Dr. Enrico T. Polastro, Arthur D. Little01.28.16
Over the last twenty years Western pharmaceutical fine chemicals producers have seen their traditional leadership in the global merchant API scene dramatically erode, the center of gravity of the supply structure shifting towards China and India.
However, recently the mood amongst Western pharmaceutical fine chemicals producers is improving. Doomsday predictions calling for a continuing demise and decline are being displaced by expectations of a revival as the confidence in China and India as supply sources for API has been dented by reports of high profile quality problems. Also, pharmaceutical companies are starting to develop Western sources for products purchased in these two countries.
Whether this will prove to be a short term reprieve or a lasting recovery will hinge mainly on the ability of Western vendors to continue to adapt to a changing and competitive environment.
Defining the API industry
APIs, or active pharmaceutical ingredients, are the substances providing the pharmacological effect of formulated pharmaceuticals.
While ample documentation and data are readily available on drug sales—estimated in 2014 at the manufacturer level in the order of $950 billion, having steadily grown over the last twenty years at around 6.5% p.a.—very little data exists on the corresponding API value/demand.
This paucity of data stems from a number of factors including the:
Such a value corresponds to about 9% of pharmaceutical sales at the manufacturer level—this percentage having steadily decreased over time (see Figure 1) driven by:
The declining share of captive production reflects the trend noted amongst pharmaceutical companies to increasingly rely on third party vendors for their API and related intermediates requirements—the extent of upstream integration in drug substance synthesis differing amongst the various parts of the world being comprized between 20% in North America where outsourcing from third parties is widespread to 70% in China and India.
Excluding captive production the pharmaceutical fine chemicals merchant demand covering both API ready to be formulated as well as intermediates having to undergo further chemical transformation steps to obtain the final API is estimated at about $45 billion.
North America and Europe represent a demand in the order of respectively $13.5 billion and $12.5 billion, representing the two single largest markets.
Out of the estimated $45 billion merchant pharmaceutical fine chemicals demand a distinction must be drawn between:
The latter product group accounts for about 25% of the merchant market corresponding to a value in the order of $12 billion—about $3 billion being custom made biopharmaceutical API such as recombinant proteins and Mab (monoclonal antibodies)—a class of products having enjoyed over the last twenty years a spectacular growth.
API Industry Supply Structure
The merchant pharmaceutical fine chemicals market is characterized by a highly fragmented supply structure with in total several thousand vendors claiming to be engaged in the supply of this type of products—only a handful such as Teva’s Tapi and Lonza reaching the $ 1 billion sales threshold.
The scope of activities and degree of sophistication of the various players such as geographical patterns and supply/demand patterns for pharmaceutical fine chemicals differ widely.
The Americas. Characterized by a limited merchant pharmaceutical fine chemicals production base—both North and Latin America being net API importers as demand greatly exceeds local production.
Excluding captive production the North American merchant API output is in the order of $2 billion represented by mainly large volume analgesics such as ibuprofen (BASF and SI-Group, formerly Albemarle) and paracetamol (Mallinckrodt); and niche type products like controlled substances (i.e. Mallinckrodt, Noramco and Siegfried), anticancers (i.e. Johnson Matthey) or steroids (Pfizer).
In total about forty merchant pharmaceutical fine chemicals producers have operating capacity in the region. Examples including Albemarle New Haven, AmPac, AMRI Rennselaere, Ash Stevens, BASF, Cambrex (IA), CML-AAI, Euticals-Archimica Springfield, Evonik having taken over the E.Lilly Tipper Canoe (IN) site or Sigma-Tetrionics.
Japan. With a merchant pharmaceutical fine chemicals output of about $3 billion, Japan is substantially self-sufficient. The supply structure is represented by about fifty vendors active on the merchant market. Examples including Ajinomoto or Sumitomo, the latter with a turnover in excess of 0.5 billion being amongst the largest pharmaceutical fine chemicals players. Most of the domestic merchant pharmaceutical fine chemicals demand is covered by local production with some imports mainly out of China. Japan, while still a net exporter, has seen its market share erode over the years in products such as of SSC (semi-synthetic cephalosporins) and related intermediates where its exports have been largely displaced by China.
China and India. Both are playing an increasingly important role on the merchant pharmaceutical fine chemicals market with an output estimated at $25 billion corresponding to a share of the total merchant market of around 60%, dramatically up from less than 40% twenty years ago (see Figure 3). Both countries house a large pharmaceutical fine chemical production base—in total more than 1,500 and 2,300 vendors being reported to exist respectively in China and India. In the latter their number having substantially decreased over the last ten years when it was estimated north of 4,000.
More than 70% of the total pharmaceutical fine chemicals production is said to be exported. According to the Indian Bulk Drug Manufacturers Association exports out of India have grown over the period 1995 to 2010 by almost 20% p.a. reaching in 2010—the last year of publication of these statistics—$8 billion, which is up from $0.5 billion back in 1995. China has over the years become the center of gravity for the production of several types of APIs including fermentation derived antibiotics forcing out of the market most merchant Western producers. The country is also becoming a major exporter of pharmaceutical fine chemicals to India.
The focus of both the Chinese and Indian pharmaceutical fine chemicals production is mainly on off-patent/catalogue API. The presence of these two countries in custom made pharmaceutical fine chemicals remains marginal mainly reflecting fears associated with IP leakage and supply reliability.
Interesting to note, both China and India rely on imports of API from Western suppliers for both complex molecules and for the formulation in drug products for Triad markets.
Europe. The cradle of the pharmaceutical fine chemicals industry and traditionally the single largest merchant production area, Europe has seen over the last twenty years its position sharply erode witnessing an estimated output of $11 billion corresponding to a 25% market share, which is down from 40% in the mid 90s. A mirror image of what was observed for the Chinese and Indian industries, European pharmaceutical fine chemicals producers are being hard hit by Chinese and Indian competition leading to their almost complete exit from some product groups such as beta-lactam antibiotics. Such factors have seen the region becoming a net API importer (see Figure 4).
The supply structure for pharmaceutical fine chemicals is represented by about 150 merchant pharmaceutical fine chemicals producers, whicha are mostly located in Italy and Spain. This number has substantially shrunk over the last twenty years. As an example in Italy it has dropped from little less than 200 back in the mid 90s to now about 90, reflecting a combination of: Merger and acquisition activity such as Euticals taking over Probiosynt, Poli as well as Archimica; and the exit of some players such as Antibioticos (now Olon) and Settimo Torinese. Comparable developments are also occurring in other EU countries.
The structure of the European merchant pharmaceutical fine chemicals industry differs widely across the various countries. In Austria, Germany and Switzerland the degree of consolidation is substantially higher compared to Italy and Spain while the focus is more on intermediates and custom made items as opposed to off-patent/catalogue API like in Italy and Spain.
The travails of the Western API industry
The decline of the European, or more broadly of the Western, pharmaceutical fine chemicals industry noted over the last few years can be traced to multiple factors including the:
Reprieve or permanent remission?
However over the last twelve months some rays of hope have appeared, the mood shifting amongst Western players as both demand and prices seem to recover.
Various developments are explaining this change of mood, including the:
While it is undeniable that the confidence of pharmaceutical customers in China and India as reliable sources of quality pharmaceutical fine chemicals has been shaken it would be shortsighted to discount the entire pharmaceutical fine chemicals sector and set of vendors in these two countries.
Rather, the high profile problems encountered by some players can be expected to prompt an acceleration of the overdue shake out and pruning of the pharmaceutical fine chemicals supply structure in these countries leading to the exit of “fly-by-night” types of players and the emergence of a limited number of quality vendors able to compete at equal footing with the best Western companies.
Similarly it would be naïve to believe that the leverage applied by pharmaceutical companies to their vendors belongs to the past and that pharmaceutical fine chemicals suppliers will be granted a free hand in setting their prices allowing them to reach financial returns comparable to their pharmaceutical customers. This would fundamentally misread the barriers and dynamics characterizing these two businesses.
The answer to the question “temporary reprieve or complete remission” entirely depends on the ability and willingness of Western pharmaceutical fine chemicals producers to continue to adapt their offerings and maintain an edge in terms of innovation, quality, reliability, service and technology as one thing is certain: competition from other parts of the world will not remain idle and will catch up.
Dr. Enrico T. Polastro is vice president and senior industry specialist of the Global Pharmaceutical and Fine Chemicals practice of Arthur D. Little. He can be reached at polastro.enrico@adlittle.com.
However, recently the mood amongst Western pharmaceutical fine chemicals producers is improving. Doomsday predictions calling for a continuing demise and decline are being displaced by expectations of a revival as the confidence in China and India as supply sources for API has been dented by reports of high profile quality problems. Also, pharmaceutical companies are starting to develop Western sources for products purchased in these two countries.
Whether this will prove to be a short term reprieve or a lasting recovery will hinge mainly on the ability of Western vendors to continue to adapt to a changing and competitive environment.
Defining the API industry
APIs, or active pharmaceutical ingredients, are the substances providing the pharmacological effect of formulated pharmaceuticals.
While ample documentation and data are readily available on drug sales—estimated in 2014 at the manufacturer level in the order of $950 billion, having steadily grown over the last twenty years at around 6.5% p.a.—very little data exists on the corresponding API value/demand.
This paucity of data stems from a number of factors including the:
- Substantial share of API produced by upstream integrated pharmaceutical companies who are processing these captively into formulated products and almost invariably transacting in their accounts the API at internal transfer prices often set at somewhat arbitrary levels; and
- Extreme fragmentation of the product, supplier and customer slate—in total more than one thousand different APIs are being used worldwide.
Such a value corresponds to about 9% of pharmaceutical sales at the manufacturer level—this percentage having steadily decreased over time (see Figure 1) driven by:
- Continuing unit price inflation noted in most countries for formulated pharmaceuticals; and
- Increasing share of drugs based on highly potent actives involving very low dosages.
The declining share of captive production reflects the trend noted amongst pharmaceutical companies to increasingly rely on third party vendors for their API and related intermediates requirements—the extent of upstream integration in drug substance synthesis differing amongst the various parts of the world being comprized between 20% in North America where outsourcing from third parties is widespread to 70% in China and India.
Excluding captive production the pharmaceutical fine chemicals merchant demand covering both API ready to be formulated as well as intermediates having to undergo further chemical transformation steps to obtain the final API is estimated at about $45 billion.
North America and Europe represent a demand in the order of respectively $13.5 billion and $12.5 billion, representing the two single largest markets.
Out of the estimated $45 billion merchant pharmaceutical fine chemicals demand a distinction must be drawn between:
- Catalogue products, namely items free for sale to any customer; and
- Custom made/bespoke items, which are produced and supplied for the exclusive use of a single customer.
The latter product group accounts for about 25% of the merchant market corresponding to a value in the order of $12 billion—about $3 billion being custom made biopharmaceutical API such as recombinant proteins and Mab (monoclonal antibodies)—a class of products having enjoyed over the last twenty years a spectacular growth.
API Industry Supply Structure
The merchant pharmaceutical fine chemicals market is characterized by a highly fragmented supply structure with in total several thousand vendors claiming to be engaged in the supply of this type of products—only a handful such as Teva’s Tapi and Lonza reaching the $ 1 billion sales threshold.
The scope of activities and degree of sophistication of the various players such as geographical patterns and supply/demand patterns for pharmaceutical fine chemicals differ widely.
The Americas. Characterized by a limited merchant pharmaceutical fine chemicals production base—both North and Latin America being net API importers as demand greatly exceeds local production.
Excluding captive production the North American merchant API output is in the order of $2 billion represented by mainly large volume analgesics such as ibuprofen (BASF and SI-Group, formerly Albemarle) and paracetamol (Mallinckrodt); and niche type products like controlled substances (i.e. Mallinckrodt, Noramco and Siegfried), anticancers (i.e. Johnson Matthey) or steroids (Pfizer).
In total about forty merchant pharmaceutical fine chemicals producers have operating capacity in the region. Examples including Albemarle New Haven, AmPac, AMRI Rennselaere, Ash Stevens, BASF, Cambrex (IA), CML-AAI, Euticals-Archimica Springfield, Evonik having taken over the E.Lilly Tipper Canoe (IN) site or Sigma-Tetrionics.
Japan. With a merchant pharmaceutical fine chemicals output of about $3 billion, Japan is substantially self-sufficient. The supply structure is represented by about fifty vendors active on the merchant market. Examples including Ajinomoto or Sumitomo, the latter with a turnover in excess of 0.5 billion being amongst the largest pharmaceutical fine chemicals players. Most of the domestic merchant pharmaceutical fine chemicals demand is covered by local production with some imports mainly out of China. Japan, while still a net exporter, has seen its market share erode over the years in products such as of SSC (semi-synthetic cephalosporins) and related intermediates where its exports have been largely displaced by China.
China and India. Both are playing an increasingly important role on the merchant pharmaceutical fine chemicals market with an output estimated at $25 billion corresponding to a share of the total merchant market of around 60%, dramatically up from less than 40% twenty years ago (see Figure 3). Both countries house a large pharmaceutical fine chemical production base—in total more than 1,500 and 2,300 vendors being reported to exist respectively in China and India. In the latter their number having substantially decreased over the last ten years when it was estimated north of 4,000.
More than 70% of the total pharmaceutical fine chemicals production is said to be exported. According to the Indian Bulk Drug Manufacturers Association exports out of India have grown over the period 1995 to 2010 by almost 20% p.a. reaching in 2010—the last year of publication of these statistics—$8 billion, which is up from $0.5 billion back in 1995. China has over the years become the center of gravity for the production of several types of APIs including fermentation derived antibiotics forcing out of the market most merchant Western producers. The country is also becoming a major exporter of pharmaceutical fine chemicals to India.
The focus of both the Chinese and Indian pharmaceutical fine chemicals production is mainly on off-patent/catalogue API. The presence of these two countries in custom made pharmaceutical fine chemicals remains marginal mainly reflecting fears associated with IP leakage and supply reliability.
Interesting to note, both China and India rely on imports of API from Western suppliers for both complex molecules and for the formulation in drug products for Triad markets.
Europe. The cradle of the pharmaceutical fine chemicals industry and traditionally the single largest merchant production area, Europe has seen over the last twenty years its position sharply erode witnessing an estimated output of $11 billion corresponding to a 25% market share, which is down from 40% in the mid 90s. A mirror image of what was observed for the Chinese and Indian industries, European pharmaceutical fine chemicals producers are being hard hit by Chinese and Indian competition leading to their almost complete exit from some product groups such as beta-lactam antibiotics. Such factors have seen the region becoming a net API importer (see Figure 4).
The supply structure for pharmaceutical fine chemicals is represented by about 150 merchant pharmaceutical fine chemicals producers, whicha are mostly located in Italy and Spain. This number has substantially shrunk over the last twenty years. As an example in Italy it has dropped from little less than 200 back in the mid 90s to now about 90, reflecting a combination of: Merger and acquisition activity such as Euticals taking over Probiosynt, Poli as well as Archimica; and the exit of some players such as Antibioticos (now Olon) and Settimo Torinese. Comparable developments are also occurring in other EU countries.
The structure of the European merchant pharmaceutical fine chemicals industry differs widely across the various countries. In Austria, Germany and Switzerland the degree of consolidation is substantially higher compared to Italy and Spain while the focus is more on intermediates and custom made items as opposed to off-patent/catalogue API like in Italy and Spain.
The travails of the Western API industry
The decline of the European, or more broadly of the Western, pharmaceutical fine chemicals industry noted over the last few years can be traced to multiple factors including the:
- Wave of investments in China and India in pharmaceutical fine chemicals production capacity often encouraged either directly or indirectly by the local authorities eager to promote industrial developments and exports;
- Increasing hurdles facing pharmaceutical fine chemicals operations in Europe driving up costs as well as investment outlays. There is no comparable burden facing Chinese and Indian players;
- Restrictive IP framework enacted in the EU through the SPC (Supplementary Protection Certificate) that combined with the absence of Waxman-Hatch type of provisions has de-facto prevented EU-based pharmaceutical fine chemicals producers to compete in some markets for the supply of API whose patent was about to expire. Producers located elsewhere have no such constraints;
- Drive of pharmaceutical companies to compress sourcing costs associated with the API resulting in continuing price pressures for suppliers reflecting the leverage exerted by customers pressuring Western producers to match the lower prices offered by Chinese and Indian competition; and
- A magnet effect exerted by China and India on the senior management of several pharmaceutical companies viewing these areas as the new Eldorado for low cost API production given perceived cheaper labor costs and lower investment requirements.
Reprieve or permanent remission?
However over the last twelve months some rays of hope have appeared, the mood shifting amongst Western players as both demand and prices seem to recover.
Various developments are explaining this change of mood, including the:
- Strengthening of the U.S. dollar compared to the Euro. The average exchange rate in 2015 of around 1.1 US$/Euro being much more favorable than the 1.3 US$/Euro assumed by several players in their original budget projections providing thereby an unexpected bonanza for EU-based producers;
- Moves of several U.S. and European pharmaceutical companies starting to: Bring back to the West the sourcing of intermediates and API until recently purchased out of China or India; and becoming more supportive of their Western suppliers and accepting from these price increases, a development almost unthinkable until recently when the priority was to squeeze suppliers as much as possible;
- High profile regulatory set-backs and problems encountered by various Chinese and Indian API producers planting seeds of doubts and fears on the suitability of these two countries as reliable supply sources for pharmaceutical fine chemicals. Other developments such as a rapid pace of labor cost inflation as well as environmental problems facing several production sites are also contributing to this change of perception;
- More even enforcement by Western regulatory agencies of quality standards and procedures also for API and intermediates produced in China and India through regular physical inspections. This is a development that has uncovered several problems sending shock waves amongst pharmaceutical companies relying on these sources leading to the realization that, “penny wise may be dollar stupid,” as potential damages associated with risk of supply disruptions and reputational issues more than offset hypothetical cost savings; and
- Expectations of continuing growth of the merchant fine chemicals pharmaceutical demand are being driven by a combination of a steady flow of new products reaching the market or entering clinical development as well as an unabated trend towards outsourcing noted amongst pharmaceutical companies.
While it is undeniable that the confidence of pharmaceutical customers in China and India as reliable sources of quality pharmaceutical fine chemicals has been shaken it would be shortsighted to discount the entire pharmaceutical fine chemicals sector and set of vendors in these two countries.
Rather, the high profile problems encountered by some players can be expected to prompt an acceleration of the overdue shake out and pruning of the pharmaceutical fine chemicals supply structure in these countries leading to the exit of “fly-by-night” types of players and the emergence of a limited number of quality vendors able to compete at equal footing with the best Western companies.
Similarly it would be naïve to believe that the leverage applied by pharmaceutical companies to their vendors belongs to the past and that pharmaceutical fine chemicals suppliers will be granted a free hand in setting their prices allowing them to reach financial returns comparable to their pharmaceutical customers. This would fundamentally misread the barriers and dynamics characterizing these two businesses.
The answer to the question “temporary reprieve or complete remission” entirely depends on the ability and willingness of Western pharmaceutical fine chemicals producers to continue to adapt their offerings and maintain an edge in terms of innovation, quality, reliability, service and technology as one thing is certain: competition from other parts of the world will not remain idle and will catch up.
Dr. Enrico T. Polastro is vice president and senior industry specialist of the Global Pharmaceutical and Fine Chemicals practice of Arthur D. Little. He can be reached at polastro.enrico@adlittle.com.