Global Pharmaceutical Industry:

Few business stories involve life and death. This one does. The modern pharmaceutical industry emerged during
the 1920s and 1930s, with key discoveries and the synthesis of sulfa antibacterials, penicillin and other antibiotics,
and various other compounds, as well as the emergence of large-scale production capabilities.
Business Basics:
Business is relatively immune to general changes in the economy. Demand for medicine (product) is tied to the
health and size of the populace. Health remains constant while population is growing. Drug pricing remains inelastic
since patients generally maintain pharmaceutical regiments, despite price increases especially for medicines that
treat serious conditions. The branded prescription pharma industry has the highest barriers to entry of any
industry. Substantial economic, regulatory and legal obstacles stand in the way of potential new competitors.
Industry is not as capital intensive as some of the other businesses and it tends to have lower interest expense and
depreciation as a percentage of sales. Cash flow as a percentage of sales is higher than 20%, more than double the
average percentage for industrial companies. Ratio of long term debt to total capital is usually in the range of 10 to
15%. Historically, the industry has been pretty good with innovation by developing premium-priced breakthrough
therapies that opened up entirely new markets. Industry enjoys high profit margins due to the fact that a new
compound that is widely accepted in the marketplace can bring with it immense economic rewards.
However, drug manufacturing is a challenging business also. For every 5,000 compounds discovered, only one ever
reaches the pharmacist' shelf. The odds against making a profit are high as well; fewer than a third of marketed
drugs achieve commercial success to recoup their R&D investment. To enable manufactures to recoup these
investments and earn a satisfactory rate of return, most developed nations entitle new drugs to patent protection.
A patent can be issued either on a drugs chemical structure (a composition patent, which is generally stronger) or
on its method of manufacture or synthesis (process patent). Sometimes the patent offices grants a use patent,
which lets the holder manufacture and market the compound for a specific therapeutic purposes and prevents
competitors from using the drug in the same way; this kind of patent tends to be more vulnerable to competitors
challenges in court.
Facts:
North America accounted for about 46% of total worldwide pharmaceutical sales in 2007, followed by Europe
(23%), Japan (16%), China (5%), Latin America (5%); and all other areas 5% of the total $776 billion of the world
pharma market in 2009. Biotechnology and Biologics sales totaled an estimated $100 billion and generics totaled
$70 billion. The overall global pharmaceutical market is fairly dispersed, with the largest company (Pfizer)
accounting for only 8% of the market. Four largest biotech companies are Amgen, Genentech, Johnson & Johnson
& Wyeth. Pharma was the most profitable industry between 1995 to 2002. In 2003, it fell to third place.
Product life-cycle follows a long-term pattern where the drug discovery period lasts for about 10-years, followed by
about 10 years of commercial life after which patents expire. Sales of Central Nervous System (CNS) drugs
(depression, psychosis etc.) account for 25% of sales followed by cardiovasculars (heart related, hypertension,
cholestrol etc.) drugs making up about 18%, gastronomical or metabolism (ulcer, diabetes, obesity, contraceptives
etc.) account for 14%. According to a Mckinsey study, average R&D spent per FDA approval climbed from $660
million in 2000 to $1.6 billion in 2005, largely as a result of declining success rates. FDA estimates that, of 20
drugs entering clinical testing, an average of 13 to 14 will successfully complete Phase I. Of those, about 9 will
finish Phase II, but only one or two are likely to survive the rigorous Phase III trials. Even after a drug successfully
completes Phase III, there is the possibility that the FDA will deem the data insufficient for approval. Thus,
only one of the original 20 may ultimately be approved for marketing.
Trends:
General:
Product liability and insurance coverage for potential damages are increasingly important issues in the industry. An
interesting trend that reflects pricing pressure is that of increasing global consumption but slowing global sales.
Volumes are high but prices are lower. Pharma sales are expected to slow between mid-to high single digits
between 2005 and 2010. Sales are down from the average low-teens seen between 1998 and 2003. Interestingly,
use of specialist initiated medicines grew much faster than prescription coming from primary care physician. An
increasing number of the best-selling drugs also belong to the specialist market. 44% of the 94 blockbuster drugs
in 2005 were specialist products, up from 28% in 2000. Flu vaccines, cancer and diabetes are another important
area of growth.
Emerging market are increasingly becoming important. Emerging markets termed as pharmerging countries
include China, Brazil, Mexico, South Korea, Turkey, India and Russia accounted for 17% of the worldwide market in
2007, up from 13% in 2001. According to estimates, this group should capture close to 20% of the worldwide
pharma markets by 2020. Emerging markets pharma sales are forecasted to grow about 15% per year upto 2013,

reaching $135 billion to $160 billion. Key drivers to growth in emerging markets include rising standard of living
with increasing demand for quality healthcare, greater governmental urgency to provide medical services, better
availability of both branded and generic products, and new private health insurance plans. They are small markets
though and their success partially offsets decline in developed world. Generics comprise most of the sales in
emerging countries.
Big Pharma:
Patent expiry and no blockbuster drug (sales more than 1 billion dollars) in the pipeline are two of the major
challenges facing the big pharma companies. It is compounded by a lack of R&D productivity. R&D spending is up
but FDA drug application submission is down. Big pharma is focusing on speciality pharma market as it is small and
historically was ignored by big pharma.
Big Pharma are reducing expensive R&D staffing, and relying more on contract research organizations (CROs).
Standard & Poors (S&P) estimates that the total value of the CRO market in 2008 will reach close to $15 billion
(about 25% of total R&D expenditure). Drug Discovery news (DDN) expects CRO market to reach $24 billion by
2010.
Assets are being rationalized as well due to low capacity utilization. As products move to the late lifecycles, the
companies are operating plants at only 20-30% capacity. Also, as a high percentage (~75%) of the current
pipeline is from biologics and cost of investing in a new manufacturing facility is high, companies prefer to
outsource manufacturing rather than invest in a facility.
All major drug makers have cut back their pharmaceutical sales force, ending more than a decade of aggressive
sales force expansion, often referred to as Big Pharmas arms race. Standard & Poors estimates that present
sales force employment levels are down 10%-15% from a peak level of 105,000 in 2005. Based on projections
made by ZS Associates, a sales strategy consulting firm, sales force ranks are expected to drop to 70,000 by 2015.
Along with personnel cutbacks, many drug companies are also consolidating and reducing manufacturing facilities
in an effort to eliminate excess overhead and improve productivity.
Generic Manufacturers:
Inexpensive generics and Over The Counter (OTC) drugs make up for higher proportion of total pharma sales and
also create pricing pressure. Patent challenges by generic manufactures and loss of revenue much before patent
expiry due to a successful patent challenge by generics are a cause of concern for traditional pharma companies.
Competition is intensifying in generics manufacturers because unlike the branded industry, where a strong patent
on a popular drug can ensure a monopoly for years, generics have to keep costs low to survive because their
products lack any differentiation that protects pricing. It is also resulting in consolidation in generics industry which
helps distributers and buyers who prefer to work with large players. Generics sector is highly concentrated with top
10 firms accounting for more than 70% of sales in 2007. Generic drug sales growth is set to accelerate to double
digits from high single digit.
Generic firms have become more aggressive, and commenced at risk launches i.e. before receiving a final court
ruling invalidating a patent. Companies are now willing to undertake at-risk launches because they believe they are
more likely to prevail in patent litigations, based on a number of favorable decisions in recent years. To date, no
generics company that has launched a product at-risk has had to pay treble damages (three times sales). A
generics manufacturer can file para IV filing and get 180 days of marketing exclusivity if it becomes the first
generic manufacturer to file for FDA approval and successfully challenge in court the patent of a branded drug.
Because of competitive nature of generics industry, the 180-day period of exclusivity enables the generics company
to rack up hefty profits.
Biotech:
Whereas traditional pharmaceutical research seeks new drugs by screening thousands of compounds found in
nature. Biotechnology does it by reproducing the complex, naturally occurring substances in the body. In contrast
to traditional medicines, biotech drugs act on specific molecules, leading to better efficacy and fewer side effects.
Biotech drugs also require shorter development times and much better patent protection than conventional drugs.
Biotech products also command higher prices than traditional medicines due to perceived better effectiveness,
limited competition and in part because many of them address life-threatening or seriously disabling diseases that
are not well treated. As scientists understanding of the genome improves, biotechnology expertise should assume
even greater importance, since it is required for the development and manufacture of genetically derived drugs.
Biologics is spawning new therapies which enjoy above average sales and earnings growth. Biotech drugs are
usually prescribed by specialist physicians because they are often more complex to administer and aimed at
harder-treat conditions. Pharma companies are buying biotech firms to improve predictive models and speed up
drug manufacturing. Sales force that sells biologics tend to be much smaller and focused on specialist physicians.
Big pharma are either acquiring biotech companies outright or making product in-licensing arrangements with
biotech companies.

Biogenerics:
Biogenerics or biosimilars are generic versions of biological products, similar in structure and efficacy to
biotechnology products. Biogenerics represent a potential large market for the generic industry, with global sales of
branded biological products reaching $75 billion in 2007. Biogenerics have carved out large markets in Europe but
not so much in USA. Biogenerics enter the market at only modest discount to their branded counterparts due to
more costly manufacturing and the need for a sales force, factors that are not typical in the generic pharmaceutical
industry.
A key obstacle to bringing copies of biologics to market in the United States is the lack of a regulatory pathway for
approval. Consensus is that regulators cannot treat biologics like ordinary pharmaceutical generics because
biologics are made from living source materials (cell lines) that are variable and hard to replicate. Typically, generic
manufacturers would not have access to the exact same cell lines as the innovator company; thus, the generics
they produce would not be bioequivalent to the original drug.
Personalized Medicine:
The personalized medicine is built on scientific knowledge gained through the deciphering of the human genome.
Premise of personalized medicine is based on developing medicines that are more closely matched to patients
genetic profiles. Such development has the potential to be more effective and also diminish adverse reactions. This
science is closely related to pharmacogenomics, which is the study of how genetics affect individual response to
drugs. Personalized medicine is based on biomarkers, which are molecular or biological characteristics that are
used to identify risks or proclivities to disease. The move toward personalized medicine is in stark contrast to the
blanketed blockbuster approach to treating disease that was prevalent over the past few decades. Personalized
medicine has the potential to radically alter the landscape of future treatment options.
Growth Drivers:
Population that increasingly relies on drugs to resolve health problems.
Growing elderly population
Advances in biotechnology, genomics and proteomics
Lengthening of average life expectancy
Rising incidence of chronic diseases
Emerging markets

Indian Pharmaceutical Industry:

Indian pharmaceutical industry has grown significantly by 20% from around USD 7 bn in 2002-03 to around 17.0
bn in 2007-08. It can be broken down into the following segments:
Bulk Drug (Active Pharmaceutical Ingredient) Exports & Formulation (Generics) Exports:
Historically, innovators frequently opt to perform the final stages of Active Pharmaceutical Ingredient (API)
synthesis themselves; outsourcing (at most) the production of late stage intermediates. While this pattern
continues to predominate, innovators have begun to look beyond their current European suppliers to realize
benefits from partnerships with Indian and Chinese API manufacturers. Several factors make India an attractive
alternative for outsourcing and offshoring of R&D manufacturing of APIs and Generics. India has low development
costs, complex synthesis capabilities, growing experience with FDAs Current Good Manufacturing (cGMP)
compliance, and a large local dose market in which to gain experience. India is also known for having a large
number of strong chemists, many with Ph.D.s from the U.S. and Europe, providing rapid, and creative, process
development. With these resources, Indian companies can tackle complex syntheses in relatively short periods of
time. As a result, most Indian players participate in mid-late lifecycle products. They do not participate in patented
product launch or filing for submission.
Indian bulk drug export market was estimated to be around USD 4.2 bn and formulation export market was
estimated to be USD 4 bn in 2008 and they are growing by about 25%.
Domestic Formulation:
The domestic formulation industry is valued at around USD 9 bn and it is growing at 14% per annum. The largest
segment in the domestic pharmaceutical market is anti-infectives, accounting for 20% of the total domestic
market, followed by cardiovascular preparations, cold remedies, painkillers and respiratory solutions. Market for socalled lifestyle drugs (anti-depressants etc.) are of less significance at present but are expected to grow in the
future. The Drug Control Authority of India (DCAI) specifies the drugs which have to be sold only under
prescription. Also, drugs can be sold in retail only by licenses outlets. Prescription drugs cannot be advertised in
general media and doctors remain the key decision maker.
The Indian domestic formulation market has higher margins as compared to other generics markets as it is
primarily a branded generics market. The formulations market in India is quite fragmented. The top five
companies in formulations account for around 22% of the domestic formulations market. The top ten players
control only 36% of total formulation sales. Increased competition also affects pricing as evidence by price increase
in the domestic formulation market being lower than the general inflation level in the industry. The industry
probably will go through consolidation in the future as the adoption of WTOs ruling will limit the molecules
available for copying and shrink new product-based growth.
Contract Research & Development (CRO) / Contract Research and Manufacturing Services (CRAMS):
Contract Research Organizations, or CROs, manage various steps in the drug development process, including
discovery chemistry, service biology, clinical study design, scale-up manufacturing, medical writing, and regulatory
submission. While R&D spending is growing between 5-7% annually, R&D outsourcing grew 15-18% in last 3-4
years. Within US, approximately 33% of the USD 40-45 bn spent annually on R&D is now outsourced, a number
projected to increase to 41% by 2010.
Indias outsourcing market is USD 1.1 billion (about 2% of the total pie) and growing at approx. 51% (almost 3
times that of the global market). Global contract manufacturing market is highly fragmented with the market share
of the top 10 companies in this field is just around 30%.
Risks:
India and other developing markets like China are particularly notorious for ignoring foreign companys patents,
which has caused lot of friction between companies and countries. However, because they wanted to belong to the
World Trade organization (WTO), China and India have begun to officially recognize international patents. China
has done so since 2001, and India has done so since the beginning of 2005. Big pharma has responded by
launching on patent drugs in India. However, Big pharma, in general is reluctant to outsource products under
patent to Indian generic companies that have Para IV filing strategy. A generic company files Para IV filing when it
wants to challenge patent filing of the innovator to reap huge profits by getting 180 days of generic market
exclusivity. Para IV filings are risky due to high litigation expenses and the company should have the financial
muscle and ability to make the drug and face the onslaught of litigation. Litigations on a single Para IV filing can
cost the company about $20 million. Indian players use different strategies to mitigate the risk perception of Big
Pharma:

Companies have clearly defined their generic policy of not filing Para IV products and have a noncompeting policy with the Big Pharma e.g. Piramal Healthcare.

Companies that only work in the API space and have not entered the formulations space e.g. Divis Labs
and Dishman Pharmaceuticals.

Companies invested in generics have also established separate organizations that are independent from
the parent organization, to prevent any conflicts of interest e.g. Biocon-Syngene.
Companies file Para IV but work predominantly with biotech companies in the US and Europe for whom
the risk of Para IV filing is low e.g. Dr Reddys labs.

India also lacks a culture of innovation due to legacy issues such as low levels of funding, educational infrastructure
and collaboration between industry and academia. Indian pharma companies are increasing investments in R&D to
pursue drug discovery programs, resulting in the total R&D spend increasing by almost 12 times over last seven
years. R&D expenditure averaged about 10% for the Indian companies. The Government of India (GOI) is
embarking on a multi-billion dollar initiative with 50% public funding through a public-private partnership model to
harness Indias innovation capability by setting up biotechnology parks, facilities for manufacturing, public-funded
R&D efforts and other measures. Additionally, steps are being taken to improve the efficiency and speed of the
regulatory process and infrastructure.
The number of US Drug AMster files (DMFs) filed by Chinese companies has significantly increased and it is a
significant competition to the Indian Pharmaceutical Industry.

Analyzing a pharmaceutical company:

- R&D as a percentage of sales. This ratio is higher than most other industries for pharma companies. Have R&D
efforts been productive? Watch out for companies that can temporarily pump up margins by crimping R&D
spending.
- Products: Does the company sell primarily prescription (higher prices and profit margins) or nonprescription
products? Is the company dependent on a few products?
- Patent protection: Has the company been successful in the past to protect it's patents?
- Company size: Is the company big enough to support heavy spending on R&D and sales force.
- Market share: Does the company dominate any key markets? Key markets would include medications for blood
pressure, cholestrol, ulcers, arthritis where chronic condition of the disease would require daily drug usage by a
large population base.
- Business Alliances: Has the company formed any promising alliances? Large firms tie up with smaller biotech
firms that work on potentially lucrative new drugs.
Happenings:
2009:
Generic drugmakers should reap handsome dividends from a huge bulge in patent expirations over the 2010-13
period.
Global pharma sales expanded at an annualized growth rate of 10% over the 1999-2008 period.
Pharma sales in 2009 barely increased from 2008.
The strongest growing regional segments in the 12 months through June 2009 were emerging markets such as
China (25%) and Latin America (+9%), especially Argentina (+23%) and Venezuela (+33%). Sales in the US and
Japan were each up a modest 4%, while Europe was especially weak, rising only 1%.
Nov. 2007:
Major pharma companies announced further cuts in sales force and reorganized R&D.
EM biggest drivers of growth in 2007 as well as 2006
Indian market grew 14% in 2006.
Nov. 2006:
Three of the world's largest pharma companies have replaced CEO's
Sales growing at mid single digits
Industry now ranks 5th in profitability
Big pharma is slowing, generics are grOwing and biotech firms are soaring
Valuation Indications:
2007: Carl Ichan has offered to buy Biogen Idec, a biotech company for $23 billion or 8.5x 2006 sales.
Trivia:
Johnson & Johnson's Tylenol, launched as an over-the-counter product more than 40 years ago, remains the
bestselling nonprescription drug in the US.
World population currently stands at 6.5 billion and is projected to rise 40% to 9.8 billion by 2050, according to the
United Nations.
Percentage of population aged 60 or older will rise from 11% in 2006 to 22% in 2050.
Conclusion:
Pharmaceutical industrys long-term prospects remain favorable but it is undergoing a multiyear transformation.
R&D productivity is declining and fierce competition from generic manufacturers has forced the industry to change.
Big pharma is responding by merging, forming alliances, buying biotech companies, litigating against generic
competitors, and cutting manufacturing, R&D and sales costs. Historically, investors seeking safe havens during
economic downturns look to pharmaceutical stocks because of their recession-resistant characteristics.
Indian pharmaceutical industrys prospects looks very promising as it benefits from big pharmas current woes and
capitalizes on its domestic advantages.

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