Sharath SM report

Strategic analysis of the global pharmaceutical industry

Course: MBA (International)

Module Name: Strategic Management

Module Leader: Claire Devlin

Module Code: MGTMEM008

Student Name: Sharath Hanjura

Student Number: 1269616

Word Count: 3080

Strategic Analysis of the global pharmaceutical industry

TABLE OF CONTENTS

1.0 INTRODUCTION........................................................................................3

2.0 THE ENVIRONMENTAL FORCES AFFECTING THE

PHARMACEUTICAL INDUSTRY.........................................................................3

2.1 THE PESTEL FRAMEWORK.......................................................................4

2.2 ANALYSIS FROM THE PESTEL FRAMEWORK...............................................7

2.3 THE LIMITATIONS OF THE PESTEL FRAMEWORK........................................8

3.0 UNDERSTANDING THE CHANGING BUSINESS ENVIRONMENT OF

THE PHARMACEUTICAL INDUSTRY.................................................................8

3.1 PORTER’S FIVE FORCES FRAMEWORK.......................................................8

3.2 ANALYSIS FROM THE PORTER’S FIVE FORCES FRAMEWORK......................11

3.3 LIMITATIONS OF THE PORTER’S FIVE FORCES FRAMEWORK......................11

3.4 CORE COMPETENCIES.............................................................................11

3.5 LIMITATIONS OF THE CORE COMPETENCY MODEL......................................12

4.0 IMPLICATIONS OF THE CHANGING BUSINESS ENVIRONMENTS ON

THE PHARMACEUTICAL INDUSTRY...............................................................12

4.1 LIMITATIONS OF THE GROWTH SHARE MATRIX..........................................14

5.0 CONCLUSION..........................................................................................14

6.0 BIBLIOGRAPHY......................................................................................16

6.1 BOOKS...................................................................................................16

6.2 JOURNAL ARTICLES.................................................................................16

7.0 APPENDICES..........................................................................................17

7.1 APPENDIX ONE.......................................................................................17

7.2 APPENDIX TWO.......................................................................................18

7.3 APPENDIX THREE....................................................................................19

7.4 Appendix Four.......................................................................................21

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1.0 Introduction

The modern pharmaceutical industry evolved after the discovery of penicillin

during the late nineteenth century. Since then the industry has traveled through

various smooth and rough phases leading to its evolution as today.

The case study looks at the development of ethical pharmaceutical industry and

the various forces affecting it. It also attempts to analyse the discovery,

development, production, distribution and marketing of prescription drugs and

issues of corporate social responsibility pertaining to the pharmaceutical industry.

Finally, the case also looks at the different types of strategies that are followed by

pharmaceutical companies.

So what are the various environmental forces affecting the modern

pharmaceutical industry? To answer this question, the industry is analysed using

the PESTEL framework discussing the various areas of it in great detail.

Secondly, Porter’s five forces are used to understand the changing business

environment of the present day pharmaceutical industry. An attempt is also made

to identify the core competency of the present day pharmaceutical industry using

Prahalad and Hamel’s core competency model.

Finally, the implications of the changing business environment on the

pharmaceutical industry are discussed using the Growth Share Matrix and the

Strategy Clock. The models are critiqued as and when they are used, to

understand the pros and cons lying underneath.

2.0 The Environmental forces affecting the Pharmaceutical Industry

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Dettwiler et al (2006:122) defines environment as “a term used to explain a

number of factors relevant to a firm’s environment which affect the design of the

management system and include the importance of industry – technology level,

environmental risk and change, industry competition – products/services, price

competition, etc”.

Further to this, Johnson et al (2007) refers the outermost layer of any business

environment as the macro environment, which they suggest as indicators of

environmental factors that impact on almost all organisations. They further insist

that the PESTEL framework could be used here, to identify how the present

trends in the Political, Economical, Socio-cultural, Technological, Environmental

and Legal environments might impinge on organisations.

2.1 The PESTEL framework

Johnson et al (2007) opine that the PESTEL framework provides a

comprehensive list of influences on the possible success or failure of particular

strategies. They further put forward the importance of the framework as a tool

which helps managers in analyzing the change in the factors at present and in

the future, drawing out implications for the organisation. Considering the above

suggestions, the PESTEL framework is discussed to identify the main

environmental forces currently affecting the pharmaceutical industry.

The Political Forces

The unusualness of the pharmaceutical industry could be highlighted with it in

many countries being subject to ‘monopsony’. This in other words means that

there is effectively only one large purchaser of the pharmaceutical products in

one single country. This phenomenon has led governments across the world to

focus on pharmaceuticals as politically easy target in their efforts to control rising

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health care expenditures. This has also resulted in many countries introducing

price or reimbursement control systems. The industry was basically exploited

with this phenomenon since the 1980’s, as it lacked public or political support to

resist these changes.

The Economic Forces

Higher end technology solutions have become more and more expensive with

increasing patient expectations. This in many countries has led to unsustainable

situations. Universal coverage systems which are implemented in Spain and the

UK are slow or unable to introduce the latest treatments. While this is true,

insurance funded systems which are implemented in the USA can afford the

latest innovations but are unable to share the benefits with an increasing part of

the population.

In order to cope up with the rising technology prices, government has introduced

a lot of controls. But in countries with supply side controls, negotiating price and

reimbursement approval can take as along as a year. Whereas those with

demand side controls, there are delays in market penetration while negotiating

endorsement by bodies such as the National Institute of Clinical Excellence

(NICE) in the UK.

On the other hand, these controls have also lead to phenomenon called ‘parallel

trade’. For example: the principle of free movement of goods across the single

European market means that distributors are free to source drugs in low price

markets and ship them to high price markets, pocketing the difference. This

parallel trade market accounts for nothing less than 17 percent of pharmacy

sales in the Europe as in 2004.

The Socio-cultural Forces

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Due to the enormous risks involved in the pharmaceutical business, the

companies give very high priority on intellectual property rights and sometimes

fight fiercely for the same. It is only by securing a patent using the intellectual

property rights can the companies defend themselves from imitators and the

value of all the Research and Development activities recouped.

Once any pharmaceutical company obtains intellectual property rights for a drug

and patents it, the race then starts as other companies try to create improved

patentable versions. These are called generic medicines and understandably a

low research and development costs makes them cheap in the market and

compete highly with ethical drugs.

Ageing population has also created a huge amount of pressure on health care

funding systems, since over 65s’ consumer four times as much health care per

head as those below 65.

The Technological Forces

The pharmaceutical industry has long new product lead time, with period from

discovery to marketing authorization typically taking almost 12 years. In the

Research and Development phase, a new chemical entity with desired

characteristics needs to be produced in order to become an effective drug.

During all these phases attrition occurs, as promising agents fail particular

hurdles. Hence, most Research and Development projects never result in a

marketed drug. If the costs of all the projects that do not reach fruition are to be

considered it is evident that pharmaceutical business is of a very high stake.

The ethical pharmaceutical companies’ key contribution to medical progress is

the ability to turn fundamental research findings into innovative treatments that

are widely available and accessible. Companies with consistently high levels of

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Research and Development spending and productivity have become industry

leaders.

The Environmental Forces

Although pharmaceutical companies have contributed significantly towards

increasing the life expectancy of humankind, one problem is that these

companies have the characteristics of what economists describe as a public

good. In other words they are expensive to produce but inexpensive to

reproduce. But, it is not true to assume that all companies have resorted to

greedy profits, although some companies have surely damaged the industry’s

overall reputation. As a result they have resorted to unnecessary degradation of

the whole environment around them.

The Legal Forces

The pharmaceutical industry is subject to rigorous regulatory scrutiny as a result

of which Government agencies such as the Food and Drug Administration (FDA)

in the USA thoroughly examine all the data to support the purity, stability, safety,

efficacy and tolerability of a new agent. The time taken for this process was on

an average 12.5 months as in 2005.

2.2 Analysis from the PESTEL framework

The PESTEL hereby discussed provides an in-depth understanding of the

various environmental forces currently affecting the pharmaceutical industry.

They are elaborately discussed in terms of Political, Economical, Sociocultural,

Technological, Environmental and Legal forces as above. This clearly concludes

that this business is not at all immune to risks which can sometimes be very

huge. Some incidents can harm the company in such a way that it might lead to

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disastrous consequences for its future. However, this does not mean that it is a

business that people should restrain from exploring. Profitability is very high in

this industry provided the strategies taken are precise and that of very low risks.

A very stable Research and Development facility is the key to success of this

industry, and various instances have backed this argument appropriately.

2.3 The limitations of the PESTEL framework

The PESTEL factors are of limited value if they are just seen as a listing of

influences. It is important to identify a number of other forces that are likely to

affect the structure of an industry.

3.0 Understanding the changing business environment of the

pharmaceutical industry

Johnson et al (2007) opine that it is very important to review the different forces

at work in business environment before understanding the strategy that firms’

adopt in the changing business environments. They later on summarise that

Porters five forces model would be a starting point in understanding competitive

forces in the environment.

3.1 Porter’s Five Forces Framework

(Please refer Appendix One)

Porter (2003) comments that the five forces model is the conceptual framework

for understanding the realities and forces of the external environment. He further

concludes that by analyzing their industry through the proposed toolset,

managers could understand their current position, influence the structure

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positively or could define a position where they can uniquely have a competitive

advantage.

Potential Entrants: Threat of entry: MEDIUM

The higher the cost of initial investment, the lesser the threat of potential new

entrants. In the case of bio tech firms, the case study clearly mentions that there

have been a lot of instances of small biotechnology startups increasingly doing

well and showing excellent results. As a result of this by 2005, there were nearly

700 publicly traded biotech companies worldwide. In ethical sectors due to large

research and development costs incurred the threat of new entrants are low.

However, manufacture of generic drugs is a low investment business and thus

the threat of new entrants is high. Hence, overall it could be concluded that the

threat of new entrants in the pharmaceutical industry is medium.

Suppliers: Bargaining Power: LOW

The higher the numbers of companies the suppliers supply their raw materials to,

the higher the bargaining power of suppliers. As it is evident from the case study,

the pharmaceutical companies have huge risks in terms of obtaining intellectual

property and patents. Hence, they have to make sure that they keep the

suppliers at very good confidence levels. But due to the shear size of the

companies they cater to, the suppliers also have huge risks in losing their

customers, without whom the supplier could face disastrous consequences.

Hence, the supplier’s bargaining power is low.

Substitutes: Threat of substitutes: MEDIUM

If a product can be manufactured with the closest specifications by competitors

and penetrate the market easily using the price, then the threat of substitutes is

considered to be high. It is evident from the case studies that until companies

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owns an intellectual property right over any drug and patent it; it is very difficult

for any other companies to manufacture it. At this stage the threat from

substitutes is very low. But, after the patent expires it is easily manufactured by

companies and released as generic drugs. They would also be sold at

comparatively lower prices and will be recommended for first line treatment

option, with patented drugs only used if those fail. At this stage the threat from

substitutes is very high. Hence overall the threat from substitutes is considered to

be medium.

Customers: Bargaining Power: LOW

If the buyers are less and companies selling products are large in number then

the bargaining power of customers is deemed to be high. It is evident from the

case study that the pharmaceutical companies are allowed to release drugs after

undergoing through a tedious process of tests and regulatory procedures set by

governments. Hence, once the drugs are released they are patented and hence

sold by only the owner company giving very less choice for buyers to buy from

other companies. This clearly indicates that there is very little control of

customers over the pricing of drugs and hence the bargaining power of the

customers is low.

Competitors: Competitive Rivalry: HIGH

If there are close substitutes for a product and the buyers are very strong, then

the competitive rivalry in the industry is deemed to be high. It is evident from the

case study that when the patents expire companies throng for exploring generic

drugs and sell them in the market for comparatively lesser price. The present

situation from the case study clearly indicates that the companies manufacturing

generic drugs have managed to make a lot of business and survive with ease in

this industry for long. As there is a rising need for drugs for medications, the

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buyer support is getting increasingly stronger with no dearth for buyers in the

near future whatsoever. Hence it can be assumed that the competitive rivalry in

the pharmaceutical industry is high.

3.2 Analysis from the Porter’s Five Forces Framework

The analysis of the pharmaceutical industry using the Porter’s five forces clearly

indicates that the industry is insulated from the bargaining powers of the

suppliers and the customers. This basically indicates that the historical

accomplishments made by the industry leaders have placed the industry

considerable well compared to other sectors. The industry’s area of concern

would be the extensive competitive rivalry among companies which could lead to

unpredictable levels harming the industry as a result. The threat of entry from

new players and being substituted would not be considered a great threat from

companies who have a long and reputed standing in the industry.

3.3 Limitations of the Porter’s Five Forces Framework

Grundy (2006) points out that, Porters five forces fails to link directly to possible

management action. In the above case, it showed how competitive rivalry is very

much a function of other forces and simplified micro-economics theory into five

major influences. However, it is perceived to be more of an economic jargon from

a practicing manager’s perspective and could be argued that it is over branded.

3.4 Core Competencies

(Please refer Appendix Two)

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Prahalad and Hamel (1990) acclaim that the three tests of core competencies

helps explain why some firms consistently generate more successful products

than others.

The same is tested for identifying the core competencies of the pharmaceutical

industry and it is evident that “Research and Development” was their core

competency. The evidence form the case study is listed below

The pharmaceutical industry is subjected to rigorous regulatory scrutiny

clearing which; it can be used by a wide market.

Of the number of drugs that reach the market, 80% fail to recoup the

Research and Development investment which guarantees its benefits.

Given the enormous risks and considerable investment involved, it is not

surprising that pharmaceutical companies compete fiercely to establish

and retain intellectual property rights, which restricts them from imitation.

It was only after the 1970’s, thanks to the thalidomide tragedy, that tighter

legislation governed the clinical trials giving rise to a tedious and long process of

Research and Development in the pharmaceutical industries.

3.5 Limitations of the core competency model

It is sometimes difficult and debatable to identify the core competency of an

organisation or an industry. In addition to the same, technological advancements

can be a threat for durability of core competency. Finally, only few organizational

competencies actually meet the three tests making it highly debatable.

4.0 Implications of the changing business environments on the

pharmaceutical industry

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Darwin’s theory of evolution which proclaims the “survival of the fittest” concept

holds good in the business world as well. As times changed and globalisaton

emerged the pharmaceutical industry also learnt and changed themselves to fit

the world. An overview of the same, sourced from the case study is as discussed

below:

Blockbuster drugs became the Holy Grail for pharmaceutical companies to

recover their Research and Development costs. When compared the situation in

a Growth Share Matrix as proposed by the Boston Consulting group and recited

by Jhonson et al (2007) (Please see Appendix Three), blockbuster drugs could

be considered as “cash cows”. While all this were being developed, the Research

and Development still remained as a “star”, advertising and promoting the

companies long term growth and reputation. While, blockbuster drugs made

immense contributions to company fortunes, focusing on them exposed an

already high stakes industry to even greater levels of risk.

Pharmaceutical companies were constantly trying to become creative and

efficient. When analysed the situation in a strategy clock (Please refer Appendix

Four) as proposed by Jhonson et al (2007), it could be inferred that the

pharmaceutical companies where trying to adopt the focused differentiation

strategy. They were looking forward to lay organisational competencies like team

working, knowledge management and close relationship with opinion leaders. On

the other hand, they reorganized their Research and Development achievements

and looked forward to outsource the activity to specialists thus insulating

themselves from high risk of testing failures.

Sales and Marketing capability became an increasingly important source of

gaining competitive advantage wherein companies that developed a strong

global franchise with customers were able to maximize return on its in house

products and were in a good position to attract the best in licensing candidates. A

lot of companies launched DTC advertising which enabled customers to identify

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the name of the drugs themselves and ask specifically for it from the pharmacists

increasing their market share considerably.

While the pharmaceutical industry was fragmented in the domestic market, a

consolidation process was on, in the global level. Companies with indifferent

strategic capabilities started merging and acquiring process to combine a

company with a strong pipeline but weak sales and marketing with its converse.

It also introduced a trend for previously diversified conglomerates to divest their

non health care businesses to focus purely on high margin pharmaceuticals.

4.1 Limitations of the Growth Share Matrix

Practical difficulties may arise in relation to what exactly ‘high’ and ‘low’ (growth

and share) can mean when the growth share matrix is used for analysis. In

addition, it does not account for behavioral implications of strategies.

5.0 Conclusion

An analysis of the pharmaceutical industry using various models and tools clearly

indicates that, although the companies have established themselves very well in

the industry they are also at huge risks. It is inevitable that they need to change

their business strategies to the ever changing business environments around

them. The strategies that they adopt cannot be assumed to be immune from the

direct consumers as consumers now are becoming increasingly health

conscious. Nowadays, patients are well informed, demanding and obtaining

information on new products directly themselves using the internet. However,

internet has also given birth to unscrupulous drugs which remain as a challenge

to genuine pharmaceutical companies. Hence, it can be concluded that the

industry now has to concentrate increasingly on scientific creativity, meaningful

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research and development, get a handle on the slippery business and provide its

critics with indisputable evidence of its value.

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6.0 Bibliography

6.1 Books

1. Johnson, Gerry, Scholes, Kevan, Whittington, Richard, (2006), Exploring

Corporate Strategy, Text and Cases, Seventh Enhanced Media Edition,

Prentice Hall, England.

2. Prahalad C. K., Hamel Gary, (1990), The Core Competence of the

Corporation, Harvard Business Review, USA.

6.2 Journal Articles

1. Grundy, Tony (2006), Rethinking and reinventing Michael porter’s five

forces model, Strategic change, pp 213-229.

2. Porter, Michael (2003), Competitive Advantage, HDBM, pp 1-5.

3. Dettwiler, Paul, Lindelof, Peter and Lofsten, Hans (2006), Business

environment and property management issues. A study of growth firms in

Sweden, Journal of Corporate Real Estate, Vol. 8(3), pp. 120-133

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7.0 Appendices

7.1 Appendix One

Porters Five Forces Analysis of the pharmaceutical industry

(Johnson et al, 2007)

Potential entrants: THREAT OF ENTRY

MEDIUM

Substitutes:THREAT OF SUBSTITUTES

MEDIUM

Customers:BARGAINING

POWER

LOW

Suppliers:BARGAINING

POWER

LOW

COMPETITIVE RIVALRY

HIGH

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7.2 Appendix Two

Three tests for identifying the core competency model

Prahalad and Hamel (1990) proposed three tests to identify the core

competencies of an organization. The three tests are listed below

It provides potential access to a wide variety of markets.

It makes a significant contribution to perceived customer benefits from

final products.

It should be hard for competitors to imitate.

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7.3 Appendix Three

The growth share (or BCG) matrix of the pharmaceutical industry


o A STAR is a business unit which has high market share in a growing

market. The business unit may be spending heavily to gain the share, but

the costs are reduced over time and, it is to be hoped, at a rate faster than

that of competitors.

o A QUESTION MARK is a business unit in a growing market, but without a

high market share. It may be necessary to spend heavily to increase

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STARSResearch and Development

QUESTION MARKS

CASH COWSBlockbuster Drugs

DOGS

HIGH LOW

LOW

Market growth

Market share


market share, but if so, it is unlikely that the business unit is achieving

sufficient cost reduction benefits to offset such investments.

o A CASH COW is a business unit with a high market share in a mature

market. Because growth is low and market conditions are more stable, the

need for heavy marketing investment is less. But high relative market

share means that the business unit should be able to maintain unit cost

levels below those of competitors. The cash cow should then be a cash

provider.

o DOGS are business units with a low share in static or declining markets

and are thus the worst of all combinations. They may be a cash drain and

use up a disproportionate amount of company time and resources.

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7.4 Appendix Four

The Strategy Clock


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Perceived product/service benefits

High

Low

LowHigh

Differentiation

FocusedDifferentiation(the pharmaceutical industry)

Hybrid

Low price

‘No frills’ Strategies destined for ultimate future

Price

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7

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Appendix Four (continued)

SL NO STRATEGY NEEDS/RISKS01 No Frills Likely to be segment specific02 Low price Risk of price war and low margins; need to be

cost leader03 Hybrid Low cost base and reinvestment in low price

and differentiation04 Differentiation

(a) without price premium

Perceived added value by user, yielding market share benefits

(b) with price premium Perceive added value to a particular segment, warranting price premium

05 Focused differentiation

Perceived added value to a particular segment, warranting price premium.

06 Increased price/standard value

Higher margins if competitors do not follow; risk of losing market share.

07 Increased price/standard value

Only feasible in monopoly situation

08 Low value/standard price

Loss of market share

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Sharath SM report