How can we build sustainable European biopharmaceutical companies?
Business models for emerging bioscience companies come in and out of fashion with some regularity, not always with obvious reason.
This article examines what strategies have worked for the leading biopharmaceutical firms in Europe to try to identify what lessons there may be for those defining the strategy of today’s young companies.
In particular we question how Europe’s estimated 1,765 biotechnology companies, the majority of which are R&D based organisations founded on highly focused, early stage programmes, can be built into highly valued, sustainable businesses, and what kind of companies today’s biotech entrepreneurs should be trying to create if they want to build tomorrow’s leading bioscience companies.
The obvious place to start looking for an answer to these questions is the strategy of today’s leading companies and specifically what features they have in common that might explain their success. If we look at the top 10 European bioscience companies ranked by market capitalisation at the end of 2003 (Table 1), one thing that they have in common is clear: seven of the 10 have sales and marketing operations selling therapeutic products or vaccines.
Of the remaining three firms, two sell products for drug discovery (Tecan and Qiagen) and the only biopharmaceutical company without its own sales and marketing activities was Skyepharma. Skyepharma did, however, announce in 2000 that it was to market its own products in future but this does not yet seemed to have materialised, potentially because the products they will launch themselves have not yet been approved. It would appear, therefore, that product sales and marketing is either the secret of success or a favoured strategy for companies once they attain success.
Examination of these companies also shows that there can be very substantial upside growth opportunities for companies with no drug discovery activities. Galen, for example, has an IRR value of 27.3% for the 6.5 years since it went public (at a valuation of $500 million) to the end of 2003. These companies have also created very significant value for their shareholders.
In terms of the stage at which these companies began to market products, four of the companies have been pursuing a model including pharmaceutical sales since before going public (Serono, Shire, Galen and Berna), and the other three biopharmaceutical companies (Elan, Actelion and Celltech) developed sales and marketing activities post-IPO. That this strategy was adopted early in many of these companies’ development suggests that it may be an important component of their success rather than a fruit of it.
Why is pharmaceutical marketing the goal?
So why is it that sales and marketing is at least a goal of successful biopharmaceutical companies, if not essential for such success?
Many young biotech companies propose a model whereby they out-license their products after the results of PhIIa first proof of concept trials in man, arguing that this is where there is the greatest increase in value. Real value, however, is created by putting products on the market and it is capture of this value that is the source of all revenues in the industry. The best way of capturing the value of R&D is for companies to put their products on the market themselves. By not taking a product to market itself a company is giving away a very large part of its potential value to the company which will commercialise it.
Retaining ownership in this way (even if only over certain territories or indications) is, of course, expensive and increases a company’s cash burn and financing requirements. Here again early adoption of sales and marketing, even if of products not from the company’s own R&D, makes sense, as companies with revenue and positive cashflow can become self-sustaining and are much less dependent on external funding. This means that these companies are insulated from the vagaries of the financing market and can continue to grow and deliver on their strategy even when the funding window is closed. They may also have access to debt, which gives them even greater flexibility in financing.
In this way, companies can capture greater value from any products they market which they have internally- developed, even if they performed only latestage clinical trials; not having to share the revenue pie with a marketing partner means an increased return on funds invested in R&D and, thus, the potential to invest further in R&D. There are also organisational benefits of having sales and marketing activities and these, more commerciallyfocused companies, are more likely to develop products that are better targeted at a market need.
How to reach the goal?
If we acknowledge that ultimately selling your own products is the model that biopharmaceutical companies should aim for, the question becomes how can young companies attain this goal? It takes at least 10 years and potentially hundreds of millions of Euros to bring a new, innovative drug from bench to bedside, so how can emerging biopharmaceutical companies implement a sales and marketing strategy?
Again, the obvious place to start looking for an answer to these questions is the experience of companies that have done it. What has allowed the leading companies to forward integrate into sales and marketing, when others have not? Among the top 10 companies that did this post-IPO, Elan was initially founded on drug delivery. Drug delivery lends itself well to development of an internal portfolio of sufficient breadth to support sales and marketing activities, as it is possible to develop new products more quickly and with reduced risk, alongside partnered programmes.
Eurand, the leading oral drug delivery company, based in Milan, which Warburg Pincus acquired in 1999, is another example of a company actively pursuing this strategy. Actelion, the number five European company at the end of 2003, has brought its own innovative products to market. These products were originally developed by Roche, and, although in many ways not a typical spin-out, it is held up as an example of the value that can be unlocked from pharmaceutical companies’ non-core programmes through divestment and the attraction of investing in spinouts. Celltech built its sales and marketing activities through the acquisition of Medeva and Chiroscience, which were possible because of the size of Celltech and its ability to access financing.
The most common way for emerging companies to establish sales and marketing activities, however, is by in-licensing or acquiring products or portfolios of products.
In-licensing: a well-trodden path
Many of the leading European companies marketing products are doing so mainly with in-licensed or acquired products, likewise the companies with only development activities and no drug discovery also rely on sourcing products externally. Such models can be very successful, with Shire being a good example of a European company becoming very highly valued while having no or limited drug discovery activities of its own. Shire did begin to backward integrate into research activities but has now divested most of these to concentrate again on sourcing projects externally.
The main advantage of this model is avoidance of high cost, high-risk basic research. Products can be acquired when they are already commercially proven or when they have passed key clinical development hurdles, thus greatly decreasing the risk of drug development, and such products can often be speedily brought to market. Sourcing products externally allows companies to build much broader marketing portfolios and R&D pipelines than would realistically be possible by a young company relying solely on internal R&D.
Strakan, a Warburg Pincus portfolio company, is another good example of this model at work. Strakan has built strong sales and marketing operations in the UK and has growing activities in continental European territories, as well as four products in clinical development, but with only limited drug discovery activities generating new development candidates.
Sustainability: in-licensing’s Achilles’ heel
One problematic feature of sales and marketing, even of niche products on a national basis, is that a minimum level of revenue is required to support the necessary regulatory/management/distribution infrastructure and its associated costs. If the products being sold are essentially branded generics or acquired mature, non-core products from big pharma, as is often the case, then they will have relatively short lifecycles and will, therefore, have to be replaced by others sourced externally or from the company’s internal pipeline. This raises serious questions about sustainability, as it is difficult to continually source new products of the right kind externally.
This problem is becoming more acute as the market for late-stage clinical products and already marketed brands (even if they are mature with flat or potentially declining sales), is becoming increasingly competitive. In this, the model is a victim of its own success, as an increasing number of companies wish to imitate the success of companies such as Shire and Galen, acquisition prices of these products have risen and it is increasingly hard to find attractive opportunities.
The answer to sustainability: R&D
This sustainability problem is a potent rationale for having internal R&D. In the short term it may be sufficient to develop PhI and PhIIa projects, as the market for these in-licensing opportunities is less competitive. Over time, however, even these products are likely to be more sought-after as the availability of late stage products available for inlicensing becomes limited.
In terms of developing high quality new products, however, the European biopharmaceutical industry faces a major problem: there are too many companies. It is often cited as a source of pride by European industry commentators that there are more biotech companies in Europe than in the US, it should rather be a source of regret, particularly among those who have fostered government policies that have meant that scarce resources of management talent, high quality product-related research and finance have been spread too thinly.
This in large part explains the poor performance of many of the European public companies with only research activities and products in the clinic; their pipelines are too thin to offer sustainability, with most only having one or two products in clinical development at the time of their IPO. As the average success rate for a product going into the clinic of reaching the market is one in five at best, it is clear that most of these companies would not be able to bring a product to market, let alone the numbers of products required to build a sustainable sales and marketing activity.
Building a sufficiently broad pipeline is very difficult for young companies in this environment and this is one of the explanations for the high level of interest in spin-outs from pharmaceutical companies, which begin life with much broader pipelines, thus increasing the chances of bringing multiple products to the market. Proskelia, which Warburg Pincus created with Aventis, spinning-out the bone disease unit from Aventis in 2002, is good example of this. Proskelia began life with three products in the clinic, a very high potential earlier stage pipeline and 60 million in the bank.
Platform companies are just too far from the market
The discussion above suggests that we should start with sales and marketing and backward integrate into R&D to the extent required to give sustainability, but is it possible to start at the other end of the value chain and work towards the market from a platform technology which has the potential for generating series of development candidates? The lack of success of companies that have floated with a drug discovery platform technology would suggest not.
Historically some of these companies certainly attained valuations which would have placed them in the top 10 in Europe but these have fallen behind due to a combination of the difficulty found by such companies in capturing value; the long time before the value they deliver produces revenue for their clients/partners; and the difficulty of transforming such companies into drug discovery organisations.
One example of this is Lion Biosciences, which went public in 2000 with a market cap of $1.4 billion. In recognition of the limitations of sustaining a large business based on its core bioinformatics software model, it acquired drug discovery capabilities and tried to forward integrate. Finally, however, it abandoned these activities closing its drug discovery sites in Heidelberg, Germany, and in San Diego, US.
Europe needs consolidation
Selling pharmaceutical products is not, of course, a panacea for all emerging bioscience companies. The skill-set required to manage these activities is very different from that required to run an R&D organisation and it could be a very destructive distraction of management time that could be more effectively spent ensuring that maximum value is created in R&D. The way to bridge this skill gap, and to rapidly create the integrated companies that we are proposing, is consolidation that brings together the management that can run both commercial and R&D operations and a sufficiently broad pipeline to give a sustainable flow of products to feed sales and marketing growth.
This implies the merger of several smaller, successful companies. Most consolidation in the European biotech industry has, however, to date, been driven by weakness, but it is to be hoped that the recently announced Strakan-Proskelia merger of equals will show others that merging two strong companies can create something of even greater value.
This merger demonstrates a belief on the part of Proskelia of the need to rapidly forward integrate into cashflow-generating sales and marketing activities, on the part of Strakan of the need for a research engine to yield new, high value development candidates in a sustainable manner, and by both companies of the importance of a broad clinical pipeline. This merger is in many ways the embodiment of the model we have been proposing in this article, we trust that the new company’s success will provide further evidence for it. DDW
This article originally featured in the DDW Summer 2004 Issue
Professor Simon Turton, a Vice-President in the European Healthcare team of Warburg Pincus, was previously a Principal at Index Ventures, Geneva. Prior to joining Index, Simon worked for the French pharmaceutical company, Servier, where he managed northern Asia operations in Tokyo and Paris. He also worked for the pharmaceutical strategic alliances consultancy Connect Pharma (now PharmaVentures) in the UK. He has an MBA from INSEAD, which he attended as a Sainsbury Management Fellow in the Life Sciences, and a PhD in Pharmacology from the University of London. Simon is a director of Proskelia and Bison Bede.
Henry Makansi joined Warburg Pincus in February 2000. Henry holds a MSc from Erasmus University in the Netherlands. Prior to joining Warburg Pincus he was with the Investment Banking Division of Lehman Brothers International.
Nick Lowcock joined the Warburg Pincus Healthcare Group in 1994. Based in London, he is responsible for the firm’s European healthcare investment activities. He spent the first four years of his career with Warburg Pincus in New York. He received an MBA (with distinction) from the Wharton School of the University of Pennsylvania and a BA (first class) in Experimental Psychology from Oxford University. His previous experience includes two years as a consultant at the Boston Consulting Group in New York and four years in the pharmaceutical industry in the UK. Mr Lowcock currently serves on the board of directors of Zentiva, Eurand, Strakan, Proskelia, Domus and Pharmaldea. He is also a trustee of Project Hope UK, a charity devoted to improving healthcare in developing nations.