The information presented in this article draws from two HighTech Business Decisions’ reports, “Biopharmaceutical Contract Manufacturing: Best Practices Pricing Study” and “Biopharmaceutical Contract Manufacturing 2015: Improving Markets, Services and Technologies.” These reports use primary research from senior-level executives and scientists at pharmaceutical and biotechnology companies, and contract manufacturing organizations. For purposes of our article, HighTech Business Decisions defines biopharmaceuticals as complex molecular structures created through the genetic manipulation of living cells or organisms used for therapeutics, diagnostics, or vaccines.
The contract negotiation between the CMO and client is inherently difficult because of the complexity of the service, the regulatory environment, and the unknown issues under consideration. The most difficult terms to negotiate are warranty and liabilities, intellectual property (IP), prices and timelines (Figure A). Both the CMOs and their clients agree that these are the top issues most difficult to negotiate. Interestingly, pharmaceutical and biotechnology companies also mentioned transparency as another difficult area, while CMOs do not. For our purposes, transparency means full understanding of assumptions and expectations, and full access to documentation and costs. Conversely, more CMOs mention the difficultly in negotiating intellectual property terms compared to biotechnology companies. In this context, the difficult part of intellectual property agreements centers on the ownership of the intellectual property related to process ownership.
Below are a few comments from the respondents in our study about contract guarantees.
- “We’ve had problems related to who’s responsible for what, how to get compensated when errors are made and how you determine those. Writing it down is difficult. Another issue is how raw materials are paid for and which they buy. And a third is timing, for instance when they’ll have something finished and when they provide documentation once it’s finished, so we can start releasing.” -Pharmaceutical/Biotechnology Company
- “Indemnification and issues around IP—the CMO wants to own everything. We always ask for non-exclusivity rights so we can take the process with us if we choose to go elsewhere. Our objective is to have ‘no hindrance to operation.’ Also, there are usually two contracts for the statement of work and the quality agreement. Most people don’t think about them together, so when there are problems, there is no internal mechanism at the CMO to resolve them except the quality agreement. It is challenging, but we negotiate to link the two contracts together. It improves our ability to resolve disputes because it ties the results of the quality investigation back to its impact on business. It’s a useful tool to make decisions.” -Pharmaceutical/Biotechnology Company
- “Expectations are a common roadblock. What we think we are asking for isn’t what the CMO quotes us or thinks we are asking for. The language in the contract on how much liability we should have is an item that we go back and forth on a lot in negotiations. When engaging a CMO the initial quote sounds good, then as we discuss the scope and price keeps going up and up. Then we need to negotiate or figure out what we can eliminate to keep the cost down. It feels a little like a ‘bait and switch’ but it may not be that intentional. Another roadblock is the differences in legal teams and the way they work.” -Pharmaceutical/Biotechnology Company
- “IP is the biggest roadblock, i.e. who owns the process. We invest heavily, millions of dollars, in process development from Phase I through Phase III. We want to be able to easily transfer the process if/as we perceive the need to move to a different CMO.” -Pharmaceutical/Biotechnology Company
- “One is price and terms of payment, such as changes from the standard 30 days for a client to pay once they receive the invoice. Big companies are flexing their muscle to extend to 60 or 90 days for payment terms. Small companies aren’t in a position to say we won’t do business, but it’s a cash flow issue that hits small companies hard. Another roadblock is liability limitations. Another is IP, not for a drug, but for process improvements that we might produce in the course of running their projects. We have a client-friendly position in that the client owns a royalty-free license to use our process improvements. We want to maintain a modest carve-out for ourselves to leverage those inventions for other purposes. Our carve-out is that we can apply knowledge we gained on a project with one client to a project with another. Another is termination provisions—the wind down and compensation. This is more relevant for development work. Capacity is addressed with reservation slots or cancelation fees.” -Contract Manufacturer
As previously mentioned, guarantees are a difficult area in contract negotiations. Further, the guarantees that a CMO is willing to make varies based on project phase (Figure B). Overall, a CMO usually offers fewer guarantees for clinical-phase production. For clinical-phase production, the most often mentioned guarantee is meeting time lines and a fixed price for the specific work performed. Because the work for clinical-phase production is often not fully defined, guarantees center around performing tasks at a set time at a set price. On the other hand, commercial-phase production is typically more defined, resulting in more guarantees related to yields and delivery time.
Below are selected comments from the respondents about contract guarantees.
- “[For] early development we don’t guarantee yield or time. We meet milestones and charge for time and materials.” -Clinical-phase CMO
- “We offer a fixed price for a fixed scope of work. Our clients are often going into GMP for the first time, so we don’t promise any yield-based or time-based guarantees. We develop a program timeline but it has to be malleable because the projects always change.” -Clinical-phase CMO
- “We offer a scope of work for a fairly well defined price. There will be price range if the project includes cell-line development dependent on the final yield we achieve. As processes are scaled up we cannot guarantee quality specifications.” -Clinical-phase CMO
- “Our success is based on the deliverable unless specified. Every contract is different. We guarantee timing but things shift here and there. For well develop processes that deliver let’s say 3 g/L, our contracts will specify a guarantee gram yield. However, for early-phase production where you don’t have an expectation of the yield we can’t guarantee the amount of product produced. Without 15 to 30 runs to understand the process and target amount, there are no guarantees without the data to back it up.” -Commercial-phase CMO
- “Meeting delivery time and specs for batch production. If a batch doesn’t meet specs, an investigation first has to be carried out to determine if it’s due to the customer’s process or our fault. If the fault is ours, then we reproduce the batch at our cost as per the contract.” -Commercial-phase CMO
- “For an established validated process we will negotiate a fixed quantity. If we take over a project, then we will run a scale-up campaign until the process is validated and then do a certain number of runs (typically about ten batches) to get to the point that clients can order by quantity.” -Commercial-phase CMO
- “We guarantee a commercial delivery date and the number of batches. We want to be able to provide a per-vial or per-gram pricing.” -Commercial-phase CMO
In this industry, most fee-for-service contracts use a per-batch price (Figure C). The top four pricing models used by CMOs are per-batch, per-milestone, time-and-materials, and per-gram. Overall, these four price models make up 87% of the contracts between CMOs and their clients. Most CMOs will use different pricing models based on the services offered or project phase. For example, CMOs might use time-and-materials pricing for early-stage development projects, and use per-gram pricing for large-scale commercial production. Alternatives to fee-for-service agreements, such as partnership-type arrangements, are rare—accounting for 2% of the agreements in the industry. For our purposes, partnership-type arrangements are reduced fees in exchange for other benefits, such as product marketing rights, ownership in the client’s company, or percent of future sales.
Alternative Fee-for-Service Arrangements
The use of partnership-type arrangements may reduce some of the negotiation roadblocks. As noted earlier, partnership-type arrangements are unusual. However, 17% of the CMOs have partnership-type agreements (Figure D). Many respondents note there is a certain client interested in alternative commercial arrangements, but it is not gaining overall appeal. Alternative commercial arrangements may appeal to clients with biosimilars or in emerging markets. Below are a few comments from the CMO respondents about partnership-type agreements.
- “I wouldn’t say we see a trend in the industry toward alternative business arrangements. There’s always been an interest from our clients. We don’t see an increase in that interest; it’s been consistent for the last five years. What’s new for us is that we’re engaging in that now and hadn’t in past.” -CMO Respondent
- “The trend with small- or medium-sized companies is that they try to get into risk sharing models where the CMO charges a reduced price and benefits if the company’s product is successful. We don’t do that; we only offer fee-for-service.” -CMO Respondent
- “There is an increase in the number of clients asking for equity deals. We never enter into those kinds of arrangements. It is true that royalty payments are a kind of deferred payment arrangement but it is a long established one rather than one of these newer arrangements of ‘instead of fee-for-service we’ll give you an equity stake.’” -CMO Respondent
- “Over last few years, we had gotten lots of questions from early-stage companies if we wanted to participate in their product. That’s changing. As of the end of last year, they have stopped asking. I think this is because with products on the market being financed, there is more financial stability, so they don’t need to ask the CMO.” -CMO Respondent
- “This not something we have seen in the U.S. You might see more alternative business arrangements in biosimilar production or in developing countries. IP for expression systems and royalty payments will be applied by the CMO. Alternative business arrangements are still at the beginning and will change in the long-term.” -CMO Respondent
In closing, the pharmaceutical and biotechnology company respondents offered their perspective on improving contract negotiations. The most often noted way for removing barriers in contract negotiations was greater transparency and more opened communications up front. Other strategies include more standardized contract terms and choosing a CMO as a strategic supplier. Thus, the CMO and client are not constantly negotiating new contracts. While not necessarily a strategy, a few respondents noted that working with a CMO with low employee turnover often helps in contract negotiations because the teams from both sides have a shared history that builds a level trust between the two groups.
William Downey is the president of HighTech Business Decisions, a market research and consulting company that has been publishing reports on the biopharmaceutical contract manufacturing market since 1997. For more information, visit www.hightechdecisions.com or call (408) 978-1035.