East or West? East and West!
What Changes Can We Expect to See in the Global CDMO Market in the Year Ahead?
Outsourcing is about the efficiencies of globalization, expense, people, and the challenge of drug discovery. Big Pharma has consolidated and faltered over the past 15 to 20 years. Though drug discovery and chemical synthesis really are "rocket science," the continued commercial viability of the industry hinges on constant breakthrough innovation. It is evident that it is going to take the whole world to discover the next generation of blockbuster drugs. The connections forged through outsourcing are the way new ideas are being hatched. Contract Development and Manufacturing Organizations (CDMOs) are playing a critical role in the pharma innovation process.
In the CDMO industry, we have witnessed a spate of new M&A activity over the past 12 months as key players are buying both capacity and new capabilities. Ten years ago, we first saw a rush to “One-Stop-Shops” or “End-to-End Services” followed by a period of relative quiescence. Beginning in 2017 we again saw the market come to life with heavyweights muscling their way into a better position to provide the full gamut of drug development services. Avista’s acquisition of Solid Form Solutions, Novacap’s purchase of PCI, PCAS, and Uetikon, and Thermo Fisher’s integration of Patheon come to mind. There have been others, and certainly there will be more to come.
Trend and Growth Drivers
What is driving this trend is a bit speculative, but one suspect is the increasing number of compounds green-lighted to market by the FDA. There is nothing like success to set off feeding frenzy among the firms that compete to bring new small and large molecule therapeutics to market. According to Fortune magazine, US drug approvals hit a 21-year high in 2017. Additionally, we have seen a 10-year demographic shift in new therapeutics (new molecular entities, NME) coming from small companies rather than Large Pharma. This is significant.
For CDMOs, we see greater opportunity as the larger companies have fewer suppliers (and now fewer drugs) than before. The blockbuster era ended in the early 2000’s. Now, hundreds of “emerging”, “virtual” and other small pharmaceutical companies are driving the discovery and development of new drugs.
This has expanded the supplier base – they outsource everything and work quickly, unlike Big Pharma. Coupled with a spike in new generic approvals and a strong overall economy, the industry is very healthy.
Additionally, we are seeing biologic therapeutics reaching the market in greater numbers as well as the first bio-equivalents gaining approval. All in all, a great time to be a pharmaceutical executive scientist!
The China Effect
Next, there is the China Effect. China has very quickly become a key player in the pharmaceutical supply chain engine. Just 25 years ago, the first manufacturing plants were being built in economically ascendant China. Western companies quickly saw the attraction of lower-cost alternatives and legions of well-educated and hard-working scientists. Though the emergence of China has resulted in displacement of Western pharmaceutical scientists, most have adapted, imperfectly perhaps, to the new environment. The exact nature of the ever-evolving West-East pharmaceutical business is enormously complex, but main points include a new, longer supply chain extending to China and India, with most raw materials and intermediates coming out of China and most API’s being made in India.
Reshoring of Manufacturing
The West typically formulates and finishes the final product, but mostly for innovator drugs. Though only 13% of US medication prescriptions, they generate the lion’s share of revenue and profits. This is where CDMOs thrive and bring their greatest value. Generics are low margin and made abroad. Will manufacturing practices change? Yes they will. Many Western CDMOs have shifted their operations back to the USA and Europe (Reshoring) as intensive business activity in China has driven up labor costs. Western pharmaceutical companies prefer this arrangement, all things being equal, as cost is the main driver. This is a significant development that has spurred new growth of CDMOs in Western Europe and the USA. Still, China and India remain important players as long as they offer lower costs.
"We expect continued strong growth for CDMOs
in the coming year and beyond.
This may be the best year ever!"
Mark Alexay, ChemOutsourcing
Future Global Situation
But there is more – China is now suddenly exporting API’s and doing proprietary drug discovery. Surely this will bear fruit. How will India’s business niche fare? No one knows. On the other hand, there have been problems in China (and India) with quality and clinical data violations resulting in large numbers of FDA Warning Letters, suspension of some imported products, and IP worries. On top of these challenges, the Chinese Government in 2016 enacted new environmental laws to protect her citizenry and waterways against widespread pollution. The legislation also made it illegal to manufacture drugs in urban areas after at least one major urban factory explosion left many dead.
The Chinese government shuttered hundreds, maybe thousands, of plants. This caused Western CDMOs to react and start re-building facilities outside China. Hovione, for example, just built a new pilot plant in New Jersey. Lastly, one doesn’t hear much about the strategic risk of overreliance on Chinese manufacturers of pharma chemicals, but in some cases, they remain the sole worldwide producers. This is risky – any production or geo-political problems could cause shortages. We hope Western governments may eventually help defray the cost of building new CDMO plants in the West to protect supply, like China does for its own people, but no such thing has yet occurred. Reshoring represents an important and growing strategic advantage for CDMOs.
Positive Business Conditions in the US
Lastly, it appears that the US government will maintain re-imbursement policies that drive drug discovery and development – this recurrent worry besets the industry every four or eight years. Private insurance companies follow suit. Clearly, this policy favors the CDMO business. To remain profitable, payors must compensate the brilliant discoveries that drive the industry and keep new ones coming. The West leads the way in innovation. We enjoy rule of law, patent protection, and monopoly pricing during the patent period. This all makes business possible and helps recover cost while driving shareholder value. We also have well-functioning capital markets to invest in promising research.
We expect continued strong growth for CDMOs in the coming year and beyond. This may be the best year ever!