In November 2013, Patheon and DSM Pharmaceutical Products (DPP) were merged in a complex, $2.6 billion deal by Patheon’s private equity owners, JLL Partners, and Royal DSM. When the deal closes, the as-yet-unnamed new company will be one of the largest CDMOs in the industry, with approximate sales of $2.0 billion, 23 sites around the globe and 8,300 employees. The new company will also be privately held — 51% owned by JLL and 49% by Royal DSM. Jim Mullen, Patheon’s chief executive officer, will lead the new company. We spoke on the phone a few days after the deal’s announcement to get his perspective on the deal and on the major trends in the pharma CDMO space.

—Gil Y. Roth

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Contract Pharma: What was the key driver for JLL’s acquisition of DPP and then to take the entire organization private?
Jim Mullen: I knew Xander Wessels [DPP’s president and chief executive officer] and other executives at DSM long before I joined Patheon. As I came into the industry, I talked with Xander about industry trends. We had a fairly similar view: our customers are all asking for a broader, more integrated set of services. Big pharma, especially, is looking to outsource more and simplify their networks.

When you put those trends together, it becomes clear that you need to have offerings across the value chain of the physical drug products. In this case, our two groups are highly complementary.

At Patheon, we don’t do API, we don’t do API development, we don’t do biologics, we don’t do biologics development. Adding these capabilities through DPP allows us to offer almost anything to our customers, either a la carte or as an integrated offering. I think the integrated option is particularly of interest to the specialty and emerging companies that have fewer capabilities and fewer people to manage them.

That’s the high-level, strategic view. Once you get to the point of saying, “These things would be great if we put them together,” the question became, “How do we do that?” That was the toughest thing to figure out. It wasn’t clear if DSM wanted to exit the industry entirely, and what form this partnership would take.

It was actually JLL, our private equity investors, who came up with the construction of the deal. I think it’s a clever construction, because it allows DSM to reach its objectives — looking for a partner in the industry but not an exit — while JLL brings the financing and its “balance-sheet expertise.”

CP: Is there an option for JLL to buy out DSM’s part in the JV, or an option for DSM to compel such a sale? That is, is there a put or a call in this deal?
JM: There’s no option like that in the transaction, as far as I know.

CP: And besides minority shareholder approval, are there other regulatory approvals necessary to enable the acquisition/merger?
JM: There are statutory regulatory processes that need to be cleared. That involves the U.S., EU and additional countries such as Serbia and Mexico, based on where the companies do business. So there are regulatory things to take care of, but the financing is in place.

CP: How long was this transaction brewing?
JM: The real conversations began early in 2013. It took a bit of work to find the right structure. DSM is a $13 billion entity, so it also took some time to work through their internal processes.

But I think it became pretty clear by late summer that this was likely going to get done. It was just a question of when.

CP: Congratulations on keeping it so quiet! It really didn’t come up in the rumor mill in the last few months.
JM: I’m glad that we surprised some people!

CP: Where are the overlaps between DPP and Patheon, and where are the areas where they most complement each other? You mentioned APIs and biologics earlier; what else do they bring to the table and what do you have to fit in?
JM: The overlap is simply that we both have similar products and customers in oral solid dosage and steriles, a highly competitive part of the CMO space.

At Patheon, we have the strong development services business, and DPP doesn’t really have that. It’s been a very strong engine for us, in terms of developing new business and converting that new business into the CMO space. We’ll use that infrastructure and probably establish similar development services in DPP’s Greenville, N.C. facility. We want what we have going in North America and Europe to be parallel.

It should broaden the customer base that’s in Greenville. They have a good base there, but it’s more tilted toward large pharma, biotech and specialty. This could bring in smaller and emerging customers.

Bringing DPP’s API and biologics development to customers means that we should be the first phone call that you make if you have a pharma project. We’ll be able to hit 90% of the boxes.

CP: Do you think the new company will create a viable “One-Stop Shop” model for customers? I shudder to ask that, because it was the topic of my very first editorial for Contract Pharma back in 1999, and a lot of attempts at building a one-stop shop fell by the wayside before and since.
JM: I think you were right, but you were early.

CP: That makes me feel better. What’s changed since then to make it viable?
JM: A couple of things. Large pharma has different internal groups to buy all these things; they have separate groups and divisions for all of it. The way they outsource mirrors the way they insource. The chemicals division is separate from the biologics division is separate from the drug products division. That’s a barrier for this model, moving forward.

You have to ask, “Who’s going to purchase it in a more integrated service?” And I think the answer to that is the smaller and mid-sized companies that have already been outsourcing the majority — or all — of their supply chain. Those companies don’t have an interest in building the bricks and mortar, but do have enough complexity that it’s beginning to affect their business.

It’s easy to split things up when you only have one product. You’re dealing with just a few vendors. A few more product approvals, and now you’re dealing with a supply chain and a dozen different outsourcing vendors. It no longer makes sense to have that piecemeal system, because it requires too much internal infrastructure to keep a handle on things. So I think the integrated service offering is going to start there.

Now, one of the reasons I agree with you is that, when I was CEO at Biogen, I told our guys on the small molecule side, “I have zero interest in ever owning an API plant or drug product plant. We don’t need to do it; we don’t bring anything to the party. Go find us a vendor that can do that.”

That was 15 years ago. We weren’t big in small molecules at Biogen, but we already had something like 20 vendors. It was too chaotic. I was trying to consolidate it then, but we found that there wasn’t anyone who could pull it all together.

CP: So it’s largely a matter of the outsourcing industry maturing and scaling up?
JM: I think so. Somebody has to demonstrate how to do it well, and it’ll build momentum. There are a few customers out there who are amenable and ready to do this. In fact, I think the first step in the integration will probably occur when we go to customers and explain that, rather than having them send us API that we convert into drug product, we can procure the API for them. That may mean we make it or that we procure it. But the first step is going to be assembling a supply chain for some current products and demonstrating that this works.

If you tie together commercial forecasting to the supply chain — like they do in every other industry — and your vendors have visibility, and you turn more responsibility to them, then you’re going to have faster response times, lower working capital and better inventory conditions.

CP: Of course, you’re relying on the premise that pharma can do forecasting well. . .
JM: True. Sometimes emergencies arise for supplying products that have been on the market for 15 years. I can’t imagine how screwed up those forecasts get for that to happen. But what we have to see is better integration of forecasting and market signals back into the supply chain.

Right now, at least at big pharma, it involves a million little handoffs, so by the time it gets back to us, we don’t even know what the market signal was. We make what they want us to make.

CP: In addition to the one-stop model, I’ve also danced around the notion of true strategic partnerships between a major pharma and a CMO. We’re seeing these on the CRO side, of course, but do you think the structure you’re putting in place with the new company might lead to a major company handing off manufacturing in a real strategic sense? My model for this is the Delphi auto-parts business, where General Motors spun off its auto-parts manufacturing into a standalone company. (Which, admittedly, hasn’t stood alone too well.)
JM: I think big pharma is going to be the late adopters, not the leaders, in this process. You’ll see people experiment with the model earlier and more creatively with the mid-sized companies.

I ascribe to your analogy of the arc from tactical to strategic, where CMOs mirror CROs, with a 20-year lag. I participated in the CRO revolution from the customer side; we originally used them very tactically, and then they got better at higher-end function and we narrowed down to fewer partners that could help with strategic goals like site selection and trial design, maybe even running all the data-warehousing and statistics. That took a while to evolve, but I think we’ll see the same thing in the CMO space.

Now, could we see the Delphi model? If I were running a big pharma, that would be my goal. Just look at how much these companies struggle with manufacturing. It’s not for lack of money or want. They don’t want to get warning letters. It’s just that these companies aren’t focused on manufacturing, because it’s not strategic.

Of course, there are reasons why they haven’t gone in this direction. In the mid-’90s, there were market requirements in Europe where you had to have facilities in individual markets. That’s gone away, but the tax structures have remained in place, and those help dictate where manufacturing gets done.

That’s probably the next great frontier, figuring out how to work out the manufacturing relationship in the context of their tax model. Tax structures are often more valuable than the physical cost of the product. It’s a depressing statement, but it’s the truth.

CP: That sounds like “balance-sheet expertise” to me! CP

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James Mullen is Patheon’s chief executive officer. He was most recently with Biogen Idec, Inc., where he held the position of CEO and president for 10 years. Biogen Idec was formed from the merger, led by Mr. Mullen, of Biogen, Inc. and Idec Pharmaceuticals, to form one of the world’s largest biotechnology companies. Prior to the merger, Mr. Mullen was the CEO and president of Biogen from 2000 to 2002, and chairman, CEO and president until 2003. Prior to that, Mr. Mullen held various operating positions at Biogen, including vice president, Operations, and several manufacturing and engineering positions over a nine-year period at SmithKline Beckman. Mr. Mullen’s 30-year career includes extensive experience in pharmaceutical and biotech manufacturing, engineering, sales, marketing, mergers and acquisitions. His breadth of industry experience includes biotechnology, pharmaceuticals and specialty chemicals.