Celgene – The Business of Performing Miracles

The business model for biotech is simple: discover and develop therapies and sell them at high-enough margins to justify the costs until the patent expires. The larger the unmet need and the more effective the therapy, the more value is created. Biotech is all about finding the next breakthrough – it is in the business of performing miracles.

Biology is a strict headmaster: you don’t get an ‘A’ for effort; you don’t get any partial credit; you can’t rapidly iterate on prototypes to optimize on customer feedback; you also can’t just create a product category through magic of marketing. The design process is bounded by laws of biochemistry. Yet, innovation is still possible – it is critical.

Outsourcing Innovation

Celgene is a furious business development machine with an army of early-stage company partnerships[1]– many of them university spin-outs. The funny thing about academic research, though, is that 90% won’t ever be commercialized. Further, Celgene abdicates control of its own innovation process. So why do this?

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Traditional R&D is burdened with budgeting, strategic planning, and internal politicking. Most of the innovation centers around the cautiously tried-and-true. Billions are spent each year but yield few breakthrough ideas. By removing the constraints of commercialization and corporate structure, academic researchers can focus on the fundamental science, allowing them to test the boundaries of scientific understanding. Many ideas fail, but survivors are truly out-of-the-box. The most promising ones are spun out into companies.

Celgene’s partnership model taps into this well-established institution of design thinking while limiting costly but variably-effective internal R&D.

In contrast, pharma companies in the early-2000s (e.g. Wyeth) worked backwards and set aggressive targets for their innovation goals. They hoped that by screening large numbers of developmental ideas, a small number of blockbuster drugs would tumble out. A more modern example is Regeneron’s genomic center and Velocimmune. The verdict is out on whether this works.

Selling a Cure

When selling to hospitals, the patient is rarely the payer and the physician makes decisions but rarely holds the purse strings. In this odd ecosystem, outcomes and KOL advocacy are key. Outcomes stem from scientific breakthroughs, which have been vetted by leading minds at top universities. Beyond the clinical outcomes and data, adoption in the medical community is predicated on KOL advocacy. Award-winning professors and prominent practitioners at research hospitals are the ministers in the church of medicine. They are often also the principal investigators and advisors to university spin-outs. Thus, by partnering with these early-stage companies, Celgene strategically aligns itself with KOLs – as long as the therapy is effective, adoption will follow. Further, as products diffuse, more clinical data is gathered, more KOLs get on board, and more physicians follow, creating a virtuous cycle of kicking ass and taking names.

Manufacturing Cash Flow

Celgene actively outsources its manufacturing – again ceding control of its operations to a third-party. But is this justified? Definitely maybe. In the end, the main value proposition in biotech is revolutionary science. Building a manufacturing facility requires a silly amount of capex. Managing manufacturing operations is also ridiculously complex. Outsourcing shifts risks and increases scalability: (a) fluctuation in input prices are borne by the contractor; (b) if demand decreases, variable costs to contractor move directionally; (c) if demand increases, capacity can be expanded by leveraging multiple contractors. The contract manufacturers also bear the responsibility and costs of improving their manufacturing processes.

By outsourcing manufacturing, Celgene can focus on its primary goal of innovating breakthrough therapies and still optimize its production costs. The caveat to this are cellular therapies and immunology. Personalized therapies currently require a much higher level of involvement throughout care of the patient. But this will eventually change as well.

In the business of performing miracles, Celgene demonstrates that miracles don’t happen by chance.

[1] Common partnership models include milestone payments in exchange for in-licensing, international rights, or percentage ownership.

Sources:
Investor presentations, company presentations, SEC filings, broker research, employee interviews.