If The Economy Squeezes CDMOs, They Squeeze You?

By Louis Garguilo, Chief Editor, Outsourced Pharma

I recently heard a tale of outsourcing woe.

It unfolded during the COVID years. But while I believe it’s a narrative at a highly unusual time, it also documents challenges biotechs can face during economic-challenging cycles – most particularly periods of elevated inflation.

The story serves as a cogent reminder of ever-present risks in drug/therapy development and supply-chain outsourcing.

One overall risk is simple and stark:

Long-duration strategies get crunched by inflation. Biotech is in business-relative terms a long-duration strategy.

The Dinner Conversation

To bring this conversation to readers, I need to keep sources and companies unnamed. (You’ll understand why momentarily.) The story-telling is in the voice of the interlocutor – a practiced apostle of outsourcing drug development, and overall champion of CDMOs – with my editing for clarity and brevity.

“I happened to have a CEO stay at my house for a while [in 2022]. He’s a close friend who was over for a visit. He's in the large-molecule space. We spoke at dinner about some of the issues going on with CDMOs. Issues that could basically bankrupt his company.

As you well know, different CDMOs produce different things for different companies. What many CDMOs are doing right now because of supply chain issues, COVID, and the overall economy, is trying to minimize risk more than they have in the past. We understand this.

At the same time, the economy and those risks are also impacting smaller biotechs relying on funding, and moving programs forward as quickly as possible.

CDMOs were agreeing to a scope of work and inserting the start-up into the processing schedule for many months later. The start-time delays are due to issues of all kinds.

But if the biotech, after say a nine-month delay realizes it now has a cash concern, and needs to rework payment or cancel certain orders, even though the CDMO hasn't delivered yet or performed any work, the CDMO wants to collect something like 50% of the fees. For companies with large molecules, you're talking orders for millions of dollars that are impacting both the CDMO and the sponsor.

My CEO friend’s ordeal is going to the courts. He's got three lawsuits involving three different CDMOs.

Not that he doesn't want to pay. He simply doesn't have the cash now … and he doesn’t get any supply to move forward and raise more cash.  

Of course this also affects the CDMOs directly. It affects their planning purposes. They may have hired staff, turned down or delayed other customer projects.

So what this economic downturn has done for our entire industry has really just caused a whole lot of problems for our entire outsourcing ecosystme. It’s become a vicious cycle.

And there are larger challenges out there. Consider the Medicare price negotiation policy. When you look at the drugs that are involved, they're mostly biological and so very expensive, and some of them are from small companies.

These companies now think, the government's going to cap out prices? Our investors will pull their capital out.

That’s going to drive more companies realizing they can’t afford the programs they’ve contracted months out with CDMOs.

So everyone loses. The patients lose, the CDMO loses, the drug sponsors lose.

Does an economy that eventually turns around save us? Not if policies keep going against innovoators, and sponsors and CDMOs can’t come to better resolutions.”

Not The First Time

“I have lived and worked through several downturns; the early 2,000s and then the great recession of 2008-2009.

There will be more downturns. It’s important in drug development to understand they have similarities, and they can also be different.

In the past, what happened is capacity was taken out by mass consolidation of the drug industry. The CDMOs were affected by that as well.

I'm going to quote someone I knew in the venture capital industry during the last downturn.

In terms of small to mid-sized drug sponsor companies, there were three types. I think this is pretty much the same today.

Type A had drugs at phase three and were close to an exit one way or another. They just needed a bit more cash to get across the finish line.

He then skipped to type C. These were the biotechs that didn't have a lot of cash left, and were still far away from the finish line. Many of them just folded, and the professionals and investors moved on.

Back to type B, which is where my company was at the time. We had enough cash to keep going for a while because we had just had a successful investment round, but we were still far away from the exit.

So the decision had to be should we turn our company into a type C, return the cash and more on,  or do we deploy that cash to continue to strive to become a (small) type A with – with just enough runway to potentially pull through the economic downturn.

This investor also noted that during these downturns, even type A sponsors started limiting their operations and cutting programs.

So type Cs were disappearing, type Bs at the least limited their spend – or got bought by a type A pharma. And all this reduced work in cash flow at CDMOs.

The difference today is there does still seem to be sustained investing in biotech. And back then you didn't have this huge biologics/biosimilars/cell-and-and-gene/vaccines markets the last times.

However, there’s also much more competition for all materials and supplies and capacity. So it's an economic challenge, but a very different environment. A balancing act.

Today, many CDMOs are specializing, whether they're doing gene editing or producing vectors or plasmids, or whatever they're doing. They’re trying to hold onto customers, while gaining new ones, and keeping a close reign on capacity and capacity utilization.

They are in a tough spot. But do we have to end up in courts to figure things out?

I hope not. We sponsors and CDMOs should learn from past downturns, and help each other out through future economic and supply-chain disruptions.”