TM

Growing pains

Matthew GuagentyVice President, IMS Consulting Group, Asia Pacific & China

China’s new pharma realities, and the necessity of an informed strategy in bridging the gap between assumed and realized growth.

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Growing pains

China is a rapidly evolving healthcare market, growing in both size and complexity. However, companies that take too macroscopic an approach to projecting growth, disregarding the more granular trends across individual drug categories, risk facing a gap between assumed and actual portfolio performance. To address this gap, companies have a variety of options, ranging across levels of difficulty and the degree of transformation necessary. And while there is certainly no `one-size-fits-all´ solution, action is mission-critical to successfully adapting and thriving in China.

I. settIng the stageAt first glance, China would seem to be a world of never-ending opportunities for pharmaceutical companies – where forward movement means upward growth for anyone able to get a slice of the pie. And in truth, the numbers are impressive. China’s pharmaceutical market is currently the third largest in the world, estimated at USD 80 billion at the end of 2012*. If one were to expand the market’s scope to include both consumer health medicines and Traditional Chinese Medicines (TCM), China may be much closer to the number two medicines marketplace than we recognize.

However, it is important to remember that China is a balancing act, and such numbers are not the outcome of unilateral escalation but rather the result of both upward momentum and downward pressures. True, the pharma market is expanding, but that expansion is not uniform and what means tremendous growth for some may mean only moderate growth or even decline for others. Variations in opportunity and growth across geographies, therapy areas and drug categories, combined with a maze of regulations and government policies, all represent significant forces at play – forces that demand action, not assumption.

And so a deep dive into the intricacies of China’s healthcare environment ultimately delivers the conclusion that, especially for multinational companies (MNCs), taking too macroscopic an approach to growth projections and disregarding the more granular trends across individual drug categories will invariably create a gap between assumed and actual portfolio performance. Indeed, following targets that are guided or based on the overall average performance of the market can certainly lead to a shortfall; after all, by definition, half of the players in the market will deliver below average performances.

But there is no `one-size-fits-all´ solution to this challenge. How companies address this gap depends on a variety of factors, including their appetite (or ability) for change and/or transformation, and their understanding of what actions are necessary to capturing success in China.

In this paper, we will outline the key components that make China such a unique market, and highlight three examples of strategies – expansion into generics, alliances/partnerships, and new fields of play – that can help bridge the gap and enable a sustainable return on investment.

*IMS Market Prognosis, 2012

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Growing pains

II. UnderstandIng the gap between assUmed and aCtUal growth The theory that there is an impending gap between assumed and actual portfolio performance for MNCs in China was born from a largely theoretical exercise that aimed to find an answer to a not-insignificant question: “To what extent is the typical China Pharma MNC player facing top-line revenue growth pressure, and how big is this issue?” In order to determine the answer, IMS Health teams reviewed the average business mix of the top ten MNC pharmacos in China (based on the IMS China Hospital Pharmaceutical Audit). After pooling their portfolios’ performances into one “hypothetical company”, we split revenue into three buckets:

• Off-patent originators (OPOs) • Patent-protected products (PRx) • Generics and over-the-counter medicines (Gx & OTC)

By indexing all of them to 100, the relative contribution of each bucket to the overall mix of business could be clearly represented.

The task, then, was to apply a series of top-line growth assumptions (see Figure 1) for each of these three segments in order to quantify real expected change – both for the individual segments and for the business at large. It’s worth, here, to take a minute to discuss some of the macro growth assumptions on our hypothetical MNC.

1. We grew the overall business at 15% per annum to represent the average market growth we conservatively expect over the next few years.

2. We did not explicitly account for future product launches in the PRx bucket. The growth in this bucket is except for using elevated growth in this class of products based on aggregated historical growth rates and our own proprietary projections.

3. Our assumptions include in-line mature patented products and new ones as a blend. The Gx and OTC segment is very small and while we applied healthy growth for both, it made little difference based on the top MNC pharma profile.

It was in the OPO segment, the off-patent originators, where we started to see the risk. Running a series of analogs over more than a dozen OPOs and other branded MNC products that made significant price changes, we estimated growth over the next three years at -2%. The reason for this drop is two-fold: On the one hand, we are assuming the government’s pricing pressures on OPOs will continue, thus steadily reducing premiums; on the other hand, we are going to see unit volume benefits due to these price reductions. This inverse relationship between price and volume will result in modest annual declines in this segment.

The resulting gap necessary to achieve the 15% market growth stands prominent if these assumptions hold true.the average mnC might face up to a 17% gap in top-line growth if it cannot manage the transitional impacts of the pressures it faces – particularly in its opo business.

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Growing pains

III. a ComplICated storyWhile an understanding of the `bigger picture´ is always important, in order to successfully manage this gap, diving into the detailed drivers of growth is a must. In China, geographic, sociological and governmental intricacies all come together to produce a market environment that is increasingly challenging to navigate.

geographIC and demographIC dIversIty Managing the health of 1.4 billion people, spread across 9.5 million square kilometers and 34 provinces/regions is no small or simple task. Not only is China faced with myriad cultures and customs, must also manage a massive disparity of wealth, ranging from areas such a Tianjin, which in 2012 boasted a GDP per capita of over USD 15,000, to the remote provinces such as Tibet and Yunan with a GDP per capita of less than USD 4,000*. What does this mean for pharma companies looking to manage portfolios and strategies across what is tantamount to a multitude of sub-countries? For one, building market share relies on both breadth and depth; portfolio diversity, resource allocation and growth strategies across the value chain must address a wide range of market conditions, infrastructure challenges and even personal attitudes toward healthcare. In addition, strategic plans need to ensure they don’t fall victim to the common China assumption that growing bigger necessarily means growing stronger. Facing such a variety of geographic and demographic conditions requires not just a more proactive but perhaps a more innovative growth plan than anywhere else in the world.

aCCess/reImbUrsement For pharma companies, especially MNCs, navigating China’s complex reimbursement system is the key to capturing – or forfeiting – widespread market access. At the center of the system is China’s Essential Drug List (EDL), which outlines a complete set of medicines that receive relatively high levels of reimbursement by the government. The list, which just underwent a milestone expansion in 2012, covers most major disease areas, and is (not surprisingly from a price perspective) dominated by local companies and generics. Inclusion in this list opens the door to the full spectrum of China’s pharmaceutical market,but tends to be a volume-driven model for growth at generics-level pricing.

While the EDL provides a solid foundation of products for which price and reimbursement is set, there is also the National Reimbursement Drug List (NRDL) and the Provincial Reimbursed Drug Lists (PRDL). The NRDL provides varying levels of reimbursement for an expanded list of products beyond that of the almost-fully- reimbursed EDL. The NRDL also provides for partial reimbursement for drugs deemed innovative or valuable enough in fighting certain diseases that are in the best interest of the healthcare system and the patient population. Gaining access onto the NRDL is a lengthy and not always straight-line process for MNC and domestic companies alike. The PRDLs are a variant of the NRDL, and usually include a slightly expanded portfolio of drugs beyond the NRDL, deemed important by the provinces for their indigenous populations.

With this complex, multi-tiered system comes exposure to significant price pressures. At the national level, we have witnessed therapeutic area level price cuts annually over the last decade. At the provincial level, heterogeneous tendering systems place direct price pressure on the most common molecules, leaving competitors trying to outbid one another. And if that is not enough, there are even hurdles at the hospital level, where companies may have to engage in hospital listing processes in order for their product to be available in the in-house pharmacy.

There are few, if any, markets where such successive layers of listing, tendering and bidding must be successfully navigated even after a product has been approved by the country’s governing drug agency.

strategIC plans need to ensUre they don’t Fall vICtIm to the Common ChIna assUmptIon that growIng bIgger neCessarIly means growIng stronger.

* National Bureau of Statistics of China

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Growing pains

hospItal revenUe models Until recently in China, a hospital is largely reliant on its ability to both prescribe and fulfill medicines in order to fund operations, with mark-ups from drugs being a major source of revenue. Therefore, the government’s stated objective to wean hospitals off pharmaceutical drug mark-up model, and to enforce a separation between prescription and fulfillment, signifies a fundamental shift in how the provider market will operate in the future.

Such a shift is the source of significant concern for pharmacos; not only is the implementation difficult to forecast (though pilots are running in Shanghai and Beijing already), it also implies a completely different approach to provider-side economics, and subsequently a new business model altogether. Doctors, however, will continue to be an important stakeholder in the prescribing process, if not the most important one.

Of the three forces above, it is the shift in revenue models that represents the swing factor in our future-view analysis. However while we anticipate that it will push the OPO businesses to relatively neutral growth, how well these changes gain traction, and in what time frame, is harder to predict.

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Growing pains

Iv. strategIes For sUCCess And so MNCs in China face a complicated reality: growth is mandatory, but choosing the right strategy for moving forward heavily depends on being able to address this complicated, and sometimes contradictory, market environment. It also depends on the degree of willingness to invest in difficult and/or transformative processes, which in turn means an honest and thoughtful appraisal of internal capabilities and support, current (and future) brand equity, portfolio sustainability and, of course, appetite for change.

Depending on your business model, there are a number of ways to address the gap, three of which are:

1. expand into the generics market, which, given the pricing and access intricacies of the Chinese market, is an obvious – but not necessarily assured – path.

2. develop strategic partnerships or alliances with local manufacturers and/or distributors, leveraging their market knowledge, geographic access and R&D capabilities to strengthen market entry opportunities.

3. most boldly, expand your business model into wholly new fields of play. Such expansions could be made at the delivery level (e.g. mobile health and diagnostic ventures) or at the business model level (e.g. moving into the insurance space).

Of course, these paths are neither mutually exclusive nor collectively exhaustive, and companies are challenged with gathering the necessary insights, both on the market and on their own business, to make the best, most viable decision possible.

It is also worthwhile mentioning that the best investments, regardless of the strategy chosen, will be the ones that satisfy both unmet need and government agenda. In other words, the opportunity presented by recognizing unmet needs in the population should be qualified by whether or not that need is a government priority. Investment outside this intersection can be riskier and have a longer pay-off period.

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Growing pains

optIon #1: embraCIng generICsInterest in the potential of the generics space is not a new idea in China. Today the country boasts over 7,000 local, regional or national pharmaceutical product manufacturers, the vast majority of whom play in this ultra-competitive market. Their focus may vary – from branded generics to ‘me-too plus’ versions of generics - but while the business model is uniform, the opportunity may not be.

One allure of generics is the potential to capture opportunities in a variety of disease areas; companies with a broad portfolio of products to treat chronic conditions, for example, will benefit from growing demand as the government places more emphasis on tackling chronic diseases and as more patients gain access to treatment.

Branded generics in particular are poised to be an area of opportunity, as MNCs strive to meet the growing demand for low-cost alternatives to off-patent brands. These products also satisfy the brand-conscious preferences of Chinese consumers, who are likely to equate big name familiarity with quality and efficacy.

However, the reality is that the allure of premium names and pricing is not likely sustainable in the long term; pricing pressures from the government, keen to reduce costs, will likely precipitate a unit price decline of these drugs. In fact looking at the past 5 years, we are already starting to see an incremental decline in the growth rates of both sales volume and value (see Figure 2).

“Me-too plus” versions of generics offer a slightly more sustainable outlook, though they require first-mover advantage in addressing a particular market/disease need. Firms with ‘me-too-plus’ generics are also often afforded favored bidding and tendering status, allowing for differentiated pricing and coverage on national drug lists. It should be noted, though, that national agencies are seeking to close down some of this activity.

Following a generics strategy would certainly be simpler to implement than some other solutions to the gap problem. With the robust R&D facilities and capabilities available to most MNCs, quickly developing generic products should be relatively straightforward. Any new generic products could be folded into existing portfolios, offering synergy with supply chains and thus not requiring a huge amount of structural transformation.

However, generics do not necessarily offer an instantaneous solution, as it could take several years from inception to the marketing of any new generic offering from an MNC. Threats from local competitors are also a key force; with greater China market know-how and lower production costs, they will compete heavily on price and, in the longer-term, squeeze market prices down.

generics – big business, small margins?

Figure 2. SourCe: 1. IMS CHPA MATQ2 2012. WCM = WeSTerN CHeMICAl MedICINe

WCM rx SAleS VAlUe1(MAt 2Q08 – MAt 2Q12, Bn USd) WCM rx SAleS VOlUMe1(MAt 2Q08 – MAt 2Q12, Bn COUntInG UnItS)

PRx & OPO +22%

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optIon #2: developIng strategIC allIanCes & partnershIp opportUnItIesMany MNCs navigating the vast complexities of the Chinese market are doing so by exploring various forms of deals with domestic companies. While this is also not a new idea, it certainly has gathered speed in recent years.

Along with allowing portfolio diversification, these expansions allow MNCs to leverage the market expertise and local supply chains of leading domestic manufacturers. This, coupled with the financial might and portfolios of the MNCs, could mean significantly deeper market penetration for both parties.

Source: IMS Consulting Group “Deals in Emerging Markets”, C. Rink

deal dIstrIbUtIon (%) aCross the valUe ChaIn In ChIna (Jan 2011- Feb 2013)

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Growing pains

This option is certainly more difficult to implement than a pure generics strategy, as finding the correct partner who can complement existing portfolios and capabilities is not an easy task. There is also the possible issue of workforce integration and ensuring that the production standards of any acquired/partnered company meet those of the MNC. Furthermore, with the threat of greater regulation, and the dwindling number of attractive, suitable partners still available, this strategy will be increasingly difficult to pursue and could constrain the ongoing feasibility of pursuing such a strategy.

ExAMPLE: PFIzERPfizer is a good example of a large, strong MNC developing strategic relationships with local firms to create a multi-pronged approach to inorganic growth. In 2012, the company agreed to a joint venture with Hisun in a move to access both Hisun’s generic drug portfolio and its capacity to produce and commercialize branded generic medicines at low cost. Over the years, Pfizer has also established strategic partnerships with two other local players to access the entire value chain and set up a strong foundation for future growth and expansion:

• Jointown Pharmaceutical Group, one of the largest distributors in China, to distribute Pfizer products in markets outside of China’s big cities • Shanghai Pharmaceutical (Group) Co Ltd, to register, distribute and eventually sell Pfizer products in China

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Growing pains

optIon #3: branChIng oUt Into new FIelds oF playAs the above, more conventional, strategies are beginning to encounter increased competition and obstacles, and with technology and research in China moving forward at such an astounding pace, MNCs are beginning to think ‘outside the box’ by developing alternative strategies to keep ahead of the game. Of course, such innovative ideas, while offering the possibilities of huge rewards, are the most difficult to implement. Not only is this level of creativity and foresight challenging, but there is an increasing rarity of attractive, applicable spaces not occupied by competitors.

Innovative strategies also invariably entail significant internal transformations in order to create the capacity to incubate and execute any new ideas or technologies, often at large costs and with no guarantee of future results. These strategies also usually mean moving into areas in which there is a lack of expertise, resulting in an imbalance of skills and an over-reliance on partnering firms.

The options presented here are certainly not “Band-Aids” for a short-term growth issue, but they can be medium- to longer-term planks on which companies can build sustainable growth.

mobIle teChnology - takIng health Care Into the FUtUre Mobile health (or mHealth) applications are at the forefront of the more innovative developments in the healthcare sector, continually adopting new technology and transforming how people view healthcare in markets around the world. mHealth is currently in use across emerging markets, spanning the entire healthcare continuum, from drug validation and patient diagnosis, to aftercare, mental health monitoring and health education. And with over 1.1 billion mobile phones currently in use in China, and over 300 million 3G users, the mHealth potential is clear*.

*China Wireless News, Jan 3, 2013. (www.chinawirelessnews.com/2013/01/03/11699-china-had-over-1-1-billion-mobile-phone-users-by-november-2012)TechAsia.com - (www.techinasia.com/china-now-has-over-300-million-people-using-3g//14C43Ae4-F02B-4698-A7e8-d609Ae56BFF6)

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Two of the ways in which this technology could be harnessed by MNCs and incorporated into Chinese business plans include:

1. diabetes and insulin monitoring – The diabetes market in China is expected to grow at a rate of 16.8% over the next ten years, fuelled by rapid demographic and lifestyle changes*. Looking to other health markets around the world, this will likely offer increasing opportunities for MNCs. In recent years, both Bayer and Sanofi have developed innovative, lifestyle-centric mobile technologies to monitor glucose levels in patients.

2. barcode scanning – Counterfeit products are an issue across almost every industry in China, and pharmaceuticals are no different. The authentication and verification of drugs prior to use is a significant area of need within the healthcare space. In fact, the foundation is already in place: in Guangdong province, a new system has been developed that leverages a central database of unique codes matched to individual drug packaging. Accessible via a smartphone app, the database allows consumers to verify the authenticity of their prescription before use.

The opportunities implicit in this technology are significant, from better understanding patient behaviors, to increasing compliance through third-party patient management or medicine reminders. Barcode technologies can drive better patient education and preventative medicine initiatives, both critical priorities for China.

dIagnostICs – CreatIng synergIes aCross portFolIos As China continues to prioritize preventative treatments in their medical reform initiatives, diagnostic services are poised to be a significant player in the expansion of both market access and new product opportunities. Indeed large MNCs are already exhibiting signs of interest; Roche has announced it will invest $310 million in diagnostics in China over the next few years. Abbott is also expanding the diagnostic arm of its business with 30+ new diagnostic product launches granted SFDA clearance in China in 2012 alone.

Diagnostics offer an intriguing opportunity for portfolio synergy within larger MNCs, and a presence across a broader piece of the patient journey. For example, for complex issues such as breast cancer, diagnostics capabilities allow for earlier patient interactions (e.g. screenings) and then more targeted, appropriate treatments later in the disease cycle.

Naturally, as companies expand their activity across the patient’s journey, they likewise expand their opportunities for market access. An excellent example can be found in Roche’s efforts to increase HER2 testing and build robust patient access programs, which have both had a significant impact on Herceptin’s access across China.

CreatIng yoUr own demand – solvIng the aFFordabIlIty gap Although China is experiencing a phenomenal expansion of its middle class, the reality is that many drugs are still prohibitively expensive; cancer drugs, for example, can cost up to 10 times the average Chinese worker’s annual income and, as a premium medication, are not included on any reimbursed drug list.

The answer, for those companies with the capabilities and the appetite for expansion into wholly new business models, can be the development of partnerships such as the one Roche struck with Swiss Re. In 2012, Roche agreed to partner with a compatriot Swiss insurance provider Swiss Re, the second-largest provider of reinsurance in the world, to see if such an approach to China would work. While Swiss Re will benefit from Roche’s understanding of cancer treatment and prevalence rates, Roche will leverage Swiss Re’s knowledge of insurance to expand additional health insurance coverage to segments of the Chinese population. Swiss Re will partner with local domestic insurance companies, including China Life, to sell the resulting policies, which will supplement public insurance and cover more expensive drugs such as Herceptin.

*IMS Health analysis and forecasts

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v. wrappIng UpChina is one of the healthiest pharmaceutical markets in the world when viewed through the lens of growth. However, as we have demonstrated here, this growth is by no means uniform and it is not without its challenges and risks. To survive, and thrive, in this market going forward means embracing the intricacies and proactively addressing those dynamics that make China truly unique. For MNCs, the imperatives are clear:

• Change is coming, but rather than fighting that change, MNCs have the opportunity to use the momentum, coupled with real market intelligence, to shift their business forward

• Tomorrow’s success stories will be built on strategies that recognize both the upward and the downward pressures on the Chinese Pharma market - don’t get blinded by macroscopic figures!

• A spectrum of strategies, from core bolt-ons to new fields of play, are real options for MNCs who want to be proactive in managing pharma’s “growing pains” in China

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IMS Consulting Group (IMSCG) is the world’s leading business advisor for the healthcare and life sciences industries, and one of the top consulting firms in Asia-Pacific. Strategically positioned in five hubs across the region – China, Japan, Singapore and India – IMSCG combines global presence and local expertise to push the frontiers of healthcare and, ultimately, achieve a vision to “Influence the Future of Global Health.” Extracting critical analytics and insights from a wide range of data, from customer behavior to global trends and local markets, teams across Asia are able to give clients crucial visibility into the dynamics of their industry. And with IMSCG’s ability to not only anticipate change, but proactively plan for it, clients are able to confidently navigate current issues and prepare for future trends. IMS Consulting Group has transformed the way investment decisions are evaluated and implemented in Asia, giving gives healthcare leaders the competitive advantage they need today, and the sustainable strategy necessary for tomorrow.

A special thanks to Colin Prout, Hannah Law, Simon Choe and Lisa Wang for their contributions to this paper.

matthew guagenty is currently vice president ofIms Consulting group, asia pacific & China.

He has over five years in the pharma industry, and another twelve in healthcare consulting.

Matthew’s focus over the last seven years of management consulting has been advising clients on growth strategies and new commercial approaches for both newly launching and established brands. Most recently he has been evolving the thinking around launch success in China and supporting the development of product growth strategies and tactics across Asia Pacific.

aboUt the aUthor

TM

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