Many folks within pharma lament the current challenges and look back to a gilded era when blockbusters provided rivers of cash flow and supported growth based activities – both R&D and marketing. And yet, could this present biotech’s greatest opportunity as an industry?
We are all too familiar with how the economics for big pharma have changed in the last few years. Factors include:
- patent expiries (existing and imminent)
- declining R&D productivity (as measured by more dollars for fewer approved products)
- heathcare payor pressures as governments search for budget cuts in all areas
- paucity of future blockbusters in the pipeline
Biotech has often been suggested as a saviour with the suggestion that a focused research style based on deep insights, rather than wide pools of area expertise and serendipity, would lead to greater R&D productivity. After over 30 years of trying, there doesn’t seem to be any conclusive evidence that biotech’s research approach has had any more success. Yet, there is still cause for hope, though for reasons driven by necessity and economics rather than just science.
Biotechs by their nature start out (and often remain) as small, nimble companies having to find a niche within a much greater ecosystem. As with any small organism or business, you survive by being really good at a focused area or developing niche expertise. You simply do not have the resources to compete with the big players.
Considering target markets, despite the top-line attractiveness of blockbusters, biotechs often target niche indications. While these may be small and initially only have sales potential in the hundreds of millions of dollars, that can still make a big difference to a small company. The equation for big pharma is much tougher as they need new drugs, for growth or to replace patent expiries, to generate greater sales to move the performance needle. And yet some drugs which start of in niche (or even orphan) indications, gain approval and then widen their market opportunity through label extension. Some examples include:
- Amgen’s erythropoietin stimulating agent, or ESA, franchise, including Epogen (also know as epoetin) and Aranesp. Epogen was initially approved in 1989 for anaemia in patients with end stage renal disease, selling $100 million in 1989. By 1997, the American Society of Clinical Oncology (ASCO) and American Society of Hematology (ASH) were considering an “evidence based clinical practe guideline on the use of epoetin in cancer patients”. Since Amgen had licensed non-chronic kidney applications to J&J (developed as Procrit), they further capitalised on growing use of Epogen in cancer anaemia by developing Aranesp, approved in 2001. By 2010, Epogen and Aranesp had combined sales of around $5 billion, from Amgen 2010 10K SEC filing.
- Other orphan drugs can end up being priced so richly that even these can lead to blockbuster status eventually. An example is Genzyme’s Gauchers disease franchise and Cerezyme which has over $1 billion in sales (and in no small part driving Sanofi-Aventis acquisition of Genzyme this year for $20 billion).
- Another example of growth through label-extension use includes Cephalon’s drug for sleep disorders, Modafinil or Provigil (trade name). This was originally approved by the FDA in 1998 for improved wakefulness in patients with narcolepsy. In 2004, this label was expanded for approval to “improve wakefulness in patients with excessive sleepiness (ES) associated with obstructive sleep apnea/ hypopnea syndrome (OSAHS) and shift work disorders (SWD)”. Provigil sales were $25 million 1999, the year of launch, and had grown to $1.12 billion by 2010. Nuvigil, a single-isomer formulation of Provigil, was approved in 2009, and developed to extend the sleep disorder franchise. This had 2010 sales of $186 million. Provigil and Nuvigil comprised around 46% of total Cephalon sales by 2010 (data from Cephalon 2010 SEC 10-K filings). Provigil’s growth through the company’s earlier history provided a significant cashflow bedrock to enable further pipeline development. Interestingly, Teva is acquiring Cephalon for $6.8 billion. When one considers contribution to sales, and how its helped pipeline growth, Provigil has played a major part in supporting this transaction.
Other factors supporting a niche focus include the increasing hurdle with phase II failures. Reporting in Nature Reviews Drug Discovery, the Centre for Medicines Research found that “Phase II success rates for new development projects have fallen from 28% (2006–2007) to 18% (2008–2009)”. In his blog reviewing what’s behind the phase II failures, Derek Lowe (In the Pipeline) notes that four therapeutic areas accounted for over 70% of the failures – cardiovascular, CNS, metabolic diseases (diabetes) and oncology. He recognises oncology and CNS as traditional high risk areas and diabetes is a tough well-served market with high existing standard of care (making the efficacy barrier higher). Yet in cardiovascular, he suggests staying away from the big, obvious plays:
…that’s interesting, since that area has traditionally had one of the better trial success rates. Perhaps that one is also suffering from the standard of care being pretty good (and often generic, or soon to be). So the high-success-rate mechanisms of the old days are well covered, leaving you to try your luck in the riskier ideas, while still trying to beat some pretty good (and pretty cheap) drugs. . .
In an article from Bloomberg, Datamonitor reports that antibiotic R&D spend and revenue is expected to decline. The report anticipates that by 2019 only two antibiotics will have sales of over $500 million – Levaquin from J&J and Cubicin from Cubist Pharmaceuticals. Yet in my own research I’m coming across early stage companies (about to enter or already in the clinic) where the business model is built around niche and/ or orphan indications for infectious diseases. Again this enables a situation where a company with even quite lowly sales (by pharma standards) – say a few hundred million dollars – could still turn into a significant commercial success for both the company and investors.
As well as being nimble and niche focused with target markets, biotechs have always had to be extremely careful with cashflow management, even more so in the current environment. They don’t have the luxury of a few high selling products to support ongoing R&D and pipeline development, so judicious use of any funds raised is essential. Hence the rise of the semi-virtual and virtual model of biotechs – where core expertise and control (e.g. program development, managerial, financial) is kept in house, yet other skill sets are outsourced as required. This is not typical in the pharma approach, yet in biotech can lead to improved use of invested funds and greater bang for your buck. One of the most fascinating examples of this recently is Ferrokin Biosciences – a California based biotech focused on a niche space of congenital anemias. A recent article from The Atlantic describes just how far they’ve taken virtual:
FerroKin is seven employees who work from home, and a collection of about 60 vendors and contractors who supply all the disparate pieces of the drug-development process. Rienhoff, a physician and former venture capitalist, founded it in 2007 as a start-up, a virtual biotech company. Since then, his team has picked up talent and resources as needed, raising $27 million and seeing a drug from development into Phase 2 clinical trials.
and extolling the virtues of this approach, it further states:
The low cost structure of companies such as FerroKin—old-fashioned drug development can eat up hundreds of millions of dollars—translates into more variety in the market, and more niche drugs targeting neglected or rare diseases.
When we return once again to the pharma challenge of refilling pipeline, an obvious source for this (apart from internal development) is through partnering or M&A with biotechs. I’ve already mentioned a couple of recent deals where biotechs took a step-wise niche approach and eventually got bought out by their much bigger pharma brethren (Genzyme/ Sanofi-Aventis, Cephalon/ Teva) and this trend looks set to continue and grow. Infact, when one considers that in recent times 2 of the largest biotechs have been acquired by big pharma (Genentech and Genzyme), then you realise that actually, any biotech with product, sales and pipeline prospects could be fair game.
David Snow, CEO of Medco Health a pharmacy benefits manager (PBM) discusses with Reuters that No biotech is too large to buy. Given the payor pressures, he sees the growth potential of biotech as more important than ever. Interesting perspective when you consider that as a PBM, Medco serves 65 million members and profit more by using lower cost medicines (including generics). According to the business overview in the 2011 10-K filing:
…Medco making medicine smarter™ for more than 65 million members. Medco provides clinically-driven pharmacy services designed to improve the quality of care and lower total healthcare costs for private and public employers, health plans, labor unions and government agencies of all sizes, and for individuals served by Medicare Part D Prescription Drug Plans.
And when you find one of the shrewdest, smartest investors of our time, Carl Icahn, pursuing biotechs as an activist investor, you begin to appreciate how much value could be locked up within certain companies in the sector. He’s made near enough a billion dollars on shaking up investments in Biogen Idec and Genzyme.
In summary, if this is pharma’s perfect storm, where are biotech’s greatest opportunities? Put simply, go lean, go niche, go stepwise and with a plan for revenue. Don’t build for M&A; if you do the rest well, it will come anyway.
This post is by Raman Minhas. Raman is the CEO of ATPBio, a consultancy supporting biotech funding through VC, big pharma investors and partnering.
Disclaimer: At the time of writing, the author holds shares in Amgen and Teva. Nothing in this blog is an investment recommendation. Readers should do their own research.