By James J. Shen, President, Wicon International Group

Year-end is approaching quickly again.  Looking back at 2005, the mood is in general a depressing one, and the future looks gloomy and uncertain.  The Chinese pharmaceutical industry and market have never been short of changes and surprises, but it is so disheartening that after more than two decades of healthcare reform in the country we continue to be forced to face the realities in 2005.  The lingering question now is: when is the end and where is future?

Despite the troubling realities, let’s settle down and look at what has been happening in the year of 2005. 

The pharmaceutical market – It is worth cheering at least that the size of the Chinese pharmaceutical market continued to grow at a fast pace, but at lower profitability.  In the first three quarters of 2005, sales of the Chinese pharmaceutical industry was RMB 304,387 million, up by 24.95% compared with the same period in 2004.  In the first ten months of 2005, the total output value of the pharmaceutical industry was RMB 363,800 million, up by 19.1%, but its profitability fell to 8.39% from 8.81% in 2004. 

On the side of pharmaceutical import and export, “prosperous” is the word to describe it.  Total pharmaceutical import and export rose 49.32% in the first three quarters of 2005, reaching US$14.1 billion.  Among the total, export was US$8.07 billion, up by 46.11%, while import was up by 53.82% at US$6.04 billion. 

Healthcare reform – Without any signs of warning, the Development Research Center of the State Council released its research report, “Report on Medical and Health System Reform”, on the hot summer day of July 28.  The report made a shocking conclusion that “while there had been some progress made, China’s healthcare system reform since the adoption of Open Policy exposed more problems, and in general has been unsuccessful.

The Report compared the country’s healthcare system before and after reform, and suggested that the system is now changing towards the “bad” direction with serious flaws in its geographic and population coverage, fairness and efficiency.  It went on to commend the country’s healthcare system before reform and suggested that the former system was relatively more successful, resulting from the government’s leading and dominant role in healthcare.

A recent speech made by Minister of Health Gao Qiang at an internal government conference also supported the conclusions of the Report that the country’s healthcare reform has largely been a failure.

The release of this report and Gao Qiang’s speech clearly signal the Central Government’s changing assessment of China’s healthcare system reform, and the impending revision to the overall direction of China’s healthcare reform.  This anticipated policy shift will have far-reaching impacts on the future of the Chinese healthcare sector and the way how the sector operates.

Price control of pharmaceuticals – under the pressure of the generic public and the People’s Congress, the Central Government once again resorted to price cuts as its last straw to contain sharply rising medical expenditures in China.  After 16 price cuts in recent years, the National Development and Reform Commission (NDRC) decided to slash prices again on 22 major drug products (mostly antibiotics with huge sales) by an average price reduction of around 40%, while the biggest cut is as high as 63%.  The price cuts will soon be expanded to other products, and most drug products are expected to be affected in the near future.  In addition, NDRC plans to expand the coverage of price control to all ethical drugs, and at the same time will introduce a number of other cost-containment measures to curb growing medical expenditures.  In its latest moves, NDRC established a internal department, “Drug Price Evaluation Center”, and announced the development of a new drug pricing regulation, “Provisions for State Price-setting of Drug Products”, which is to be issued in mid-2006.

Without coherent and overall reform to China’s entire healthcare system and financing mechanisms, repeated sharp price cuts on drug products and a variety of cost containment measures have severely undermined the profitability and business prospects of the pharmaceutical industry, damages the motivation and drive for innovation, and even threatens quality of pharmaceutical products in the long run. 

Issues relating to favoritism towards foreign multinationals – local companies strongly opposed the practice of favoritism towards multinational pharmaceutical companies in pricing and hospital drug purchase tenders.  The huge price gap between the products produced by local companies and the same products by multinational companies have caused tremendous embarrassments to NDRC, which was forced to do at least some window-dressing.  The classification of “originator products” in drug pricing and the far higher prices such products can receive from NDRC attracted the sharpest criticisms from local companies.  A few local companies went as far as suing local governments for selecting generic products of multinationals that are priced much higher. 

Enforcement of ethical and OTC drug classification - on a different front, the SFDA announced that it will push forward the classified control system of OTC and prescription drugs as of January 1, 2006.  According to a recent notice of the agency, a wide range of non-OTC drug products will be banned from retail sales without prescription from next year.  The move will significantly influence the way pharmaceutical sales is carried out in China and threatens the survival of many retail pharmacies. 

OTC pharmaceutical market becomes the lifesaver - the size of China’s OTC drug market is estimated to reach US$7.3 billion (RMB 60 billion) for the year of 2005 and the average growth rate of the sector has been over 20% in the past five years, outperforming that of the Chinese pharmaceutical market in general.  What makes it more attractive is the falling profit margin of ethical drug products and the turbulent hospital market environment.  More and more pharmaceutical companies, local or foreign, are pinning their success hope on the OTC drug market, thus spurring a new round of investment and competition in the sector.  OTC drug business has become a dominant source of profits for many major multinationals in China such as Xian Janssen and Tianjin SmithKline Beecham which derive as high as 64% and 80% of their respective total annual revenues from OTC drug businesses. 

A string of multinationals such as Novartis, AstraZeneca, Bayer, Merck and Roche announced plans to expand businesses in this arena.  Local major companies, like Xinhua Pharamceutical Group, are also racing to enter the sector.  Xinhua plans to launch an OTC cold medication with over RMB 40 million investment in 2005.

Merger and acquisitions – this had been a hot issue in the past few years, and the trend continue in 2005.  However, what sets 2005 apart is really the scale of M&A in the Chinese pharmaceutical industry which just got bigger and bigger this year.  Examples range from US buyout firm Warburg Pincus and its partners buying 55% stake in Harbin Pharma US$282 million, to Worldbest (Huayuan) being taken over by Chengtong Group with RMB 5 billion. 

Multinationals explore R&D opportunities in China – with strengthened IP, improvements in regulatory framework, and motivations for cost savings and other factors, multinational pharmaceutical companies have recently found China a unique spot for some types of R&D activities.  A string to multinationals like Eli Lilly, Pfizer, Novartis and Organon have all announced their plans to set up R&D centers in China.  While many of such centers are primarily focused on clinical trials of new drugs, some also conduct basic research in finding new drug leads.  In addition, there is also an increasing trend that multinational as well as some smaller foreign pharmaceutical companies are outsourcing or considering to outsource parts of their R&D through arrangements with China-based CROs and state-owned pharmaceutical research institutions.