Charting the course of pharma contract manufacturing

It’s no secret that the pharmaceutical sector has been on a bumpy ride over the last few years. Many big pharma companies are in the throes or the aftermath of a raft of patent expiries, with growth in the US and EU pegged back as a result of declining volumes and prices, caused by generic substitution and austerity measures.

The contract manufacturing organisation (CMO) sector has also come under pressure as a result of the problems afflicting its customer base, with the top five CMOs in developed markets posting annualised revenue growth of less than one per cent between 2008 and 2012, according to just-published data from market research company Visiongain.

Opinions are divided on whether outsourcing growth rates will pick up in the next few years, with some suggesting that CMOs could benefit from more outsourcing in the increasingly cost-conscious environment.

However, it is also postulated that the changes will create a situation in which CMOs are chasing after fewer and smaller projects, along with pressure on pricing that could result in a dogfight for market share.

What seems clear is that leading CMOs – which currently still hail mainly from developed markets like the US and Europe – will have to adapt and evolve to cope with the emergence of competition from other regions of the world, as well as changes in the way the pharma industry carries out its business.

Consolidation

In the minds of many market observers, the pressure on CMOs points to one almost-inevitable consequence – consolidation – as the market is still served by a fragmented network of providers often offering similar services.

A number of observers expect this consolidation to gain momentum in the next three to five years, and there are already signs that the process has started, with some companies exiting the market (e.g. Boehringer Ingelheim subsidiary Ben Venue), some abandoning a particular category (e.g. Patheon exiting the semisolids business) and others going out of business altogether (e.g. Nextpharma’s Belgian subsidiary Laboratories Thissen).

There are also suggestions that the market will follow the lead of the contract research organisation (CRO) sector and see large-scale merger and acquisition (M&A) activity as companies try to sign wide-ranging, strategic-level agreements with pharma manufacturers.

More and more CMOs – both those serving the traditional small-molecule markets and those that offer large-molecule production – are striving to provide development and manufacturing services from active pharmaceutical ingredient (API) to finished dose, in a bid to provide a ‘one-stop-shop’ and capture the maximum spend from clients.

Last year, Frost & Sullivan said it expects 30% of the US CMO market to exit over the next five years², noting that consolidation will help improve the pricing power of CMOs that can build a portfolio of value-added services.

East versus West

One feature of the last few years has been the emergence of CMOs in emerging markets: particularly the BRIC (Brazil, Russia, Indian and China) economies, as well as investments by Western CMOs in these regions.

Thanks to low capital and labour costs these quickly captured a sizeable share of the market for generic active pharmaceutical ingredients (APIs) and finished dosage forms, but still only account for a small share of proprietary product manufacturing.

Only a few years ago it was predicted that India and China would come to dominate the entire CMO sector and take capture a major slice of Western companies’ business. Latterly however, there are signs that the pendulum is swinging from East back to West. Labour costs are increasing, for example, and the cost of shipping is becoming more significant, particularly for liquid pharmaceutical products due to their weight.                

In some cases it has been reported that Indian and Chinese CMOs have been unable to deliver the cost savings once promised. There have also been issues with customer service and product quality – for example the recent case in which quetiapine API made by Suzhou No. 4 Pharmaceutical Factory was contaminated with clindamycin.

With regulators tightening up demands on quality (see later) it has been reported that some Western companies are starting to seek outsourcing partners who are closer to home.

A recent survey by BioPlan Associates found that India and China had slipped from the top of the list among destinations for outsourced biopharma manufacturing to fourth and ninth, respectively. The US captured the top spot, followed by Germany, Singapore and the UK.

The purpose of plants in emerging markets also seems to be evolving. At one time the intention was generally to export most of the production to Europe and North America, but there seems to be a shift towards establishing facilities primarily to serve local markets.

For instance, in June Boehringer Ingelheim forged a joint venture with Chinese drugmaker Zhangjiang Biotech & Pharmaceutical to build a dedicated biomanufacturing facility in Shanghai, with the express aim of offering capacity to foreign companies that may be wary of investing in their own production capacity in China, as well as tapping into the country’s own developing biologic drug development market. DSM also opened a plant in Australia recently to serve Asia-Pacific biopharma markets.

Quality drive

A consequence of the heightened focus on quality and risk-management by regulators – witnessed by the publication of draft guidance⁵ from the FDA that recommends that drugmakers draw up quality agreements with CMOs – could also be a driver towards consolidation in the CMO sector.

Quality issues at CMOs that have led to product shortages have been hitting the headlines in recent months, with examples including the well-publicised doxorubicin shortage caused by problems at a facility in the US operated by Ben Venue Laboratories, an FDA warning letter for a plant operated by Jubilant HollisterStier – and interruptions in the supply of Ipsen’s rare disease treatment Increlex (mecasermin) because of quality issues at a plant operated by CMO Lonza.

The FDA has started to issue warning letters to pharma companies that fail to have properly documented agreements with contractors, and this trend could feasibly add further impetus to the often-noted trend towards strategic-level agreements between pharma manufacturers and their outsourcing partners.

Meanwhile, the cost of meeting higher regulatory hurdles on quality in manufacturing could accelerate adoption of outsourcing.

In-house capacity

With sales volumes on the slide among leading pharmaceutical manufacturers, many have been left with excess capacity, a situation exacerbated by the mega-mergers of the last few years resulting in redundant production units.

One consequence of this has been a series of acquisitions of surplus manufacturing capacity by CMOs, which in some cases have brought new players into the CMO market.

For example Aspen Pharmacare’s purchase of an API manufacturing facility in the Netherlands from Merck & Co includes a multi-year supply agreement with the seller, and this marks an expansion of Aspen’s CMO business which was largely created by an earlier deal with GlaxoSmithKline which brought a facility in Bad Oldesloe, Germany, into its hands.

Meanwhile, bio/pharma manufacturers are also continuing to invest on in-house production where they see strong growth prospects, such as emerging markets and biologic drugs, and this reduces opportunities for CMOs.

Notable expansions last year in the biologics space were Bristol-Myers Squibb’s $250 million investment programme at its Devens site in Massachusetts, GlaxoSmithKline’s decision to invest £500 million ($757m) in its UK network including a new biomanufacturing facility in Cumbria, and Eli Lilly’s plan to spend $300 million on additional capacity at an insulin production facility in its hometown of Indianapolis.

Meanwhile, drugmakers are increasingly benefitting from favourable tax breaks as well as inducements designed to encourage investment in production facilities, such as Russia’s proposal to give preference to locally-made medicines in the national reimbursement system as it strives to reduce the country’s reliance on imports. Low interest rates are also encouraging spending on new capital investments by pharma manufacturers.

It has been estimated by PharmSource that CMOs would have to trim manufacturing costs by around a third in order to match the savings afforded by tax breaks in some markets.

A recent survey by Contract Pharma also suggests that pharma manufacturers are not planning a wholesale shift in outsourcing patterns, with more than half (53%) saying they intended to spend the same or less this year, with 28% suggesting they had actually cancelled projects due to the economy.

R&D productivity

One factor often cited for the tough operating environment for CMOs in recent years has been the decline in pharma R&D productivity, which has resulted in a reduction in the number of new molecular entities (NMEs) coming through the pipeline and onto the market.

In 2012 the number of NMEs approved by the FDA was 39, up from 30 in 2011 and the highest level since 2004, which suggests that R&D productivity may be on the mend.

The uptick does not however appear to be translating to any benefit for CMOs in terms of new contracts, according to Jim Miller, president of PharmSource, who told delegates at this year’s Interphex exhibition and conference that outsourcing has remained pretty constant at around 40% to 45% of new drug approvals over the last eight years.

Overall New Drug Application (NDA) approvals were flat over 2011, though still a little up on preceding years, and as most pharma companies tend to keep best-selling drug production in-house CMOs’ share of the market by value is much lower.

More and more contractors are turning to over-the-counter (OTC) medicines and proprietary products as these offer better margins and growth and more stable and predictable capacity usage and revenues.

CMOs were involved in 28 NDA approvals, with Catalent and Patheon doing well with six and four new product approvals respectively, according to Miller. On the downside, venture capital funding for the biopharma sector remains weak which is having an impact on the number of new projects coming through pipelines.

New technological frontiers

Arguably the most important trend among CMOs in established pharma markets – and increasingly among emerging market CMOs as well – is a shift away from simple APIs and dosage form production to more sophisticated technologies that are less competitive and can command premium pricing.

The most obvious shift – already well established – is the push into providing contract manufacturing of biologic drugs. Big pharma has been steadily repositioning its manufacturing capacity away from small-molecule products and toward biologics made by recombinant techniques, which demand different production technologies including cell culture and parenteral fill and finish capabilities.

Despite being on the cards for many years, however, the rapidity and scale of Big Pharma’s push into biologic drugs has meant that CMOs have struggled to keep up with demand.

The monoclonal antibody market alone is expected to top $42 billion in Europe alone by 2018 according to data from Frost & Sullivan, but the complex production demanded by mAbs has meant that many drugmakers prefer to keep production in-house.

It has been estimated that the biologics market will grow at an annual rate of around 15% in the next few years, with the need for contract manufacturing capacity expected to rise by around 10 per cent. There is already evidence however that some of the larger bio-CMOs are coming under pricing pressure from smaller players.

That has resulted in an ‘arms race’, with leading CMOs trying to differentiate themselves in the marketplace by layering in ever more capabilities, such as additional analytical services, high-yield expression systems, formulation/drug delivery capabilities and conjugation.

The latter has become a hot topic in manufacturing as the drug industry pushes further into the development of antibody-drug conjugates, which typically combine a disease-targeting antibody with a toxic payload.

ADCs were a long time coming to market but there is now a handful available, notably including Roche’s recently-approved breast cancer treatment Kadcyla (ado-trastuzumab emtansine) which has been tipped to become a multibillion dollar product at peak.

With dozens more ADCs coming through the pipeline, CMOs such as Lonza, Catalent Fujifilm Diosynth Biotechnologies and Piramal are investing in the technology to produce them.

CMOs that have gone down the value-added route into niche areas such as vaccines, transdermal delivery, controlled oral delivery and high-potency compounds, have tended to show stronger earnings growth than those which have stuck to a more conventional business model, according to PharmSource.

Furthermore, forward thinking CMOs are also looking at not only expanding into new drug categories, but also refining and improving established processes. AMRI, Almac and DSM have for example started to make use of biocatalysis to improve the yield of chemical syntheses whilst simultaneously avoiding the use of harmful catalysts based on heavy metals and reducing energy and solvent use.

The approach could be a leg-up in contract negotiations, at least for some drugmakers. Pfizer is among the firms which have said publicly they will give preference to contractors who can offer more environmentally-friendly tenders. There is a flip-side to this though.

New technologies such as microreactors for API manufacture, single-use systems, continuous processing and automation are reducing the size and cost of facilities and allowing smaller drug developers to contemplate setting up their own plants, so CMOs are facing competition from in-house manufacture even among smaller drugmakers.

Concluding remarks

Despite the evolving environment, the main points of competition for CMOs are likely to remain price, service and quality, and turnaround time, along with new technology platforms. For commodity products such as solid dosage forms price will be the main driver, but quality and technology platforms take precedence for other product types such as sterile injectables.

All that aside, CMOs will have to rely on building and maintaining strong business relationships to ensure contract flow, hike project performance to win repeat business, and monitor the marketplace for emerging opportunities.

A breadth of technologies and services is likely to be key to future success, as will the ability to diversify into new product categories such as food and beverages, as well as expanding geographically.

Phil Taylor