Biosimilars are a relatively new phenomenon that has been gradually gaining momentum. Though the pace of adoption had been slow in the U.S., we believe it will now likely accelerate over the coming three to five years, causing revenues to triple. We expect this to be a headwind for industry revenues because it will introduce competition and price erosion for some of the largest blockbuster drugs. That said, if the advancement of biosimilars significantly absorbs the pressure surrounding drug price reform, it would be a relatively favorable outcome for the industry compared to more severe alternatives.

What Are Biosimilars?

Biologic drugs are distinct from conventional "small molecule drugs" because they are significantly larger and more complex molecules. They are too complex to be manufactured using conventional chemistry; rather, they are manufactured or grown using biologic processes. They are often developed for oncology or immune disorders. Biologics represent a small number of approved drugs (about 2%), but are often very expensive (collectively representing over 35% of total U.S. pharma spending) and are among the highest revenue generating drugs.

Simply put, biosimilars are the "generic" versions of biologic drugs (in this context, the original biologic drug is often referred to as the "innovator" or "reference" drug), though various important differences exist between biosimilars and generic drugs. While the active ingredients of generic drug molecules are identical to those of the original small molecule drug, biosimilar molecules are highly similar to those of the reference drug but not structurally identical. For this reason, the biosimilar approval process requires clinical trials to prove efficacy and safety, which can take years and cost over $100 million. In contrast, development costs for a generic small molecule drugs are often only a few million dollars. Moreover, each biosimilar for a reference product requires its own separate clinical trial and U.S. Food and Drug Administration (FDA) review to establish its safety, purity, and potency as part of its abbreviated biologics license application. Given higher development costs, higher risks, and higher barriers to entry, biosimilars are priced with much smaller discounts to their reference drugs than generic drugs. This, in turn, provides significant earnings potential for successful biosimilars.

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U.S. Biosimilar Adoption Lags Other Countries

The Biologics Price Competition and Innovation Act (BPCIA), put into law in 2010, was designed to reduce prices for biologics in the U.S. by lowering development costs for biosimilars and attracting competition into the market for biologics. To date, the BPCIA has failed to achieve its ambitious aims, achieving only 9% of the Congressional Budget Office's projected $10 billion in cost savings over the past 10 years. In fact, only nine of 26 biosimilars the FDA has approved through this act had been marketed in the U.S. at the end of 2019.

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Regulatory and market-based reasons have contributed to the U.S.'s low biosimilar adoption rates. For one, the FDA was slow to clarify the pathway for approval. The European Medicines Agency (EMA) introduced its guidance on biosimilars in 2005, and approved its first the following year. The BPCIA was not approved until 2010, and it took until 2015 for the FDA to approve its first biosimilar.

The American healthcare system's complex reimbursement structure also fails to effectively incentivize providers, payors, or patients to control costs, which drastically undermines the potential savings from biosimilars. The U.S. healthcare system, particularly Medicare Part B, disincentivizes physicians from choosing lower-cost options since Medicare Part B reimburses doctors at about 106% of the cost of drugs administered in a doctor's office (creating an economic incentive to use a higher-priced product). In addition, a lack of transparency regarding discounts and rebates has allowed original branded biologics to undermine competition. Biologic manufacturers have offered large rebates on originator products to maintain an exclusive position on PBM formularies, consequently complicating the efforts of biosimilar companies to competitively price their products to gain market share.

Successful extension of patent protection in the U.S. has delayed biosimilars for many years longer than in Europe. It is easier for companies to extend patent protection in the U.S. by establishing subsequent patents on existing drugs and by expanding approved indications or modifying dosing. For example, although Humira biosimilars have already gained significant market penetration in Europe and Asia, AbbVie has reached agreements with the makers of all five of its FDA-approved biosimilars, ensuring Humira's exclusivity until 2023 and royalties thereafter. Similarly, whereas Enbrel has already lost over $2 billion in European revenue from its peak, we expect its exclusivity in the U.S. to last until 2029.

Messaging is also an issue. Widespread allegations persist that owners of the reference products have organized campaigns questioning the efficacy and safety of biosimilars among patients and physicians. Lobbying successfully resulted in the requirement to affix a four-letter suffix to the names of biosimilar products (for example, Pfizer's Inflectra is infliximab-dyyb, whereas Johnson & Johnson's Remicade is infliximab). This distinction has been blamed for causing confusion and sowing seeds of doubt about the safety and efficacy of biosimilars among patients, physicians, and pharmacists. In turn, American physicians are unfamiliar with or reluctant to prescribe them; a June 2019 report in the American Journal of Managed Care said most physicians are unfamiliar with biosimilars and over one-third never prescribe them.

Although the BPCIA provides a process for streamlining patent disputes, unresolved threats of patent infringement have discouraged some biosimilars from entering the market. For example Merck received tentative FDA approval for its insulin glargine follow-on biologic Lusduna Nexvue in July 2017, but decided against marketing it for several reasons, likely at least in part because of patent lawsuits from Sanofi which sought to protect Lantus and the billions it brings the company ($4.7 billion in 2019), as well as economic considerations regarding manufacturing costs and profitability.

The struggles early entrants had finding commercial success discouraged companies from investing in and launching their own biosimilars. In the current environment, companies are only willing to launch biosimilars against extremely successful drugs. To date, the FDA has only approved biosimilars related to nine reference drugs, each of which had peak annual revenues exceeding $3.5 billion. Excluding insulin products, which are not currently approved through the BPCIA, the 80 biosimilars approved by the FDA and EMA combined, only reference 14 unique biologics.

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Rapid Acceleration Of Biosimilars Is Expected In The Near Term

Despite the challenges biosimilars have had in the U.S., representing approximately $2.5 billion in 2019 or a 1.5% share of revenues for biologics and biosimilars, we believe accelerating growth is on the horizon. In fact, the Wall Street consensus indicates U.S. biosimilar revenues will nearly triple by 2024. We expect that the next few years, and especially 2023, could serve as a major inflection point for their more widespread adoption in the U.S., given the expiration of exclusivity on several blockbuster drugs in 2023, including Humira, and a handful of biosimilars already approved for launch in 2023.

Key factors that could influence the pace of adoption include:

• Successful demonstration of interchangeability, or the FDA de-emphasizing/eliminating the need for interchangeability.
• The outcome of Pfizer's litigation alleging Johnson & Johnson of anticompetitive behavior.
• Greater transparency of PBMs/rebates.
• Regulation/legislative efforts to support biosimilar adoption.

Since approving its first biosimilar through BPCIA in 2015, the FDA has approved increasing numbers of biosimilars every successive year--including 10 in 2019--indicating an accelerating trajectory. There is also a modest push for the FDA to accept real-world evidence in its approval process. That many biosimilars are already on the market in Europe, India, and China could accelerate investment in and adoption of biosimilars in the U.S. Although the U.S. continues to lag behind most of Europe in terms of biosimilar adoption, the U.S. share of worldwide biosimilar revenue continues to rise. We expect higher prices in the U.S. will generate substantial revenues even at relatively lower sales volumes. Thus, we expect the U.S. will remain the most attractive market for companies to launch biosimilars.

In May 2019, the FDA released its final guidance on demonstrating the interchangeability of a biosimilar with its reference, facilitating further clarity and opportunity in the market. The BPCIA provides a period of exclusivity to the first interchangeable biosimilar for each reference drug, which we believe should be an extra incentive to get that designation. A strong prospect to become the first biosimilar to earn this designation is Boehringer Ingelheim's Cyltezo, which may seek to differentiate itself from other Humira biosimilars ahead of their 2023 U.S. launches. That same year, four other blockbuster drugs will go off patent: Regeneron's Eylea, Johnson & Johnson's Stelara, Novo Nordisk's Victoza, and Seattle Genetics' Adcetris, making 2023 a potential watershed year for biosimilars.

In March 2020, most protein products, including all insulin products, previously approved by the FDA outside of the BPCIA will become open to biosimilar competition. In the case of insulin, the FDA indicated that substitution of insulin at the pharmacy may be permitted without proof of interchangeability, given its long product history. We believe this demonstrates the FDA's willingness to consider real-world evidence to support interchangeability.

Anticompetitive practices are being taken more seriously in the biosimilars space, with the U.S. Federal Trade Commission (FTC) investigating Johnson & Johnson's defense of immunology drug Remicade, and courts denying its request to dismiss a related lawsuit brought by Pfizer. Moreover, the FDA and FTC recently announced an enhanced collaboration to deter anticompetitive business practices, such as false or misleading statements differentiating between biological reference products and biosimilars, and to support a competitive market for biological products. In line with these moves, PBMs have demonstrated an increasing willingness to add biosimilars to their formularies and to put them in appropriate lower-cost coverage categories. In October 2019, UnitedHealthcare, the nation's largest insurer, preferentially covered Amgen's Kanjinti and Mvasi over their reference products, Roche's Herceptin and Avastin, respectively. In addition, some hospitals in the U.S. are adopting biosimilars for inpatient use. Kaiser Permanente, one of the nation's largest integrated health systems, uses the biosimilars Inflectra and Zarxio 80% and 95% of the time, respectively, vastly exceeding their 3.2% and 31.7% 2018 share of the U.S. market.

Biosimilars are well positioned to attract new patients in the U.S. Sixteen of the 26 FDA-approved biosimilars are used to treat episodic conditions, such as cancers. Thus many new patients are treatment-naïve (they have not previously undergone treatment), and could easily be prescribed a biosimilar approved to treat their condition. On the other hand, patients with chronic conditions, such as rheumatoid arthritis and chronic kidney disease, are frequently already using an existing biologic and they and their physicians would likely be more reluctant to switch medications.

As presidential candidates look for ways to cut costs in implementing their healthcare proposals, and bipartisan support seems to be materializing around prescription drug price reform, biosimilars may increasingly be looked to as one approach to reduce spending. RAND estimates biosimilar products could save the U.S. healthcare system $54 billion over the next decade.

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Big Pharma Winners And Losers

The adoption of biosimilars will not only lead to a shift in market share from the reference product to the biosimilar, but will also negatively affect industry revenue as a whole. In total, nearly $100 billion of 2019 revenues are from biologic drugs losing exclusivity within the next five years. Competition will drive price erosion, both through the discounted price of the biosimilar and through likely price erosion in the reference drug in an effort to retain market share. For example, Remicade's net price in Medicare Part B has dropped over 23% since biosimilars entered the market, drastically diminishing its earnings and margins. That said, if accelerated adoption of biosimilars absorbs Congress' legislative focus, most big pharma companies would find that a relatively attractive outcome.

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We expect an acceleration in biosimilar adoption would likely hurt AbbVie, Amgen, Roche, Novo Nordisk, and Johnson & Johnson. For AbbVie, Humira, which generated $19.2 billion of revenue in 2019, over 57% of AbbVie's net revenues, will face competition in 2023. Anticipating pressures from the five biosimilars already FDA approved referencing Humira, AbbVie has indicated that 45%-48% erosion of Humira sales is a reasonable expectation, given its performance in similar European markets.

Amgen also has broad exposure to risk from biosimilars, with nearly 45% of the firm's 2019 revenues coming from biologic drugs nearing the end of their exclusivity periods. Already $3.8 billion of Amgen's U.S. sales face biosimilar competition through Neulasta, Neupogen, and Epogen. An additional $4.0 billion in U.S. sales will face competition by 2024 through Aranesp, Prolia, and Xgiva.

Roche is particularly vulnerable in terms of total revenue at risk, with Rituxan, Avastin, and Herceptin ($10.4 billion in 2019 U.S. revenues) already facing biosimilar competition, and Xolair, Lucentis, and Actemra ($4.8 billion in 2019 U.S. revenues) likely facing competition within two to three years. Together, these six drugs represent 52% of Roche's 2019 pharmaceutical revenues and over 40% of their overall revenues. The U.S. constitutes nearly 60% of the revenue from these drugs, and 100% from Xolair and Lucentis.

Novo Nordisk is similarly exposed with Levemir and Noridtropin SimpleXx ($1.2 billion in 2019 U.S. revenues), which have expiring patents, and Victoza ($2.1 billion in 2019 U.S. revenues), which loses exclusivity in 2023. Together these drugs represent almost 33% of Novo Nordisk's worldwide revenue, and nearly 60% of the revenues from these drugs comes from the U.S. market.

Johnson & Johnson's Remicade and Procrit ($3.8 billion in 2019 U.S. revenues)currently face biosimilar competitors, and Simponi and Stelara ($5.5 billion in 2019 U.S. revenues) are set to go off patent in 2022 and 2023, respectively. These four drugs brought in 32% of Johnson & Johnson's total pharma revenues and over 16% of overall revenues worldwide.

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Conversely, an accelerated uptake of biosimilars in the U.S. could potentially help Novartis, Pfizer, Biogen, Mylan, Merck, and Amgen. We believe Novartis, through its Sandoz division, is currently the global leader in biosimilars, with global biosimilar sales approaching $1.6 billion in 2019. Although it does not break this revenue down by drug, its Zarxio is now the leading filgrastim in the U.S. market, even outselling its reference drug Neupogen.

Pfizer is uniquely positioned for strength in this area, with three recently approved biosimilars each projected to have $500 million in annual worldwide sales by 2024 and three others projected to exceed $200 million each. If it finds success pricing its new biosimilars at 20%-25% below their reference drugs as it has announced, the company could exceed $2.5 billion of revenue in 2024 and surpass the total U.S. biosimilar revenue from 2019.

Biogen's biosimilars have performed very well due to its commercialization agreements for them and its 49.9% stake in SamsungBioepis, as well as a pipeline that takes aim at several new blockbuster drugs.

With nearly $400 million in 2019 biosimilar sales, Mylan brings a strong biosimilar portfolio and pipeline to the newly formed Viatris, which alongside the assets from Pfizer's Upjohn, could position it to compete alongside bigger companies globally.

Merck's recently announced spin-off could also benefit from the strength of its commercialization agreements with Samsung Bioepsis and a strong presence in the U.S. market.

Amgen stands out as active on both sides of the biosimilar aisle; a change to biosimilar uptake would have an uncertain impact on the company's creditworthiness. Although it has over $10 billion of biologic revenue at risk to approaching patent expirations, it is slightly better insulated than Roche. Besides successfully extending its Enbrel ($5.0 billion in 2019 U.S. sales and 22% of total revenue) exclusivity in the U.S. through 2029, Amgen has developed a strong biosimilar pipeline of its own, with four biosimilars each expected to surpass $250 million in worldwide sales by 2024.

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In addition to the competition between biosimilars and biologics, the competition among biosimilar manufacturers is worth watching. Already, Novartis' Sandoz, Pfizer, Biogen, and Amgen are establishing themselves as leaders in the space. Generics leader Teva has indicated ambitions to be a global leader in the biosimilar space; through its collaboration with Celltrion, it expects to have two biosimilars marketed in the U.S. before second-quarter 2020. Outside of these companies, Alvotech and Coherus are much closer to pure-play biosimilar companies, whose success, like Samsung Bioepis and Celltrion (all four unrated), hinges largely on accelerated uptake of biosimilars worldwide.

While the biosimilar market currently seems fragmented, increased consolidation in the U.S. and European markets seems inevitable. If a single dominant player can leverage its commercial divisions (sales force), manufacturing expertise, and reputation for quality to gain popularity with PBMs, distributors, and/or physicians, the dynamic could shift dramatically, particularly when multiple companies are competing for market share against a common reference drug. We expect that an interchangeable biosimilar could command a premium over other biosimilars and would stake a claim to a larger share of the market helped by its limited exclusivity period. The extent of that advantage relative to other biosimilars, however, is still unknown.