About the Strategic Intelligence Team 3
Scope of the report 5
Definition of outsourcing 5
Format of the report 5

CHAPTER 1 DRIVING FACTORS OF DRUG DISCOVERY OUTSOURCING 13
The pharma industry is facing an unprecedented number of challenges 13
Is the pharma industry's R&D productivity in decline? 14
R&D investment has been increasing, but the number of NMEs approved has been falling over the past decade 14
Increasing drug development costs are leading to lower returns for companies 17
Companies are shifting towards a "networked pharma model" 18
Product in-licensing and co-development deals are helping to boost major companies' R&D productivity 19
Outsourcing provides an opportunity to drive productivity and efficiencies across a variety of business functions 21
There are a number of steps within drug discovery that can be outsourced 24
Drug discovery outsourcing provides an opportunity for companies to boost long-term R&D productivity 25
Key advatages and benefits of drug discovery outsourcing 27
Outsourcing offers a number of financial advantages 27
Outsourcing can help shorten the drug discovery stage 29
Access to additional drug discovery expertise and technologies 29
Focus on core competencies 30
Flexibility is another advantage 31
Key disadvantages and risks of drug discovery outsourcing 31
Outsourcing is not without its own costs 32
The level of returns on compounds generated through outsourcing agreements tend to be lower than in-house 33
Reduced opportunity to develop internal expertise 34
Some companies are concerned about the loss of control 34
Confidentiality of proprietary information is of the utmost importance 35

CHAPTER 2 OPTIMIZING DRUG DISCOVERY OUTSOURCING STRATEGIES 37
Introduction 37
The wider issues that need to be considered when outsourcing drug discovery functions 37
Adopting a holistic approach to outsourcing can be useful to identify additional external opportunities 38
Case Study: Novartis's recently formed Strategic External Resourcing Group provides an opportunity for a more cohesive outsourcing strategy 38
Pharma and biotech companies use outsourcing either tactically or strategically 38
Traditionally, companies have used outsourcing of drug discovery functions as a tactical tool 39
Strategic use of outsourcing can provide additional benefits 39
Case study: GSK adopts a strategic model to outsourcing by creating a Center of Excellence for External Drug Discovery 40
The type of outsourcing agreement that is suitable varies between projects 41
Full-Time Equivalent agreements are more suitable for longer-term agreements 41
Agreements associated with high risk should have a more collaborative nature 42
Maximizing value realization 44
Some degree of autonomy must be left with those involved in forging external alliances 45
It is important to involve relevant scientists to optimize an outsourcing strategy in practice 45
Case study: AstraZeneca has dedicated drug discovery alliance teams in therapy area departments 46
Case study: Eli Lilly has a Research Acquisition Group devoted to evaluating external alliance opportunities 46
Companies should use a robust screening process to identify a suitable outsourcing partner 46
Companies tend to use preferred vendors where possible 47
Companies should use at least a three-step filtering process 48
Potential vendors need to be filtered against a good, realistic set of selection criteria 49
Contractual terms that are satisfactory to both parties need to be negotiated 55
Objectives and goals of the agreement need to be clear from the outset 56
The degree of customer control is dictated by the contract 57
Effective management of a relationship with a service provider is key to successful outsourcing 58
The customer needs to devote resources to managing an outsourcing contract 58
Strong, open communication is a fundamental element 59
There should be a degree of flexibility in managing the relationship 59
Both parties should view the agreement as a partnership 60
Companies should make plans to manage disputes 60
Case study: Merck & Co.'s approach to managing external chemistry collaborations 61
Monitoring the relationship is a key tool for quality control 61
Companies should conduct regular and irregular assessments 61
Companies should base periodic assessments on performance metrics 62
Greater benefits can be realized when performance metrics are used well 62

CHAPTER 3 OFFSHORING DRUG DISCOVERY FUNCTIONS TO EMERGING COUNTRIES 64
Introduction 64
Further integration of global outsourcing is an opportunity for companies to realize greater value 64
There are some key factors that companies need to consider before outsourcing to emerging countries 67
Companies should adapt their implementation approach when outsourcing to emerging markets 68
Case study: Wyeth takes a strong management role in its deal with GVK-Biosciences 69
Benchmarking the suitability of key countries for outsourcing drug discovery functions 69
Western service providers cannot compete with service providers in emerging countries on cost 70
Intellectual property protection remains weak, but is improving in India, China and the Russian Federation 71
Drug discovery capabilities are strongest in chemistry and weakest in biotechnology in emerging countries 72
Country profiles 73
India 73
Datamonitor's recommendations 75
Intellectual property protection 77
Scientific and technical drug discovery capabilities 78
Logistical factors 80
Foreign companies' drug discovery outsourcing activity in India 81
China 82
Datamonitor's recommendations 84
Intellectual property protection 86
Scientific and technical drug discovery capabilities 86
Logistical factors 88
Foreign companies' drug discovery outsourcing activity in China 88
The Russian Federation 91
Datamonitor's recommendations 93
Intellectual property protection 94
Scientific and technical drug discovery capability 94
Logistical factors 95
Foreign companies' drug discovery outsourcing activity in the Russian Federation 96

CHAPTER 4: BIBLIOGRAPHY 98
References 98
Conference Literature 98
Publications and online articles 99
Sources 100
Conference Literature 100
Articles 101
Useful online resources 102
APPENDIX: SUPPORTING DATA 103
Glossary of terms 103
Methodology 104
Exchange rate 105

List of Tables 
Table 1: Number of FTEs in Johnson & Johnson Pharmaceutical Research & Development division 66
Table 2: Median gross weekly wage in the private sector in India, China and the Russian Federation is a small fraction of the cost in Germany and other Western countries 71
Table 3: Key drug discovery outsourcing deals involving Indian service providers since August 2004 81
Table 4: Key drug discovery outsourcing deals involving Chinese service providers since August 2004 89
Table 5: Key drug discovery outsourcing deals involving Russian service providers since August 2004 96
Table 6: Exchange rates* 105

List of Figures 
Figure 1: R&D expenditure has increased substantially, however, NCEs approvals by the FDA have decreased 15
Figure 2: There has been a decline in the number of approval filings submitted for both new molecular entities as well as biologics in the US 17
Figure 3: Companies are increasingly using a 'networked pharma' operating model to improve productivity and drive efficiencies 19
Figure 4: The leading 55 pharmaceutical companies are becoming more dependent on in-licensed products to generate prescription drug sales 20
Figure 5: Secondary core and non-core functions are suitable areas for pharma and biotech companies to outsource 22
Figure 6: Drug discovery costs are estimated to account for around 25-35% of the total R&D costs of developing a drug 23
Figure 7: Four main steps in small molecule drug discovery 24
Figure 8: Key risks and benefits of outsourcing drug discovery functions 26
Figure 9: The greater role a customer plays in a drug discovery agreement with a third party, the greater resources the customer needs to dedicate to manage the complexities 43
Figure 10: Process of identifying outsourcing partners 47
Figure 11: Examples of key parameters companies should use in their detailed assessment of and proposal stage with potential vendors 50
Figure 12: Further integration of global outsourcing of drug discovery functions in a company's business model provides an opportunity for companies to realize greater value 65
Figure 13: Western countries offer a more secure environment and a wider range of drug discovery services than emerging countries, but they cannot compete with their low cost base 70
Figure 14: Key indicators for outsourcing drug discovery functions in India 74
Figure 15: Ranbaxy has increased its R&D expenditure as a proportion of sales over the past three years, highlighting its moves towards developing new innovative prescription drugs. 79
Figure 16: Key indicators for outsourcing drug discovery functions in China 83
Figure 17: The annual growth rate of scientific researchers' salaries in China has increased from 13.2% between 1998 and 1999 to 18.5% for 2001-02 84
Figure 18: Key indicators for outsourcing drug discovery functions in the Russian Federation 92