The price of innovation: Which way pharma?

Adefemi Adenuga

Product launches are usually characterised with high expectations and excitement, more so if the product is a therapeutic aimed at the prevention (as is the case with vaccines) or cure of a potentially life-threatening disease with significant unmet clinical need. However, behind all the buzz and hype looms an underlining factor with the capability to single-handedly determine the fate of the product – pricing. No matter how you look at it, pricing has always been and continues to remain a crucial determinant of a product’s success or failure. Its significance is further highlighted by the dependence of healthcare reimbursement and the out-of-pocket costs borne by patients on the price of a therapy.

Due to the current fiscal crises sweeping across the globe, especially in Europe, there has been an increasing tightening of healthcare spending by governments. Countries including the US, China, Russia, and Japan are implementing policies aimed at reducing the negative contributions of healthcare costs to their worsening financial situations. In most cases, the accusing finger is quickly pointed at pharmaceutical companies for charging exorbitant prices for their drugs and vaccines, many of which are essential to improve the quality of life of patients and in many cases, save lives. Studies by the US Congressional Budget Office (CBO) indicate that the average prices of new drug products have been rising much faster than the rate of inflation. Consequently, drug companies have recently been receiving demands from various quarters, including governments and patient advocacy groups, to reduce the prices of their life-saving therapies through discounts and other methods. However, pharma companies are usually quick to respond with an explanation of the risky and expensive drug discovery and development process. This suggests that high drug prices are as a result of the passage of innovation costs from drug makers to the consumers.

Innovation drives the global pharma industry, but unfortunately its fading presence in the industry is a cause for concern. Going back to as far as the 1970’s, innovation has always yielded substantial results to pharma companies, healthcare payers, and patients. The blockbuster model, upon which many pharma companies were built and have carved a niche for themselves over time, is a readily-available case study of the contribution of innovation to healthcare. From 1977 when Tagamet (cimetidine), which earned GlaxoSmithKline (GSK) over $1 billion in its first year, was approved by the US Food and Drug Administration (FDA) as an ulcer medication, pharma companies have been engaged in a race for blockbuster drugs – new innovative and efficacious therapies that cater to large unmet medical needs. Indeed, many companies have succeeded in doing this and drugs such as Prozac (fluoxetine), the first selective serotonin reuptake inhibitor, Mevacor (lovastatin), the first statin, and Lipitor (atorvastatin) have historically been the largest contributors to the annual revenues of their respective companies – Eli Lilly, Merck, and Pfizer.

Recent events have shown that things are not as they used to be with the pharma industry, which is currently witnessing a decline in R&D productivity. According to the FDA, a total R&D spending of over $51 billion by pharma companies yielded 21 new molecular entities (NMEs) in 2005, a sharp decline from about 35 NMEs from a R&D spending of about $34m in 2000. Also, the number of new drugs approved by the US FDA per billion US dollars (inflation-adjusted) spent on R&D has halved roughly every nine years. Furthermore, total new drug application (NDA) and biological license application (BLA) approvals by the FDA reduced by 15.5 per cent from 123 in 2009 to 104 in 2011, despite efforts by the FDA to reduce the approval times for new drugs and biologics in response to its being regarded as a bottleneck to the availability of life-saving therapies. The traditional vertical model of innovation creation and commercialisation is not as productive as it used to be, and recent scientific advances in various areas such as genomics and molecular biology have yet to impact the bottom line of pharma companies. Consequently, there has been a decline in the number of blockbuster drugs launched per year, which is why the patent cliff is a much-dreaded but inevitable occurrence for many drug companies including large multinationals such as GSK, Johnson & Johnson (J&J), and Pfizer. Many blockbusters that were launched in the 1990’s have either lost market exclusivity or are on the verge of doing so, giving drug makers many a sleepless night. For instance, these are worrisome times at GSK as the company braces up for a decline in revenue due to the imminent patent expiry of its asthma and chronic obstructive pulmonary disease (COPD) combination drug, Advair (fluticasone/salmeterol) in 2013. The company’s executives and shareholders have a genuine cause to be worried, especially as the drug in question accounted for 34 per cent of the company’s revenues in 2011.

Apart from a decrease in innovation, pharma companies have also had to cope with increasing development costs. Currently, the average cost of developing an innovative drug is about $1 billion. Sunk costs and opportunity costs have increased substantially as a result of the high failure rates of molecules in development. This is the primary reason why many drug makers now seem to shy away from some high-risk, high-reward drug candidates and would rather invest in making incremental improvements to existing drugs, which have less risky profiles but less attractive market potential. In other words, focusing on low-hanging fruit is becoming a more reasonable alternative than the quest for blockbusters. In addition, the demand for larger, longer, and consequently, more expensive clinical trials by regulatory bodies to ascertain safety and efficacy have further driven up developmental costs.

The question is: Are the high prices set by pharma companies for their products justifiable? To some extent, they are. These companies encounter pressure from generics manufacturers, governments, patient advocacy groups, investors, physicians and even other pharma or biotechnology firms. Generic manufacturers make and market very cheap versions of drugs that have lost market exclusivity, thereby reducing the market share and revenues of pharma companies; governments require huge discounts and enforce stringent regulations to make drug makers invest substantially in the local economy before they can market their drugs; patient advocacy groups clamor for price cuts; investors require significant return on their investment; physicians want more options to enable them make better-informed treatment decisions; in addition to fierce competition with other drug makers.

Quite often, we find pharma companies being pushed up against the wall by these different stakeholders. Clearly, drug makers have to walk a fine line while attempting to please both investors and the public – two parties with contrasting expectations and demands. Novartis is currently embroiled in a lawsuit with the Indian courts over the prices of Gleevec (imatinib), where the company asserts that most patients that participated in the trial did not have to pay out of pocket for the pricey drug treatment. Gilead, a leader in HIV therapeutics, has been pushed into a corner by health advocacy groups and other lobbyists to provide therapies at huge discount to patients in countries with a low annual gross domestic product (GDP). Gilead, potentially coerced into responding to these claims, has succumbed to these external pressures and agreed to participate in the transfer of technology to promote the distribution of its drugs as generics. In August 2012, the company signed deals with Mylan, Strides Arcolab, and Ranbaxy to manufacture low-cost generic versions of its HIV drug, Emtriva (emtricitabine). For now, the deals would appear to placate these advocacy groups, but history reminds us that patient advocacy groups will view this development as a scalp taken off a drug-making giant and with the savour of victory fresh on their lips, return time and time again for more.

Pharma companies should not be maligned for choosing to focus on the needs of their main stakeholder – the investors or shareholders. As the timeframe of exclusivity shortens and the regulatory requirements increase, these companies are faced with declining profits and decreasing brand cache, especially in emerging markets. Furthermore, they have to deal with reference pricing and the stringent healthcare cost controls being set up by governments, particularly in Europe. According to Sanofi’s CEO, Chris Viehbacher, the financial situation in Europe has been costing Sanofi €200 million–€300m ($262m – $393m) a year as a result of governments’ healthcare spending cuts. This is an example of some of the burdens being borne by drug makers. Other pharma companies are also experiencing increasing difficulty in shortening the length of time they need to wait to receive payment for drugs supplied to the governments of some European countries, thus putting a strain on their cash spending. Therefore, the European situation is making many pharma companies haemorrhage money.

Clearly, something different has to be done by drug makers to at least reduce some of the pressures they face from pricing. Despite the efforts of companies like Gilead and Roche running “access” programs, which are targeted at making their drugs affordable by developing countries, the public still cringes at the mammoth profits announced by these drug makers quarterly. Of course how people feel about drug pricing largely depends on what side of the fence they are – patients want them cheaper while investors want higher return on investment (ROI). In all fairness, pharma companies have been trying to tackle the innovation drought through various means, one of which is through mergers and acquisitions (M&As) of smaller, nimbler biotech companies. Biotechs have recorded relatively better performance in innovation than larger pharma companies, primarily due to their limited bureaucracy and increased focus on cutting-edge research and development. Consequently, they have recently emerged as M&A targets of multinational companies including Pfizer, GSK, and Roche, which are seemingly trying to buy innovation. Generally, M&As are expensive because the acquirer often has to pay a premium on the acquiree’s market capitalisation to seal a deal. For instance, GSK’s $3.6 billion acquisition of Human Genome Sciences (HGS) in July 2012 was at a 98.7 per cent premium on HGS’s share price of $7.17 each on April 18, 2012. In addition, high integration costs associated with M&As drive up the overall acquisition costs, making them a relatively risky and expensive way of driving innovation.

Pharma companies are also engaging in strategic collaborations and partnerships with academic institutions for access to innovative compounds and research. In August 2012, Novartis signed a research and licensing agreement with the University of Pennsylvania aimed at the development and commercialisation of an experimental cancer treatment. Some similar drug discovery research collaborations established over the past two years include partnerships between Pfizer and the University of California at San Diego in a deal worth more than $50m over five years, Gilead Sciences and the Yale School of Medicine, Sanofi-Aventis and Columbia University Medical Center, and the University of Pennsylvania and AstraZeneca. Although these partnerships are significantly cheaper than M&As, drug makers will still have to grapple with the high risks and costs associated with early-stage R&D. However, academic institutions have been known to churn out innovation after innovation, so drug makers may not mind waiting for their pay-day.

Some drug makers have embraced an open-innovation model for solving their innovation drought by using innovation-focused platforms, which are expected to provide a relatively cheaper method of obtaining solutions to crucial process and product development problems. This is based on the premise that the vertical model of R&D is associated with very expensive and limited resources. In 2005, Eli Lilly spun out InnoCentive, an open-innovation company that accepts R&D problems in a broad range of domains including life sciences, chemistry, and mathematics, frames them as “challenge problems” for anyone to solve them, and gives cash awards for the best solutions to solvers who meet the challenge criteria. A year later, InnoCentive partnered with Prize4Life, a non-profit organisation dedicated to the discovery of treatments and a cure for amyotrophic lateral sclerosis (ALS), to launch the $1million ALS biomarker prize, a challenge designed to find a biomarker to measure the progression of ALS ( also known as Lou Gehrig’s disease) in patients. After about five years, in February 2011, the $1million prize was awarded to Dr. Seward Rutkove for his creation and validation of a clinically viable biomarker. Open innovation suggests that valuable ideas come from both internal and external sources. Therefore, by embracing this model, companies such as Eli Lilly seek to access a wider range of human resources and motivate them with incentives to provide solutions to problems. However, this model isn’t without its pit-falls, as these companies have to pay extra attention and detail to intellectual property and control of domain knowledge.

Pharma companies arguably have enough problems of their own. It is understandable that patients, physicians, and governments demand cheaper therapeutics, but we can’t afford to kill the golden goose. Without the R&D efforts of pharma companies, we would be lacking many of the life-saving treatments we currently have access to. Bearing in mind the pressures drug makers have to bear from advocacy groups and governments’ health ministries, the strict regulations they have to abide by, fierce competition by brand and generics makers, and high investor demands, it is unsurprising that it is not a business for the faint-hearted. Advocacy groups need to be more considerate and reasonable in their demands for price cuts, and governments should learn to compromise with drug makers, especially if such therapeutics are for life-threatening conditions. On the other hand, pharma companies should price their drugs so that they are still affordable by consumers while being able to give reasonable returns to their investors. Somewhere out there is a line of compromise for all stakeholders in the global pharma business, all we have to do is walk across it together, bearing in mind that health is wealth after all.

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