Contract Manufacturing
Saurabh Anand
Senior Associate
K & S Partners
Pranav Kumar Mysore
Senior Associate
K & S Partners

With the advent of multinational pharmaceutical organisations, and their rapidly growing presence in the country, the concept of contract manufacturing has steadily evolved and quickly adapted, so as to encompass services such as basic manufacturing of medicinal products, formulation development, stability studies, and various stages of clinical trials. This article look at the Indian scenario of pharmaceutical contract manufacturing, how the space has changed, upcoming trends, as well as what the industry will look like in the coming years.

With snowballing growth of pharmaceutical industry in India, the concept and requirement of contract manufacturing is incessantly evolving. Now-a-days contract manufacturing has been extended to bring within its ambit various services, such as basic manufacturing of medicinal products, formulation development, stability studies and clinical trials. Off late, contract manufacturing is practiced in most of the industrial sectors, not limited to pharmaceutical sector alone. However, till date the concept of contract manufacturing has made significant impact in the pharmaceutical industry.

Indian pharmaceutical sector has witnessed a strong hold in the processes of manufacturing/production due to the encouragement/recognition of process patent alone prior to 2005. Post 2005, an additional recognition in the form of product patents led to exponential growth in pharmaceutical sector. This led to an increase of manufacturing through contracts.

This apart, India's allure as a viable outsourcing market lies in the fact of its resources including skilled labor, governmental incentives and WHO- GMP approved premises. In addition, contract manufacturing is expected to increase due to the fact that a number of patents over top-selling drugs are expected to expire, creating a profitable and differential opportunity to outsource to legally manufacture such drugs.

As per the Draft Pharmaceutical Policy issued by the Department of Pharmaceuticals in August 2017, cost of the drugs in India are about 50% lesser as compared to Western nations. Indian companies have around 1300 WHO-GMP, 262 USFDA (outside USA) and 253 EDQM approved plants being operational and functional till date, making India a preferred and safe business haven for contract manufacturing. Said policy further substantiate that the annual turnover of the Pharmaceutical Industry in India in 2015- 2016 was around 30.76 billion dollars, out of which exports constituted around 15.38 billion dollars and the domestic consumption was 15.14 billion dollars, showcasing a brewing export in pharmaceutical sector.

The advantages of contract manufacturing is not alien to us and the primary reason behind entering into a contract manufacturing is to have a sustainable growth. For instance, an entity which is primarily engaged in the business of R&D can invest on labor, materials and other expenses related to production by outsourcing the same to another organization which is primarily engaged in the business of manufacturing and supply. Roughly, a substantial 40%- 50% lower cost of operation and production is clearly operating as pulling-mechanism for multinationals to consider India for their outsourcing needs.

Further, contract manufacturing helps an entity in spreading its arm in another market, rather than spending billions of dollars and time in setting up its operations in that country. By entering into alliances/ agreements with already established manufacturers in India, these outsourcing companies can have their expectations met at a cost which is dramatically lower than the cost of establishing itself in a new location. In addition to this, contract manufacturing allows for exploiting manufacturing counterparts' pre-established marketing channels, which is a major consideration.

Contract manufacturing as a business model is not only serving the purposes of the parties involved but has also prompted the growth of research and development in India. As one of the ground realities which is a prohibitory factor in conducting R & D in India, is paucity of funds. Hence, off late several Indian companies have entered into research partnerships with multinationals, and have established R & D facilities as separate units in order to scale up resources and attract focused investments. Such strategies have two-fold benefits: increase in R & D activities and a constant financial support.

The Government has encouraged such engagements by revising its FDI policy, which is effective from August 28, 2017, bringing significant changes in the amount of FDI allowed in the pharmaceutical sector. Where, under the erstwhile FDI policy, no FDI was permitted in brownfield pharmaceutical projects without government approval, the new policy allows 100% FDI in brownfield pharmaceutical projects, with up to 74% allowed in the automatic route and up to 74% allowed in the government approval route.

However, entering into an arrangement for contract manufacturing not only requires compliance with the quality standards but also requires cross-jurisdictional regulatory compliances. There could be a situation where an US entity has entered into an agreement for manufacturing a product which might be prohibited for manufacturing/production in India. In such situations, both the entities have to be cautious of cross-jurisdictional regulatory requirements well in advance before entering into such transactions.

One of the important aspects which entities should deliberate and negotiate beforehand, is the ownership and exploitation of IPRs generated thereunder, both in terms of the IP transferred and IP created during such process. It is inevitable that whenever an outsourcing company enters into a contract for manufacture with any manufacturer, there is an exchange of a large amount IP. The manufacturer is privy to information which is of a highly sensitive nature, the protection of which becomes extremely necessary, so that the outsourcing company does not lose its competitive edge. Thus, clear cut indication in the agreement that the information transferred to the manufacturer is "CONFIDENTIAL", is imperative. However, mere indication that certain information is "CONFIDENTIAL" without giving any clarity on the consequences of its disclosure will dilute the agreement. These situations play a larger role in cross border arrangements.

Regarding, ownership of IPRs, there could be several approaches to determine ownership of IP rights, namely
  • Solely owned - either by the outsourcing company or the manufacturer
  • Joint ownership - subject to mutually agreed terms.
However, such arrangements only serve to prompt more questions such as ownership of the IP created by an employee/ independent contractor, ownership over improvements and customizations, exploitation of jointly held IP, consequences of termination of contract on the outsourcing company's IP, etc. Since a lot of the considerations stipulated hereinabove can only be decided upon negotiation, an IP due diligence, prior to execution becomes crucial.

Trade Secrets form a major chunk of the exchange of IP under contract manufacturing. A trade secret, by its very nature, remains significant only until it is protected by secrecy and quickly becomes obsolete once disclosed. Thus, such disclosure can lead to disastrous consequences, such as, the usage of such information for the advantage of the manufacturer or transferring such information to the competitors of the outsourcing company. Unlike the USA, India does not have any codified legislation for protecting Trade Secrets. However, Trade Secrets in India can be protected under a contractual obligation. The Indian Judiciary has observed the importance of Trade Secrets in multiple occasions. For instance, the Hon'ble Delhi High Court in Telefonaktiebolaget LM Ericsson(Publ) vs. Xiaomi Technology & Ors; CS (COMM) 434/2016, on October 24, 2017, observed:
"The reason probably is in today's world of globalization, where competition is at its peak, the organizations may not be inclined to disclose trade secrets/confidential agreements or its details, it had entered with different parties lest may cause serious prejudice to such parties because of competition involved. A trade secrets may make or break a company hence need to be protected. Once such disclosure is made or is misused by a competitor no order of the Court can save the company from loss or could retrieve it to its original position."

Thus, it is imperative to have express clauses for "Trade Secrets" in any contract of manufacturing especially in the absence of any existing legislation for the same in India.

In the absence of a codified legislation for protecting Confidential Information and/or Trade Secrets, the concept of "Confidentiality Clubs" have been devised by the Indian judiciary. These "Confidentiality Clubs" are constituted on a case to case basis to deal with any instances of breach of confidentiality and/or disclosure of Trade Secrets. This positive approach by Indian Judicial System, by regulating the access of the parties through their representatives and preventing further unauthorized disclosures, is a positive sign in recognizing and protecting the rights over Confidential Information and/or Trade Secrets.

As per recent reports, the contract manufacturing space in India is expected to grow around 20% on a compound annual growth rate. Thus, any entity should utilize this smart way of doing business but with water tight clauses. Such requirements are not only suggested to protect the interest of the parties involved but also to send a positive signal regarding the booming pharmaceutical sector in India.