The flow of venture capital has, in turn, fed the demand for contract R&D services, as most of the early-stage companies the
venture capitalists are supporting follow a virtual or nearly-virtual company model. This situation has especially benefited
providers of early-development activities.
The risk to the CRO industry comes from the following scenario: major pharmaceutical companies determine that failure rates
for most in-licensed or acquired compounds are too high, and decide not to pay so much for them. The decline in licensing
valuations lowers the expected return on biopharmaceutical investments for venture capitalists, who decide to make fewer or
smaller investments. As the flow of funds from venture capital and Big Pharma dries up, demand for contract R&D services will
Time for caution
Without getting unduly pessimistic, it is clearly a time for caution for most CROs and CMOs. The success of recent years and
their current capacity constraints have many service providers considering significant capacity expansion programs. This is
beginning to mirror what happened in the pharmaceutical chemical industry at the end of the last decade, when the fine-chemical
companies went on a capital investment and acquisition spree just as the pipeline opportunity was peaking. By the time the
new capacity came on-line, most major pharmaceutical companies were pulling projects back in-house to absorb the capacity
freed up by some major pipeline failures.
One major difference between today and 2000 is that there has been a fundamental shift in the Big Pharma business model. Outsourcing
is emerging as a CEO-driven priority as companies seek to reduce their overhead and make costs more flexible. Given that the
top 15 companies account for more than 50% of the industry's R&D spending, the volume of work that comes out of these new
outsourcing efforts could dwarf what is lost if virtual company business dries up.
The business model for serving major pharmaceutical companies, however, is very different from the one that many CROs have
used to reach virtual bio/pharmaceutical companies, and only a relative handful can expect to benefit from Big Pharma's embrace
of contract services.
Jim Miller is president of PharmSource Information Services, Inc., and publisher of Bio/Pharmaceutical Outsourcing Report, tel. 703.383.4903, fax 703.383.4905, email@example.com