Fiscal 2007 “continues to be a strong environment” for clinically oriented contract research organisations (CROs), with new business trends “well above levels necessary to sustain long-term growth of 20% or more”, says a CRO Update issued this month by the equity research department of US financial services firm William Blair & Company.

The CRO sector is also beginning to see an upturn in compounds moving into Phases II and III of the clinical development cycle, while “healthy flows of capital into biotech further bolster our view that the environment is stable to improving”, the analysts comment.

These conclusions were drawn from two sources: an analysis of four leading indicators tracked by William Blair to assess the health of the pharmaceutical outsourcing industry; and the company’s third annual survey of CRO sponsors at pharmaceutical and biotechnology sponsors, conducted in conjunction with Thomson CenterWatch.

In this year’s survey of 21 executives, ICON reclaimed its position as the most frequently mentioned favourite CRO vendor on a range of quality measures, having lost out to PPD in last year’s survey (ICON was mentioned most frequently in William Blair’s first CRO survey). ICON also has the highest average quarterly book-to-bill ratio of the CROs tracked by William Blair, “suggesting it is likely gaining share”, the analysts note.

The four leading indicators examined in the CRO Update are R&D spending growth, compound growth, biotechnology funding and, most importantly, new business trends. Together, they suggest that “the overall environment for pharmaceutical outsourcing remains robust, with demand gradually shifting toward later-stage clinical activities as the pharma pipeline matures”, the analysts say.

There has been “surprisingly strong growth” in research and development spending over the last three quarters (13.0%, 16.0% and 13.8% respectively), well above the historical average of 9.9% following a slowdown in 2004-2005. This encouraging trend may be down to more compounds moving into Phase III trials, the analysts believe. Recent monthly data continue to “support comments we have heard from the field that Phase I business is robust and Phases II and III are picking up”, they comment, adding that pure-play clinical outsourcing companies “are an excellent vehicle to play a recovery in the biopharmaceutical industry’s later-stage product pipeline”.

Biotechnology funding was around US$4.6 billion in the second quarter of 2007 and “has been bouncing between US$2.0 billion and US$5.0 billion per quarter since the beginning of 2006”, the Update points out. The analysts consider biotech funding an important indicator of the future health of the CRO industry, since biotech companies’ R&D dollars are taking an increasing share of the overall R&D spending mix, while biotechs generally outsource a larger proportion of their development expenditure.

Book to bill

The fourth indicator is quarterly net new business, defined by William Blair as all of the business won by a CRO during a quarter, minus that quarter’s cancellations of business previously won. To forecast CRO revenue growth around one year ahead, the analysts look at the book-to-bill ratio, calculated by dividing net new business by revenue in a given quarter. Book-to-bill ratios of more than 1.0 suggest the CRO is winning new business over and above current-period revenues, they explain. A sustained book-to-bill ratio of 1.15-1.20 times indicates that revenue should grow by 15-20%, assuming the duration of contracts won is stable.

In the second quarter of 2007, the weighted average book-to-bill ratio for a CRO cluster comprising Covance, ICON, PPD, Parexel, Kendle, Inveresk, PRA, PharmaNet and Quintiles was 1.32 times, while the 12-month rolling book-to-bill ratio (book-to-bill data are more volatile than those for revenue growth) was 1.40 times. The latter figure was slightly below last year’s 12-month rolling average of 1.44 times but above the 1.21 times ratio seen two years ago. “We believe bookings, particularly for later-stage development, should remain strong as the large number of early-stage molecules shift into later-stage trials,” the analysts comment.

These conclusions generally accorded with the views expressed in the survey of CRO sponsors. For example, 62% of responders said they expected outsourcing to increase over the next few years, although this was down slightly from 66% of respondents in last year’s survey. Nonetheless, the response confirms William Blair’s expectation that “as long as trials keep getting larger and more complicated, research and development spending continues to increase, and sponsor headcount remains under pressure, outsourcing penetration should keep inching up”.