China’s Biotechnology Sector Shows Great Promise

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China’s Biotechnology Sector Shows Great Promise

As featured in the Economist

Buoyed by rising healthcare spending, China’s biotechnology sector is
hotting up. Although still low compared with OECD countries, China’s
healthcare spending has exceeded its GDP growth rate since 2001. The
outlay is partly prompted by the government’s recognition of the
opportunity to drive the sector into a leading position
internationally, and partly by its need to proactively combat SARS,
bird flu, HIV/AIDS and other potential epidemics.

Official figures show government spending on biotechnology reached US
$325m in 2004, but some analysts estimate China’s current funding
initiatives to be in excess of US$600m. “If the trend continues,
[China’s biotechnology spending] will catch up to us in 2009 or 2010,”
says Janez Potocnik, the EU’s commissioner for research. China is home
to more than 20 biotechnology parks and approximately 300
biotechnology companies focusing on cures for human diseases. There
are over 150 experimental drugs in clinical trials. But perhaps the
most eye-catching news has been the licence granted SiBiono GeneTech,
a Shenzhen company, in 2003 for a gene-therapy medication—the world’s
first such licence.

Affordable innovation
Until recently Chinese biotechnology companies focused largely on
generic manufacturing. But now the focus is on innovation. And the
name of the game is affordable innovation. Lower costs in China
motivated Eli Lilly to open a research centre near Shanghai operated
by a separate Chinese company, ChemExplorer. In the co-operative plan,
Lilly provides funding and technical support, while ChemExplorer
organises staff to implement pharmaceuticals research focused mainly
on neuropathy, diabetes and cancer. Lilly claims it is saving 40% on
the cost of basic research. Wang Hongguang, director-general of the
China National Center for Biotechnology Development, believes the cost
of conducting biomedical research in China is about 20% of that in the
West because Chinese scientists’ salaries are 10% of their Western
counterparts. Pre-clinical and clinical trials are also much less
expensive. Mr Wang claims the cost of bringing a new drug to market in
China could be as little as US$5.9m, compared with the more than US
$800m some Western drug companies claim.

At the same time as leveraging low costs, Chinese biotechnology
companies continue to move up the value chain, thanks in part to many
overseas-trained Chinese, who are returning to start businesses or
take up managerial positions. “There is a culture of
entrepreneurialism, a culture of risk taking here that doesn’t exist
in a lot of other East Asian countries,” says Matthew Chervenak,
president and founder of General Biologic, a Shanghai-based
pharmaceutical research and consulting firm. “The sheer number of
graduates and recent returnees provides a mix that is hard to match
elsewhere.”

But despite the government backing, the biotechnology industry faces
growth constraints. For one, Chinese banks are still reluctant to lend
to private companies, and the local venture-capital market is
underdeveloped. Attracting foreign investment is even more of a
challenge because investors are wary of China’s woeful record in
intellectual-property (IP) protection and the lack of viable exits out
of the market. A partner in a New York biotechnology-focused venture
capital firm says: “The reason that we would not invest in China is
because ... at the end of the day, the Chinese will find a way to make
the same drug more cheaply, without having to deal with paying any
royalties to the innovator.” There have, of course, been exceptions,
such as Invitrogen’s purchase of BioAsia in 2004 for US$8m, and Qiagen
of the Netherlands’ acquisition of Shenzhen PG Biotechnology for US
$14.5m in October 2005—but these are few and far between.

Flexible strategies
Biotechnology firms in China have to adopt flexible strategies to
succeed in such an environment. Take the case of Bio-Cubed Corp, a pre-
clinical contract research organisation headquartered in California
with laboratory facilities in Shanghai. Keting Chu, the company’s
chairman and CEO, says three characteristics of Bio-Cubed’s operations
reassure global clients when they entrust it with their IP. The most
important is to have good references from past customers: “The studies
you have carried out [in China] for others are definitely the best
evidence of how you have done,” she says. Second, Bio-Cubed has found
it easier to make inroads with foreign customers by hiring its key
managers and technical experts from the pool of overseas Chinese in
the US. These employees were educated in American schools and have
worked extensively in US firms. Ms Chu, herself an overseas Chinese
with more than ten years of management experience in prominent US
companies—including Chiron Corp—explains that such hires are more
easily trusted by the company’s US and European clients. Last, she
emphasises that Bio-Cubed has gone to great lengths to be extra
sensitive to clients’ IP concerns. “Some clients want their own
scientists on site to monitor experiments or want experiments arranged
according to their time schedules,” she says.

Winning the trust of foreign venture-capital firms, however, was more
difficult. Ms Chu courted a number of foreign investors when the
company opened in 2004, but like many biotechnology entrepreneurs, she
was unable to close a deal. Yet numerous associates warned her not to
take Chinese government money. That is because the government seems
only interested in funding to set up new biotechnology businesses, but
unwilling to provide further support needed to make the companies
successful. When a fledgling biotechnology firm then approaches
outside investors, it finds that they are reluctant to fund a business
that the government still owns a significant part of. “Investing in a
partly government owned company makes it too difficult for them to
exit,” says Ms Chu. In the end, her start-up capital came from a
network of friend and family investors.

Still, for many companies, the government remains the only available
source of capital. The upsides are that the capital cost is relatively
low and that the government is not as concerned as private investors
are about maximising returns. One company that has taken off with
official funding is Guangzhou Ascend Biotechnology, which produces
products that allow pathologists to diagnose cancer and tumours. Brad
Lee, the company’s Beijing-born CEO and vice-chairman, explains that
the Guangzhou government was not hesitant to establish Guangzhou
Ascend as “a collaborative enterprise”—a non-joint-venture undertaking
with foreign partners in which the government, despite providing the
majority share of the start-up capital, will share the profit in a
manner that is more favourable to the foreigners in the enterprise.

Local mission
The government agreed to this because Guangzhou Ascend’s mission is to
locally produce the diagnostic products. “Basically the
immunohistochemistry market is completely dominated by imported
products,” says Mr Lee. “There is a great need to have a local product
that yields a solution tailored for the Chinese market at
significantly lower prices so that hospitals can afford to use it in
greater volumes.” Guangzhou Ascend has licensed proprietary products
from American biotechnology companies, such as California-based
Epitomics, and plans to commercialise them for China’s domestic
market.

Mr Lee recognises that if Guangzhou Ascend is successful, copycat
companies will quickly appear. He aims to stay ahead by utilising his
connections with Chinese and American partners to rapidly develop and
commercialise new products for the market. As for the piracy issue,
because immunohistochemistry products are sold to a relatively narrow
group of customers, he is certain that he could quickly find out and
take action on any competitors illegally reproducing proprietary
products owned or licensed by Guangzhou Ascend.

Indeed, such niche strategies may be the best way forward for
entrepreneurs like Mr Lee and Ms Chu in the short-term. Problems with
intellectual-property protection and funding will continue to weigh on
the Chinese biotechnology sector before the situation improves. In the
longer term, however, the market could surge, especially if regulatory
reform allowed investors to cash out more easily in the local or
foreign markets. Given the growth potential of the country’s
healthcare sector and cost advantages enjoyed by its biotechnology
firms, General Biologic’s Mr Chervenak has no doubt that “over the
next ten years, there will be an explosion of innovation in China.”