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Can innovation trump ideology? Russia faces a stark choice in betting on the visible hand of government in promoting a "world class" biopharmaceutical sector, writes William Looney.
Russia's post-Marxist economy is ailing and is long overdue for a reset — but will the visible hand of government in promoting a "world-class" biopharmaceuticals sector be enough to secure a future where innovation trumps ideology?
Winner, Prix Galien Moscow 2013 "Best Research in Russia award," left to right: Vladimir Lunin, Alexander Sobolev, and Andrey Rosenkranz, for modular nanotransporters.
On the outskirts of Moscow, nestled in a grove of native birch trees, sits a gray, rather functional building whose modest profile belies its ambitions as the crucible for a new Russia—one whose prosperity is built on health, not hydrocarbons. Once the home of a Soviet-era state radio company, it now serves as the headquarters of ChemRar, a consortia of biotech start-ups and R&D venture investment companies, funded through a diverse combination of private capital and public funds, dedicated to a single goal: to develop and commercialize innovative medicines with therapeutic potential for Russia and —ultimately—the global market.
ChemRar is more than just an enterprise. Instead, it is the template for a new business model that merges the private incentive in finding new growth opportunities in a country that has historically underinvested in health, to the public interest in diversifying
Russia's economy away from its reliance on volatile cyclical commodities like oil and gas.
Many business analysts contend the time to change that model is now. The International Monetary Fund [IMF] has real GDP growth slowing to an anemic 1.4 per cent in 2013, accentuated by declining oil revenues, a shrinking population base, and uncompetitive levels of fixed investment. In contrast to most other emerging countries, Russia's share of world output is now falling, not rising.
ChemRar is not the only embodiment of the push for industry diversification. Another, perhaps more prominent example is the Skolkovo Foundation, a non-profit, government-backed technology "incubator" established in 2010 that, among other things, offers tax incentives for biotech start-ups that locate at its state-of-the-art research campus in the Moscow suburbs.
While ChemRar serves primarily as R&D real estate for biopharma start-ups, Skolkovo is one of the big publicly funded institutions established during Dmitry Medvedev's presidency that pursue a much broader range of business and industrial policy objectives. The 200 companies with resident status at Skolkovo benefit from a partnership with the Massachusetts Institute of Technology [MIT], the centerpiece of which is the jointly run Skolkovo Institute for Science and Technology [SkTech]. Beginning this year SkTech will provide basic science, education and entrepreneurial support to Skolkovo resident companies and researchers in five multidisciplinary fields, including biomedicines. All told, some 30,000 workers are now engaged in activities linked to the Skolkovo innovation cluster — the government's dream is that it will someday emerge as an eastern version of California's Silicon Valley.
Clearly, Russia desires a future in the pharma big leagues. IMS Health predicts that Russia, now ranking 11th in market size, at $16.6 billion in annual prescription sales, will rise to 8th by 2017, with $26.6 billion in sales, surpassing the UK, Canada and Spain. Russia's push for prominence in pharmaceuticals reveals a complex mix of positive and negative factors that will take much effort, more years and some luck to deliver the desired outcome: a globally competitive industry, with the grassroots capacity to discover, develop and market drugs with global appeal.
Pharm Exec interviews with key players in the Russian industry highlight four strategic questions that will prove critical to success:
» Will government efforts to advance the "front end" of innovation – through new infrastructure, financing of basic research, and tax incentives – be accompanied by the far more essential "back end" of a fair and transparent investment, regulatory and pricing regime based on international standards?
» Is there political will to ensure that public health gains a higher profile as a strategic driver of Russia's future, where medicines — both patent and generic — are recognized as a key part of service delivery within an adequately financed national health care system?
» Are the market opportunities in Russia sufficient for the top 10 foreign players to establish world-class R&D operations in the country, effectively transferring to Russia the expertise required to access global knowledge networks and fill the local gaps in financial and human capital?
» Can domestic pharma producers build the size and scale to surpass the foreign-based multinationals in Russia and extend that success to international markets, making the transition from copying, distribution and manufacture to an originator of world class innovations?
Predicting the future with accuracy is complicated by the fact that the Russian market is in transition – and has been so ever since the end of the Soviet era in 1990. The legacy of communism still exerts a subtle influence on the domestic industry, which continues to be strong in manufacturing, packaging and other rote tasks suitable for a market characterized by inflexible tendering and static demand. Through the 1990s and well into the last decade, much of the old Soviet system's bench strength in fundamental research was destroyed, replaced by an emphasis on marketing to a middle class forced to purchase medicines out-of-pocket as the government safety net disappeared.
Recent times are characterized by a return to aggressive government involvement in the sector, with a focus on import substitution through localized drug production and the encouragement of cheap generics to address key areas of unmet medical need. Many observers contend the business environment has become politicized, with continued domination of the market by the foreign multinationals, as it has since the collapse of communism. Less than 20 per cent of annual sales of drugs in Russia come from domestic producers; of the top 20 pharma companies in Russia, only one – Pharmstandard – is based in Russia [see table].
Top 20 Pharma Companies By Sales 2012
Predictably, the government has focused on subsidizing physical plant and trophy-like infrastructure rather than repairing the less noticeable gaps in science and human capital created by several decades of political upheaval. "There are numerous disconnects in the pathway from academic science to pre-clinical development and then commercialization. Nothing in Russia today offers a complete way from the laboratory to the practicing clinician," said Alexander Bakhutashvili, lead scientist for the Innovation and Technology Center at the Russian Academy of Sciences
Professor Alexander Sobolev, a fellow researcher at the Academy of Sciences Institute of Gene Biology, agrees, noting the importance of a competitive, grant-based system for funding preclinical studies similar to the U.S. National Institutes of Health [NIH]. In fact, Sobolev, who is also the first recipient of the Prix Galien Best Research in Russia award, attributes this success to a NIH grant he obtained jointly with Duke University scientists on the application of nanotechnology to create potent and effective drug delivery systems that attack cancer cells.
One important development is the evolving national consensus on investing in health. An Executive Order implementing a "2020 Healthcare Development Concept" was signed in May 2012 by Vladimir Putin as the first official act of his new term as President. Long in coming, it is the embodiment of an earlier commitment by Putin in 2005 to make health care a national priority. By 2020, the program commits to stabilizing Russia's declining population at 145 million; raise average life expectancy at birth to 74 years [the current average for men is 63 years, which puts Russia 144th among the 194 WHO member countries]; cut mortality rates in half against the benchmark year 2007; and reduce the rate of smoking and alcohol use by 25 per cent and 9 liters per capita, respectively. More important, it promises to improve the quality and availability of basic health services by increasing national public health care expenditures to nearly $300 billion, or roughly quadruple the level of 2009.
Here, Russia is clearly in a catch up phase, given that total health spending is only six per cent of GDP, compared to the OECD average of nearly 10 per cent. "What is still fundamental about health in Russia is that patients bear most of the cost burden–two thirds of spending is out-of-pocket," notes Anton Artyomov, head of Aston Consulting, a Moscow-based market research, analytics and intelligence firm. "Today, we have a much more commercialized system. What this means in practice is public oversight is sporadic, transactions are not very transparent, it is hard to account for costs, and the quality of care and professionalism outside major urban centers is quite low. "
Is the Health Concept plan on track? Most observers say it's hit or miss. Adds Artyomov, "the focus is always the next budgetary cycle rather than incorporating any long-term perspective. In my view, the government is not interested in health as a social policy priority." This is despite officially sponsored research that has established a direct link between increased mortality and disability since the fall of communism and lower economic growth. In 2007, for example, health system failures affecting the Russian population were estimated to have slashed GDP that year by nearly a fifth – or $270 billion.
Among the issues cited around the plan is sketchy execution due to inter-governmental rivalries and a lack of trained personnel. More important, fiscal constraints caused by the global slump in commodity prices means that health financing has fallen below target; government funds are also being siphoned off for other, largely political purposes.
Another concern is the seeming lack of coordination between the health plan and an equally ambitious program – known as Pharma 2020 – to restructure the provision of pharmaceuticals and build a stronger, internationally competitive Russian industry. "Our view is that the health plan should have preceded any program for pharmaceuticals so that the critical role of medicines in health care could be accentuated and made part of the whole," Vladimir Shipkov, Executive Director of the Association of International Pharmaceutical Manufacturers [AIPM], a key Moscow association representing the innovator segment of the industry, told Pharm Exec. "In fact, the reverse took place, which makes it more challenging to integrate the value our companies provide with the actual provision of care." The potential for added value is clearly there: despite a compound annual growth rate [CAGR] of 21 per cent between 2004 and 2012, drug consumption per capita in Russia is still much lower than in the US and other developed countries.
It is true that Pharma 2020 is more an industrial development plan than a health strategy. Adopted in 2009, it was the first formal government decree to focus on pharmaceuticals. There are two broad objectives:
1. Expand drug provision to cover essential medicines for key current and future unmet health needs; and
2. Reduce the country's dependence on foreign imported drugs by improving the international competitiveness of the Russian industry, particularly through support for new drug innovation.
The Ministry of Industry and Trade was the initial lead but now other branches of government are involved, including the ministries of Health, Economic Development, Education and Science as well as — interestingly — the Federal Anti-Monopoly Service. The program is also unique in having its own budget of approximately $4 billion to fund various projects through the year 2020.
Pharma 2020 envisions an industry overhaul in three phases. The first, which is now underway, is localization of drug manufacturing and development. The goal is to have at least 50 per cent local production by 2020, with a higher 90 per cent target set for 57 medicines deemed essential to public health and are eligible for public reimbursment. Another, less controversial objective is to encourage more international, multi-center clinical trials to be conducted in Russia through streamlined processing and approval under supervision of the Ministry of Health. In Russia, it is mandated for foreign companies to conduct some clinical trials to gain registration, and the government has pledged a target of 14 days in reviewing the protocols for these trials. Some 17 trial centers are being set up and staffed with government funds to facilitate Russian participation.
The Push to Partner
The practical impact of the "go local" edict is that all foreign-based pharma majors that sell in Russia are being pressured to invest in local manufacturing facilities. As recently as 2011, only two such companies actually did manufacture, but the momentum is shifting – six companies [Novo-Nordisk, Takeda/Nycomed, Gedeon-Richter, Sanofi, GSK and Servier] are now producing some drugs locally, while Novartis, Teva and Astra-Zeneca are in the final building phase. Pfizer has taken a slightly different approach, offering a tech transfer for manufacture of its vaccine Prevnar to a local company, Petrovax Pharm.
The government has not been subtle. On government tenders, foreigners who manufacture locally get a 15 per cent price preference. There is confusion as to whether a packaging facility qualifies as local production – the government now says it does not, even though international customs agreements affirm the opposite. In addition, it is proposed that foreigners who do no local manufacturing be barred from local procurement when there are at least two drug alternatives from Russian sources.
And even when foreign companies are supporting the localization drive, they can still face regulatory action against their choice of suppliers and distributors – as Novo Nordisk recently did when the Anti-Monopoly Service imposed a fine on the company for what it claimed was discrimination and a lack of transparency in the awarding of supply contracts. "Expect to see pricing and procurement used as a wedge to push foreign producers to share their production skills and knowledge assets with Russia," says Andrey Novikov, a Partner in EY's Moscow practice. "It is also important to recognize that the policy is designed to help make drugs cheaper for the Russian consumer, to enable the government to support more patients and especially to those who lack any reimbursement assistance."
The second and third phases of the Pharma 2020 program address a more elusive goal: upgrading the innovative capacity of Russian companies. At present, the drug market is heavily biased toward generics, with the focus on non-proprietary INN drugs rather than so-called branded generics. It is estimated that at present less than five per cent of the innovative, patented segment of the market consists of products manufactured locally; the remainder is imported. The government recognizes that the ability to originate new medicines and raise the overall quality of supply will open the door to markets outside Russia, increasing exports and diversifying trade away from a dependence on the commodity boom and bust cycle. So by 2020, Russia wants to grow pharma exports to eight times the volume in 2008 – again, a very tough assignment.
There is much debate within the government on how to accelerate innovation, but the central concern right now is complementing localization with a domestic regime on good manufacturing practices [GMP]. This month, a new GMP rule is scheduled to take effect. It is based on the four relevant GMP Directives in force in the EU, but it is presented mainly as an interpretative document. "Our position is it's a semi-standard, which, while definitely an improvement, still falls short against the best practices embedded in the global GMP rules we find in Europe and the US," contends the AIPM's Shipkov. AIPM also wants assurances that resources will be available, particularly for site inspections. "Execution is critical," he says.
Beyond its regulatory agenda, Pharma 2020 provides seed money for capacity-building through partnerships linking academia, both in Russia and abroad; smaller Russian start-up companies; and the major drug multinationals. Skolkovo and ChemRar are prominent examples. Another, related example is Rusnano, a state-sponsored enterprise formed in 2007 and headed by the former post-communist privatization czar Anatoly Chubais. Its aim is to put Russia at the epicenter of global high-tech innovation by 2020, through selective investments in Russian and foreign companies, principally in the emerging field of nanotechnology – the science of the small – which has significant potential in medicine as a powerful new mechanism for drug discovery and delivery. Like ChemRar, Rusnano has opened a satellite operation in California to tap ideas and obtain access to venture capital.
Ultimately, the success of Pharma 2020 may depend on a factor that extends beyond its own remit: a sustainable system of financing access to medicines for the millions of citizens forced to pay out of pocket and who thus lack the resources to consume more drugs. At present, some 68 per cent of drug sales consist of out-of-pocket purchases at retail pharmacy, with another 20 per cent from hospital tenders; only the remaining 12 per cent are subject to some form of government reimbursement. That category includes coverage for all patients with HIV as well as to designated essential drugs for elderly pensioners. Those with coverage amount to only about 4 million people at present.
The Health Concept 2020 plan calls for the introduction of a national drug insurance program by 2016, but virtually no one believes it will come that soon, particularly as Russia's tax base – along with an expanded social safety net – must adjust to the global decline in commodity prices. The expectation is for a modest piecemeal approach, starting with a series of pilot programs at the regional level. "Industry would benefit from a subsidized drug benefit to increase access to the underserved population and ensure a predictable platform for future growth. The challenge is balancing more access with pricing that incentivizes innovation," Aston Consulting's Artyomov told Pharm Exec. Evidence from other countries also shows how difficult it is to make the transition to international competitiveness from a domestic base characterized by low rates of ROI.
Discussions with a range of industry stakeholders in Russia highlight five key themes that will characterize the investor climate going forward and thus guide a successful strategy geared to this important emerging market. These are:
» Culture counts. Fear of failure is deeply ingrained in the way Russians think about commerce. Risk and loss are not part of the local lexicon; in the US, if, out of a portfolio of 10 investments, three fail, six recoup their costs, while one hits the jackpot, that outcome is seen as a success, whereas in Russia, the entire project would be seen as a setback. This can create spillover effects in the relationship with regulators, who are often reluctant to act beyond their own carefully prescribed comfort zone.
» Understand investor expectations. Capital markets in Russia are at a very early stage of development. Investor sentiments have instead been molded by the quick returns of a commodity-based economy, underwritten by state-owned enterprise; the high up-front risks and long payouts characteristic of biotech and pharma are still a foreign concept to most Russians. In negotiating contracts, care should be taken to balance multiple provisions designed to protect against failure with the incentives that promote success.
» Government leads. Nothing in Russia gets done without the exercise of political will, and the power to do so is centralized in the presidency. Still, there are a few formal channels of communication, one of which is Prime Minister Medvedev's Foreign Investment Advisory Council [FIAC] composed of 48 CEOs from the leading multinationals. Miles White of Abbott, Sanofi's Chris Viehbacher and Joe Jimenez of Novartis currently represent biopharma on the group.
» Navigating the bureaucracy is an acquired skill. Transparency and ethics are improving – interviewees agree that there is less tolerance for corruption – but pharma faces a special challenge in that its issues tend to cross the desks of numerous departments, few of whom work seamlessly together. "We exist outside the box," said one CEO. There is a special challenge communicating with the MOH, which incorporates the important regulatory functions of the US FDA, but is reluctant to engage with pharma because its mission is to promote public health, not business. Companies also note a disconnect between the administration of drug pricing and sourcing rules, which are divided among several government agencies.
» Innovation is a work in progress. Much of the government's financial support for innovation is issued in very small doses, with average grants rarely exceeding the $5 to $15 million range. It will be difficult to put real critical mass behind this investment due to increasing fiscal constraints, as growth in the economy slows. While enforcement of IP has improved since Russia's accession to the WTO, procurement policies and other rules continue to project a bias against patent holders. Data protection only came into force in July 2012; the Russian standard is for six years and though it covers data amassed during the clinical trial period, this can limit the effective period of coverage once a drug is out on the market. Even domestic companies recognize there is more to be done. As Vasily Ignatiev, CEO of R-Pharm, a leading producer of hospital and specialty medicines with global aspirations, told Pharm Exec, "building a successful international presence means we cannot base our regulatory strategies around what is happening locally. We must rise above the Russian standard."
» Foreign drug makers face a reputation deficit. Big Pharma companies have dominated sales in the Russian market since the fall of communism, including most of the products deemed "essential" by the government. There is a widespread perception that foreign companies bought their way into the country, using money to gain access to stakeholders. Today, money can actually buy trouble, and there is great pressure to be more strategic and to find new ways to operate successfully.
Contributing to public health goals is one approach, as Novartis has done in importing to Russia a hypertension management and control program originally developed for Canada in cooperation with two professional medical groups. Launched in the Yaroslavl region in 2011 in the form of an MOU with the regional ministry of health, this program of active patient education in blood pressure control, coupled with guidelines-based clinician monitoring, has enrolled some 40 per cent of the adult population. It posted a 7 per cent improvement in blood pressure control rates during its first year, significantly reducing reliance on costly acute care services in the region. "Our approach focused not on what drugs to use, but the results in terms of new cardiovascular interventions prevented," said Vadim Vlasov, Country President for the Novartis Group.
Over the long-term, many local observers contacted by Pharm Exec stressed the importance of one activity that can raise the positive profile of drug makers in Russia: education. "The greatest advantage of foreign drug makers is their global presence and reach. Good will comes from seeding best practices," says Anton Artyomov. Adds Irina Tyrnova, Director of Business Development for ChemRar, "government and other local stakeholders pay attention when a big Pharma company opens a lab at a Russian university. This is the kind of activity that actually builds reputation."
Ultimately, however, good work must begin at home. Despite the many obstacles, more Russians today are seeking that spark of invention first, in their own country. An example is Quantum Pharmaceuticals, a Moscow-based start-up launched ten years ago dedicated to finding new drug applications from a novel computational molecular modeling platform that reduces the time in obtaining research results. The platform has enabled Quantum to begin testing two compounds: a promising anti-cancer agent that works to inhibit the role of glycolysis in the proliferation of tumor cells; and a possible next generation therapy to limit viral replication in AIDS. Quantum has attracted several foreign academic partners in this work and one of Russia's largest domestic drug-makers, Valenta, purchased a stake in the company.
But Quantum's biggest bet is on the elusive race to develop a treatment for that all-time universal condition: aging. Quantum CEO Peter Fedichev has made this stream of research a personal quest, and the company is readying a paper for peer review that outlines a new approach to investigating aging as a therapeutic destination in itself, where the company's unique scientific insights can be used to develop novel therapies to slow or suppress it first in model organisms and then, hopefully, in humans. "We see aging as the next big thing in pharmaceuticals. More precise target identification through biomarkers is the necessary first step, and our computational platform gives us an interesting and potential lead up," said Maxim Kholin, Quantum's co-founder and Business Development Director.
Yes, Russia is a big country. And its scientists still like to think big too.
William Looney is Pharm Exec's Editor-in-Chief. He can be reached at email@example.com