Regulating Anti-Competitive Practices in the Pharmaceutical Sector: Whose Job?

Erlinda M. MedallaMelalyn C. Mantaring

Hanoi, August 2005

Medicines as % of Total Health Expenditure 2000

Can’t pay, won’t get• Fully a third of the world’s people cannot afford essential drugs.• In the poorest countries of Africa and Asia, half the population does without.• In the rich world, under 40% of medicines are bought privately compared to 67% in sub-Saharan Africa and 81% in Asia and the Pacific

Key Features of the Pharmaceutical Key Features of the Pharmaceutical IndustryIndustry

• comprises the discovery, development, production, distribution, marketing of prescription drugs and

• characterized by:

– highly risky and lengthy R&D process, – intense competition for intellectual property,– stringent government regulations– powerful purchasers pressures (e.g. government,

insurance companies, patients as the final consumers)

Four Broad Types of Industry Four Broad Types of Industry PlayersPlayers

• Prescription-only or ethical drug companies– producers of branded prescription drugs require strong R&D

and global sales and marketing infrastructure

• Over-the-Counter (OTCs)– branded OTC drugs demand direct-to consumer (DTC)

marketing capability

• Generics companies– focus on supply chain management and manufacturing cost

leadership

• Biotechs– must create and defend intellectual property in specialized

research fields

Prescription-only vis-a-vis OTC Prescription-only vis-a-vis OTC drugsdrugs

• Prescription-only or “ethical” drugs comprised about 80 percent of the global pharmaceutical market by value and 50 percent by volume– Ethical products divide into conventional pharmaceuticals and

more complex “biological” agents and vaccines

• The remainder were “over the counter” medicines (OTCs), which may be purchased without prescription

• Both ethical and OTC medicines may be branded or “generic”

Pharmaceutical ProducersPharmaceutical ProducersWorld-wide, a large number of firms are engaged in the production of

pharmaceuticals and it is possible to divide these firms into two classes or tiers according to their level of investment in R&D:

• 1) relatively small number of global firms are responsible for the R&D and consequently dominate the market for patent-protected prescription drugs– roughly 100 global firms originate mostly from the US, Germany, Switzerland

or the UK– they perform most of the R&D of the world’s pharmaceutical industry and

dominate the market for prescription drugs

• 2) large number of small firms producing mostly for local or national markets, holds fewer patents, relying primarily on manufacturing off-patent “generic” medicines– very little R&D is undertaken, which to a large degree is dictated by the

technology of pharmaceutical R&D and production

The World’s Largest The World’s Largest Pharmaceutical CompaniesPharmaceutical Companies

For these companies competition is not primarily on the basis of price but rather on the basis of marketing and innovation

These companies compete to develop entirely new drugs which either treat entirely new medical conditions, improve upon existing

drugs, or substitute for existing patented drugs

Big PharmaBig Pharma

Global Pharma as % toCompany Sales (In US$ B) Total Sales

1 Pfizer 39.63 8.5%2 GlaxoSmithKline 29.82 6.4%3 Merck 22.49 4.8%4 Johnson & Johnson 19.50 4.2%5 Aventis 18.99 4.1%6 AstraZeneca 18.85 4.0%7 Novartis 16.02 3.4%8 Bristol-Myers Squibb 14.93 3.2%9 Wyeth 12.62 2.7%10 Eli Lilly 12.58 2.7%

Top Ten Total 205.42 44.1%

The top ten companies each had sales of more than $12.5 billion.

Together they generated $205.42 billion or 44% of the Total Global Pharma Sales

“Big Pharma”- a dozen or so multinational firms with headquarters in Europe or America, the biggest company, Pfizer, holding less than 10% of the global pharmaceutical sales

Horizontal and Vertical Horizontal and Vertical Consolidation Consolidation

in the Pharmaceutical Industryin the Pharmaceutical Industry There has been a significant

wave of mergers in the pharmaceutical industry in the

last few years This merger and acquisition

process is continuing and is reshaping the industry

A collected mergers have been announced between

Pfizer and Warner-Lambert and between Glaxo Welcome and

SmithKline Beecham At the end of 2002 Pfizer

acquired Pharmacia

Research & Development Research & Development ExpendituresExpenditures

R&D Spend R & D as %Company (In US$ B) of Sales

1 Pfizer 7.13 18.0%2 GlaxoSmithKline 4.54 15.2%3 Merck 3.17 14.1%4 Johnson & Johnson 4.68 24.0%5 Aventis 3.23 17.0%6 AstraZeneca 3.45 18.3%7 Novartis 3.07 19.2%8 Bristol-Myers Squibb 2.27 15.2%9 Wyeth 2.09 16.6%10 Eli Lilly 2.35 18.7%

Top Ten Total 35.98 17.5%

Pfizer, with nearly $40 billion in sales, spent almost 18% of its prescription revenue - $7.13 billion- on R&D in 2003.

Top 10 companies combined spent $35.98 billion on R&D

The Drug Discovery to The Drug Discovery to Commercialization ProcessCommercialization Process

• The pharmaceutical industry has long new product lead times, it requires an average of 12 years for a medicine to reach pharmacy shelves from discovery period

• Very costly and highly regulated process– Only one out of 5,000 to 10,000 promising substances

survives the extensive testing in R&D phase to become approved as a marketable product, with an average of $800 million dollars in R&D cost

• When the costs of all the projects that do not reach fruition are considered, it becomes clear that pharmaceutical R&D is a very high stakes game

The Drug Development ProcessThe Drug Development Process

From Laboratory to Patient: From Laboratory to Patient: The Complex Pathway of Biopharmaceutical The Complex Pathway of Biopharmaceutical

R&DR&D

The Drug Discovery to The Drug Discovery to Commercialization ProcessCommercialization Process

• Given the enormous risks and considerable investment involved, it is not surprising that pharmaceutical companies compete fiercely to establish and retain intellectual property rights

• Only by securing a patent that can be defended against imitators can be the value of all this R&D be recouped– The patent clock starts the moment that a promising agent is

identified in pre-clinical tests and its chemical structure and synthesis filed with patent offices worldwide

– Once the patent application is made public, other companies are likely to try to create improved, patentable versions

Marketing and Promotion Marketing and Promotion

Once a product is brought to market, pharmaceutical companies spend heavily on marketing and promotion

The typical cost structure at ethical pharmaceutical companies comprises manufacturing of goods (25%), research and development (12 to 21%), administration (10 %), and sales andmarketing (25%).

Marketing and Promotion Marketing and Promotion

The larger drug companies maintain a large sales force which makes direct regular contact with individual prescribing physicians and other pharmaceutical decision makers Between 1997 and 2002, promotion to healthcare professionals in the US doubled to $18.5 billion. Direct-to-consumer advertising added another $3 billion.

Marketing and Promotion Marketing and Promotion Given the huge fixed costs of maintaining a sales force, drug companies do not always seek to carry out all their marketing themselves Instead it is common for companies to enter into arrangements in order to make use of another firm’s marketing expertise Companies might choose to enter into “co-promotion” agreements where they both agree to produce and sell a drug under the same brand name or “co-marketing” agreements where they both agree to produce and market a drug, but under separate brand names

20032003

Key MarketsKey Markets

Global pharma sales* accounted for $466 billion in Rx drugs in 2003The majority of global pharmaceutical sales originate in the “Triad” (US, EU and Japan) accounting for 85 % of the global market in 2003 The US has been by far the largest pharmaceutical market by volume and value (half of global sales)

* Pharmaceutical sales figures include prescription and certain over-the counter data, and represent manufacturer prices

Profitability of Research-Based Profitability of Research-Based Pharmaceutical CompaniesPharmaceutical Companies

Profit margins are the highest as compared to other industry even beating even the commercial bank sector (ranked by percentage return on revenues, 2001)

Over a 32 year period (1960-1991) the return on equity averaged 18.4 percent for pharmaceuticals and 11.9 percent for the500 largest industrial companies This is consistent with investment reports that also point to the above average returns earned by pharmaceutical company shareholders

Market Share in Individual Market Share in Individual Therapeutic ClassesTherapeutic Classes

The drugs in a therapeutic class are (more or less) substitutes from the perspective of health consumers, therefore often used as a proxy for the competition law concept of the relevant product market.

Major Industry TrendsMajor Industry Trends

• Aging Population Increases Demand for DrugsAging Population Increases Demand for Drugs• Big Pharma steps up R&D SpendingBig Pharma steps up R&D Spending• Mergers and Acquisition Reshape the IndustryMergers and Acquisition Reshape the Industry• Biotech Firms Gain Clout in Partnerships with Big Biotech Firms Gain Clout in Partnerships with Big

PharmaPharma• Direct-to-Costumer Push Proliferate in the USDirect-to-Costumer Push Proliferate in the US• Internet Emerges as Key Marketing ToolInternet Emerges as Key Marketing Tool• New Role for Drugmakers: DefenseNew Role for Drugmakers: Defense

The Regulation of Drug Supply The Regulation of Drug Supply

• Intellectual Property Rights• Generics • The Regulation of Safety and Entry to the MarketThe Regulation of Safety and Entry to the Market

The Regulation of Drug Demand The Regulation of Drug Demand

• The Effect of Insurance on Pharmaceutical DemandThe Effect of Insurance on Pharmaceutical Demand• The Response of Health Insurance to its Effect on DemandThe Response of Health Insurance to its Effect on Demand• The Control of the Quantity and Quality of Pharmaceutical The Control of the Quantity and Quality of Pharmaceutical

ExpenditureExpenditure• FormulariesFormularies• Reimbursement PoliciesReimbursement Policies• Controls on Prescribing DoctorsControls on Prescribing Doctors• Controls on PharmacistsControls on Pharmacists• Controls on PricesControls on Prices• The Pharmaceutical Distribution ChainThe Pharmaceutical Distribution Chain

Competition Issues in the Competition Issues in the Pharmaceutical IndustryPharmaceutical Industry

• Market Definition• Agreements• Mergers• Abuse of Dominance

Concluding Remarks

Pharmaceutical Industry Pharmaceutical Industry Regulation Regulation

• All aspects of the life-cycle of new drugs are regulated, from patent application, to marketing approval, commercial exploitation, patent expiration and competition with generics– All the important actors in the pharmaceutical industry the

manufacturers, wholesalers, retailers and prescribing physicians are also subject to regulatory controls

• These regulatory controls pursue three primary objectives:– (a) preserving the incentives for research and development and the

flow of new innovative drugs;– (b) ensuring the safety of drugs consumed by the public; and– (c) controlling the quantity and quality of drug expenditures.

Pharmaceutical Industry Regulation Pharmaceutical Industry Regulation (con’t)(con’t)

• The combined effect of this regulation is that competition takes a different form than in other industries– On the supply side, the vagaries of the R&D process and the substantial

costs and delays of the drug authorization process make new drug development a risky and costly business. But, successful drugs, protected from competition by intellectual property rights, can yield a substantial reward

– On the demand side, the presence of ubiquitous health insurance partially insulates final consumers from the prices of the drugs they consume. In their place, public and private health insurers adopt a host of mechanisms for controlling the quantity and quality of drug consumption

• The nature of competition in the drug industry is determined by the interaction of both these supply and demand side effects

Corporate Social ResponsibilityCorporate Social Responsibility• During the 20th century average life expectancy in developed countries

increased by over 20 years– A significant part of this improvement can be attributed to pharmaceutical innovation– Few other industries can claim to have done as much for the well being of mankind

• Then why the industry becomes an easy target for unpredictable government intevention?

– The market for pharmaceutical innovation has the characteristics of a “public good” – i.e. expensive to produce but inexpensive to reproduce

– The manufacturing cost of drugs is usually tiny compared with the amortized cost of R&D that led to the discovery

– Setting prices that attempt to recoup R&D therefore looks like corporate greed incomparison with the very low prices that can be charged by generic manufacturers

– Would prefer pharmaceutical companies to have a social mission• Thus, the pharmaceutical industry needs to be very good at explaining the

nature of its business and balancing societal and shareholder expectations, in short companies must balance shareholder return against the huge unmet need of developing nations

Public/Private Cooperation: The US example

Major pharmaceutical and biotech firms pay the greatest share of R&D costs, supporting in-house, academic, and smaller biotechnology company researchThe government and other for-profit and not-for-profitinstitutions also fund some elements of R&D, and all players interact cooperatively to advance discoveries

For Patients, Access Equals ImpactFor Patients, Access Equals Impact

The last step in the pathway from scientific discovery to use of medicines by people is ensuring that patients have access to successful innovative medicinesThis final link relies on policy rather than R&D to fulfill the promise of today’s expanding scientific knowledge.

• Continue to support the public-/private sector cooperation in research and related policies

• Support the implementation of the prescription drug benefit for Medicare beneficiaries, a critical first step in improving patient access focused on America’s seniors and the disabled.

• Improve access for uninsured Americans, who often cannot afford the medicines they need

– One private-sector response that is making a difference: PhRMA members’ Patient Assistance Programs

• Improve access for people around the world– PhRMA members also support global patient assistance efforts by providing free and reduced-cost

medicines to developing countries and responding to global health crises • Maintain a competitive market to sustain the investment in R&D

– Failed policies such as European-style government price controls and the importation of drugs into the United States from foreign countries greatly reduce the incentives for innovator firms to undertake the long, costly, and uncertain process.

Public & Private Policies that Public & Private Policies that Improve Access to InnovationImprove Access to Innovation

Whose Job?Whose Job?

• Main Objectives:– Equity and access/ health & safety concerns

• Big role for both government and business• Social corporate responsibility• Government provides through IPR some monopoly rights

to pharma industries to encourage innovation, nonetheless it still has a role in promoting more competitive market

• Public/Private cooperation essential• Information & education/consumer protection