2. CMOs can help reduce overall operational risk and time to market. The process of setting up and running a plant is complex and specialized. Slight delays can lead to high opportunity costs in the form of lost sales. Common causes for delays include setbacks in a drug's Phase 3 trials (such as with Synergen's Antril), poor capacity planning, a lack of effective manufacturing experience (as in the case of Immunex's Enbrel), and regulatory issues.

For biologics companies without effective manufacturing experience, contracting with an established CMO can reduce these operational risks and accelerate the time to production. This can be accomplished by leveraging the CMO's experience and skills in setting up plants and navigating through the regulatory system. This also could translate into significant revenue enhancement, by reducing time to market and the risk of not meeting market demand.

3. CMOs can help biologics companies focus on the higher value parts of the value chain. For large biotech companies, which already have sophisticated manufacturing and regulatory capabilities, a CMO can provide a different value proposition compared with that offered to a small biotech. The large companies may have little reason to devote resources to manufacturing processes that are likely to become commoditized and may not represent a differentiating capability. Partnering with a CMO can provide these companies with the flexibility to focus their internal efforts and investment on the pieces of the biotech value chain with the potential to generate greater value.

We believe that although biopharmaceutical companies have led advancements in biologics manufacturing to date, CMOs are well positioned to help solve many of today's difficult production problems.

First, CMOs are likely to increase the rate of manufacturing innovation. Unlike traditional biotech companies, CMOs have many resources dedicated to analyzing manufacturing issues and identifying improvement opportunities. In traditional R&D-focused biotech companies, discovery and development efforts typically overshadow manufacturing improvement initiatives. However, with a CMO, the focus is entirely on manufacturing. With significant incentive to maintain or improve their margins, CMOs continually seek ways to improve setup times, lower costs, and improve yields. Lonza estimates that technology improvements in the next decade will substantially improve yields from 1–2 to 5–10 g/L.⁴

Second, as discussed in more detail later, contract manufacturers do not have the same margin requirements as biopharma companies. R&D-focused biotech companies typically have operated in an environment of high R&D investment, followed by high-margin commercialization activities. Manufacturing biologics on a contract basis generally does not yield the same type of returns, making it difficult for biopharma companies to justify engaging in contract manufacturing. However, a CMO can operate with such margin expectations and be economically viable. The financial model discussed in the next section of this paper helps to further demonstrate this perspective.

Third, we believe that CMOs can provide an attractive alternative to the difficult capital investment problem biotech companies typically face when they need to build manufacturing capabilities for products nearing commercialization. The significant costs required to build a plant, coupled with uncertainty about the product's effectiveness and lack of manufacturing skills and experience, can make the decision to invest in a plant less attractive.

A biopharmaceutical company's use of a CMO can be compared with leasing versus building office space. For example, if XYZ, Inc. wanted to expand its offices, it would look to lease office space rather than build its own building. Leasing would be the logical choice because building office buildings is not XYZ's core competency and does not provide it with a competitive edge. Furthermore, leasing would provide additional flexibility as market environments change.