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Contract Research Organizations Are Seeking Transformation in the Pharmaceutical Value Chain Jianan Huang
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College of Pharmaceutical Sciences, Zhejiang University, Hangzhou ZJ571, China ABSTRACT: Since the beginning, Contract Research Organizations (CROs) have always faced two core challenges: low profit margin and limited market capitalization. Nowadays, the CRO industry is experiencing a supply chain disruption, driving it to chase the upstream part of the pharmaceutical value chain. A 3P (past, present, prospect) decision-tree model is developed, revealing the future of the CRO industry may be a CRO-Venture model. Perspectives on the potential transformation of CRO industry will contribute to the real-world practice and innovation of this business model.
KEYWORDS: Contract Research Organization, supply chain disruption, decision-tree model, risk-sharing, value chain
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s a subsector of the pharmaceutical industry, the Contract Research Organization (CRO) has a history that dates back to the establishment of Huntingdon Life Sciences and Charles River Laboratories in the late 1940s. Ever since, CROs have always faced two core challenges:
(1) The radical way is to compete with pharmaceutical companies: as is the case with some Indian CROs, which have already begun to enter the generic business, a CRO may choose to be a pharma. (2) The eclectic way is to cooperate with pharmaceutical companies: CROs will move beyond fee-for-service agreements toward much broader risk-sharing and complementary collaborations. (3) The conservative approach is to compromise with pharmaceutical companies: CROs can obtain profits if they provide R&D services that exceed standard expectations. We can further analyze the main obstacles to these three options for CROs’ future development: (1) If a CRO competes with a pharmaceutical company, then (a) once the CRO enters the whole pharmaceutical business chain and gains synergy, the cost advantage will disappear; (b) the CRO will compete with its clients and suffer from customer losseven worse, some clients may be shareholders; therefore, the company’s CRO business will gradually shrink until it becomes only a pharmaceutical company. (2) If the CRO cooperates with a pharmaceutical company, then it will form a fully new business model. The potential risks are obvious: first, it is difficult for CROs to set up a firewall between their clinical research and investment departments to ensure objective and correct clinical data. Second, the new business model is difficult to valuate in the secondary market. In a word, this model may make it difficult to attract shareholdersQuintiles and PPD have
(1) The profit margin is low: most professional service industries, like accounting, investment banking, and management consulting, came into being to increase revenue. However, the CRO industry was born to cut costs, so its profit margin is low. (2) Market capitalization is limited: unlike the computer industry, which can be broken down into chip manufacturing, computer assembly/delivery, and software (and where Intel, Dell, and Microsoft can thus coexist), the pharmaceutical industry has only one valuable product to sell: the drug. Other “discrete stages that specialist companies can carve out ultimately do not carry enough of the product’s value, so margins tend to be quite small.”1 In the early decades of the industry, the development of CROs has steadily increased due to the high profitability of upstream pharmaceutical companies. However, as pharma’s return of R&D investment decreased, the cost pressure transferred from pharma to the CRO. As a result, CROs are keen to chase the upstream part of the pharmaceutical value chain, leading to a supply chain disruption:2 CROs progressively seek opportunities to take revenue from Pharma. A similar experience also happened in the IT industry, where Dell outsourced much of its business to Asus, but the latter absorbed this technology and eventually began to compete with Dell. According to real-world business practices, there are three ways for CROs to chase the upstream value chain: © XXXX American Chemical Society
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DOI: 10.1021/acsmedchemlett.9b00046 ACS Med. Chem. Lett. XXXX, XXX, XXX−XXX
ACS Medicinal Chemistry Letters
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Figure 1. A 3P decision-tree model on the CRO industry. *See also Figure 3.
Figure 2. Recent progress of CRO-Venture business model. *The paper of T. J. Crouch.3 **Redefining Early Stage Investments Conference (Boston, 2014).4 ***The Best of Both Worlds: Innovation, Collaboration and Synergy between CROs and their Client Partners (New York, 2018), and the paper of V. A. Steadman.5
Figure 3. Real-world practices of CRO-Venture business model.
Based on the “Challenge-Response” model in social science, we can develop a 3P decision-tree model to estimate the development of the CRO industry (Figure 1). CRO-Venture will be the best choice for the next stage of the industry because it intelligently solves the key problem: many start-up clients lack money but are rich in intellectual property, driving an increasing number of CROs to be investors for their clients (Figure 2). In recent years, especially since 2010, there have been many business practices and research reports associated with this model.
thus divested the relevant departments and returned to the traditional CRO business. (3) If the CRO compromises with the pharmaceutical company, the company will remain in the CRO business model. Although the limitation of market capitalization still exists, the challenge of profit margins will reduce. Such a policy may bring new opportunities for CROs; for example, an increase in clinical trials in the medical devices sector, gene therapy, and tissue engineering. B
DOI: 10.1021/acsmedchemlett.9b00046 ACS Med. Chem. Lett. XXXX, XXX, XXX−XXX
ACS Medicinal Chemistry Letters
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(5) Steadman, V. A. Drug discovery: Collaborations between Contract Research Organizations and the Pharmaceutical Industry. ACS Med. Chem. Lett. 2018, 9, 581−583. (6) Schweizer, L.; He, J. Guiding Principles of Value Creation through Collaborative Innovation in Pharmaceutical Research. Drug Discovery Today 2018, 23 (2), 213−218. (7) Adegbesan, J. A.; Higgins, M. J. The Intra-Alliance Division of Value Created through Collaboration. Strategic Management Journal 2011, 32 (2), 187−211.
For the CRO-Venture business model, potential competition will come from two directions: (1) From similar business models: the CRO-Venture model will meet competition from funds associated with or related to CRO companies, such as Novaquest. (2) From different business models: another challenge comes from a model that could be referred to as the Contract License Organization (though there is as yet no accepted name for it). For example, HUYA Bioscience aims to purchase drug patents from universities then develop them to earn income. For HUYA, all drug development is outsourced to CROs; hence, this model actually takes control of the Venture part of the CRO-Venture model and thus competes with the CRO-Venture model. Note that the Marketing Authorization Holder (MAH) would contribute greatly to this model. We can also compare different business practices in real-world CRO cases (Figure 3): (1) For the entry stage, the mainstream is to enter after the clinical stage. Only Calvert and Viva specifically focus on preclinical investments. As competition for preclinical investment is relatively low, investors will have more bargaining power. However, they will also run the dual risk of low success rate and long return time. (2) For the entry pattern, financial investment is complemented by value-added services like R&D support, strategic consulting, and market research. For investment strategy, a CRO’s own preclinical and clinical third-party R&D services are additional highlights, urgently needed for rapid startups. (3) For the investment target, investment based on a clinical research project or drug product is a unique entry point. Compared with investment companies, investment projects/drugs will have advantages in risk control. As collaboration and open innovation become increasingly significant in the pharmaceutical and biotech sectors, CROs and their clients will engage more closely, leading to a risk-sharing business model.6,7 Consequently, the future of CROs would be to serve as investors to grow together with clients, with three typical features: (1) early stage investment only; (2) not company-based but instead drug-based investment; and (3) financial investment along with R&D collaboration.
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AUTHOR INFORMATION
ORCID
Jianan Huang: 0000-0001-6263-1658 Notes
The author declares no competing financial interest.
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REFERENCES
(1) Levin, M. Mastering the Value Chain: An Interview with Mark Levin of Millennium Pharmaceuticals. Harvard Business Review 2001, 79 (6), 108. (2) Christensen, C.; Grossman, J. The Innovator’s Prescription: A Disruptive Solution for Health Care; Mc-Graw Hill Education: New York, 2008. (3) Crouch, T. J. The Changing Role of CROs: The Evolution of Strategic Out-Sourcing; Clinical Research & Regulatory Affairs, 1997; pp 205− 220. (4) MedCityNews. CROs as Early-Stage Life Science Investors. https://medcitynews.com/2014/03/cros-early-stage-life-scienceinvestors-model-future-one-says/ (accessed in 2019-02-02). C
DOI: 10.1021/acsmedchemlett.9b00046 ACS Med. Chem. Lett. XXXX, XXX, XXX−XXX
