Early development spending has decreased sharply as industry responds to the financial crisis.
As it turns out, the biopharmaceutical and pharmaceutical industries aren't immune to changing business cycles. The third quarter financial reports from the publicly held contract research and manufacturing companies (CROs and CMOs) indicate that demand for contract services is softening at a rapid rate. CROs and CMOs are experiencing a higher rate of project delays and cancellations than before, and new orders are slowing, despite an increase in requests for proposals (RFPs).
So far, the problems appear to be greatest in early-development services. CMOs that manufacture active pharmaceutical ingredients (APIs) for clinical trial materials—both large and small molecule—reported a significant drop in orders. Most CROs providing preclinical toxicology services had a gloomy outlook as well and expect single-digit growth rates at best, after several years of growth in the 15–20% range. There are also warnings of price competition in the preclinical market for the first time in several years.
Late-stage development (i.e., services to support Phase II and Phase III clinical trials) seems to be holding up. Clinical research CROs reported a slight increase in study cancellations, but overall RFP volume and contract awards were strong and consistent with previous quarters. The biggest problem for clinical CROs is that, with the recent appreciation of the US dollar relative to the Euro and other currencies, revenues and profits earned outside of the United States are translating into fewer dollars than they did last year when the dollar was weaker.
The principal reason for the slowdown in early development appears to be that pharmaceutical companies are reprioritizing their pipelines in the face of the difficult financial environment. Overall venture capital funding to these companies has remained steady, averaging about $1 billion per quarter in the US, but its distribution has changed significantly. That's because the liquidity crisis roiling the world economy has created tremendous uncertainty about when and where venture-backed companies can get funding.
As a result, venture capitalists are holding back on new investments to make sure that companies in which they've invested have enough cash to advance their most promising candidates. Biopharmaceutical and pharmaceutical companies are being forced to put aside their early-stage candidates to focus available funds on candidates closest to commercialization or out-licensing.
CROs and CMOs are also experiencing delays and cancellations on projects from the major pharmaceutical companies. Part of this appears to be efforts to dress up financial results: by pushing projects into 2009, companies reduce research and development (R&D) spending for 2008 and improve profitability for the year. Part of the change, however, is structural, as major companies such as Wyeth (Madison, NJ) and Pfizer (New York) refocus their R&D efforts and exit some therapeutic areas.
The downturn has come on suddenly and has surprised many CRO and CMO executives. As we reported in August, 70% of CRO and CMO respondents to the 2008 PharmSource–PharmTech Outsourcing Survey expected 2009 to be better than 2008. Most respondents expected their budgets to go up next year.
We don't think the market should get unduly pessimistic. Big Pharma's R&D spending is up for the year, and their cash holdings are up as well, meaning they have plenty of money for acquisitions and in-licensing.
So long as Big Pharma is buying, venture capital will keep funding. However, we can expect consolidation of the CRO and CMO market as weaker players are forced out of the market.