Decline of the Pharmaceutical Industry

The pharmaceutical industry is in decline. It’s moving to Phase Three, which today is known as the generics industry. Only this generics industry will be much more competitive and cutthroat; there are no new branded drugs going off-patent to give up-front profits to offset the subsequent years of near-zero profits.1

I was quite upset over the recent massive layoffs in R&D and I vented this frustration in a front page for the website. But in retrospect+ the layoffs make perfect sense. They are the result of an industry on a slide toward becoming a commodities provider. There’s no need for so many R&D staff. From the standpoint of the national economy it’s a shame to discard so many talented researchers, but from the standpoint of industrial transition, it’s obligatory.

Phases of Growth and Decline in Industry in Pharmaceuticals (see here)
Phase 0:
Science Innovation
The pharmaceutical industry is born from a fortuitous marriage of receptor theory and advances in organic chemistry. For the first time organic molecules could be engineered to target specific receptors, and perform predictable (albeit rudimentary) actions on those receptors (e.g., agonist, antagonist, inverse agonist, etc.)
Phase 0→1: Product Innovation
The industry industrializes the receptor approach. Many receptors are simultaneously targeted by many variations of organic molecules, using a handful of guiding principles, ramping up output of blockbuster drugs by an order of magnitude
Phase 1→2: Process Innovation
Relentless pursuit of standardization and harmonization allows many other players to enter the industry, both suppliers and competitors, and drives down activity costs. Standardization hems in the creative spirit in the name of efficiencies. Regulators adopt further standards further narrowing the creative field of play.
Phase 2→3: Product Commoditization
Standardization, cost per activity, and harmonization become foremost as the industry moves toward becoming a commodity provider. Receptor Theory and Organic Chemistry as approaches to drug development are mostly tapped out.2 Management and Wall Street no longer have trust in products filling the R&D ‘pipeline’

Walk into most large pharmaceutical R&D facilities and you sense the pall of a funeral parlor. Discuss what is needed to achieve World Class R&D status and the conversation quickly turns uncomfortable. You change the topic for fear of offending the listener. Today’s conversations are indicative of the mindset of ‘old men’ fixated on minutia and reasons for not being able to change.

  • Then: Steel is more costly to manufacture; it’s more dangerous; it will only find niche markets. (see Big Iron)
  • Today: World Class R&D underestimates the challenges of the regulations; it doesn’t understand restrictions on patient recruitment; it ignores the years of effort spent in building up the supporting infrastructure (e.g., computer systems).

There is no talk of the ‘meaning of their work … of being caught up in a moment of great historic significance’. Instead today R&D senior management takes pride in standards, costs per activity, best practices, etc.

Today’s pharmaceutical industry is hobbled with “old money”:

We tried counting work-in-process at each of the major milestones. That didn't work. We're switching to counting POC's (Proof-of-Concepts). I think that will work better. Chief Financial Officer for R&D, Major Pharmaceutical Company (2009). Private communication

NPV’s, IRR, TTM+ (Time to Market), Shots on Goal+, etc. still dominate the thinking of industry financial professionals. Innovation in financing for R&D, of seeing how far the rules at the SEC can be pushed, is far from their daily thinking (e.g., the 30-70 Rule). Financial re-engineering instead focuses on faster and cheaper. Enterprise-wide systems, hooking up cost accounting systems from far-flung operations so cost can be analyzed in minutia at headquarters, is touted as innovative and bold.

This is not just Big Pharma. Like our anecdotal Dutch Town, “old men” and “old money” have infected the entire industry. New basic science breakthroughs are not enough. When a new organizational form is missing, new science platforms and funding are groundless. Also, many of today’s smaller firms are still dependent on ‘old men’ and ‘old money’ from Big Pharma. As goes Big Pharma, goes the whole industry.

The pharmaceutical industry will continue to dump many tens of billions of U.S. dollars into today’s R&D organizational form. Snakeoil salesmen will come along with many promises to forestall or reverse the decline. But the signals+ are pretty clear. This is not the time for ‘fixing’ or ‘improving’ today’s pharmaceutical industry. It’s a time for preparing for Phase 3: being a provider of commodity products.

Editor's Picks for January, 2011

  • 1. Today branded drugs going off-patent give first-to-market generics manufacturers six months exclusivity under the Hatch-Waxman Act. They get six months of sales at high branded prices, at almost no cost. For a blockbuster+ drug this can translate into over U.S. $500 million in sales at extremely high profit margins. You only need one or two of these a year to show a tidy profit.
    Another way to look at it is to view today's generics industry as in Phase II. Several companies have optimized processes needed to extract monopoly profits as allowed by the Hatch-Waxman provisions. These firms too face a future in a Phase III industry, as new branded products vanish.
  • 2. In a personal communication (2009), Walter Sneader, author of History of Drug Discovery, a book tracing the history of the pharmaceutical industry through its molecules, opined the key driver for the lack of productivity in the pharmaceutical industry was a lack of new pharmacophores (e.g., core organic molecules).