Racing down the pyramid

Nov 13th 2008 | NEW YORK
From The Economist print edition

Big drugmakers’ love affair with America is coming to an end

FOR many years America has been the heart and soul of the pharmaceuticals business. The adoption of price controls and government-run health systems in Europe, where the industry began, led many drugs firms to pitch their tents in the land of the free market. Keen to encourage innovation and suspicious of big government (until recently, anyway), America has allowed drugs companies to price their wares more or less as they please. As a result, over half of the leading firms’ profits come from America alone. So it might seem odd to suggest that the industry’s future now lies in the developing world. Indeed, for years drugs firms resisted the trend, fashionable in other industries, towards pouring billions into emerging markets. They justified their stance by pointing to weak patent protection and low incomes in those markets. But now the industry has changed its mind. When he took over as boss of Britain’s GlaxoSmithKline (GSK) earlier this year, Andrew Witty declared that emerging markets would be at the heart of his growth strategy. GSK has since agreed a path-breaking licensing agreement with Aspen, a South African “branded generics” firm, and has just paid some $200m for Bristol Myers-Squibb’s Egyptian operations. For its part Pfizer, the world’s biggest pharmaceuticals firm, recently announced a restructuring that makes emerging markets a priority. Jean-Michel Halfon, who is in charge of that effort, says serving customers in developing countries is now “a business, not a charity.” Why the U-turn? The tremendous growth of drugs markets in the developing world proved too tempting to ignore. IMS, an industry consultancy, forecasts that sales in the biggest emerging markets will hit $300 billion by 2017, equal to today’s sales in the top five European markets and America combined. Even before the latest downward lurch in prospects for rich economies, growth in those countries was expected to be much slower than in big emerging markets (see chart). If growth is the carrot luring the drugs giants into emerging markets, the stick is the change in regulatory outlook in America from friendly to possibly frosty. The industry is concerned that Barack Obama, once in office, might allow cheap drugs to be imported from Canada or force Medicare, the government health-care system for the old and disabled, to negotiate big discounts with drugs firms. Peter Lawyer of Boston Consulting Group estimates that the latter reform alone could reduce the industry’s American revenues by 3-10%. In fairness, any move by Mr Obama towards universal health-coverage could boost drugs sales by giving more people insurance, but the industry nevertheless worries about a squeeze on margins. Hence the industry’s zealous push into places like China and India. But if it is to succeed in emerging markets, its strategy and tactics will have to change. In the past, observes Loic Plantevin of Monitor, a management consultancy, Western drugs firms did not fare well because they often lazily “recycled” the products and marketing plans that worked in America for use in poorer countries. But now he thinks firms are doing better. Some are offering products of particular relevance to developing countries, such as treatments for hepatitis B, or combination therapies, which are especially popular in India. Western firms have also dropped their traditional resistance to tiered pricing: Pfizer’s Viagra, a drug for erectile dysfunction, and Merck’s Gardasil, a vaccine against cervical cancer, were both introduced in India at a fraction of their American price. The health-care arm of Bayer, a German conglomerate, has seen its sales in emerging markets soar as it has included more locals in drugs trials and brought new pills to market soon after launching them in America. Some firms are going further, venturing beyond the familiar big cities to more difficult, but potentially more lucrative, territories. Mr Halfon says Pfizer has expanded in the past couple of years into over 130 Chinese cities. His firm has also set up a joint venture with Grameen Bank in Bangladesh to cultivate rural markets for basic drugs by developing “microinsurance” products. Mr Halfon is convinced there is plenty of money to be made among the underserved poor. He thinks the drugs market for those earning less than $3,000 a year is already worth $30 billion annually, and he expects this to increase to $60 billion-70 billion by 2012. Novartis, a Swiss rival, recently unveiled a pilot project to expand into rural India; the firm aims to reach 50m new customers by 2010. Further evidence of emerging markets’ potential comes from the experience of Britain’s AstraZeneca in China. Unlike rivals, which focused on Shanghai and Beijing, its trailblazing marketers pushed into the country’s remote western provinces. The going was tough, but with little foreign competition the firm’s efforts paid off. It has just reported that during the third quarter, sales in mature markets grew by 2% compared with the same period a year ago, but increased by 35% in China—and by 18% in emerging markets overall. It seems that there is indeed a fortune at the bottom of the pyramid.