InFocus: It’s not just a question of cost in Gx, according to Mansfield Advisors

Dr Victor Chua, senior partner, together with Indah Roesyanto and Dr Molly Llewellyn-Smith, associates at Mansfield Advisors, take a look at opportunities in generics, where similar drugs compete in highly diverse markets

Total spending on medicines, globally, in 2020 was around US$1.3trn of which generic (Gx) prescription drugs represent just US$74bn or around 5.8% of the total pharmaceutical market.

Western Europe’s retail (non-hospital) generics market is increasingly commoditised and margin pressured in all therapeutic areas and tends to be dominated by large players with extensive portfolios, and with pharmacy sales teams adding value in certain markets.

Over recent years, the sector has slowly become more concentrated and dominated by players with a large and growing portfolio of molecules, of an operational scale that accommodates sales teams visiting pharmacies regularly and who manage discounts for total spending. The result has been vertical integration.

Nevertheless, every country is very different. Each have distinct histories in terms of changing attitudes to patent protection, the value of brands, the role of pharmacists and current procurement policies ‒ as three big EU countries illustrate.

German social health insurers run tenders where producers need to be price competitive. Under this model, the key to reaching high sales volumes is the way in which doctors prescribe particular formulations, and which producers hope correspond to their specific products. German pharmacies are less important to sales as there is no incentive for them to substitute.

The French were historically very wary of Gx, but that attitude has completely changed. National tenders and pharmacist freedom-of-action makes it difficult to compete on anything other than cost.

However in Spain, contact with doctors still offers a return from spending on sales teams in some segments.

Same, same ‒ but different

Small molecule Gx have the same active pharmaceutical ingredients but differ in colouring, flavouring and stabilising agents. Players may acquire the innovator company’s brand name, a portfolio of brands across country markets, invest in their own or use only the international non-proprietary trade name. Their efforts certainly lower prices for us all, by up to 66% in the one-to-five-year period after patents expire, at least according to the British Medical Journal in 2020. Some years earlier, Gx were estimated to save EU countries €100bn each year.

Small molecules, large transactions

Teva Pharmaceutical Industries – one of the world’s largest Gx companies – created Theramex when, in 2018, it divested its women’s health portfolio to a CVC Capital Partners fund for US$703m in cash.

It seems to have been a great deal for CVC, since Theramex was sold by March 2022 to the Carlyle Group and PAI Partners for US$1.4bn, according to Bloomberg.

In September 2021, HIG Capital acquired Aspire Pharma, which had been founded by Graham Fraser-Pye. Financial terms were not disclosed.

In July 2021, Partners Group acquired Pharmathen from BC Partners for €1.6bn. Pharmathen is a European specialist in advanced drug delivery technologies for complex generic pharmaceutical products.

Around the same time ‒ in June 2021 ‒ Nordic Capital acquired Advanz Pharma at an enterprise value of US$2bn.

In March 2021, Altaris Capital Partners entered into an agreement to acquire Perrigo, for about US$1.55bn. Then, subsequently in September 2021, Perrigo acquired HRA Pharma from Astorg Partners and Goldman Sachs Asset Management in a transaction valued at €1.8bn.

The Baltic States’ largest player Grindeks was bought out between 2019‒2021 by its management, through the Liplat Holding vehicle. Sales in 2021 sales were €231m, with cardiovascular and central nervous system medicines representing the largest volume segments.

In 2021, ArchiMed announced the acquisition of Stragen Pharma and a majority stake of Madrid-based SUANFARMA. No financial details are available.

In September 2020, Apax Partners sold Neuraxpharm, the central nervous system specialist, to Permira.

Bain Capital teamed up with Cinven to take private STADA Arzneimittel in a series of steps from August 2017 through October 2018 that ultimately valued the business between €6‒6.5bn (15‒15.5x Last Twelve Month June 2018 EBITDA).

European markets for generic drugs. Not the same

Countries in the European Union are not subject to the same regulations, and generic uptake varies widely between countries.

In 2013, uptake of generics in Europe varied from 17% in Switzerland, to 83% in the UK. There was also a six-fold average price difference between these two countries and up to 30x for specific drugs such as Omeprazole and Amlodipine. The volume/value ratio differs substantially as shown in Figure One.

Even though most European countries operate an internal reference pricing system that dictates the reimbursement of identical drugs, there are different approaches on how each reference price is set.

Prior to 2010, Portugal set the reference price as the most expensive comparison generic and was the only EU country that spent proportionally more on generics than on originator medicines. The Portuguese then changed their reference price to the average of the five lowest-priced, which had quick results. By 2019, 50% of the total Portuguese market volume was made up of generic drugs and just 21% by value. The Portuguese ratio was then similar to the UK, though the UK still had the highest Gx volume at 85%.

As implied earlier, Gx penetration has stagnated in Spain. The Spanish Ministry of Health is now proposing both mandatory prescription by API and pharmacy substitution.

Interestingly, Swiss Gx volume has slightly increased to 22% but that still only represents 19% of value, so prices remain very attractive.

Investment promise of biosimilars

Large companies, such as Teva and Sandoz, report declining US Gx sales and are focusing on biosimilars for growth. See Figure Two for market share by segment.

Traditional Gx are ‘small-molecules’ and called such because they can be synthesized and manufactured at scale by industrial chemists from even smaller organic molecules sourced from fine chemicals manufacturers. Any Active Pharmaceutical Ingredients (API) are structurally and functionally identical to the original product and, as such, clinical trials are not required.

Biologics, on the other hand, are very large molecules – proteins and antibodies – produced by bacteria, yeast or mammalian cells (see Figure Three for the basic background). Aspects such as the precise folding of the protein may differ in subtle and not fully understood or reproducible ways. Each cell line used in production is unique, so product developers must prove clinical safety, efficacy and bioavailability.

Only once firms have demonstrated their product is clinically interchangeable with the original, can they call it ‘bioequivalent.’

The barriers to entry for new products and actual product differentiation help keep prices of biosimilars relatively high. Typically, they are around 30% less expensive than the original product.

The pivot to biosimilars is reflected in European top-line growth of 10.5% in the four years to 2020. By comparison, the compound annual growth rate for small molecules was 2.7% over the same period. The 2021 European biosimilar market – according to IQVIA – was  €8.8bn or 10‒40% of the accessible market under each country’s regulations.

In February 2022, we learnt that Viatris will divest its biosimilars division to long-term ally Indian company Biocon Biologics for up to US$3.34bn in cash and stock, at a 2022 EBITDA multiple of around 16x. Viatris retains exposure to biosimilars through Biocon shares, but its management will focus on investment and R&D execution in other growth areas of technically complex generics.

Big player activities

Vasant Narasimhan, CEO of Novartis, announced a strategic review in October 2021 that could lead to the divestment of its Sandoz division, where sales in 2021 reached US$9.6bn, some 18.7% of the company’s total revenue, with Europe responsible for 55% of the division’s sales. Sandoz is too big for an acquisition by Mylan (now Viatris) or Teva, so a spin-out into a listed vehicle or a PE deal is likely. Sandoz recently acquired ‒ in March 2022 ‒ Coalesce Product Development for its capabilities in inhalation drug delivery devices.

Since the STADA acquisition by Bain and Cinven in 2017/2018, the firm has grown its portfolio substantially:

In 2019 it bought Biopharma’s prescription and consumer healthcare business in Ukraine.

Biopharma represents about 1% of STADA’s total revenues and the war there is reported to be causing monthly losses of €2m. Of note, Russia supplied 14% of STADA’s sales in H1 2021. As of March 2022, its 2021 financial report stated how the impact of the situation cannot be accurately predicted and will depend on the duration and intensity of both the military conflict and the sanctions put in place against the Russian Federation. STADA continues to see no threat to its ability to maintain its operations as a going concern and believes that the Group-wide going concern is not endangered.

Market trends and prospects

Innovative drug companies are continuously searching for innovative ways to extend the effective patent period ‒ through new applications, chiral-specific versions or delivery methods of their API. Barriers to entry have increased and may include the risk of litigation or legal remedies.

Sandoz and Teva, among others, have reported strong price competition and buyer consolidation in the US and some less competitive European markets still have clear room for price/margin declines. However some price cap regulations have caused Gx prices to remain at a higher level than they likely would have otherwise, so further price controls at the most commoditised end of the market wouldn’t be all negative.

At the other end of the spectrum, biosimilars retain such attractive pricing and growth prospects in both the number of target products and volume of sales.

They are clearly a very different market from that for the far more commoditised small molecule sector which requires excellent execution or great scale for success.

Gx volumes are driven by ageing demographics and the number of drugs coming off-patent, both of which are fairly predictable and support long-term planning, and so should lift all boats. That doesn’t guarantee success, however, but it does mean that there are very attractive opportunities to be had in the generics market despite the endless waves of price competition.

Successful investing in generics will require the modelling of individual molecules. It offers low risk and highly predictable growth.