Better living through chemistry

On 2 March, the second explosion in seven years at GlaxoSmithKline's Scottish manufacturing site in North Ayrshire has highlighted the risks involved in the pharmaceutical industry. However, the British-based giant, which was formed following the merger of Smithkline Beecham and Glaxo Wellcome in 2000, and has recently unveiled pre-tax profits of £6.7bn from a turnover of £21.7bn in 2005, has far more pressing concerns to occupy its risk managers, such as product liability.

A drug trial went horribly wrong in Harrow, north-west London in March this year, and six healthy men were taken to hospital after suffering multiple-organ failure. The drug being tested was TGN1412, designed to treat leukaemia, rheumatoid arthritis and multiple sclerosis, and was being developed by TeGenero AG, a German pharmaceutical company. The trials were under the control of US firm Parexel International, which provides clinical research services to major pharmaceutical and biotechnology companies.

The horrific injuries endured have led to calls for compensation for clinical trials becoming compulsory in the UK, as reported in Professional Broking's sister title Post Magazine (20 April, 2006).

Market domination

The UK pharmaceutical market is dominated by two big players, AstraZeneca and Glaxo, which between them have an approximate market capitalisation of £130bn. However, despite a significantly reduced number of pharmaceutical companies compared to ten years ago, there are many smaller biotechnology companies producing natural compounds as opposed to chemicals, and other firms at the forefront of drug development.

Biotechnology companies are also involved in the production of synthetic hormones, bulk foodstuffs, the bioconversion of organic waste and the use of genetically altered bacteria in the cleanup of oil spills.

The companies in this sector will often have material risks placed with independent brokers but more complex industry specific risks are handed over to wholesale brokers with expertise, such as international England-based broker Miller Insurance Services.

Andrew Catton, director of science and technology at Miller and described as a 'market guru' in the pharmaceutical insurance sector, comments: "We are dealing with between 60 to 80 brokers in the UK at any one time. If one of their clients is a pharmaceutical or biotech company, they will often place the standard insurance and ask us for advice on the rest. The vast majority of the time we can educate brokers as to what information we need to place risks, though sometimes we need to conduct onsite visits, especially if the companies are carrying out clinical trials."

Miller, which insures 70% of UK-based biotechnology companies directly, and has a retail team based in Beckenham, uses Lloyd's syndicates, Brit, QBE and Chubb to place risks that can involve capacity of up to £30m. Catton is bullish about his sector of the market, which produces drugs for less serious maladies. He says: "Our clients are making routine, generic drugs - all drugs have side effects but it is a balance between the side effects and the ratio of people these effect."

He adds: "I can think of only two or three times when we have failed to find an insurer. We have a great relationship with the underwriters."

Underlying the specialist nature of the cover, Gary Norman, medical and malpractice account portfolio manager at QBE, warns: "A firm order of cover is directly related to the knowledge of the broker."

Beyond production, it is the consumption of drugs that cause pharmaceutical insurers the most headaches. Safe drugs are great for insurers - unsafe ones can prove disastrous.

The Vioxx drug produced by the US-based pharmaceutical giant Merck, is threatening to become one of the major news stories of the decade, following hundreds of deaths potentially linked to the taking of the drug. The drug was intended to treat arthritis pain but was pulled from shelves in September 2004, after trials indicated it doubled the risk of heart attacks after using it for 18 months or longer. The first settlement was for a payout of $253m (£141m), decided by a Texas court for the widow of a Vioxx user. Merck has since appealed.

The sale of drugs on the market is preceded by stringent trials and the approval of a governmental board. The Association of British Pharmaceutical Industry reports on average drugs can take 10 to 12 years to develop costing around £500m each.

There are four phases following animal testing, which starts with testing on a small number of healthy volunteers and is followed by larger numbers of patients. Once the marketing phase has been approved, after phase three, then there are still further studies.

Checks and balances

The Medicines and Healthcare Regulatory Agency, an agency of the Department of Health, is responsible for the approval of drugs in the UK, while the Food and Drug Agency has the same role in the US. There is a stream of legislation regulating the market which is constantly being updated.

These checks and balances are not always good enough and words such as zyprexa, paroxetine and vioxx are set to haunt the industry for some time. If something does go wrong in trials, for example, then there could be no known cures because of the nature of the risks.

Broker Marsh's Europe 2005 chemicals, pharmaceuticals and life sciences industry report states: "Insurers remaining in the marketplace have stepped up their efforts to understand product-related risks. They are demanding more information relating to company culture and attitudes, the effectiveness of other internal risk controls, and the nature of commercial and marketing pressures when new drugs are launched."

Norman says: "When looking at a new drug, QBE's internal team do the research, for example, we look at the drug group. However, there is always an element of stepping into the unknown for trials." He adds: "There are certain drugs we wouldn't insure. However, if a drug has known problems we can often offer cover for the drug excluding the known problem. For example, Isotretinon, an acne drug, has the alleged problem of causing suicidal ideation and the known problem of being responsible for birth defects."

Keith Darlington, director of corporate finance at AstraZeneca, says: "Product liability is a major risk and this correlates to the pharmaceutical sector having a relatively high frequency of securities class actions against directors and officers." Beyond product risks, he adds: "Property damage and business interruption are also material risks. These are a hot topic at the moment, given the high concentration of the industry in Puerto Rico [AstraZeneca has a factory in Guayama, on the coast of Puerto Rico] combined with increasingly severe windstorm seasons."

Product liability covers a huge array of issues. Norman says: "We write a wide range of product liability insurance, including: mis-selling; instructions; design faults; mislabelled drugs; and faulty storage." He notes: " Protection is important - a drug can be the life blood of a company."

Vaccine production is also causing insurers some headaches. Marsh's report states: "The rise of various sort of flu, such as Avian flu, has created new market demand for vaccines, prompting many existing life sciences companies to step up their research efforts to develop them. However, given that the stakes are so high when outbreaks of flu occur, producers of vaccines that experience problems in delivering products to the marketplace can face extra regulatory and social censure."

Bad publicity and lawsuits from customers and shareholders are all at stake if the vaccine contaminates.

Pharmaceutical giant AstraZeneca, which has been the subject of recent takeover speculation, uses international brokers Marsh and Jardine Lloyd Thompson and a combination of captives and insurers.

Jardine Lloyd Thompson deals with 11 out of the top 20 global giants. Meanwhile, Gerling, HDI, ACE, Swiss Re, Munich American Risk Partners and Munich Re are all involved in providing capacity for the risks. However, the need and attraction of self-insurance has risen.

Capacity has taken a hit in recent years and, according to Dubin-based Mark Kealy, vice-president of casualty at Ace European Markets: "Capacity in the pharmaceutical insurance sector has reduced over the last few years. Many insurers have been burned by losses."

Indeed, in its 2005 results announcement, Swiss Re noted: "Our strong stand on pharmaceutical terms and conditions also caused significant loss of premium volume."

Christopher Bryce, practice leader, Europe and Middle East, of the chemicals and life sciences practice at Marsh, says: "It depends upon the risk profile but for European and rest-of-the world-domiciled pharmaceutical companies, these are still viewed more positively than US-domiciled ones, and can purchase up to EUR600m (£417m) of coverage. Over the past 12 months there have been a number of insurers who have exited the product liability market for pharmaceutical companies, so available capacity is reduced from where it was three years ago."

He continues: "A feature over the past two years has been greater use of self-insurance in response to reductions in capacity, reduced coverage and rising prices. Self-insurance has been a means of managing these external factors and obtaining some control of overall risk and financing strategy."

Drug interaction

Bryce adds: "As the available external market is limited it may well be difficult, where a captive is used, for that captive to purchase reinsurance, particularly if that is only available from counter-parties who may either be providing direct insurance or have limited capacity, which is not supplemented by their reinsurance activities."

The final word goes to Norman who reflects: "We live in an increasingly complicated world, where the interaction between drugs is more and more common. Interactions can also occur with other products, for example, grapefruit can have an effect on some. Drugs are on the market because regulators have determined that the benefits outweigh the risks but there is a fine balance." If the balance falls in the right direction then the insurer will not need to take any sleeping pills.

GlaxoSmithKline declined to comment for this article.