Imagine this: you work three different jobs, earning a combined wage of less than $5 per day, with which you just barely manage to put a roof over your heads and feed your family of four children. Then the unthinkable happens – two of your children come down with one of the many diseases that are easily treated but will inevitably result in death if they are not.
If you are among the millions of poor families living in Africa, Asia, South America and even the mighty United States of America, you may manage to get your child in to see a doctor by spending the meagre savings you have scraped together over the last year, but there will be no way you can afford to buy the medicines the doctor prescribes. In the absence of a welfare net or charity, you are forced to either: buy medicines on the black market; trust in the local witch doctor; or watch your children die.
What most people in this situation are choosing to do is turn to the burgeoning black market where drugs are offered at a fraction of the price they sell for in licensed pharmacies. This represents a huge loss of potential profit for the pharmaceutical industry, which is already under financial pressure as many of its most profitable drug brands come to the end of their patent protection period.
Shades of grey
The high cost of prescription medicines is a problem not just for the individual patient – government health authorities, hospitals, health insurance providers and doctors are all struggling to cope. According to a study by the Kaiser Family Foundation, the rate of growth in spending on prescription drugs in the US is expected to exceed the growth rates for spending on hospital care and other professional services from 2010 through 2019. No wonder the pharmaceutical industry’s profit margins are being closely scrutinised.
The Fortune 500 industry rankings put pharmaceutical manufacturing in the lead as the most profitable industry in the US, ahead of the oil industry from 1995 to 2002. From 2008 to 2011 pharma was still generating profits after tax of 17-19 percent. A major contribution to the industry’s profitability is the availability of patent protection in most countries, which provides a barrier to competition for an average of 11.5 years after a drug has been approved and brought to market.
In Europe and other regions the industry is not able to achieve quite the same juicy margins, largely because of strict price controls. In a study of 170 of the most popular prescription drugs, market analyst firm Decision Resources found that on average they were 40 percent less expensive in Europe than in the US. Many of the lowest prices were found to be for drugs that face generic competition because government bodies such as the UK’s NICE (National Institute for Health and Clinical Excellence) negotiate drug prices on a pay-for-performance basis.
Without regulation on the cost of prescription drugs, however, the market in the US is wide open to exploitation, often from surprising sources. For several years, Americans living in the north of the country have been driving into Canada to fill their prescriptions.
A combination of government price restrictions, lower product liability costs and a relatively lower standard of living in Canada means the prices on branded prescription medicines can be as much as 30 to 60 percent lower than in the US and there is no legal restriction on Canadian pharmacies fulfilling medical prescriptions written by US doctors.
But while these anomalies in cross-border pricing have created a legitimate market opportunity, there is a more dangerous development in the black market trade of medicines within the US. Across the country, stories are emerging of poverty stricken people or drug addicts under doctor’s care for long-term illnesses such as HIV or cancer, who are selling their prescription medicines on the black market to help pay the rent or fund their habit. These are the small players, who, according to one report may be able to get around $250 from the black market gangs for a bottle of pills that is worth more than $1,500. Or they become inadvertent suppliers by allowing the gangs to forge prescriptions for expensive drugs using their Medicaid cards, then fulfilling the prescriptions and handing the drugs over for a cash ‘wage.’
Most of these drugs are going overseas to countries where people have limited access to expensive treatments – and it is big business. In one operation in Yonkers, New York, the Drug Enforcement Administration discovered and seized a cache of 6,500 bottles of pills worth $4.23m. For criminal gangs, the high value of the medicines is incentive enough; but equally, the risks are low. A dealer caught selling $1,000 worth of crack or cocaine could get a jail sentence of up to nine years – for a similar sale of prescription medicines the maximum sentence is just four years. In an attempt to stop the practice, the US Senate recently passed a bill that will move the “criminal diversion of prescription medications and prescriptions” from a class C to a class B felony, for which the maximum prison sentence is eight to 25 years.
But the biggest problem for the manufacturers, the health authorities and the person buying medicines from the black market is one of fakery. An IMAP report into the global pharmaceuticals industry estimated growth for 2010 of 8.3 percent, to a total market size of $875bn. Estimates of the size of the counterfeit drug market range from $75 to $200bn, which means that between eight and 15 percent of all medicines sold worldwide are fakes. In some sub-Saharan African countries the proportion of fakes in the market is closer to fifty.
The problem of counterfeit drugs first grabbed the headlines when fake versions of the erectile dysfunction medicine, Viagra, began to be offered through unlicensed internet sites at less than half its prescription value. Copies of other big brand drugs, for conditions such as osteoporosis, HIV/AIDS, cancer, cholesterol, refux and blood thinning soon followed. Today it is estimated that counterfeit versions of more than 800 pharmaceutical drugs are circulating in markets globally.
What concerns the authorities is the risk to both individual health and disease control across populations, as fake drugs often have substandard or incorrect formulations that can prolong an illness, cause death or create resistance. Roger Bate, the Legatum Fellow in Global Prosperity at the American Enterprise Institute explained recently: “Drugs can kill directly, if they have heavy metal, bacterial, fungal or other contamination. Drugs without active ingredients allow people to die from otherwise treatable infections. And drugs with some active ingredient may accelerate the process of natural selection of more robust microbes to previously effective drugs.” An IPN (International Policy Network) report puts the figure of deaths due to fake tuberculosis and malaria drugs alone at 700,000 per year.
But what concerns many of the people buying these drugs from black market sources is that they have no available or affordable alternatives. “The day the authorities eradicate the [black market for pharmaceuticals] they will be signing our death warrant,” one street trader in Lomé, Togo said recently. In Guinea, the health and public hygiene ministry’s chief of staff agrees: “The authorities are having a tough time fighting [black market medicines] because there is no alternative,” said Mohamed Lamine Yansané. “We could destroy all the products being sold in the markets, but then where would people go for medicines?”
The problem of counterfeit drugs isn’t confined to the developing world: Roche Holdings, maker of the widely used intravenous cancer drug called Avastin, issued a warning in early February that a counterfeit version of the medicine has been found in the US. Apparently the counterfeit vials of the drug do not contain the active ingredient, although tests are still being done to determine the exact chemical constituents that are present. A spokesperson for the company’s Genentech unit has said, “It’s not Avastin. It’s not safe and effective, so it shouldn’t be used.”
Other drugs that have been the subject of counterfeit warnings in the US lately include a fake version of an over-the-counter weight-loss tablet which was found to actually contain a prescription-strength ingredient that has been banned due to concerns over an increased risk of heart attacks. Another product warning was issued in 2010 over a fake version of the influenza drug, Tamiflu. Rather than an anti-viral drug, the counterfeit medication contained an antibiotic.
Nor is the problem of counterfeiting or substandard medical products limited to drugs. Cases of counterfeit medical devices such as contact lenses, condoms, surgical mesh and diagnostic strips used by diabetics have all been uncovered.
In Europe it was recently discovered that over 400,000 women worldwide have been fitted with breast implants containing a silicone gel concoction that contains industrial-grade silicone which may be linked to cancer. The owner of the supplier, Poly Implant Prothese (PIP) faces a jail sentence, while the health authorities in several countries are left with the problem and possibly the bill for replacing the suspect implants.
Meanwhile, in the US a similar story has emerged of a number of New Jersey women who received injections containing bathtub caulking material when they went for buttocks-enhancement procedures. The injected material caused abscesses that had to be surgically removed.
Compared to the scale of the problem in the developing world, that in the West seems deceptively small. The US Food and Drug Administration estimates that less than one percent of drugs on the US market today are counterfeit or substandard. However, that insignificant percentage translates into 40 million prescriptions (one percent of the four billion prescriptions filled in the US each year) being filled with counterfeits. The question is, who is behind this dangerous business?
Back room labs and the internet
According to Peter Pitts, President of the Center for Medicine in the Public Interest, the sale of counterfeit drugs is growing at twice the rate of legitimate pharmaceuticals, and it is lucrative trade. “You can make more money in counterfeit drugs than heroin,” Tom Kubic, CEO of PSI points out, adding, “There’s a major financial incentive for criminals because of the low risk of detection and prosecution.”
Although many African countries have their own home-grown counterfeiters, they are often lone and naive operators that may typically fill capsules with talcum powder and sell them in street markets as penicillin compounds. The majority of fakes on the global market, however, come from more sophisticated operations based in countries with developing pharmaceutical manufacturing capabilities.
Dubbed the ‘pharmerging countries,’ the BRIC nations of Brazil, Russia, India and China are expected to see the fastest pace in pharmaceutical growth over the next few years, according to an IMS health study. China alone is predicted to grow at 25-27 percent, which will make it the world’s third-largest pharmaceutical market by 2013. As they develop their own internal manufacturing capabilities, with less regulation in place than is generally found in the West, these countries are also becoming the largest producers of fake medicines.
The attraction is obvious; the demand for pharmaceutical drugs runs into hundreds of billions of dollars globally, and the returns on low cost production can be vast. For example, it costs $60/kg to buy a Viagra compound in China or India, which, when packaged in 25mg tablets would sell on prescription in the US for up to $200,000. Not surprisingly, the vast profits and low risk involved in the trade are attracting criminal gangs. In a report for the think tank Stimson, Brian Finlay points out that “not only have groups such as the Russian mafia, Colombian drug cartels, Chinese triads and Mexican drug gangs all become heavily involved in producing and trafficking counterfeit drugs over the past decade, but mounting evidence also points to the direct involvement of Hezbollah and al Qaeda.” The involvement of organised crime makes the trade much more sophisticated and much more dangerous to uncover. In a recent talk, Roger Bate referenced many examples of fake drugs and operations discovered in India, but later clarified the possible bias with this comment: “I should stress it probably appears that I’m picking on India; this is only because it’s relatively easy to investigate there without fearing for one’s life – that is not the case in China or Russia, where the counterfeiting problem may be worse.”
Criminal organisations have the advantage of huge resources, international networks and skilled labour. They can move with a speed that often confounds the authorities. Counterfeit versions of the antiviral drug Tamiflu were available on fake internet pharmacy sites, like the one posing as the ‘Canadian Pharmacy,’ within weeks of the WHO declaration of H1N1 as a pandemic. British security software firm, Sophos which intercepted hundreds of millions of fake pharmaceutical adverts and websites during that time, said it was possible to earn an average of $16,000 per day working on one network that operated out of Russia. “But the criminals can be members of more than one affiliate network, and some have boasted of earning more than $100,000 per day,” it said.
The trouble for the authorities is knowing where to start. Some fakes are probably not even that dangerous. They may be out-of-hours runs in established manufacturing facilities, produced by criminals who are keen to generate repeat business and therefore try to maintain quality standards. If they have been produced to correct formulae in hygienic conditions and shipped correctly, they may pose a commercial threat to the pharmaceutical industry but not a health threat to the consumer. Most fakes, however, are produced to incorrect formulae in unhygienic conditions and may contain dangerous contaminates. For the criminal gang, it is not the contents of the package that are important in avoiding detection, it is the package itself. As Roger Bate points out, “…. most counterfeiters are most interested in the packaging – the product must look the part, whether it’s a Louis Vutton purse, a Rolex watch or an antibiotic.”
Without the equipment to test the validity of a drug formulation, customs officials rely on inspections of packaging to detect breaches in security features or trademark. But counterfeiters are now able to fake drug packages so well that experts find it hard to distinguish the copies from the legitimate product. They’re even able to replicate security devices such as holograms only a few months after pharmaceutical companies put these features on their packages.
Some progress is being made. In Mali, a new technology is being introduced that will rapidly and inexpensively analyse medicines for substandard ingredients. The technology, which uses thin wires probes hooked to electrodes, has been available in Europe but at a cost that would be prohibitive for use in Africa where the problem of substandard drugs is at its worst. The first affordable machine has arrived in Mali and will be used to analyse the drugs used in treating the most common problems of diarrhoea, ear infections, heart failure, HIV/AIDS and malaria.
Another innovation recently introduced in Ghana relies on people power. Irrespective of where they buy their medicines, consumers can send the label code by text message from their mobile phone to a verification service. The response, confirming whether the medicine is from a legitimate source and batch should arrive back on their phone within seconds. In other parts of the world, the problem is the movement of drugs through the supply chain. In the US, for example, there are three main and reputable wholesalers who supply the majority of drugs entering that vast market. However, a shadow market has evolved of secondary wholesalers that are willing to purchase drugs at lower cost without question, providing an easy outlet for criminals who want to introduce fake drugs into the supply chain.
Free trade zones can exacerbate the problem of tracing illegal drug shipments. When a shipment enters Europe through a port such as Dubai, for example, local gang members have the opportunity to change product labelling and routing information to fit the requirements of its target market. Open trading within the European Union also allows for easy access, as drugs can be purchased cheaply in some countries, ‘repackaged’ and sold on at higher prices in others.
Side effects of a careless industry
For the pharmaceutical industry, the escalation of this problem couldn’t come at a worse time. In the last five years ending in 2012, 18 of the top 20 best-selling drugs in the world will have lost their patent protection; it is estimated that over $100bn of sales will be lost as a result. The cost of bringing a new drug to the market is estimated to exceed $1bn over a timeline of up to 15 years, and industry observers are worried that there are not enough promising projects in the pipeline.
Still, the industry is careful to deplore the risk to patient health and trust in medicines posed by the trade in counterfeit drugs, rather than the loss of profits, but the reputation it is keen to protect has been under fire from within for some time. A string of product recalls, such as Pfizer’s recent recall of 14 lots of its birth control pill due to inaccurate packaging which may result in unplanned pregnancies, are giving the public little reason to trust the big pharmaceutical companies.
Sometimes the industry’s own manufacturing gaffes make the counterfeiters look attractive. Johnson & Johnson, maker of well-known over-the-counter drugs like Mylanta, Imodium and Tylenol, had not one, but two manufacturing facilities in the US fail FDA inspections in 2010. Then in March 2012 the FDA closed a third plant in Fort Washington, Pennsylvania until Johnson & Johnson can show improvements in its manufacturing procedures. The net effect of a spate of this type of publicity is revealed in a number of recent surveys which show the reputation of the pharmaceuticals industry ranks as low as the tobacco and oil industries with the public.
For investors grown used to a solid stream of dividends from a reliably profitable industry, the outlook may be a bitter pill to swallow.