Adversity & acclimatization
The drug industry’s self-image is built around innovation, creativity and cleverness in science and technology. But this conceit is not matched by originality in business practices.
This is exposed during times of adversity.
Over the years, adversity has been defined by capital droughts, moving goal posts at FDA, threats of price controls on breakthrough drugs and similar hostile settings.
The drug industry’s current adverse environment repeats some of these familiar themes, such as difficulty accessing capital and much lower valuations through most of the value chain.
These are joined by a more vocal refusal of the marketplace to buy into the industry’s claims about the value of its projects; more determination by the regulatory and political systems to root out perceived financial conflicts of interest; payer efforts to rein in contact with drug sales forces; a perceived divergence of the industry from public health priorities; and, as always, the lack of a public voice.
And this does not count the upcoming implementation of a more rigorous enforcement regime under the FDA Amendments Act, and the fact that neither of the two U.S. presidential candidates is a particular friend of the drug industry.
In the past, big pharma has been able to rely on excess profits to brush over its lack of new product productivity and to pursue an arrogant public persona. As the valuation of the drug industry’s largest companies shrinks, the bill for this empty approach is coming due.
Meanwhile, biotech has relied on financial engineering, partnering and M&A to keep programs alive in the times when public capital has been dear, and was able to bank on its entrepreneurial image to distance itself from the public ridicule suffered by its pharma siblings - the negative virtue of NOT being pharma - at least until the price of biotech’s innovations began to be felt in the marketplace.
For 2008, Back-to-School argues that the nature of adversity now is fundamentally different, and requires new behaviors that will be challenging for an industry where fresh business thinking has not matched its scientific accomplishments.
Going forward, the issues cannot be addressed simply by producing ever more novel science, which no longer conveys value as measured by the consumers of the industry’s products. In the new environment, the concepts of value are controlled by forces outside the drug industry: regulators, payers and patients.
Thus, the 16th edition of Back-to-School is about the need to identify how the industry behaves in its environmental context, and the consequences of eschewing this introspection.
To be clear, this discussion is NOT about what to do about the current shakeout of companies and capital. We do not define this as adversity. Rather, it reflects the excess of capital pursuing the quantity of quality technology on offer. Purging the system of marginal technology and marginal investors is a natural economic process that should not be hindered or bemoaned by the survivors.
At the same time, we are NOT talking about some sort of Darwinian culling of the herd. We are talking about changes in behavior, rather than natural selection or genetic mutation, as the determinants of survival and success as the industry’s environment continues to change.
In biological terms, this is called “acclimatization,” which is explored in more detail in “Adapting to Climate Change” (see A13).
In human terms, it is important to keep in mind that company and industry behavior are not the same, and do not always prove to be compatible. In this, Back-to-School reminds readers that this particular ecosystem also adapts to its inhabitants through a feedback loop that has proven capable of punishing the group for the actions taken by its individual members.
As always, Back-to-School’s objective is to provoke more expansive thinking and dialog within the biopharma community. So to start this year’s discussion, we focus on four ideas for behaviors suited for success in a turbulent world.
- Checking and rechecking hypotheses about strategy and science.
- Embracing risk sharing as part of the industry’s financial structure.
- Expanding the partnering paradigm, especially into the payer community.
- Demonstrating alignment with public health priorities, and not engaging in contradictory behavior.
In a nutshell, the new environment is less permissive across the board: in terms of funding, valuations, regulation, reimbursement and public policy. Indeed, the business setting for the drug industry is arguably less permissive than at any time since Back-to-School has been offering up its advice.
By any number of measures, valuations are being reset. The phenomenon has been especially acute at the front of the value chain, where science at the translational stage carries almost zero value in the marketplace. It is also obvious that IPOs now only represent a funding round for venture capital in the absence of good luck in M&A.
While this year’s dismal fundraising environment is not likely to be permanent, it has become harder to access capital simply because investors are more sophisticated. There has been lower turnover on the buyside than in the prior decade, and VCs have far more experience. Nor is there any grand project in the offing - like the sequencing of the genome - that can capture the imagination of the generalists and propel valuations across the board.
While technologies like RNAi, miRNA, sirtuins or second-generation proteins may sporadically provide big, early rewards, step-ups are provided more circumspectly than in the early years of the industry.
This valuation squeeze is being exacerbated as endgame regulatory and reimbursement risk has been piled on top of technology risk. Indeed, companies may find themselves longing for the days when the