CROs as “change-makers” in the Pharma ecosystem

Posted April 13th, 2011 in Pharma industry

Contract Research Organizations (CROs) have historically been sleepy fee-for-service partners for the drug industry, widely disregarded as not innovative, and their scientists certainly not treated with the same professional respect as their counterparts in Pharma R&D.

But this is clearly changing: CROs are now stepping up as important change-makers in the life science ecosystem and are helping drive the “Pharma R&D makeover”.

I was reading JPM analyst Tycho Peterson’s recent report on CROs after the Society of Toxicology meeting, and he highlights a number of interesting points.  While all of Big Pharma has to varying extents embraced the global CRO industry over the past decade, especially for clinical development, one of the most interesting observations was the impressive number and scale of the recent strategic deals with Pharma they’ve inked recently.  Here’s a subset:

  • WuXi-BMS (Mar 2011): WuXi announced it will build and specifically dedicate a Shanghai-based facility GMP stability testing for BMS’ global NCE programs.  A core part of an FDA-regulated process moving to China.
  • Takeda takes on Covacnce & Quintiles (Feb 2011): Part of the former’s decision to “move toward a fully virtual outsourcing model”, Takeda will partner with Covance and Quintiles across all therapeutic areas except oncology (which will continue to be led via their Millennium organization).  Takeda with its nearly $5B in R&D spend going virtual?  Probably a directional rather than specific comment, but interesting nonetheless.
  • Pfizer & chemistry (2011): Pfizer has recently decided to break up its medicinal chemistry teams into “designer chemists” (thinkers) vs “synthetic chemists” (do-ers), with the latter being split between existing sites and offshore CROs like WuXi.  Wonder how long that cost differential for synthetic chemistry can be maintained.
  • Covance-Sanofi (Sept 2010):  As part of a 10-Year, ~$2B partnership, Sanofi will transfer a set of sites/assets to Covance in France & the UK, and get a set of outsourced functions in discovery support, tox, med chem, clinical, and central labs.  Looks like a great deal for Sanofi: site rationalization and “synergy capture” in tough labor markets, while locking in a fixed deal for 10 years.
  • CRL-Pfizer (Feb 2011): Earlier this year, Pfizer contracted CRL to distribute 11 lines of genetically modified animal models covering CNS, diabetes, and CV.  Although a small deal, it’s interesting to see that Pfizer is actively monetizing its animal models.  Hard to imagine 5 years ago.

Those are just a few of the deals.   There’s a bunch more that have been inked in the past 1-2 years (e.g., PPD and GSK, ICLR/PRXL and BMS, Paraxel and Lilly, PPD and Eisai, etc…).

As expected, accessing talent and labor cost benefits by emphasizing China is obviously an important part.  Peterson notes:

“Although still only a small fraction (~3-4%) of the global CRO market, China-based CROs have grown 30% in the last five years, with the growth expected to remain >20+% for the next five years. Furthermore, while leading clinical-stage CROs have advanced in China (e.g., PPDI, Parexel, Quintiles, ICON), preclinical companies, including Covance and Charles River Laboratories, have moved more slowly, a trend that should continue to favor SHP and other China-based CROs”

People and talent are an important part of this transformation of the ecosystem.  Over the past decade, Big Pharma organizations have supported, willingly or not, a huge knowledge and talent transfer to CROs.  Many of the project leaders in offshore CROs are Big Pharma trained medicinal chemists.  Clinical trial management expertise has also flowed out of Pharma and into CROs.  Furthermore, many CROs have recently been attracting some very seasoned executive talent: Lee Babiss ran Roche Research and now running a division at PPD; Vince Aurentz was head of strategy/BD for MerckSerono and now with Quintiles; Rob Armstrong was leading external R&D for Lilly and recently moved to Piramal; even Biogen’s former CEO Jim Mullen has joined a Patheon, just to name a few.  This longer term trend of knowledge transfer and talent cross-fertilization between Big Bio/Pharma and CROs will further accelerate the trend toward greater ecosystem integration.

One reason why I think CROs are likely to be change-makers for the drug industry is their culture: they are by nature cost-conscious businesses.   According to Peterson, the business is incredibly tuned to its capacity utilization and small changes off of the ‘ideal’ of 85% leads to significant pricing pressure.  Taking capacity offline for a while makes a lot of sense for many CROs (btw, can you imagine Pfizer just temporarily taking Sandwich offline for a couple years?).  The CRO industry understands how to manage this pricing pressure: in 2009 pricing was at a 20-30% discount to the peaks of 2006-2007 for preclinical services, so they’ve been adjusting.  This is a business that watches its operating costs very closely, and the pressure to compete by ‘doing more with less’ is very much part of the CRO industry’s culture.

This stands in start contrast to Big Pharma: most firms have only functioned in a world of incredibly high operating and gross margins.  Hugh sums for R&D spending were easy to come by and a culture that ignored costs became embedded in the system.  Saving a little here and there in R&D made little sense if the next blockbuster spit off billions in profits.  Like any system with too much money and little incentive for cost-control, R&D costs have skyrocketed and all the components of the system extracted a ‘rent’ on this excess funding.   Like all things that can’t go on forever, this won’t (or hasn’t).

As a more general point, this lack of cost consciousness plagues advancements in healthcare.  Innovation in most other industries strives to take cost out of the system, even for direct costs (e.g., enterprise SaaS, personal mobile devices like iPads, etc…); all of this comes out of things like Moore’s Law of improving computer power and the commensurate reduction in cost.   In healthcare, however, for decades new innovations that have improved health outcomes have almost always added more direct costs (though ‘system’ costs may come down when looking at full pharmacoeconomic impact and such); drug costs have outpaced inflation for years. Its intriguing to entertain the idea that putting CROs closer to the center of the ecosystem could be a key ingredient in allowing the drug business to maintain its focus on innovating but doing it while reducing system costs. At the very least, I think they are certainly an important part of the solution.

An obvious ecosystem trend is that large pharma disgorges itself of more research sites and infrastructure, some of which will be shut down, others absorbed into existing CROs or spun-out into new ones.  I also think smaller biotech will follow the same trend: more and more virtual or semi-virtual biotechs will be funded that require less infrastructure and focus increasingly on an asset-centric model of innovation and less on platform-centric capacity building.  Equity and success-based collaborations with CROs will become commonplace for startups (it’s already being done, but not commonly).  These startup biotechs are only able to “go virtual” by leveraging the emerging breadth, expertise, diversity, and cost-consciousness of the global CRO industry.  And to help enhance their access the startup market, and leverage the efficiency of relationships, I also believe CROs will increasingly rely on ever tighter connections with biotech venture capital firms to access portfolios of assets requiring outsourced functions.  VCs successful at fostering these relationships will distinguish themselves over time.

The ecosystem is changing and CROs are both driving and benefiting from it.


This entry was posted in Pharma industry. Bookmark the permalink.
  • This piece is so well written and summarizes everything I have seen as a long time recruiter of scientists for biotech and big pharma. For several years I have heard undercurrents about companies going virtual. From tiny Huntington’s non profit CHDI to Lilly’s ‘FIPNET” all are interested in using CROs to save money. It is worth noting that Rob Armstrong, lately of Lilly, was a huge innovator in the virtual model and now is at a CRO. I have heard from countless scientists in pharma who are seeing their jobs eliminated, especially medicinal chemists. Once the proud backbone of the industry these chemists are being tossed aside. It is very sad. I too have noted the shift in the perception of CROs. When I started recruiting in the industry I quickly decided I wanted to recruit the “A” players and so did not do any work for CRO’s or generic companies. No self respecting scientist would move to one of those organizations. But how the times have changed as you so correctly wrote in your post. Now the action has shifted to the CROs and many top players are moving there. I used to think I was in a very safe niche recruiting drug discovery scientists and doctors for biotech and pharma. I thought these people would always be in high demand. This is of course not true today and I will have to adjust my niche or lose my business just like big pharma. Anyone at a CRO need a good recruiter? LOL

  • Cpgrocks

    As someone who just left big pharma, this trend to outsourcing of R&D is very, very real. Whether it will restore productivity for pharma is another matter, but I agree with your conclusions. It does create a great opportunity for biotechs who learn to use this new model productively to increase their capabilities without increasing their fixed costs or burn rate. I think we’ll see leaner staffing focussed on performing only the most specialized activities internally, and contracting the rest to CROs.

  • HelicalZz

    Nicely written and considered. As someone who has overseen early development projects in the US and overseas for a near virtual firm, I was initially surprised at how much ‘teaching’ I was doing as part of the efforts. My dealings with these CROs felt at times like it was drawn straight from Clayton Christensen’s ‘Innovator’s Dilemma’, which was occasionally unnerving. So I concur that increased CRO’s are likely disruptive change makers, and potentially for the better.

  • CMCguy

    But will this change in ecosystem lead to more and innovative drugs? That’s what you seem to imply and I am skeptical. CROs (and I’ll add CMOs) get paid for services rendered and rarely take on extensive direct risks, although if willing to take equity stakes would alter that perspective. While vendors more sensitive to costs most of the outsourced activities still have significant built in costs that may be hard to drive down, particularly in Clinical Trials, so the reduced costs reflect acceptable margins which are likely to increase if taking on a greater role. I would compare them a bit to Generics companies as they know how to control certain costs well to maximize their returns but are rarely good when translating into development stage operations. Mainly concerned CROs/CMOs are not inventors cultures and projects do come from the outside and with limited funding for early stage projects not many projects will reach stage to involve CROs so unless VC are willing to invest in more ideas not much will reach the relevant point to foster relationships. Without change in that ecosystem CROs won’t be driving or benefiting.

    Don’t get me wrong I see a prominent role CROs/CMOs can play as granted Phrama has “a culture that ignored costs became embedded in the system.” I see Pharma being spoiled by the riches for way too long as you suggest and hence not focusing on natural improvement opportunities that are first order in most businesses, plus grew too big to be sustainable . On the other hand, Biotech, and more so Virtual, drug development frequently suffer from inadequate expertise to guide projects in segments or in total to avoid pitfalls from poor job of selection and oversight of service providers. Services still do not come cheaply and any cost saving can be rapidly eaten away by delays or correcting mistakes.

  • Pingback: Coming Up in the World With CROs | Pharma Marketer()

  • Pingback: 以大学为基础的CRO? | 十万个为什么()

  • Pingback: Big Pharma Outsourcing to CROs and Setting up R&D in China | Clark Executive Search Blog()

  • Pwoitach

    Great issue and observations! On the “move toward a fully virtual outsourcing model”, Top Tier Pharmas I’ve spoken with are all looking to be “more like biotechs”. In clinical, they have all said they will now be willing to outsource things that previously were strategic and internal.

    One of the biggest gains to sponsor companies of moving things in this direction may be in data. Big Pharma’s have struggled to take ownership of data out of individual spreadsheets and lab notebooks and leverage it across the company. On the clinical side, the data management link between CROs and Sponsors can be a source of frustration and tighter links and better tools can have a huge windfall in cutting site monitoring COST and Time and ramping up trials faster…

    I would suggest that it’s helpful to look at this and what the future might hold by segmenting CROs / CMOs / CDOs into labor intensive like clinical operations vs. capital ( including brainpower) intensive such as CMC CROs. Clinical CROs can adjust capacity very differently than, say, an API development CDO. It’s not just physical assets…if you don’t have enough of the right chemists when the projects come in, you can’t respond. So they have to hold on to people during the dips. Clinical CROs are much more used to adding and shrinking. As a result, their views on partnering and risk are different. The CMC ones have historically enabled earlier access to technology like hipot, SMB, SFC and have been built or differentiated based on technology. Now single use bioprocessing is doing the same thing.

    Further proof of CMC CROs value to the ecosystem is that it is very rare to see someone succeed when they go from big pharma to a CMC CRO or when a CMO buys a captive big pharma plant – the service orientation and project costing intuition is hard to learn – service orgs have different DNA!

    There’s an interesting hybrid that’s growing in number that’s referenced in the blog and that’s the Pharma Plant turned CMO – Some products come with the facility, the owners want to develop their own products, and they offer development services or capacity. There’s benefits to the increased capacity but implications…Greatly increased generics activity is changing the way CDOs think as well.

    I believe that equity partnerships set up difficult conflicts for CROs that can be counter to both parties’ best interests. Some of the best successes for all parties have been where the big pharma invested because they needed the capability but were also willing to walk away and have it available for all.

    I also believe that one-stop-shops – be they vertical or horizontal end up sub optimizing for a variety of technical reasons and as the industry gets better at outsourcing, there will be even less need for it than today.

    After all, for all our science and sophistication, outsourcing in pharma is still in its relative infancy compared to other industries and many practices and expectations on both sides of the desk are still fairly crude and often insular when compared to best practices long in place in other industries…perhaps the high margins have been an impediment to the laws of comparative advantage taking hold as they are starting to…

  • Emer Leahy

    Fantastic article, couldnt agree more with everything you said

  • Bee

    It’s logical that established CROs have a wider outlook and a crossover of clinical research experience not always present in a narrow field.