Strategic partnerships with the top 20 pharma companies are what most sizable CROs dream of these days.
And recent moves in the market reflect just that, with mid-tier CROs either buying one another or being bought by investment groups almost every week. The strategy: get large enough that the big pharma companies can’t ignore you when it’s time to choose new strategic partners to which they will funnel the lion’s share of their studies.
Such partnerships are part of a movement among big pharma to restructure operations in an effort to show shareholders they can be efficient and profitable, according to John Kreger, a financial analyst with William Blair who has been scrutinizing the clinical research outsourcing space for almost 20 years.
“There’s a tremendous amount of cynicism among stockholders that internal R&D infrastructure is completely broken and dysfunctional and inefficient, and they put tremendous pressure on management to fix it and downsize,” he said. “The big 20 pharma companies have been almost in a state of panic about restructuring their model, and outsourcing is being seized upon as a great way to cut unnecessary R&D spending and get more efficient.”
Enter the strategic partnership agreement, in which a very small handful of CROs are chosen to do most, if not all, of a drug maker’s R&D work for a specific, usually long-term time frame. The pharma company chooses the best CROs for the job(s), then works only with them. The CROs receive a steady stream of work.
But are these arrangements actually good for the CROs chosen? According to a report by William Blair analysts about Pfizer’s recently announced strategic partnerships with Parexel and Icon, during their ramp-up phase, these deals can actually impair CROs a bit.
“Given the size and complexity of the implementation, start-up costs and lack of near-term revenue as Pfizer transitions away from its broad list of other clinical CRO vendors, we would not be surprised if this award pressures [Parexel’s] and [Icon’s] margins in the short term,” the report said.
But once fully operational, the analysts predicted those particular deals should be profitable. The report estimated the agreement could increase Parexel’s revenue and earnings base by roughly 11% to 12%, and Icon’s base by 13% to 15%.
Still, some critics say these deals may seem like prizes but in reality they force the CRO to offer painfully deep discounts in exchange for a steady flow of work. August Troendle, co-founder, president and CEO of Medpace, is one such critic. Medpace, which just sold an 80% stake to CCMP Capital Advisors, does not jockey for strategic partnerships or preferred provider status with big pharma.
“Frankly, we don’t have to sit down at the table and talk about the 15% to 18% price reduction that a preferred provider has to do,” said Troendle. “I’d rather be getting the work that’s the exception to their preferred provider lists than to be on the preferred provider lists.”
Instead, he bucks the trend of CROs scrambling to buy one another and grow big enough to attract the attention of large sponsors. “All these companies line up to get revenue from large pharma, and it’s very compelling to them, but they pay a significant price. Look at INC and Kendle and PharmaNet—all of them will be left at the lower end of the majors and have tremendous difficulty getting on those lists, and at great price concessions, while having to integrate acquisitions.”
William Blair analysts alluded to such price concessions in their report on the Pfizer deals, saying, “... there are risks that go along with working with a sponsor with the purchasing muscle of Pfizer.”
Parexel now has four announced strategic partnerships, as well as some that are not public. Founder, president and CEO Josef von Rickenbach said the negative and the positive of these deals seem to even out.
“We’ve done comprehensive analyses on the quality and benefits of strategic partnerships, and for us it hasn’t worked out any worse than regular business from a profitability point of view,” he said. “I don’t believe these deals are going to have profitability issues. I also don’t believe they will boost your profitability miraculously. But they do really have a lot of cost advantages that normally wouldn’t be there. For instance, you don’t have to go through this bidding all the time, which is very expensive.”
Said Peter Gray, CEO of Icon—which also now has four public partnership deals in place as well as some that are not public—rendering these tight arrangements profitable can be done, it just takes effort, focus and patience.
“We believe the process of making these relationships work in a way that’s profitable takes time, but the whole premise behind these deals is that you align all your processes, and build and grow together, and the way you begin to interact soon enables CROs to be profitable and also allows the client to get good value for their money,” said Gray.
Those who criticize these deals just may be resentful about not being invited to the party, he added. “Perhaps there are some sour grapes involved. But they are failing to recognize that the pharma industry is seeking to transform itself, and you can either choose to be a part of that or you can stand on the sidelines and wail about it happening. We’ve chosen to get in the game.”
Said Kreger, more deals are definitely in the works. “This is the direction the industry is moving, and we’re still in the early innings; there are more pharma companies that don’t have these agreements than those that do,” he said.
Who might be next to choose CRO strategic partners? Amid wide speculation, Kreger said many are eyeing Merck, which, having bought Schering-Plough in 2009, now seems ripe for a strategic outsourcing marriage or two.