Pharmaceuticals – An Industry at Crossroads

Published on 27 May, 2016

Pharmaceuticals Industry Analysis

With patent cliffs, competition from generics to contend with, and mounting pressure from healthcare players, insurance companies and governments to provide vital products at affordable costs — the pharmaceutical industry may be in for some tough times ahead.

The competitive landscape of the US$300 billion* pharmaceutical industry is changing rapidly, with focus gradually shifting from drug research companies to generic drug companies.

The pharmaceutical industry can be bifurcated into research companies and generic drug companies. The industry is heavily skewed in favor of branded drug makers — primarily located in Europe and the US — that control more than one-third of the market.

However, patent expiries and loss of market exclusivity have exposed these pharmaceutical giants to a patent cliff (2011–16), wherein they stand to lose revenues worth billions of dollars. Branded drug sales worth US$54.7 billion lost patent protection in 2012 *.

A second patent cliff was likely to follow in 2015, resulting in an estimated loss of US$47.5 billion, the true extent of which still remains to be seen.

Pharmacy majors are facing high uncertainty in terms of future revenue streams, considering that rising competition, patent expiries and declining sales are mounting pressure on them to develop blockbuster drugs.

Research companies incur steep R&D expenses and rely on patent monopolies to recover costs. On expiry, a patent is rendered insignificant and the related formulation becomes a public property. Capitalizing on this opportunity, the manufacturers of generic drugs aggressively launch their products at a fraction of the price of research companies’ drugs, seizing almost 90% of the revenue generated by research companies from those drugs.

The research pharmaceutical industry is governed by a set of stringent regulations on authorization and marketing.

Approvals for new drugs entail long lead times, and R&D activities on new drugs have a poor success rate. These factors make it difficult for companies to develop a drug that would become commercially viable in a short span of time and replace drugs that have expired patents. For every drug that hits the market, there are at least 10 others that do not see a commercial launch. Moreover, sales of a single new drug may not compensate for the loss incurred on drugs with expired patents.

Companies face intense competition and challenges while launching new drugs and products in the market. Although the product pipelines for specialty diseases and oncology have witnessed considerable improvement, the pharmaceutical industry’s output level has remained stable in the past decade. Therefore, companies must embrace technological innovation to boost productivity.

Research companies face additional challenges as a result of pricing pressure from healthcare players, insurance companies and governments, which constantly seek new therapies that are clinically and economically better than the existing alternatives. This has compelled research companies to reassess their current operating models. Some companies are considering inorganic growth methods, thus paving the way for a series of licensing and acquisition deals. For instance, under the Novartis-GlaxoSmithKline (GSK) deal, Novartis bought GSK's cancer drugs and GSK took over Novartis's vaccine business. The mutually beneficial deal allowed the companies to increase their specialization in oncology and immunization, respectively.

Drug research companies have entered an uncharted territory, and it remains to be seen whether these companies perform or perish.

Even as research companies reel under the effects of drying revenue streams, the outlook for generic manufacturers appears bright, as their lower-cost alternatives are in high demand. Consumers, insurance companies and governments are propelling the generic drug industry. For instance, the UK has decided against buying GSK’s Benlysta for lupus, saying the drug is not cost-effective.

The generic drug industry plays an important role in maintaining the sustainability of affordable healthcare programs. According to a report published in 2015 by the Generic Pharmaceutical Association, the use of generic drugs helped the US economy achieve US$254 billion in healthcare savings in 2014. We can safely surmise that such cost savings would only increase in the future.

The outlook for the industry appears positive.

Factors such as ageing demographics and growing use of generic drugs has the potential to attract long-term investors. In addition, emerging markets are expected to account for a sizeable share of global medical spend in the coming years.