Before I discuss the preclinical outsourcing industry as it is today, we need to revisit the period in time when these companies played a lesser role in drug development. Until the mid-’90’s, there was less pressure on drug pricing and healthcare reform – in the U.S. – was not the focus it is today. It seemed like large pharma companies were cash cows that spent money freely on new facilities, more employees, and the legendary sales and marketing campaigns that we’ve heard so much about. During this time there were preclinical CROs but, at least in the minds of pharmaceutical scientists, these organizations could not produce the same level of quality when compared to the research that was conducted internally at pharma companies. I am not suggesting that any of this was true, mind you, but that was the perception at that time. As long as there was a perception of lesser quality at preclinical CROs, pharma companies kept the bulk of their research internally because that was viewed as the safest strategy.

Then things started to change around 15 years ago. There was more pricing pressure and key blockbuster drugs faced patent expiration. Suddenly, the pharma industry had to watch expenses and meet budgetary guidelines. This was the birth of the “do more with less” concept, where pharma companies focused on productivity and began to determine which resources were core to their business. Soon housekeeping, cafeteria, and security services were among the areas identified that could be outsourced to private vendors. As pharma companies started to trim overhead, more internal operations were scrutinized for external outsourcing. At the same time, some preclinical CROs demonstrated that they were able to achieve a level of operational quality that was at least equivalent to that in pharma research operations. We know today that it is more cost effective to outsource preclinical studies, but some pharma companies struggled with this back then because they didn’t understand the true cost of their own internal operations. Furthermore, the fear of quality issues continued to slow the growth of preclinical outsourcing.

As pharma companies ramped up productivity in the late ’90’s, some soon found that they had more drugs in development than could be handled by their own internal capacity. We also began to see the growth of the biopharma industry at this time. Biopharma companies often lacked the internal resources to do all aspects of drug development. Now there was a growing need for preclinical CROs that could serve the needs of the biopharma industry and handle the overflow needs of the pharma industry. As sponsors had more positive experiences with CROs, preclinical outsourcing emerged as a strategic business process that could result significant savings for pharma companies. Still, many pharma companies maintained their own internal research capabilities while they concurrently increased their preclinical outsourcing activities. This strategy resulted in a net increase in the number of compounds that could be pushed through a company’s drug development pipeline. This is when we saw the emergence of “safe” preclinical outsourcing strategies. With the desire for quality and a fear of failure as motivational forces, some pharma companies would only outsource work on lower priority compounds in the company’s drug development portfolio. Other companies would outsource longer term studies believing that they would sort out all of the scientific unknowns in shorter term studies conducted within their own research facilities. Ironically, other companies chose to conduct their long-term studies internally because they believed that presented the best possibility for a successful outcome. These companies believed that by outsourcing shorter studies, any quality issues could be rectified by repeating the study with minimal impact to the project timeline. Of those pharma companies that maintain internal capabilities today, some may still embrace these strategies. What we know today is that there is no single “safe” outsourcing strategy; operational quality issues can occur just as easily in a pharma research facility as they can in a preclinical CRO. Unfortunately, even now, some preclinical CROs seem to hide behind this notion rather than trying to improve their operational quality.

Regardless of the business strategy, by the end of the 90’s and into the new decade, we saw an increase in preclinical outsourcing. Preclinical CROs like Covance, WIL, MPI, and SNBL began to add capacity and capabilities. Charles River Laboratories entered this space through the acquisition of small to mid-size CROs. The preclinical CRO industry was now emerging as a significant force in drug development. Curiously, the biggest competitor for preclinical CROs during this time was not necessarily another CRO but rather the pharma industry’s own internal capacity. From 2000 through 2003, the calendar year might start off with a pharma company “promising” a certain number of studies to one or more CROs. However, if the pharma company encountered financial challenges anytime during the year, its outsourcing budget would be slashed and those studies “promised” to CROs would be conducted internally or delayed until the next fiscal year. Depending on the pharma company, this process could play out at a CRO on a yearly basis, which made it particularly difficult for the CRO to do any valid revenue forecasting. In 2003, economic pressures were such that there was an industry-wide slowdown in preclinical outsourcing that lasted several quarters.

As economic pressures grew for pharma companies, preclinical outsourcing began to emerge as a cost effective business strategy. It was around this time that the “reserved space” concept emerged at preclinical CROs. Covance was the leader in selling preclinical capacity to pharma companies at a set price for multiyear contracts. This business practice improved the accuracy of revenue forecasting. After 2003, we began to see the rapid growth of the preclinical outsourcing industry. Charles River acquired CTBR in Montreal and Inveresk in Scotland, thereby positioning itself as a major player in the industry. From 2004 to 2008, if CROs weren’t actively adding capacity, it seemed like they were making plans to add capacity. Covance, Charles River, MPI, SNBL, WIL, ITR, LAB and others all added capacity [my apologies to our international readers but I have confined my comments primarily to my observations of the preclinical CRO market in North America]. During this time, demand for preclinical capacity soared as many pharma companies saw the opportunity for cost savings by embracing preclinical outsourcing as a key business strategy. Some pharma companies began to rely on preclinical CROs as they downsized or eliminated internal research capabilities altogether. Preclinical CROs were growing so rapidly that finding experienced staff became the rate limiting factor in bringing new capacity into operation. Scientists from pharma companies started joining CROs. This would have been unheard of just 10 years earlier. From 2006 through the middle of 2008, preclinical outsourcing demand was so great that companies would have to wait as long as six months before they could start a study. CROs could charge top dollar to conduct studies. More and more capacity was about to become operational.

In the fall of 2008, Eli Lilly and Covance stunned the drug development industry by announcing an asset transfer deal, in which Lilly sold its preclinical facilities in Greenfield, IN to Covance in exchange for a contract for a predetermined amount of business from Lilly for multiple years. Covance hired the experienced Lilly staff and gained the opportunity to commercialize the facility to serve other pharma clients. Yes, by the summer of 2008, the preclinical outsourcing industry was booming due to the seemingly insatiable demand for preclinical capacity . . . then the bottom fell out of the market.

This time last year, I wrote an article in Contract Pharma called The Perfect Storm, noting how industry capacity had peaked at the same time that outsourcing demand declined. We now know that customer demand would remain low through most of 2009. For those of us who have experienced the cyclic nature of the preclinical outsourcing industry throughout our careers, this slowdown in customer demand has been the longest that I can recall. Now we better understand the ramifications of the market conditions in 2009 and the impact on the preclinical outsourcing industry. Consider the following:

• From the end of 2008 and into 2009, many, but not all, preclinical CROs in North America laid off staff. Many CROs implemented cost-cutting initiatives.
• SNBL, Harlan, and LAB made changes in their senior management ranks, not including management that got caught up in the aforementioned layoffs at other CROs.
• Pricing got so competitive during 2009 that discounts of 20-30% over early 2008 prices were common. It is said that some CROs did work at cost rather than losing those studies to a competitor.
• Bridge Laboratories sold off its U.S. operations to an employee-led group while its China operations were sold to the Chinese firm Pharmaron Holdings Ltd.
• Charles River Laboratories closed and sold its preclinical operations in Redfield, AR. The company then recently announced that it would suspend preclinical operations in 2010 at its east coast flagship facility in Shrewsbury, MA.

Now that we have reviewed the history of the preclinical outsourcing industry and seen the impact of a prolonged decline in customer demand, where does the industry go from here? The good news is that some CROs reported an uptick in client demand in the fourth quarter of 2009. Whether this demand is sustainable or not remains to be seen. As the global economy continues to improve will the industry rebound and return to the “glory days” of 2006-07 or are we seeing the beginning of a new reality of lower customer demand? While preclinical CROs struggled during 2009, their pharma and biopharma customers struggled as well. With a number of blockbuster drugs facing expiration starting in 2011, many pharma companies have announced massive layoffs and some are downsizing their own preclinical capacity.

As long as pharma companies seek to maintain a high level of drug development productivity, less capacity in pharma companies should bode well for the preclinical CRO industry. Furthermore, although it is sad to see so many people lose their jobs in the pharma industry, these individuals could be a good fit for jobs in preclinical CROs if and when they resume hiring. Ironically, the industry that used to look down their noses at preclinical CROs just 20 years ago has now become increasingly reliant on these organizations for their own survival. All of this would suggest that the preclinical outsourcing industry should continue to fulfill the needs of drug development. But there are warning signs as well:

• I am aware of at least two pharma companies that are adding to their own internal preclinical capacity. While I am not privy to their decision-making, it is obvious that at least these two companies have chosen to maintain options on where to conduct their preclinical testing.
• I have ranted enough in past articles about the ramifications of layoffs but it is worth repeating that sponsor companies need to feel comfortable that a CRO that has undergone layoffs will be able to maintain the expertise and quality necessary for a successful outsourcing experience.
• It is hard to argue the importance of relationships and trust in tough economic times, but one CRO recently laid off an individual who was so important to its operations that they removed one of the reasons why clients would want to place work there in the first place. The fact that they either didn’t understand that or chose to ignore it is telling.
• While it is routine to hear of quality issues in this industry, the type of quality issues and where they are occurring is most troubling. The nature of some operational errors reminds industry veterans of what we saw in the preclinical outsourcing industry in its early years. Whether these recent issues are due to the impact of cost cutting initiatives, inexperienced personnel and/or complacency, quality issues will adversely impact a preclinical CRO. Sponsors need to seek CRO partners where the quest for quality is truly embraced by the entire organization and isn’t compromised by financial concerns.

In this column, I have shared my views regarding the growth of the preclinical outsourcing industry over time. The past year was a tough one for the entire industry. While it appears that there will always be a need for preclinical CROs, I wonder if some of these companies have plateaued in their financial and operational performance.

As preclinical outsourcing has in-creased over the past 10 years, the financial burden of maintaining and building the required infrastructure has shifted from the pharma industry to preclinical CROs. We hear a lot about the economy, lower customer demand, and pharma mergers as the reasons for the recent industry challenges. Despite the stated reasons, one must wonder if the real root cause is because the preclinical CRO industry is now sagging under the same financial pressures that the pharma industry experienced 10 years earlier.

If so, perhaps the leading indicator of success for a preclinical CRO could be the ability to effectively manage financial and quality issues concurrently. You can’t have one without the other. When we look at what happened to people and facilities in the preclinical CRO industry in 2009, you have to wonder if the “perfect storm” was not only due to capacity exceeding customer demand but if the magnitude of the new capacity also exceeded the expertise to manage it effectively.

Steve Snyder is a consultant with more than 25 years of experience in preclinical toxicology as an outsourcing customer and provider.