Gilding Lilly - Pharmaceutical Executive


Gilding Lilly
As the company marches toward its patent cliff, CEO John Lechleiter has a bold new plan to save it. But it's going to take more than ImClone to restore Lilly to its former glory. Does Lechleiter have what it takes?

Pharmaceutical Executive

Remaking R&D

"We have a football coach here, Tony Dungy, who knows what it takes to win games," says Lechleiter. "You don't need trick plays. You don't need to go outside your core of expertise. If you do the fundamentals, you win games. It's the same philosophy I'm preaching at Lilly."

By "fundamentals," Lechleiter means several things, prominent among them is cost control. Continuing with the football talk, Lechleiter describes the Colts' new stadium. With a retractable roof and room for 70,000 fans, it cost almost $800 million to build—about the price of two Phase III studies. And perhaps here is where Lechleiter's approach differs from that of his favorite football team: When he looks at the stadium, he sees a huge, inflexible, fixed-cost asset —the kind of asset he's no longer willing to pay for.

The concept, as Lechleiter sees it, is simple: Use outsourcing to move non-core fixed assets to flexible resources, saving money and time, and working with partners to help speed innovative drugs to market. Lechleiter calls this model the "fully integrated pharmaceutical network"—akin to the "fully integrated pharmaceutical company."

Certainly, the whole industry has been paying lip service to cost-cutting—but Lechleiter has taken Lilly the furthest, says Michael Latwis. Worldwide, Lilly has shed more than 5,500 jobs since 2004, and the company plans to shift up to half the cost of its R&D to outside partners by 2010. Lechleiter says Lilly will continue to get smaller as it outsources more functions to third parties.

Most recently, Lilly created an unprecedented partnership with Covance to help transform Lilly's R&D model. The 10-year, $1.6 billion commitment will shift early drug development duties to Covance. In return, the provider picks up some underutilized infrastructure from Lilly: namely, its 450-acre Greenfield, IN, drug development campus.

"The transaction is the broadest and largest in pharma R&D outsourcing history," says Joe Herring, Covance CEO.

But outsourcing and cutting jobs is easier said than done, particularly for a company like Lilly, which was run by the family of founder Colonel Eli Lilly for three generations, and has long maintained a paternalistic attitude toward its employees. Even during the Great Depression, the company refused to let employees go, and, as the only Big Pharma aside from Merck that hasn't been involved in a large merger, it hasn't had to contend with M&A-related layoffs.

But those days are apparently gone. Outside of R&D, Lilly has outsourced at least 40 percent of its IT; 20 percent of manufacturing, including plant closings in Hamburg and Brussels; shifted nearly 20 percent of its US sales force to contract sales organizations (and hired its first group of fixed duration employees); and outsourced the bulk of employee services such as cafeteria workers, janitors, and security guards.

"This is not a one-off to the business model," says Ron Wooten, president of NovaQuest, the managed partnership division of Quintiles, which has worked closely with Lilly. "It's clearly the way that John wants to do business."

But will outsourcing get Lechleiter where he wants to go?

"They're one of the companies that's been better at reducing head count," says Leerink Swann's Fernandez. "But they have crept up in SG&A spending, which takes out the leverage people thought they had in the model."

Others are more optimistic, noting that Lilly has done the hard part—reducing infrastructure and off-loading risk to partners, a skill refined through its legendary alliance management capabilities. Take, for example, the recent three-way deal with NovaQuest and its partner, the private equity group TPG-Axon Capital, for the Phase III development of two Alzheimer's drugs (a gamma-secretase inhibitor and an A-beta antibody). In this innovative model, TPG-Axon Capital and NovaQuest kick in funding and services to receive milestones and royalties based on the molecules' success.

"On behalf of our shareholders, we're hedging our bets in a very risky disease area," says Lechleiter. "We have no real proof of concept other than biomarkers for these two drugs because of the difficulty of getting an efficacy signal in the smaller Phase II studies."

The company has also created risk-sharing agreements with Jubilant Organosys, Suven, and Nicholas Piramal, which gives it access to Indian markets and talent, early-stage research capabilities, and presumably some generic capability, says Les Fundleyter, healthcare strategist at Miller Tabak.

In all these deals the mantra of moving from fixed to flexible remains the guiding philosophy. "Most interactions are not shifting work for lower cost," says Lechleiter. "We're taking advantage of the intellectual capital in China and India without putting up Lilly brick-and-mortar institutions. You can expect to see a Lilly that is more willing to move into new areas if the opportunity is there."


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