Thursday, March 6, 2008

Cheap commodities can kill you

The pharamaceutical heparin has been killing a small number of its users, as USA Today and others reported Thursday

In a finding eerily similar to the contamination of pet food last year, the Food and Drug Administration said Wednesday that a counterfeit chemical has been detected in recalled supplies of the blood thinner heparin.

From 5% to 20% of the active pharmaceutical ingredients in some heparin supplied by Chinese companies to Baxter (BAX) Healthcare is a similar, but different, chemical that mimics the blood thinner in commonly used tests.

Nineteen people have died since Jan. 1, 2007, from allergic reactions that appear to be associated with contaminated heparin, says Janet Woodcock, acting director of the FDA's Center for Drug Evaluation and Research. The death toll had been four.
So, let’s summarize what this says:
  • Baxter bought ingredients cheap in China
  • Chinese suppliers cut corners in a way that they knew would not be detected in normal testing
  • The difference killed 19 people.
Yes, Baxter’s 2007 COGS is a whopping 51% (leaving a gross margin of only 49%). If Baxter is like industry norms, some of that is the fully amortized cost of the manufacturing facility. However, much (most?) is an expensive distribution channel with lots of incentives for an inefficient sales force and buyer incentives, as Gwen Olsen talks about in her book.

Very little of that is for raw materials: which raises the question of (when human safety is involved) why cut corners with unproven and under-regulated suppliers.

Regular readers know I’m a flaming capitalist, but this is just begging for further regulation — if not by grandstanding politicians, then by greedy trial lawyers (the latter being an extremely inefficient form of regulation).

If the Chinese government doesn’t like the US blocking the buyout of a failing US IT company on national security grounds, it’s going to hate blocking use of dubious pharmaceutical inputs on safety grounds. I will be curious to see if other developed countries follow suit, or if they decide they’d rather risk lives on lax Chinese health regulations rather than risk trade tension with China.


Kevin said...

It is interesting that you cite the contamination issue with pet food. However, you neglected to mention the far more serious and well documented episodes of toxic toothpaste and lethal cough syrup.

The toothpaste scandal started with dodgy paperwork associated with Chinese suppliers, who managed to spike diethylene glycol (i.e. antifreeze) into the usual additive (glycerin) used for toothpaste.

The second actually led to multiple deaths (> 100) in Panama, due to the same ingredient.

Joel West said...

Actually I don't cite pet food, but USA Today did.

Sorry I wasn't clear. I see pet food and toothpaste as a different case, because these are cheap commodities where manufacturers cut corners because the sale price and margins are low.

The gross margins for pharma are probably the highest of any major industry besides software (and the margins would be even higher without the inefficient sales process).

So why cut corners on inputs that are a small fraction of the overall sale price? Just out of habit? To show earnings growth? Because you think you won't get caught? It doesn't make any sense.

jleecbd said...

I started with one blog entry, and ended up with two. Frankly, you are right in that Baxter could have avoided the problem with some small investment in upgrading their technology. On the other hand, regulation makes that an unappealing option.