changes create new opportunities for CROs and CMOs.