The demand for innovation within the industry which came about during the COVID-19 pandemic has also been a driving force behind a number of  smaller, more innovative start-ups' growth, success and subsequent acquisition by larger companies. We will now consider other driving factors behind M&A activity in the pharmaceutical industry.

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What drives M&A in the pharmaceutical industry?
As with any other business, profit-making is central to the business strategy and models of pharmaceutical companies. M&A enables companies to streamline their operations by optimising overlapping workstreams and reducing overhead costs, which can contribute to profit growth. Furthermore, M&A plays a significant role in the overall growth and expansion strategies of pharmaceutical companies. Deals focused on creating new growth platforms through consolidations are common, as they can provide companies with the capital required to fund new drug development by providing access to new revenue streams (4). 

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The ever-increasing costs associated with new drug development, which many pharmaceutical companies can no longer afford, has pushed them to find innovative ways to access funds for research and development. For example, specialty pharmaceutical companies which are new to the market, and often funded by venture capital or private equity firms, are often acquired by larger pharmaceutical companies, thereby enabling these larger companies to access new generation technologies by outsourcing their research and development. The entire drug development cycle is also being reinvented through this approach, as companies increasingly outsource processes that are capital intense and provide lower returns, such as the manufacturing of commercial and clinical trial products, as well as the management of clinical trials. This trend has had a knock-on effect on the supply chain end of the drug development process, as consolidations and M&A activity amongst contract research organisations and contract development and manufacturing organisations follow suit (5). 

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The nature of the challenges faced by pharmaceutical companies is a strong driver of M&A activity. In order to keep up with the rate of expansion of the critical size requirements of the pharmaceutical market segments, pharmaceutical companies were forced to consolidate in order to grow; as such, they could not have achieved this growth on their own. Furthermore, pharmaceutical companies continually need to keep up with advances in medicine, as pharmaceutical drugs derive their value from solving a problem which could not previously be solved, or offering something better than what is currently available in the market, which requires cost-intensive research and development. There is also the challenge of competing with generic and biosimilar products and downward pricing pressure, as well as the challenge of reduced pipeline revenue streams due to the expiry of patents, and evolving regulatory requirements which lead to increased development costs, all of which drives cost-reduction mechanisms that can be achieved with M&A (6). 

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The COVID-19 pandemic has further revolutionised the life sciences industry with the many challenges it has presented. With declining profits amidst the pandemic, executives have been aggressively expanding investments in digital transformation and customer engagement to generate prospects for longer term growth and value creation. The surge of digital health has been in the spotlight in the last two years, which has necessitated the need for the industry to invest and innovate as the demand for digital health services seems here to stay. The up-tick in venture capital funding of innovative start-ups has led to significant growth and success, resulting in an increase in strategic acquisitions.  In 2021 alone, venture capital investment in the life sciences industry reached a staggering $67,9bn worldwide, with almost 3,000 transactions. The upward rate of venture capital funding indicates that these strategic acquisitions are anticipated to continue (7).   

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Despite the large volume of M&A activity that one sees in the pharmaceutical industry, there is a view that such M&A transactions in the pharmaceutical industry do not work optimally, due to the disruption caused by large-scale integrations across organisations, which negatively impacts on research and development productivity (8). There is also the fact that despite the cost-saving which can be achieved with M&A transactions, the complexity involved in executing such large-scale transactions can be very costly. There are also various regulatory hurdles, especially in multi-jurisdictional M&A transactions, which need to be considered and overcome. One of the benefits that the COVID-19 pandemic has presented is the ramping up of digitisation, and regulatory timelines and approaches which have been forced to adapt, leading to renewed consideration of whether these changes should be permanent (9). 

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Despite some of the setbacks that beset M&A transactions in the pharmaceutical industry, dealmakers have found innovative ways of optimising opportunities in order to ensure transactions are closed. While the use of debt to fund M&A transactions has declined, payment using a combination of cash and equities has gained popularity. In 2021, approximately 30 percent of global M&A value has been in shares. This upswing is likely due to steady rises in public equities’ performance and size over the years.

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The South African perspective
The pharmaceutical industry in South Africa is regulated by the South African Health Products Regulatory Authority (SAHPRA), which is the regulatory body that has replaced the Medicines Control Council, and is established by the Medicines and Related Substances Act 101 of 1965. The Pharmacy Act 53 of 1974 also applies to pharmaceutical companies in South Africa.

As mentioned above, evolving regulatory requirements are often one of the major challenges faced by pharmaceutical companies, in terms of the cost and practical implications of complying with such regulations. 

For example, marketing authorisations for products under South African law can take anywhere from 12 to 18 months to obtain from the SAHPRA. In most cases, for companies undergoing re-structuring transactions, there is a need to obtain such marketing authorisations sooner. Under these circumstances, various structuring options are available to achieve the economic benefit derived from the transfer of a pharmaceutical business prior to having obtained the relevant marketing authorisations. For example, a seller and purchaser may conclude an interim licensing arrangement for the continued marketing, sale and distribution of products by the seller of the business which already holds the relevant marketing authorisations for such products, pending receipt of such market authorisations by the purchaser. 

In such instances, parties closing transactions are able to minimise delays which may be caused due to long lead regulatory approvals. In a rapidly evolving industry such as the pharmaceutical industry, time savings such as these are crucial.

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Conclusion
Many factors drive M&A activity in the pharmaceutical space, as companies seek ways to grow and maximise profits. Despite the challenges faced by pharmaceutical companies, M&A transactions present opportunities for companies to find unique ways to adapt their business models in a manner that meets the market needs, whilst at the same time, optimising their operations. The ongoing pressure that COVID-19 has placed on pharmaceutical companies to innovate and provide solutions to long-standing issues in the industry provides additional impetus for dealmakers to make strategic investments. Indeed, if the South African market follows the international trend, we may be headed towards a record-breaking wave of M&A in the industry. There is no doubt, however, that in the years to come, the manner in which the COVID-19 pandemic has shaped the pharmaceutical industry will be a unique feature of its history. 

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Valayathum is a Director and Jansen van Vuuren a Candidate Attorney | Cliffe Dekker Hofmeyr.