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Jim Miller is president of PharmSource Information Services, Inc., and publisher of Bio/Pharmaceutical Outsourcing Report.
Heightened uncertainty means CDMO executives need to play out planning scenarios.
Long-term strategic planning must always contend with uncertainty about future business conditions, but the current bio/pharmaceutical industry environment makes forward planning especially difficult. Macro-economic conditions are changing; long-established business practices are being disrupted; and political instability is widespread. It is increasingly difficult to have confidence in one’s assumptions about the context in which any industry must operate.
In such a volatile environment, contract development and manufacturing organization (CDMO) executives must test how their strategies will hold up in the event that long-held assumptions about the external environment are upset by new realities. They need to play out “what-if ” scenarios that test the robustness and appropriateness of their strategic initiatives and investment plans in the event actual business conditions diverge from their expectations.
Here are five what-if developments that CDMO executives need to consider carefully as they prepare and implement their business plans.
Expenditures on drugs account for just 10% of all healthcare expenditures in the United States, but they draw inordinate attention because consumers must pay a significant portion of drug costs out-of-pocket.
CDMO executives need to consider multiple scenarios if US drug prices are attacked by government and private payers. Bio/pharmaceutical companies could respond by insisting on better pricing from their suppliers, including CDMOs, and by bringing contract manufactured products back in-house to absorb more fixed manufacturing overhead. Alternatively, they could decide to pare down their manufacturing networks and reduce capital expenditures, which could be a boon for CDMOs.
The greatest and most negative implications are likely to be for R&D spending. Companies that self-finance R&D spending will likely reduce costs by shrinking the number of candidates they have in their pipelines.
For emerging bio/pharma companies that depend on CDMOs, the impact would be more severe. Lower or uncertain drug prices would reduce valuations of in-licensed and acquired drug candidates, and the emerging bio/pharma companies that develop them. That would reduce the flow of external funds available for their R&D activities, most of which get spent with discovery and clinical contract research organizations (CROs) and CDMOs.
There is now a symbiotic relationship between CDMOs and emerging bio/pharma companies: because there is a robust CDMO sector to serve the development needs of emerging bio/pharma companies, those companies can be set up on a virtual model that requires much less financing than if they had to invest in their development infrastructure. That means that the fortunes of CDMOs are now tied closely to emerging bio/pharma’s access to external financing. That financing has historically been cyclical, and the industry has benefited from the current, historically-long run of funding availability. When the cycle dips down again, as it did in 2007, the consequences could be devastating for the CDMO industry: a number of CDMOs may go out of business and others may have to impose deep staff cuts and postpone capital investments to ride out the downturn.
CDMO executives preparing for this eventuality will need to be aware of several factors. One is the nature of their offerings: CDMOs dependent on early development projects, which tend to have short timeframes, will feel a slowdown more quickly than CDMOs that have a strong mix of Phase II and III projects. Secondly, they should monitor the financial health of their major clients to determine if they have sufficient cash on hand to complete the program they are working on. Finally, CDMO executives will want to keep a close eye on their company’s spending, which can get out of hand when the business is growing rapidly.
The uncertainty surrounding international trade should be a matter of great concern for CDMO executives. Bio/pharmaceutical ingredients and products are among the most actively traded goods in the global economy.
Responding to the imposition of tariffs and non-tariff barriers would be difficult for the bio/pharmaceutical industry, whose supply chains are particularly inflexible. In the best of circumstances (i.e., when spare capacity is readily available), it takes several years to qualify new production sites. But spare capacity is not readily available, especially for small- and large-molecule APIs and injectable drug products, and especially in the US. So, if bio/pharmaceuticals get caught up in a trade war, costs will likely increase to reflect tariffs and bio/pharma companies will expect their CDMOs to absorb some of the higher costs.
Longer term, bio/pharma companies could redesign their supply chains to localize more production, giving up economies of scale to avoid the tariffs. That could be favorable to CDMOs as contract manufacturing for a particular market could be more cost effective than building a captive facility.
But companies would have to believe that the restricted trade environment was a fixture before undertaking the massive capital expenditures and effort that such a redesign would require. Bio/pharma and CDMO executives would likely be reluctant to move ahead with such a plan given the risk and uncertainty it would entail.
CDMOs have generally been followers in adoption of new technology as they lack the resources available to global bio/ pharma companies to do technology R&D. As bio/pharma companies develop products incorporating new technologies such as continuous manufacturing, CDMOs will have to figure out how to underwrite the capital expenditure and develop the expertise to implement them. This is likely to require skills in partnering with clients to co-develop and co-invest in the technologies. It is also likely to favor financially-sound CDMOs that can provide assurance that they can be reliable long-term partners in innovation.
Large global bio/pharmaceutical companies of all stripes are restructuring their manufacturing networks and supply chains. The CDMO industry has gained most of its capacity as a result of plant divestitures by large bio/pharma companies, but the result has been a large amount of undifferentiated available capacity and a number of CDMOs facing financial difficulties, especially in Europe.
CDMO executives must consider the implications of a large amount of new bio/pharma capacity coming into the market on top of the capacity that CDMOs are investing in themselves. A market already awash in capacity for low-value solid and liquid dose forms is likely to be pressured as more capacity becomes available. There are still investors new to the industry that are looking for a way into the CDMO market, and political pressures to maintain marginal facilities remain high. Even a small amount of incremental capacity from bio/pharma companies could severely impact profit margins and cause the contract services industry a lot of pain.
Supplement: Outsourcing Resources
Pages: s6, s8
When referring to this article, please cite it as J. Miller, "What Ifs in the Five-Year Plan," Pharmaceutical Technology Outsourcing Resources Supplement (August 2018).