Prospects are looking brighter for leading contract research organisations in 2010 and beyond, as they emerge from “one of the worst operating environments in CRO history”, says independent investment research company Morningstar.

Reflecting on the fourth-quarter results of companies such as the US-based Covance, Pharmaceutical Product Development (PPD), Parexel and Kendle, China’s WuXi PharmaTech and Ireland’s ICON, Morningstar analyst Lauren Migliore said the sector “witnessed a perfect storm” last year, marked by harsh economic conditions, frozen credit markets, persistent uncertainty over (US) health reform and Big Pharma mega-mergers.

With the macroeconomic uncertainty prompting pharmaceutical manufacturers to postpone or cancel planned clinical trials, there was a worldwide slowdown in drug development spending and significant under-utilisation of capacity, Migliore noted.

This excess capacity gave drug companies “significant bargaining power, allowing clients to shorten lead time and exert pricing pressure that has subsequently affected gross margins”. CROs have responded by trying to stem top-line declines through cost-cutting and restructuring, although “the impact of these efforts is limited by the high fixed cost nature of the business”, the analyst commented.

All the same, a number of CROs have been promising better times ahead, backed up by improvements in their book-to-bill ratios. As Migliore observed, a number of these ratios rose above 1.0 during the fourth quarter, “indicating that growth may soon return to the CRO industry”.

For all that, most of the leading players believe near-term revenue growth will be stagnant, “as slow bookings in prior quarters make their way into future financial statements”, she cautioned.

But Migliore sees market demand picking up soon, “spurred by the completion of several large pharma mergers, increased partnering activities and outsourcing penetration, resumed funding to smaller biotech clients, and improved commitment from drugmakers to move compounds through trials”.

As such, Morningstar remain “cautiously optimistic” about 2010 and the long-term prognosis for CROs, especially as macroeconomic conditions stabilise and Big Pharma companies look to replenish their pipelines.

“We see a rebound on the horizon and project CROs, which offer superior efficiency to in-house development, will take a larger share of drug development spending over time”, Migliore said.