Health Care

U.S. Pharmaceutical Companies Ramp-Up on Contract Manufacturing

By Pat V. Sonti

Introduction

The global economic outlook appears uncertain as the most severe recession in the U.S. since World War II continues to linger, but prospects for the pharmaceutical industry remain reasonably bright. The prevalence of various diseases, growing health care needs and an aging population are factors that ensure a steady growth for the industry. Even in a lean and unpredictable economy, with major mergers & acquisitions, the U.S. pharmaceutical business is expected to remain resilient even as these companies tighten their business and operating costs.

Pharmaceutical companies strive to maximize their return on invested capital. Today’s costs for the entire value chain for a new drug molecule, which includes research, development, clinical trials phases and commercialization, ranges from $800 million to $1 billion. Thus, their most cost-effective approach is to determine whether the margins on any drug justify the use of the company’s manufacturing facilities.

U.S. Contract Manufacturing

U.S. pharmaceutical companies have been increasingly turning to contract manufacturing organizations (CMOs) solely to achieve efficiencies in cost, capacity and time-to-market, or to obtain a specific expertise not available in-house. Today, these factors still play a role, but now the most dynamic driver behind the use of CMOs in the pharmaceutical industry is rapidly becoming the unique, innovative, and state-of-the-art process and production technology they offer. More and more pharmaceutical companies are leaning toward this type of outsourcing in order to concentrate on marketing their products, without spending time on new drug discovery and the manufacturing process. This also applies to some “virtual” companies that exist by the simple fact that they can rely on CMOs and researchers.

The primary question for many pharmaceutical companies is as follows: “If the resources used to manufacture low margin products could be applied to higher margin activities, why not sub-contract for these products as well?”

Pharmaceutical, biotech and generic drug companies have concluded that by sub-contracting some and/or all parts of their manufacturing processes or services, the resultant savings could be invested in the development of new products that could provide higher margins and a potential competitive edge. Over the past 75 years, U.S. pharmaceutical companies have been one of the main sectors recognizing the financial benefits of CMOs.

In addition, the U.S. Government has been increasingly turning to CMOs for the production of controlled substances, such as methadone, in order to maintain cost effectiveness and control. With respect to the new administration, as part of its overall healthcare reforms for Medicare and Medicaid, there is a much greater emphasis on reducing the costs of prescription drugs via generics, which can be achieved through CMO sub-contracts here in the U.S., versus off-shoring to highly competitive CMOs overseas.

Major Competition from India

The Indian CMO market was worth $874 Million in 2007. Although this market presently occupies a fraction of the total global opportunity, the future potential of the market seems immense. The Indian CMO market, with its cost effectiveness, strong chemistry and engineering capabilities, improving infrastructure and strong incentives from the government, is expected to grow in the next five years. By 2012, the Indian industry is expected to reach eight percent of the total global market.

The Indian CMO market is expected to grow in excess of the cumulative annual growth rate (CAGR) of 37% between 2007 and 2012. Most Indian CMOs have upgraded their manufacturing facilities, enabling India to have a number of plants certified by the USFDA, EDQM and other regulatory agencies. The cost of secondary manufacturing in India is around 13%-15% of the cost in the U.S., the UK and Germany, with companies generating substantial savings on the costs of plant set-up, labor and operations. India has more than four times the total drug manufacturing staff of the U.S. and more than 12 times that of the UK. Growth of the CMO market is expected to provide a major boost to the pharmaceutical machinery market in India, which is expected to register revenues of more than $822 Million by 2010-11.

Global Commercial Market Outlook

According to BCC Research, a leading information resource company for the pharmaceutical industry, the life sciences industry market worldwide revenue for contract research and manufacturing (CRAM) was estimated at $100 billion in 2004 and is expected to rise at an average annual growth rate (AAGR) of 10.8% to $168 billion in 2009. Contract manufacturing of prescription drugs for 2004 was estimated at $26.2 billion and is expected to rise to $43.9 billion by end of 2009.

Contract manufacturing of over-the-counter (OTC) and nutritional products is the largest and fastest growing segment, expected to rise at an AAGR of 11.3% to $102 billion in 2009. The contract research organization (CRO) market is expected to reach $21.9 billion by 2009-2010, rising at an AAGR of 8.6% from $14.5 billion in 2004.

Positive Steps Going Forward

As with any effective policy, unless and until the U.S. Congress enacts comprehensive, fair, balanced, transparent, “common good,” and “common sense,” health care legislation and an accompanying regulatory framework, the task of dealing with reducing the costs of prescription and generic drugs will be left solely to the private sector as in the past.

The U.S. currently is a global leader in CMOs, which have been developed solely with private sector partnerships. Some of these CMOs have technologies and manufacturing facilities which are in various degrees of completion, such as a proof-of-concept stage; pilot plant stages; and scale-up/commercialization stages. Most of the private sector parties involved in CMO technologies and manufacturing are small businesses in need of capital with negligible balance sheets, collateral or security, but have highly competent technical and management skill-sets with intellectual property protection.

With the currently weak investment scenario for equity, working capital and debt, it is vital to leverage a “private-public-partnership” model where the U.S. government will provide grants, loans, and loan guarantees via either the Small Business Administration (SBA), Food & Drug Administration (FDA), or Department of Health & Human Services (HHS). This can be matched with equity from CMO promoters and owners, private equity groups and venture capitalists. Additionally, federal and state governments must also seriously consider providing tax credits and other job-creation credits in order to spur active private sector investment and involvement. The U.S. can become a net exporter of CMO products and services thereby increasing U.S. exports and improving the current anemic economic scenario.

The U.S. small business sector remains as the engine for economic growth and can truly accelerate jobs growth in order to meet the current administration’s objective to save or create nearly 2.5 million jobs. However, until policy and investment work hand-in-hand, the commitment to increasing CMOs market share as articulated above, will remain just as one more “concept” and “business-as-usual” reality as in previous decades.