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Paying big to source out R&D as part of corporate transformation
10-11-2010
by Jeffrey Bouley  |  Email the author

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PARIS & PRINCETON, N.J.—The announcement that New Jersey-based contract research organization (CRO) Covance had sealed a deal with French phrama sanofi-aventis for a 10-year, strategic research and development alliance—with estimated payments ranging from approximately $1.2 billion to $2.2 billion—seemed to come out of nowhere for many of us in the media, but some analysts say it wasn't a big surprise.

Moreover, they seem to agree it is good news.

The Barclays analysis of the deal boiled down to: "Covance delivered much-needed good news for investors yesterday with its announcement of a significant R&D relationship with sanofi-aventis. The deal doesn't come as a big surprise since it was disclosed in the spring that an asset transfer was under discussion. The $2.2 billion commitment from sanofi breaks down into two different agreements. Even though the total value might never reach the $2.2 billion watermark, it appears likely to reach $1.8 billion ...We estimate this deal adds roughly $0.13 next year and ramps to more than $0.30 in five years."

"We think this deal reinforces our favorable long-term take on Covance's prospects, as well as our opinion on the direction of the contract research industry," wrote Morningstar analyst Lauren Migliore. "We're keeping our fair value estimate for Covance intact."

Migliore also points that as part of the alliance, Covance will be acquiring two of sanofi's R&D facilities based in Europe for $25 million in cash.

"Sanofi made a take-or-pay commitment to Covance for these sites, totaling about $350 million over the next five years. These sites are expected to be profitable from the onset of the contract period, which helps alleviate our concern that Covance will be worsening its current excess supply problem," Migliore says. "Although the downturn in drug-development spending over the past two years has resulted in overcapacity in the firm's toxicology segment, we think this deal will expand Covance's geographic footprint into these previously underserved European markets. Furthermore, the toxicology commitments contained in the broader service agreement should help boost capacity utilization worldwide, although we expect the deal will probably take at least a year to ramp up."

Covance  spokesperson Michele Helies calls the deal "the largest alliance in history for a CRO" and the two companies say that under the deal, sanofi-aventis will utilize Covance's global R&D portfolio of discovery support, toxicology, chemistry, clinical Phase I-IV, central laboratory and market access services with annual commitments for these services increasing over the next decade. These agreements include a 10-year sole-source relationship for central laboratory services. Covance will acquire chemistry, manufacturing and controls services with the addition of the Porcheville and Alnwick sites, including preformulation, drug formulation, preclinical and early-stage clinical active pharmaceutical ingredient manufacturing, and radiolabeled chemistry.

"We think the French drugmaker's decision to dramatically increase its outsourcing substantiates our belief that the cost benefits, efficiency, and flexibility offered by CROs will result in robust growth for the industry," Morningstar's Migliore adds.

"A key strategy for sanofi-aventis is to transform its R&D model and discover new medicines through the use of novel technologies and innovative partnerships," says Dr. Marc Cluzel, executive vice president for research and development at sanofi-aventis. "This alliance with Covance will help us preserve hundreds of valuable jobs in Porcheville and Alnwick, while driving our R&D efficiency for the benefit of the patients."

Zacks Investment Research
, in an analyst note, points out that Covance derives its revenues from two segments: Early Development and Late-Stage Development.

"While the Early Development segment deals with preclinical toxicology, analytical chemistry, clinical pharmacology services, research products and discovery services, Late-Stage Development caters to central laboratory, phase II-III clinical development and commercialization services," Zacks explains. "The Late-Stage Development segment suffered during the latest reported quarter due to the delay in three large phase III studies, as announced by Covance earlier. Of these, one trial commenced during the reported quarter, one was reduced in size and launched in July while the third is expected to begin enrollment next year. Lower clinical development profitability due to this delay brought operating margin to 21.2 percent … We believe the deal with Sanofi will enable Covance to recoup some of the losses due to delay in some clinical trials mentioned above."

"We look forward to welcoming the world-class scientific talent in Porcheville and Alnwick to Covance, as well as adding state-of-the-art assets and new services to our portfolio," says Joe Herring, Covance's chairman and CEO. "Today's announcement represents another win-win solution to the R&D productivity challenges facing the pharmaceutical industry and provides Covance with a unique source of growth."

"This alliance is a strong signal that the biopharmaceutical industry is increasingly ready to embrace outsourcing as a key component of their R&D transformation—a move that can lower costs, create a more flexible R&D organizational structure, and get new medicines to market faster," Helies notes.

(Any thoughts or comments about this story? I had a few ruminations over at our blog, and I invite you to join in. Just click here.)


 
Code: E10131001

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