Drugs firms must make quick moves

Updated: 2012-07-06 12:25

By Nick Beckett (China Daily)

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Drugs firms must make quick moves

Changes in the wind leave little chance for the slow-footed

Industry developments and traditional benefits are rapidly turning China into one of the world's biggest pharmaceutical powerhouses. Quick to smell the country's huge growth potential, big pharmaceutical multinationals have had a presence in China for more than 10 years.

For example, Pfizer has been on the winning and losing side of China's patent and trademark laws since 2002. But a combination of the looming patent cliff and the Chinese government's drive to transform and modernize its pharmaceutical industry has sent inward investment and mergers and acquisitions rocketing in recent years.

Last year Sanofi completed its acquisition of the Chinese consumer health company BMP Sunstone for $520.6 million (412.02 million euros) to expand its Chinese business through BMP's portfolio of products and its distribution network.

The numbers tell their own story. Inbound merger and acquisition volumes more than doubled between 2005 and 2010, while the average value of deals rose from $38.6 million in 2005 to $113.6 million in the first half of last year. There has also been a huge shift in the geography of these deals. Whereas Asian bidders previously made up 60 percent of all deals, by last year they were overtaken by companies based in Europe and the US, which accounted for two-thirds of total transactions. Of the 10 deals valued in excess of $100 million between 2005 and the first half of last year, seven came from European or US buyers.

China has been attractive to pharmaceutical companies in Europe and the US for a number of reasons. Its booming economy and high GDP growth make its pharmaceutical market the fifth largest globally, and by 2015 China will have overtaken Japan as the world's second largest market. The country also ranks highly in terms of cost and the industry expertise proven by its strength in the generic drugs market. Between 2007 and 2010 the generic market in China grew more than 25 percent a year on average and is forecast to grow about 14 percent a year in the coming few years.

However, most appealing of all is the huge market opportunity China offers. With a large and ageing population, domestic demand for prescription and over-the-counter drugs is accelerating. Multinational clients often talk to me about wanting to tap into this huge market, and many are hungry for local firms that can provide a quick and cost-effective platform from which to launch more expensive, branded products. This also brings the added benefits of cost-effective in-country research, a large patient pool, access to distribution networks and detailed knowledge of the multi-tiered Chinese market.

Now Chinese policymakers are repositioning China, not simply as a vast generics-based market, but also as a go-to destination for high-quality research and manufacturing. Several ambitious policy changes are causing foreign companies to extend their footprint in China and consolidate market share. In 2009 the Chinese government announced extensive healthcare reforms to improve accessibility and affordability, including an investment of $130 billion to reduce the cost of medical services, improve infrastructure and reform the distribution model.The upgrades required to achieve the aim of universal healthcare by 2020 will create new opportunities for US and European companies to fill the gaps in quality and quantity along the entire value chain. At the same time, increased consolidation will leave fewer small targets available for acquisition, driving up competition and deal values.

More recently, the Chinese government identified pharmaceuticals and biotechnology as one of the seven national "strategic industries" and set out provisions to boost and consolidate the sector, including a reported investment of 10 billion yuan to support drug innovation. As a result, European and US companies that previously entered the market through joint ventures with domestic companies and research institutes are now looking to accelerate growth through strategic acquisitions. This arrangement works both ways: multinationals gain a stronger foothold in a booming market, while an increase in mergers and acquisitions, exports and research helps domestic companies become more competitive globally.

These opportunities in China are emerging at just the right time. Big pharma is suffering the effects of the looming patent cliff as blockbuster drugs come off patent and low research and development activity fails to produce replacement products. The financial consequences are huge: as major patents expired, it resulted in a loss of nearly $137 billion in revenue last year, and with Bristol-Myers Squibb's Plavix, AstraZeneca's Seroquel and Pfizer's Viagra all due to come off patent soon, a loss of $77 billion is forecast between 2011 and 2015. Planning for the future, large pharmaceutical companies realize that they can no longer rely on the broken blockbuster business model and are turning to mergers and acquisitions for an alternative way to maintain profits and cover loss of revenues.

China is an especially attractive mergers and acquisitions destination for European and US drug-makers hoping to ride out the wave of imminent patent expirations. As these companies lose some of their monopoly and sales growth in Europe and the US, makers of both over-the-counter and prescription drugs are moving into emerging markets, particularly China with its huge population and growing healthcare provision. It is also a prime location for companies looking to diversify their pipelines to make up for the blockbuster shortfall.

With generic versions estimated to take over half of the market in the first year following a patent expiry and as much as 80 percent in the second, China's strong generic segment appeals to foreign companies looking to add this to their revenue streams. Those planning to move into biotechnology also have reason to look eastward as the Chinese government's commitment to the sector makes biotech mergers in China increasingly likely in coming years.

But there are still challenges to be faced by US and European companies wanting to penetrate the Chinese market. As well as hot competition from domestic firms, foreign companies may come up against price controls, limited intellectual property protection and strong regulation. The 2008 Anti-Monopoly Law, for instance, regulates all mergers and acquisitions in China and is aimed at discouraging purely speculative investment that can contribute nothing new to the Chinese industry. This year the US pharmaceutical giant Pfizer had to sell its Chinese swine-vaccine business after a government anti-monopoly review concluded that its merger with Wyeth had left it in control of nearly half of the Chinese market in certain vaccines.

Western bidders will also have to take heed of bribery legislation during the due diligence process of any mergers and acquisitions transaction with China where local custom and practice may include the use of facilitation payments or other benefits. That means not falling afoul of home-country laws such as the Foreign Corrupt Practices Act in the US, which bars firms from paying bribes to officials of foreign governments, and the 2010 Bribery Act in Britain, which has attracted much attention because of its reach and application across borders. What in one culture could be considered an accepted facilitation payment may be interpreted in Europe or the US as a bribe.

Every part of China's pharmaceutical industry is undergoing transformation. Internal conditions and high-level policy decisions are making the country an increasingly attractive "new world" for beleaguered drug-makers in Europe and the US, while the death of the blockbuster model makes it more and more necessary for those companies to seek survival in the East. Whether they finally succeed in China will have much to do with whether they can respond to the ambitious targets set by the government, negotiate the complex multi-tiered market and build a balanced and diverse product portfolio. Multinationals must also act now before the scramble for position in China. Looking at mergers and acquisitions transaction figures for last year, many companies seem to have realized this already, and with China promising so much potential, we can expect these to rise yet again this year and beyond.

The author is head of life sciences industry group at CMS Cameron McKenna, a law firm whose headquarters are in Britain. The views do not necessarily reflect those of China Daily.

(China Daily 07/06/2012 page10)