Forecasting

*How the rise of a major Indian or Chinese pharma player could dramatically change the industry*

How the rise of a major Indian or Chinese pharma player could dramatically change the industry

What are the possible pharma game changers, radical non-linear shifts that might lead to disruptive change in the industry?

One possibility is a remarkable leap forward in how well we understand some biological mechanisms.

Another is a sudden dawning on society and politicians that safety has a price, and absolute drug safety has an infinite price, which might lead to changes in regulatory processes, such as incremental living licences.

An even faster rush towards generics, enabled by the sort of draconian physician guidelines were now seeing in some countries, is yet a third possibility.

But technological advance is now so complex that leaps like those that characterized the industry in earlier decades seem unlikely.

A sudden injection of reality into regulatory policy would be easier to do and very welcome, but it would go against the hugely powerful trend of risk-aversion that characterizes advanced economies.

A rapid acceleration of genericization is most likely, but that is already predicted both by those who invest in the sector and those who lead its companies.

Part of what characterizes a game changer is that it comes from some direction that, if we pointed to it now, the industry would either mock in derision or wail in horror, or both.

Weve seen that in other industries in the past, when the Japanese, with their funny little cars and tiny mopeds, started to nibble at the bottom of Western European industry.

When South Koreans started to build ships, Westerners mocked. In the Occident, we construct; in the Orient, they contrapt, I remember my Dad, who built ships for much of his life, saying.

A game changer, almost by definition, comes from a direction we think is unlikely and, for that very reason, we dont guard against or plan for.

I think that direction may well be the East, and if so, it will be problem partly of our own making.

An Asian game changer

Why do neither India nor China have a major player in pharma in the same way as they do in, say, steel making or IT?

The traditional wisdom points to two major reasons.

The first: Because they lack the accumulated scientific knowledge needed to compete in research-based pharma, they can only play around in generics.

But even then, they lack the commitment to quality and good manufacturing practice that we in the West have embedded in our culture.

The second: Their principal advantagelow costsdoesnt help them much in an industry with very high gross margins.

If they can improve gross margin from 90 to 95%, so what?

Such arguments make me cringe, for two reasons.

First, they are, to a degree, racist. They assume that Indian and Chinese firms are somehow culturally incapable of doing what Western firms do simply because its in the culture or their industry DNA.

Theres no rationale to that, as those who work in shipbuilding or electronics will tell you.

Second, these arguments are very close to those made about Japanese and Korean firms in the past, when made in Japan was a synonym for cheap and nasty and Western firms thought the idea of a premium non-Western brandlike Sony, Samsung, or Hondawas an oxymoron.

Lets say for the sake of argument that the most likely game changer for the industry will be the rapid rise of an Indian or Chinese pharmaceutical company with real innovative capabilities and a low-cost model based not only on lower labor costs but on a lean R&D and commercialization model.

Such a company might have other advantages over the Big Pharma incumbents, such as a perception that it is a good value brand (like Skoda with cars) or the greater agility of being new (like Emirates in long-haul air travel) or better cultural access to emerging markets (like Chinese mining companies in Africa).

For a Western pharma executive, its a scary thought. But there are two consolations.

First, it took the incumbent Big Pharmas decades to accumulate their innovative capabilities and their commitment to quality and compliance.

Second, the textbook advantages of a low-cost producer dont apply in markets with very high margins.

Breaking barriers to entry

The first of these consolation barriers to entry is a real one, but the second is arguably false.

Certainly, reducing costs by, say, half wouldnt make much difference when costs are only 10-20% of sales price.

But all the indicators are that the profitability of the industry might well collapse as a result of low innovation, patent cliffs, generic pressure, and governmental cost controls.

If, for example, gross industry margins fall to 40-50%, then being able to make the product for half the price is an important competitive advantage, attracting investors and customers.

In that scenario, only accumulated knowledge remains a real barrier to entry.

But what conditions would lead to the risk of an Asian game changer? And what would be the consequences?

To become significant, an Asian game changer would have to learn new innovation and compliance competencies very quickly and outlearn the incumbent Big Pharma companies.

There are models for this. In the 1960s and 70s, Korean students were numerous on Western university engineering courses, Japanese car companies were allowed to learn at the low margin end of Western markets, and Western companies set up in various Asian markets with Western leaders but training a whole raft of local middle managers.

How different is that from the huge numbers of Asian students at Western business and science schools now, Pfizers discovery partnership with the Shanghai Institute for Biological Sciences, Desano moving into biologics, and the recent Nycomed purchase of most of Guandong Techpool?

Despite the positive aspects of globalization, the West is in effect teaching the East how to do research-based pharma.

As for impact, we would suddenly find a new significant player in the research-based end of the market for the first time in a generationbut this time, one without the cultural habits of Western big pharma and with the means, motive, and opportunity to lead on price to grow quickly.

The cozy division between cheap generics and expensive innovative drugs would blur, as would the justification for high margins.

The rise of a significant Asian challenger fits all the criteria for a game changer: it would have a big impact, we currently consider it low-probability, but the conditions exist for that probability to change.

That doesnt mean that the Asian challenger will definitely be the industry game changer, but it does mean we shouldnt dismiss the possibility with the wave of an arrogant Western hand.

Game changers come out of nowhere.

Ask any executive who works in the British shipbuilding industryif you can find one.

Dr. Brian D. Smith is an author, academic, and advisor in competitive strategy in medical markets. He is editor of the Journal of Medical Marketing, a research fellow in the marketing and strategy unit at the Open University Business School, and runs specialist strategy consultancy Pragmedic. He is currently at work on a book about the future of the pharma industry.

For more pieces from Brian D. Smiths future of pharma series, see The future of pharma: In search of new business models, Do you know what a value proposition is?, and Managing complex markets.