tackling the essential drug list (edl) challenge: navigating the changes and planning for success

The materials contained in this document are intended to supplement a discussion with L.E.K. Consulting. These perspectives are confidential and will only be meaningful to those in attendance.

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September 3, 2013

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Tackling the Essential Drug List (EDL) Challenge: Navigating the Changes and Planning for Success

CONFIDENTIAL

L.E.K. Consulting is a leading global strategy firm with extensive experience in life sciences

Global Capability

MedTech Experience & Expertise

22 offices worldwide, including 2 in China Founded in 1983 in London; 15 years in China 1000+ consulting professionals; 100+ partners Advised 20% of largest 200 companies globally Highly differentiated from peer consultancies in

analytically driven decision-making

Leading advisor to life sciences companies around the world with over 2,300 engagements; advised the top-5 medical device companies, top-5 biotechs and top-10 pharmas

More than US$120B in transactions in life sciences

Awarded Healthcare Sector Adviser of the Year 2010 by Acquisitions Monthly, Consultant of the Year at the 2011 Health Investor Awards, Management Consultant of the Year 2012 by Independent Healthcare

Other honors include Unquote” British Private Equity Awards Specialist Due Diligence Provider of the Year 2012, City A.M. Professional Services Firm of the Year 2011, The Queen’s Award for Enterprise: International Trade 2007

On the ground capabilities and experiences in China; over 50 projects each year in China life sciences and medical devices

Introduction

1

Chennai

Sao Paulo

Seoul

CONFIDENTIAL

Industry trends and evolution

Policy analysis and response

Growth opportunities analysis

Strategic planning

Therapeutic area diversification

Sector diversification

International expansion

Portfolio planning and strategy

Innovation strategy

Outsourcing strategy

Whitespace opportunities

Shareholder value creation

Target screening & identification- companies

- products

- partners

Bidder screening and identification

Vendor due diligence

Commercial due diligence

Fairness opinion

Litigation support

Negotiation & term sheet support- deal terms analysis

- dynamic valuation tools

Post-merger integration

Market sizing and segmentation

Product evaluation

- attribute testing

- target profile development

- market share assessment

- performance thresholds

- revenue forecasting

- financial modeling (NPV)

- scenario and sensitivity analysis

Competitive positioning

Pricing and reimbursement

Launch planning

Commercialisation options

Sales force optimization

Brand management

Lifecycle management

Global expansion

Corporate strategy Product & franchise strategy Transaction support*

Note: * Transaction types include: M&A; partnerships (discovery, development, commercial); joint ventures; divestitures / spinoffs; and royalty monetization

Performance improvement

- relative cost position

- business processes

- turnarounds

- organization and design

- operational effectiveness

- measurement & incentives

Cost reduction

- overhead / SG&A

- inventory optimisation

- sourcing and procurement

Supply chain management

- role of technology

- planning and execution

- alignment with channels

- globalization

- distribution / cold-chain mgmt

Operational excellence

Our clients call on us to address key strategic issues and deliver value-creating growth

Introduction

2

CONFIDENTIAL

National Essential Drug List (NEDL) is China’s official guide of basic medicine. Last version of NEDL was published in 2009 and was recently updated in 2013 as the “2012 version”

China EDL discussion

Source: NHFPC, L.E.K. analysis

Number of NEDL drugs (2009, 12)

0

100

200

300

400

500

600

Chemicaland biologics

TCM

2012 version

520

Added drugs

213

2009 version

307

Number of drugsEDL: The list of most basic drugs in China

Firstly published in 2009 Updated in 2013 (2012 version EDL)

Each province is allowed to modify list as the

provincial EDL (PEDL)

Purchase menu for grass root health

institutes and guidance for hospitals

All EDL drugs are in national reimbursement

list (Class A or B)

Separate provincial tender for EDL used in grass roots institutes

(e.g. CHCs)

3

CONFIDENTIAL

Antineoplastic and psychiatry are the focus of recent NEDL update while most TAs broadly have added some drugs

Note: * Total number of drugs added varies slightly from previous table due to categorization adjustment; ** The segment is new in 2012 list; ^ Includes analgesic, anti-pyretic, anti-rheumatology, and anti-gout

Source: NHFPC, L.E.K. analysis


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Number of new EDL drugs*(2009, 12)

26 22 21 43 24 24 34 8 9 12 18 5 10 7 7 11 3 4 5 7 10 8 4 1 62012 EDL

4

CONFIDENTIAL

After the 2009 NEDL, each province modified and published their own provincial EDL

2009 2012

Ningxia

Anhui

Fujian

Hubei

HebeiInner

MongoliaShaanxi

Shanxi

Henan

Jilin

Liaoning

Guangxi

Xinjiang

Guangdong

Jiangsu

Jiangxi

Hainan

2010Q3

Source: Provincial Health Bureau, L.E.K. analysis

Q4 H1 H2 H1H1 H2

2011

National Zhejiang

Sichuan

Tibet

Shandong

Yunnan

Shanghai

Chongqing

Qinghai

Guizhou

Gansu

Heilongjiang

Hunan


H2

Beijing

Tianjin

Provincial EDL timeline

Whether and when will the provinces update their new PRDL after the 2012 version NRDL? The guidance from NHFPC is that provinces should not largely modify the list this time

5

CONFIDENTIAL

Many MNCs’ blockbusters are added in 2012 version NEDL although some of them have already been listed in PEDL of a number of provinces

00

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0

5

10

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Number of provinces

Oxaliplatin, Sanofi

(Eloxatin)

Quetiapine, AZ

(Seroquel)

Ipratropium Bromide, BI (Atrovent)

Clopidogrel, Sanofi (Plavix)

Nifedipine slow release,

Bayer (Adalat)

Valsartan, Novartis (Diovan)

Omeprazole, AZ (Losec IV)

Amlodipine, Pfizer

(Norvasc)

Acarbose, Bayer

(Glucobay)

Number of provincial EDL listing among 31 provinces (2013)

Source: IMS, China Licensed Pharmacist, Provincial EDL Tender websites, Provincial Health Bureaus, L.E.K. analysis


2010 Sales (Millions of

RMB)7501,150 4201,8807007501,150 80 170

6

CONFIDENTIAL

China’s pharmaceutical environment poses challenges to EDL drugs


Challenge to EDL

National to-patient price cap

Continuing brand power

Maintain volume in Level 3 and 2

hospitals

Competition in provincial

tender

Cancellation of independent pricing status causes significant price cut of originators

NDRC ceiling price cuts of both generics and originators are expected to continue

But the price cut is only applied to EDL drugs

National to-patient price cap

EDL tender is so challenging in most provinces for MNCplayers, because price is one of the most important factors in EDL scoring system

However, MNC could avoid head-to-head competition with domestics in EDL by participating policy-favored RDLtendering in provinces where OPOs have a separate group

Provincial tender

The mandating of EDL drug usage in hospitals does not automatically mean that MNCs will lose share

But in several provinces that stipulate that drugs on the EDL are not eligible for RDL tendering, MNC EDL drugs do risk their volume in the higher level hospitals

Maintain volume in Level 3 and 2 hospitals

MNCs continue to enjoy strong brand preference in hospitals, and can leverage their brand and the quality associated with the brand to support higher-priced products once they have won tenders and are listed in hospitals

Continuing brand power

Challenges to EDL drugs

Source: L.E.K. interviews and analysis 7

CONFIDENTIAL

Lower price ceilings of independent drugs took place not only for EDL drugs or MNC originators

0

10

20

30

40Percent of price cut

Price cut of independent pricing drugs from 2006-07 period to 2010-13 period

Source: NDRC, NHFPC, L.E.K. analysis

Besides price cut, we identified 42 products, both originator and domestic, have their independent pricing status cancelled. Only 15 of the 42 were on the EDL. But how to prevent future pricing cut?

MNC originators not in NEDLMNC originators in NEDL

Domestic drugs


8

CONFIDENTIAL

The most aggressive independent pricing cuts mainly happened in urology, digestive, cardiovascular, nervous system and blood system therapeutic areas

6889

1010

101116

23

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20

30

40

Percent of price cut

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Average price cut of independent pricing drugs from 2006-07 period to 2010-13 period by therapeutic areas

Note: * Includes analgesic, anti-pyretic, anti-rheumatology, and anti-goutSource: NDRC, NHFPC, L.E.K. analysis


1 9 6 9 4 1 27 4 4 3 1 2 9 2 2 2 2 Number of drugs having price cut

Average price cut

Range of price cut

9

CONFIDENTIAL

Drugs on NEDL appeared to have only slightly higher price cut than non-EDL drugs

Source: NDRC, NHFPC, L.E.K. analysis


1511

24

40

0

10

20

30

40

50

60

EDL drugs Non-EDL drugs


Price cut of independent pricing MNC drugs from 2006-07 period to 2010-13 period

Price cut of mass generic drugs from 2006-07 period to 2010-13 period

2325

58

50

0

10

20

30

40

50

60

Non-EDL drugs


EDL drugs

10

CONFIDENTIAL

Many MNC OPO products maintained their independent pricing status even after getting on the EDL, and increased their share


Note: * Based on sales value and volume within SIPI (Shanghai Institute of Pharmaceutical Industry) sampled Level 3 and 2 hospitals of 22 citiesSource: Shanghai Institute of Pharmaceutical Industry, NDRC, L.E.K. analysis

Examples of MNC drugs in 2009 NEDL

Listed in 2009 NEDL

Independent pricing was canceled

Independent pricing remained

Slight price drop (<10%)

Large price drop (>10%)

Slight price drop (<10%)

Largely price drop (>10%)

Independent pricing status

Hospital purchase price drop

Losec (omeprazole)

capsule, AstraZeneca

Example MNC brand

Market value share within molecule

2009-12*

Price change 2009-12

Zocor (simvastatin)tablet, MSD

Mandibao, (glipizide)

tablet, Pfizer

Rytmonorm(propafenone)tablet, Abbott

(7%)

(43%)

(6%)

(22%)

28% to 1%, decrease by 27

share points

61% to 71%, increase by

10 share points

82% to 90%, increase by 8 share points

48% to 62%, increase by

14 share points

11

CONFIDENTIAL

MNC pharmaceutical companies are much better recognized in China

Very familiar

Recognition of MNC and other pharmaceutical companies(N=220)

2.62.7

4.24.24.44.54.54.6

1.91.9

2.6

3.9

1

2

3

4

5Rating

Zhejiang Huahai

Shenzhen Zhijun

Jiangsu Hansoh

EisaiTakedaYangzijiang

NovartisSanofiAZGSKMSDPfizer

MNCOther companies

Not very familiar

Source: L.E.K. survey and analysis


12

CONFIDENTIAL

Products of MNCs appear to bring higher satisfaction to physicians


Physician’s satisfaction with Losartan products(N=132)

3.1

3.3

3.3

3.3

4.0

3.0

3.0

4.0

3.3

1 2 3 4 5

Unknowndomestic brand

Zhejiang Huahai

Yangzijiang

Chongqing Kerui

Chengdu Hengrui

Sandoz

Unknownimported brand

Beijing Wansheng

MSD (Cozaar)

MNCsDomestic

Very unsatisfied

Very satisfied

3.4

2.5

3.4

3.5

3.0

3.0

5.0

4.0

4.1

1 2 3 4 5

Level 3 hospital Level 2 hospital

Very unsatisfied

Very satisfied


13

CONFIDENTIAL

Historical sales record shows that MNCs have been maintaining or increasing share within Level 3 and Level 2 hospitals even if they entered the majority of PEDLs

0

20

40

60

80

100

11 121009082007

Percent

Glucobay(Bayer,MNC brand)

2 domesticgenerics

0

20

40

60

80

100

2007 08 09 1210 11

Over 50domestic generics

Norvasc(Pfizer,MNC brand)

Percent

Market value share of acarbose brands*(2007-12)

Market value share of amlodipine brands*(2007-12)

Note: * Total sales value within SIPI sampled Level 3 and 2 hospitals of 22 citiesSource: Shanghai Institute of Pharmaceutical Industry, L.E.K. analysis


14

CONFIDENTIAL

Under the status quo of EDL policy and actual implementation, the increasing target of EDL usage may not actually pose major threat to MNCs

Source: Sichuan Health Bureau, NHFPC, L.E.K. analysis


Usage of EDL drugs as % of total pharma spending(2009-12, 13)

2013 national guide target

Level 2 Hospitals:40-50%;

Level 3 hospitals:25-30%

Gap with 2013 target due to not

strictly implemented

Purchase through RDL tenders

Increase due to EDL expansion itself

Local targets during 2009-12

Level 2 Hospitals:30-40%;

Level 3 hospitals:15-20%

Potential increase of EDL drug usage

Possible realistic target

Will there be more strict implementation? Will EDL molecules that access the market through RDL still account for EDL usage? Close monitor is needed for policy trend

15

CONFIDENTIAL

ProvincesTime of announce-ment

Eligible for RDLtender for county level and above hospitals

Quality categorization in bidding of EDL tender

Bidding mechanism of EDL tender

Weight of pricing

Threat to MNC in level 2/3 hospital market

Guang-dong**

Drugs with independent pricing

May 2013 Yes None Comprehensive rating 90%

Drugs withoutindependent pricing

No

Jilin May 2013 Yes None “Two-envelope” for grass root institute tender

N/A

Comprehensive rating for Level 2/3 hospitals

30%

Qinghai July 2013 No Yes “Two-envelope” N/A

After the announcement of the 2012 NEDL, Guangdong, Jilin and Qinghai published their provincial tender rules for EDL drugs


Note: * Besides the official provincial tender rules, some provinces published purchasing rules for the transition period before announcing their official EDL tender rules; ** Guangdong proposed the draft in May 2013 for public review. It was stated to implement in July but has been implemented. For a drug in EDL, there is different policies depending on the drug’s independent pricing statusSource: Provincial drug procurement centres, L.E.K. analysis

Provincial tender rules for EDL drugs published after 2012 NEDL announcement*

The provincial tendering rules are not uniform and need to be looked at one-by-one

Least threatening Most threatening

16

CONFIDENTIAL

Managing For EDL Success


Immediate Short term

Least important

Most important

Initiatives to manage for EDL success

Collect and analyze tender

policy info

Prioritize selective provinces

Prioritize RDL tender

Plan for the shifting volumes

Attend EDL tender if policy is

favorable

Track, anticipate and adapt to regulatory changes


Monitor the CHC opportunity

Identify provinces with favorable policy and participate. If winning EDL tender, focus on the

CHCs with larger potential, explore the business model to tackle CHC markets

Prioritize the initiatives to tackle the EDL challenge will be the key to success

Decide whether or not to go for

PEDL

17

CONFIDENTIAL

Being listed in EDL causes risks to a MNCs’ OPO, yet creates opportunities if the company has capabilities to tackle grass root healthcare market

Source: L.E.K. analysis


MNCs need to review internal capabilities and evaluate potential risks to decide whether or not to come forward to EDL listing

Risks of NEDL/PEDL listing Advantages of NEDL/PEDL listing

Lose tender for a whole province if RDL tender is not eligible for Level 3 and 2 hospitals and the EDL tender policy is not favourable

If one EDL product trades independent pricing status or premium price for EDL listing, it will have less room to defend future price cut pressure

Being an EDL drug can expose a drug to Drug Quality Consistency Evaluation program

There is an opportunity to enter grass root healthcare market if the EDL tender policy is favourable. However, the company needs to have sales and access capability to cover the market

Fulfilling the increasing EDL usage requirement of hospitals may gaining preference of hospitals

Being NEDL drug does not necessarily mean losing independent pricing or much higher price cut

18

CONFIDENTIAL

MNCs need to consider the potential scenarios and internal capabilities to prepare key strategies



Make scenarios of

external factors

Analyze internal

capabilities

Product penetration at different health institute levels within a province

Channel coverage within a province

Independent pricing status

Pricing requirement to win EDL tender

EDL drug usage policy

Tender policy

Scenarios/ parameters

Favor MNCs’ OPOs in EDL/ Not favor Eligible for RDL tender for Level 3 and

2 hospitals

Mild price decrease is able to allow EDL tender win/ Large price decrease is required

Increasingly strict implementation/ The implementation remains unchanged

With independent pricing status/ without independent pricing status/ RDL product

Penetration among Level 3 and 2 hospitals and penetration among grass root health institutes

With access to grass root health institutes/ without channel access to grass root health institutes

Examples of key strategies decisions to make

What if a provincial tender policy is not favorable?

What is the bottom-line pricing if going for EDL tender?

What if a product loses independent pricing?

How to take the share if competing MNCs’ molecules loses tender?

The policy movements are relatively unpredictable. However, MNCs can use analytical tools to prepare key strategic decisions before the challenges or opportunities present themselves

19

CONFIDENTIAL

With prepared strategies and mostly updated information, MNCs can decide the actions based on the situation



Situation examples Actions

Current penetration is still low in Level 3 and 2 hospitals. Little presence in grass roots healthcare institutes

Tender policy in the province does not favor EDL drugs and RDL tender is not eligible for EDL drugs

Competing MNC molecule is in EDL

MNC drug is in RDL with

competing molecule in

EDL

Increase sales capability in the province to take share from competing EDL drug in Level 3 and 2 hospitals if the competitor loses tender

Not go for PEDL listing due to lack of capability in grass root healthcare market

Mature product in Level 3 and 2 hospitals. Mostly used for inpatients

Eligible for RDL tender for Level 3 and 2 hospitals

MNC drug in EDL with favorable

policy

Use RDL tender to access Level 3 and 2 hospital market

Not go for EDL tender to maintain price level

Mature product in Level 3 and 2 hospitals. Oral drug for outpatient use

Not eligible for RDL tender and harsh EDL tender rules, highly likely to lose tender for the whole province

MNC drug in EDL with

harsh policy

Deemphasize the provincial market by shifting the sales capability to other markets

Continue marketing activities to maintain the branding image within the market to prepare for the potential next round tender

20

CONFIDENTIAL21

We are happy to further discuss market access, pricing and commercial issues to support your life sciences strategy and strategy activation


Examples of published insights on life sciences (2013)

Tackling China’s EDL Challenge: Navigating the Changes and Planning for Success, PharmAsia Newsletter

Expanding in China MedTech Market: Where To Go From Here, In Vivo

Customer Excellence: Business Model Innovation for MedTechs

Investing in Health, EuroBiz

Looking After China’s Elderly, China Business Review

Hospitals Adopt New Strategies to Boost Profitability, but Still Face Deep Challenges: A New Imperative for MedTech

Biopharma & Life Sciences Outlook 2013

Please email us at [email protected] to receive these articles, or Go to our website directly

www.lek.com/China_Publicationswww.lek.com/medtechwww.lek.com/life-sciences

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