Steve Snyder06.03.09
I wanted to revisit many of the topics that I addressed earlier this year when I discussed the plummeting demand for preclinical outsourcing. We not only know more about what happened then, but we now have a better idea of what clients should do now.
If you work at a preclinical CRO or for an investment firm that follows this industry, you want to know when the industry demand will return to "normal" levels. But what is "normal" customer demand? One thing everyone seems to agree on is that "normal" demand is certainly better than the 4Q08 and even better than the current workflows. During this same timeframe in 2008, clients were waiting as long as six months to conduct studies. Even CROs with questionable reputations for quality were busy at this time. Sometime during 3Q08, demand began to decline and then the bottom dropped out of the market.
As we discussed previously, this decline occurred at the same time that preclinical CROs were bringing new capacity on-line. Those of us who have been around the industry for awhile really weren't surprised by the falling demand. History shows us that customer demand has been cyclic over the years. The last time we saw this magnitude of a market decline was in 2003-2004 and we certainly know that customer demand came back after that. In fact, the demand came back so strongly that the cyclic slow downs disappeared until this most recent one in 2008. Historically, these slowdowns haven't lasted too long and I would have thought that we would have seen more customer demand by now, but it has been slower to materialize. The good news is that CROs are reporting increases in requests for bids and CRO capacity availability. The bad news is that, despite this activity, a real surge in customer demand or actual work arriving at CROs has yet to been seen. For preclinical CRO customers, the diminished demand has created opportunities and new areas that require caution. Consider the following:
At least in North America, there is so much open capacity that customers can find excellent pricing for their studies. Some CROs have adopted the strategy that "some money is better than no money" and have cut their prices significantly. I have clients who have shifted work between CROs strictly because of pricing. Pricing reductions of 20% or more were common in April and early May. As demand returns and capacity fails, such drastic price reductions will go away, but there are excellent opportunities for customers right now. As always, customers need to be sure that the bid that they get for the CRO reflects the actual cost of the study and is not a "teaser bid" to lock up your business.
Whereas customers might have waited as long as six months to start studies this time last year, they can almost start their studies immediately because there is so much open capacity on the market. I recently had a client that was able to start a large, complex study within a few weeks of its request. This rapid response by the CRO just wouldn't have happened last year. The catch is that many CROs have open capacity and are not all created equal based on their reputation for quality. Don't let the attractiveness of a short start time get in the way of your due diligence responsibilities in selecting a CRO.
In my "Buzz Words" column (Contract Pharma, April 2008), I poked fun at some of the industry advertising claims. Fun aside, keep in mind that the decline in customer demand and the economic times have put real pressure on the preclinical outsourcing industry. If you are not familiar with the reputations and capabilities of preclinical CROs, you need to be especially careful about being drawn to any particular firm based solely on marketing. I was surprised to see a recent ad campaign where a CRO was playing up a particular capability. It turns out the operations side of this CRO admits that it isn't proficient at this capability. Even if this claim was just a misunderstanding between marketing and operations within this CRO, an unsuspecting customer could spend time pursuing this claim or, at worse, place work at a less-than-optimal CRO partner.
At present, I am aware of two preclinical CROs that are or soon will be for sale. Some will say that ownership changes should have no impact on a CRO's operations. Well, it depends. Will the new owners change the management team? At some CROs, clients may be anxious or unhappy if there are changes to the management team out of fear of changes in their business relationship. Conversely, clients of other CROs may welcome management changes if they lead to improved quality or customer service. At the very least, ownership or management changes can be distracting to the CRO staff. The last thing that clients want is to have a CRO staff that is not focused on studies so clients need to monitor CRO organizational changes closely.
Since I first raised the topic earlier this year, multiple CROs have reduced their staff. Just like other industries, the economy is tough and preclinical CROs have cut expenses and, in some cases, staff. The problem is that what may be best for the CRO's balance sheets may not be best for a successful outsourcing experience. Let's be clear: layoffs don't automatically equal lower quality. The challenge with a layoff is that you have a fewer number of individuals trying to maintain ongoing CRO operations. This could mean that remaining staff are now shouldering additional responsibilities while maintaining oversight of these complex studies. Some CROs have suggested that they have avoided this fear of overworking their employees by scaling back their operations. Let's face it, reduced operations means reduced revenue. If this scenario is valid, it is only a matter of time before cost cutting is offset by lower revenues. Whether the CRO is publicly traded or privately held, investors will expect good fiscal management. Cutting staff, cutting expenses, and/or scaling back operations can satisfy investors in the short term, but could lead to operational issues. Whatever course a CRO chooses to navigate the current economy, the performance of the staff and the management team will be critical to maintaining operational effectiveness. For clients, this is just another reason why assessing CRO operational performance is an ongoing necessity.
We previously discussed that during past slowdowns in preclinical outsourcing demand, pharmaceutical companies would pull work into their internal facilities and cut their outsourcing budgets. Because many pharmaceutical companies have downsized their own internal development capabilities and because the pharmaceutical drug development pipelines today are seemingly larger than in years past, these companies can't simply throw a switch and shift development activities internally. Many companies no longer have the capacity or the experienced scientific staff to keep development activities moving internally. More and more, we are seeing pharmaceutical companies become dependent on the preclinical outsourcing industry to maintain their drug development activities. This is a fundamental change and it brings with it a series of challenges. Although outsourcing demand is slow now, many industry veterans still believe that it is only a matter of time until the demand surges. There may be a glut of capacity available in the North American market, but some believe it is only a matter of time until that capacity is booked and the lead time to start studies increases again. Consider the following:
Many industry veterans would agree that there are only a handful of top quality preclinical CROs.
As the drug development workforce ages and as development work shifts from pharma to CROs, the potential exists that a lower standard of operational quality could become acceptable to a newer workforce that has never experienced anything different. Lower standards could lead to new hurdles for drug approval.
Due to the need for effective communication and consistent management effectiveness, is there an ideal size for a preclinical CRO? Is communication as effective in a large CRO as in a smaller CRO? Is the organizational level of experience more diluted in larger CROs than in smaller ones? Are there differences in quality or operational effectiveness due to the size of a CRO?
Based on where the industry is today and where we may think that it is going, I think it is too early to draw definitive conclusions, but these definitely are considerations for clients in the future when choosing a preclinical CRO partner.
Over the past few months we have certainly seen consolidation in the pharmaceutical industry. What about the preclinical CRO industry? Some industry veterans believe that the slow demand and the current economy will force smaller CROs either out of business or to join forces with other CROs to stay in business. Smaller CROs don't have the breadth of service offerings as larger CROs, yet many clients prefer to work with smaller CROs because of a perceived higher level of customer service. Clients need to be sure that cost controls in small CROs have not impacted operational quality and effectiveness. Should consolidation occur, clients still need to do the same due diligence.
In this column, we reviewed that status of the preclinical outsourcing industry and what that means for clients. Right now, clients have pricing and scheduling flexibility that was unthinkable a year ago. However, as the industry has met the challenges of a slower demand and a poor economy, I am concerned that their challenges to maintain operational quality have increased. Ultimately, the responsibility to assess preclinical organizational effectiveness falls to the client. Finally, what is "normal" preclinical outsourcing demand and when will it occur? Just about everyone I speak with in the industry still characterize demand as being slow. Most believe that the demand will return by the third quarter of this year. "Normal" demand is likely greater than what we are seeing now in May of 2009 but perhaps not as robust as May of 2008. Some have asked me if the current state of demand is the new future and if demand has plateaued. I don't think so. Knowing what I do about pharmaceutical pipelines and the pressure in these companies to find new drugs to offset patent expirations, if the demand that we are experiencing now is the new norm for the preclinical outsourcing industry, our bigger concern should be the future of the pharmaceutical and biotechnology industries. I don't think we are at that point. History has shown that preclinical outsourcing demand is cyclic. If it helps, everyone had the same worries in 2003.
If you work at a preclinical CRO or for an investment firm that follows this industry, you want to know when the industry demand will return to "normal" levels. But what is "normal" customer demand? One thing everyone seems to agree on is that "normal" demand is certainly better than the 4Q08 and even better than the current workflows. During this same timeframe in 2008, clients were waiting as long as six months to conduct studies. Even CROs with questionable reputations for quality were busy at this time. Sometime during 3Q08, demand began to decline and then the bottom dropped out of the market.
As we discussed previously, this decline occurred at the same time that preclinical CROs were bringing new capacity on-line. Those of us who have been around the industry for awhile really weren't surprised by the falling demand. History shows us that customer demand has been cyclic over the years. The last time we saw this magnitude of a market decline was in 2003-2004 and we certainly know that customer demand came back after that. In fact, the demand came back so strongly that the cyclic slow downs disappeared until this most recent one in 2008. Historically, these slowdowns haven't lasted too long and I would have thought that we would have seen more customer demand by now, but it has been slower to materialize. The good news is that CROs are reporting increases in requests for bids and CRO capacity availability. The bad news is that, despite this activity, a real surge in customer demand or actual work arriving at CROs has yet to been seen. For preclinical CRO customers, the diminished demand has created opportunities and new areas that require caution. Consider the following:
Lower Pricing
At least in North America, there is so much open capacity that customers can find excellent pricing for their studies. Some CROs have adopted the strategy that "some money is better than no money" and have cut their prices significantly. I have clients who have shifted work between CROs strictly because of pricing. Pricing reductions of 20% or more were common in April and early May. As demand returns and capacity fails, such drastic price reductions will go away, but there are excellent opportunities for customers right now. As always, customers need to be sure that the bid that they get for the CRO reflects the actual cost of the study and is not a "teaser bid" to lock up your business.
Shorter Start Times
Whereas customers might have waited as long as six months to start studies this time last year, they can almost start their studies immediately because there is so much open capacity on the market. I recently had a client that was able to start a large, complex study within a few weeks of its request. This rapid response by the CRO just wouldn't have happened last year. The catch is that many CROs have open capacity and are not all created equal based on their reputation for quality. Don't let the attractiveness of a short start time get in the way of your due diligence responsibilities in selecting a CRO.
Advertising
In my "Buzz Words" column (Contract Pharma, April 2008), I poked fun at some of the industry advertising claims. Fun aside, keep in mind that the decline in customer demand and the economic times have put real pressure on the preclinical outsourcing industry. If you are not familiar with the reputations and capabilities of preclinical CROs, you need to be especially careful about being drawn to any particular firm based solely on marketing. I was surprised to see a recent ad campaign where a CRO was playing up a particular capability. It turns out the operations side of this CRO admits that it isn't proficient at this capability. Even if this claim was just a misunderstanding between marketing and operations within this CRO, an unsuspecting customer could spend time pursuing this claim or, at worse, place work at a less-than-optimal CRO partner.
Changes Behind the Scenes
At present, I am aware of two preclinical CROs that are or soon will be for sale. Some will say that ownership changes should have no impact on a CRO's operations. Well, it depends. Will the new owners change the management team? At some CROs, clients may be anxious or unhappy if there are changes to the management team out of fear of changes in their business relationship. Conversely, clients of other CROs may welcome management changes if they lead to improved quality or customer service. At the very least, ownership or management changes can be distracting to the CRO staff. The last thing that clients want is to have a CRO staff that is not focused on studies so clients need to monitor CRO organizational changes closely.
Frontline CRO Personnel Changes
Since I first raised the topic earlier this year, multiple CROs have reduced their staff. Just like other industries, the economy is tough and preclinical CROs have cut expenses and, in some cases, staff. The problem is that what may be best for the CRO's balance sheets may not be best for a successful outsourcing experience. Let's be clear: layoffs don't automatically equal lower quality. The challenge with a layoff is that you have a fewer number of individuals trying to maintain ongoing CRO operations. This could mean that remaining staff are now shouldering additional responsibilities while maintaining oversight of these complex studies. Some CROs have suggested that they have avoided this fear of overworking their employees by scaling back their operations. Let's face it, reduced operations means reduced revenue. If this scenario is valid, it is only a matter of time before cost cutting is offset by lower revenues. Whether the CRO is publicly traded or privately held, investors will expect good fiscal management. Cutting staff, cutting expenses, and/or scaling back operations can satisfy investors in the short term, but could lead to operational issues. Whatever course a CRO chooses to navigate the current economy, the performance of the staff and the management team will be critical to maintaining operational effectiveness. For clients, this is just another reason why assessing CRO operational performance is an ongoing necessity.
Fundamental Changes in Drug Development
We previously discussed that during past slowdowns in preclinical outsourcing demand, pharmaceutical companies would pull work into their internal facilities and cut their outsourcing budgets. Because many pharmaceutical companies have downsized their own internal development capabilities and because the pharmaceutical drug development pipelines today are seemingly larger than in years past, these companies can't simply throw a switch and shift development activities internally. Many companies no longer have the capacity or the experienced scientific staff to keep development activities moving internally. More and more, we are seeing pharmaceutical companies become dependent on the preclinical outsourcing industry to maintain their drug development activities. This is a fundamental change and it brings with it a series of challenges. Although outsourcing demand is slow now, many industry veterans still believe that it is only a matter of time until the demand surges. There may be a glut of capacity available in the North American market, but some believe it is only a matter of time until that capacity is booked and the lead time to start studies increases again. Consider the following:
Based on where the industry is today and where we may think that it is going, I think it is too early to draw definitive conclusions, but these definitely are considerations for clients in the future when choosing a preclinical CRO partner.
Industry Consolidation?
Over the past few months we have certainly seen consolidation in the pharmaceutical industry. What about the preclinical CRO industry? Some industry veterans believe that the slow demand and the current economy will force smaller CROs either out of business or to join forces with other CROs to stay in business. Smaller CROs don't have the breadth of service offerings as larger CROs, yet many clients prefer to work with smaller CROs because of a perceived higher level of customer service. Clients need to be sure that cost controls in small CROs have not impacted operational quality and effectiveness. Should consolidation occur, clients still need to do the same due diligence.
In this column, we reviewed that status of the preclinical outsourcing industry and what that means for clients. Right now, clients have pricing and scheduling flexibility that was unthinkable a year ago. However, as the industry has met the challenges of a slower demand and a poor economy, I am concerned that their challenges to maintain operational quality have increased. Ultimately, the responsibility to assess preclinical organizational effectiveness falls to the client. Finally, what is "normal" preclinical outsourcing demand and when will it occur? Just about everyone I speak with in the industry still characterize demand as being slow. Most believe that the demand will return by the third quarter of this year. "Normal" demand is likely greater than what we are seeing now in May of 2009 but perhaps not as robust as May of 2008. Some have asked me if the current state of demand is the new future and if demand has plateaued. I don't think so. Knowing what I do about pharmaceutical pipelines and the pressure in these companies to find new drugs to offset patent expirations, if the demand that we are experiencing now is the new norm for the preclinical outsourcing industry, our bigger concern should be the future of the pharmaceutical and biotechnology industries. I don't think we are at that point. History has shown that preclinical outsourcing demand is cyclic. If it helps, everyone had the same worries in 2003.