Evolution - Today more than ever before, the pharmaceutical industry can rely on solid fundamentals for growth. A steadily growing and aging world population is expanding the industry's base of potential patients, and rising incomes in emerging economies are contributing to increased demand for pharmaceutical products. However, the industry faces many pressure points, from pricing and regulatory hurdles to patent expirations, thinning drug pipelines and efficacy issues. Such macro changes have forced pharma companies to move away from their monolithic blockbuster business model, dubbed Pharma 1.0, to become more innovative, collaborative, diversified, global and value-driven - the model we call Pharma 2.0. The global financial crisis has added a new sense of urgency that has accelerated this transformation. But, as the industry is in the midst of its Pharma 2.0 journey, new and sweeping trends have emerged that are already reshaping the business environment.

This changing environment will increasingly require a more profound reconfiguration of the industry's business model, a Pharma 3.0 model based on delivering a sustainable value proposition centered on health outcomes.

Pharma 2.0: Expanding Markets, Improving Efficiencies

As the industry has progressed from Pharma 1.0 to Pharma 2.0, it has rebuilt itself on six strategic pillars:

1. Emerging Markets
Many industry players are counting on emerging markets to extend the life of mature products as well as to develop new buyers for their products. To do so, they are targeting the burgeoning ranks of the middle class in developing countries - a strategy that has obvious benefits in the near and long term. This strategy has expanded business from the major markets of the U.S., Europe and Japan to a fourth block: BRIC (Brazil, Russia, India, and China) and the next 11 emerging markets (Mexico, Nigeria, Egypt, Turkey, Iran, Pakistan, Bangladesh, Indonesia, Vietnam, South Korea, and the Philippines). Yet, as promising as emerging markets are, they represent an enormous challenge for an industry that has focused so much of its efforts on selling to the top of the income pyramid. International expansion requires a more holistic view that takes into account the dynamic environment of emerging markets, as well as the need for a more sustainable approach to patients at the base of the income pyramid.

2. Commercial Models
As the industry's customer is increasingly less the physician and more the payor of the patient, pharma companies have faced a range of strategic decisions. The global market landscape is highly fragmented, with varying customer topographies and no one-size-fits-all commercial model. In response, the Pharma 2.0 industry has reshaped its sales force and moved toward differentiated, geo-tailored commercial models with a value proposition customized for each market and customer. Resources have been optimized to address all stakeholders on the market continuum, from using an integrated key account model in restrictive markets to employing a traditional sales force in open markets.

3. Innovation
With the patent cliff on the horizon, where more than three dozen big-selling drugs will go off-patent between 2011 and 2013, the need to reinvigorate pipelines is more pressing than ever. As scientists continue to understand disease at the molecular level, they are increasingly empowered to develop more specific and efficient treatments, matched to patients' genetic profiles with the potential of a greatly diminished risk of adverse reactions. In response, pharma companies are pursuing strategies around scientific advancements - prioritizing therapeutic and disease categories, pursuing biotechnology and personalized medicine, and realigning their organizations to break down silos and broaden collaboration with external partners such as academia, biotechnology and medical technology start-ups, or service providers such as custom research or clinical research organizations

4. Diversification
As the prescription drug market becomes increasingly unpredictable in pricing, reimbursement and generic competition, companies have been diversifying heavily into other business lines such as vaccines, generic over-the-counter products, animal health and medical technologies. Big Pharma players vary considerably, however, in their degree of diversification. Companies such as Bristol-Myers Squibb and AstraZeneca represent the most pharma-focused, and Johnson & Johnson and Novartis, the most diversified. Yet most companies have moved in lockstep toward generics, with a focus on emerging markets.

5. Merger And Acquisition (M&A)
In the face of steep pressures - from the patent cliff to the need to increase margins and accelerate diversification - the industry continues to engage in M&A. Strategies range from filling pipelines, acquiring growth prospects and extending geographic reach to pursuing mega-mergers for scale and potential cost savings through synergies. With a further acceleration of the consolidation expected, the impact of the recession and selectively constrained capital markets will keep some would-be acquirers on the sidelines, and force others to reevaluate how they structure and fund their transactions.

6. Efficiency
With increased industry consolidation and revenue pressures, the industry is focusing on financial strategy as a means of creating value and managing not only for revenue, but for risk-adjusted return. A key area of progress is cost and cash flow management. For years, many companies relied on instant-gratification cost-cutting campaigns that paid little attention to, and sometimes jeopardized, long-term growth plans. Today's finance heads are taking a more strategic approach by looking to create a sustainable cost advantage within the industry. An end-to-end perspective on the entire value chain provides a better understanding of how the company sources, manufactures, prices and distributes products and allows decision-making for improvement. A strong focus on the efficiency of the supply chain, on the management of working capital and on outsourcing and shared services opportunities is becoming the norm and is generating significant savings. While most admit they have a long way to go to grow lean, this new emphasis on efficiencies that contribute to long-term profit growth represents a marked shift in mindset. The focus now is on building the systems, tools, metrics, reports and processes that can provide a more sophisticated approach to capital allocation.
The Pharma 2.0 business model has been a significant step forward from 1.0, representing improved efficiencies and a broader portfolio of products that has diluted some of the pressure emerging from the end-markets. Like the Pharma 1.0 model, however, Pharma 2.0 centers on developing and marketing drugs.

Pharma 3.0: Delivering On Health Outcomes (Exclusive Online Content)

Changing incentives are reshaping the healthcare ecosystem and will necessitate a new business model, Pharma 3.0. The primary agents of change are the payors and the government-led reform initiatives underway in most major markets, from the U.S. and Europe to emerging markets. A common theme throughout these initiatives is creating more efficient systems by focusing on health outcomes.
Health information technology is further enabling and accelerating an outcomes-driven industry. The digitalization of health data, electronic health records and associated eHealth platforms, offer the promise of increasing efficiency, safety and reducing costs. Mobile health technologies provide live and real-time access to digital health information, supporting diagnosis and monitoring, as well as driving compliance in medication taking. Social media platforms are enabling the sharing of health information. The convergence of social media and health information has the added benefit of empowering patients in health literacy, providing the ability to improve their health as they can access and understand information that in the past was available only to their healthcare providers.

This tremendous expansion in availability of health data will empower payors in decision making as reform initiatives drive value-based choices and outcomes-based pricing and reimbursement schemes.

The same transformation is happening on the patient side where traditional patients are becoming "superconsumers," capable of making real, value-based decisions based on their health outcomes. This emerging Pharma 3.0 ecosystem is attracting many new, nontraditional players, from e-health and mobile health firms to consumer electronics companies, large retailers to medical technology firms and information aggregators. All are rushing to fill the gaps and capitalize on the potential returns of an outcomes-centered world.

In the Pharma 3.0 business model, pharma companies seeking to deliver health-status improvements need to reach new patients by tackling underserved markets, meet unmet medical needs and do a better job of serving existing patients by managing patient outcomes. As such, companies looking to develop new business models for Pharma 3.0 will need to build their models around some combination of three core value propositions:

• Managing patient outcomes, for example, by fostering patient compliance through patient engagement, by engaging in the healthcare delivery cycle or by allowing a targeted approach through patient population stratification.
• Expanding access to healthcare, for example, in underserved markets, including emerging markets and uninsured patient populations in industrialized nations.
• Meeting unmet medical needs, for example, in complex indications such as oncology or immunology as well as in underserved therapeutic fields such as malaria, dengue fever and orphan diseases.

Delivering on health outcomes will require the pharma industry to engage with nontraditional players, bundling business models in symbiotic interaction. It will require also co-creating value for key stakeholders, from patients, payors and governments to business partners.
Pharma 3.0 represents a significant shift from Pharma 2.0's "contractual" collaborative approach, where pharma companies have been in the driver's seat in managing collaborations with business partners and controlling and commercializing most of the value creation. In Pharma 3.0, pharma companies will need to do a better job of fitting into the changing business models of other key players in the ecosystem. They will need to step outside their comfort zones and areas of expertise and relinquish control - seamlessly combining capabilities, resources, channels and customer relationships with those of their business partners.

Transformational Execution: Capturing the Opportunity

Regardless of which strategic alternative is chosen, the ultimate competitive advantage will come through a company's ability to execute its plan for delivering healthy outcomes. Entering into new creative alliances, often with nontraditional partners, is unchartered territory for many pharma companies. While the industry has become fluent in executing traditional research and development collaborations, partnering with dissimilar players holds the potential for deal-breaking clashes over differing goals, operating principles and cultures.

As organizations begin the journey to Pharma 3.0, they may confront a host of new execution-related challenges. These challenges are explored in depth in Progressions, Ernst & Young's 2010 report on the pharmaceutical industry. Here are a few questions to consider:

• Is your organization encouraging experimentation? Is there a process for transforming ideas into viable commercial ventures?
• Are your front-line executives focused on emerging trends? Do they have the skills and capabilities to deliver on the new business model innovation, and has a leader been designated to champion this effort?
• What creates the most value? Is it the medicine, the intellectual property, the knowledge about efficacy, the data, the risk analytics or the channel to the consumer? Who owns the intellectual property, and how can it be shared between alliance partners?

Transformation is an evolutionary process. Each business model fuels the next, and subsequent models draw from the strengths of their predecessors. Pharma 1.0 has been and is still today a highly successful model that has driven the industry's growth, producing margins unmatched by other sectors. Pharma 2.0 has helped the industry change its approach to customers, alleviating some of today's pressures and laying the ground for Pharma 3.0 and a collaborative, outcomes-centered perspective.

Depending on each company's strategy, these models may co-exist at different times. A company may continue to be rooted in innovation around its products, grounded in the six pillars for market growth and efficiencies while morphing gradually into new way of doing business. In the end, the winners in the Pharma 3.0 world will look beyond themselves and beyond the question, "What are we inventing?" to "What are others doing, how can we leverage their strengths for collaborative advantage and how can we fit into their business models?"

The end point will be an "outside-in" way of innovating - one that can continuously deliver on the promise of sustained value creation.