Waltzing Away in Pharma Wonderland with Polichinelle

Pharma Fallacies ?  Mais c'est le secret de Polichinelle ! Bien entendu, les apparences sont sauves….

“Puff,” the mighty, magic outsourcing dragon is the “jack-of-all-trades” but master of none, trying to make sure that all roads lead to globalisation.

Strategic coherence provides greater differentiation, enables the right form of scale, focuses limited investments, and has the hugely important benefit of aligning the entire organisation around a common and consistent purpose. The problem is when there is no coherence.

R&D spending continues to rise and there isn’t any rising tide to lift all boats.

In recent years, outsourcing itself became a core competence, when companies outsourced all of the value chain activities.

Truth is stranger than fiction. Sure as night follows day, failing to identify mainstream economic fallacies will make fiction standout, but there is the minor matter that there is no panacea for all seasons.

TANSTAAFL, “External Economies,” Minimising Costs, Arbitrary Assumptions about Scale, Bigger Is Better, are some of The Fallacies.

The Role of Size, Economies of Scale/Scope and Positive Externalities (Spillovers)

Private R&D activities generate widespread benefits to society. This overall economic value often exceeds the economic benefits to the innovating firms .This difference is an economic positive externality or spillover.

One of the characteristics of pharma companies is their large size. This attribute begets huge profits to R&D, trough economies of scope and has no negative impact on economies of scale.~

Economies of scope come from the coexistence of several research programs for different disease areas conducted by a significant pool of scientists that concur to generate internal knowledge spillovers, which will expand over other R&D activities at no additional costs.

Economies of scale are achieved because fixed costs and investments spread over a large base of research activity.

Knowledge Spillovers

External spillovers and those between firms were positively associated with research productivity in a blockbuster model, where competition worked in related therapeutic areas but not on the same disease targets. The impact of interfirm spillovers on research productivity has significantly increased over the last twenty years.

As pharmaceutical research has moved to “rational" drug design, the evolution of biomedical science has placed an increasing premium on the ability to exchange information within the firm. The primary advantage of size has become the ability to exploit internal returns to scope-particularly the ability to exploit internal spillovers of knowledge-rather than any economy of scale per se.

Effect of Outsourcing on Knowledge Spillovers (Considering Symmetric Downstream Competitors with R&D Spillovers among Them)

Outsourcing production is a source of knowledge spillovers, which depend on the knowledge stock already acquired.

  • The aggregate effect of outsourcing on downstream R&D 
  • Increases R&D investments if R&D spillovers are large and companies are competing
  • Always increases R&D investments when there is cooperation between companies
  • Companies outsourcing to a common supplier will have even larger R&D spillovers

The first outsourcing method – M&A in the late 90’s

  • Sharing knowledge spillovers with other companies to refill the empty pipelines and reduce R&D economies of scale.
  • M&A growth did not deliver long run profitability measures and created new huge sized R&D units ; bigger is not synonym of better and we now watch Big Pharma spinning- off not just to streamline portfolios but also to survive .

The Role of R&D Spin-Offs

Spin-offs make an independent business out of an existing part of an organisation.

  • IP oriented spin-offs (to create new drug candidates)
  • Service oriented spin-offs (to provide services (fee-for-service-model) to the drug discovery/process).
  • They become very valuable because they can “work” for other companies, developing new activities and” know-how”, which in turn makes them  interesting partners for companies across the entire value chain (including the parent organization).
  • The “survival role” - Pharma stocks are low and the “conglomerate discount” (when stock markets value a diversified group at less than the sum of its parts) can be very attractive.

The Real Meaning of Spinning- Off

  • R&D is a core competence but Big Pharma hands it over and proceeds towards becoming virtual companies, hubs of certifications, trademarks, and contractual obligations
  • As Andy Grove says”: Startups are a wonderful thing, but they cannot, by themselves, increase tech employment. Equally important is what comes after that mythical moment of creation in the garage, as technology goes from prototype to mass production. This is the phase where companies scale up. They work out design details, figure out how to make things affordably, build factories, and hire people by the thousands. Scaling is hard work but necessary to make innovation matter.”

General Sourcing Strategies

  • Insourcing  when there is a need to impress stakeholders and shareholders
  • If corporate image is at stake, the decision will be Insourcing with foreign affiliates.
  • Offshore outsourcing is used for operational efficiency and new market shares.
  • Decisions on offshoring are associated with the desire of creating market awareness/entry in developing countries. Production of host-oriented products associated with the conduction of clinical trials in the offshore country, secures a market for those products even before they are launched
  • Offshoring to countries that do not adopt GCP (Good Clinical Practices) or do not protect IP is not viable due to the strict regulations in the pharmaceutical industry.
  • With rapid technological progress and automation, some portions of core activities are becoming more modularized and codified. This enables firms to outsource even complex tasks with minimal transaction costs.
  • Domestic outsourcing is a strategic and operational decision.
  • When quality is the major concern, domestic outsourcing is the chosen path and cost is not an important driver because firms do not see cost savings in relocating activity within the same home country.
  • Backsourcing is an emerging new trend especially when APIs are concerned, due to counterfeiting, lack of compliance in offshore countries with cGMP guidelines, and the costs involved in the development and production of biotechnology-based APIs

Outsourcing Countries, IP, FDA, and EMEA Regulations

  • The State Food and Drug Administration (SFDA) of China recently began implementing several changes to its GMP guidelines in an effort to raise standards in the country. As a part of the revision process, the SFDA used guidance from the WHO GMP guidelines, the ICH GMP guidelines, as well as EU and US GMP regulations.
  • Indiafinally complied with the TRIPS requirements and Indian firms have been filing DMFs (FDA) internationally, primarily to gain entry into regulated markets.

The Role of Outsourcing People

  • The industry hires or outsources employees from offshoring companies.
  • Company’s employees become less competitive and lose their jobs.
  • Experts predict that the use of offshore workers will contribute to higher unemployment rates.

Bigger Isn’t Always Better.

Globalisation eroded the competitive advantage (economies of scale) of the major drug companies.

Pharmaceutical companies acquired a giant octopus-like structure where producer “arms” hand products over to distribution “arms.”

Competitive advantages rely on three factors – customers, technology, and economies of scale. The first two are perishable; the third compensates the losses.

Does it still make sense to say pipeline?

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