Lonza – C&GT CDMO Deep Dive – Part 2

We ended our previous Interview [see Lonza – C&GT CDMO Deep Dive – 12 May 2022] with a SWOT analysis of Lonza’s C&GT [cell and gene therapy] operation, and I wanted to kick off today by following up on a few points you highlightied. Can you elaborate on Lonza’s lack of flexibility and what that means for the growth of the company’s C&GT CDMO operation?

You noted that Lonza was not very competitive in early-phase C&GT projects. How significant an issue is that for the future growth of the business? My understanding is there are high switching costs for customers, so unless something goes terribly wrong, they typically remain with their original CDMO [contract development and manufacturing organisation] partner of choice as long as there is capacity and the lead times are manageable. Is that the case? If so, what does it mean for the longer-term growth and visibility of Lonza’s C&GT CDMO revenue if it cannot capture the early-stage customers today that represent the late-stage or commercial customers and growth drivers of tomorrow?

We’ll talk about pricing and the margin story in a moment. Circling back to the pipeline discussion, does Lonza have a comparatively shallow early-stage pipeline vs peers such as WuXi and Catalent? If so, how easily can it make up for that?

You said Lonza was fairly aggressive in building out early-stage market share in the past couple of years. How do you define aggressive? Was the company compromising on price and therefore the gross margins it historically coveted?

To confirm, you think Lonza’s key customers – or perhaps its customer base more broadly – are of a higher quality than some of its peers’, as defined by their respective clinical programmes harbouring a higher POS [probability of success] across the different trial stages, or come with larger potential volumes?

What does Lonza’s inflexibility and historic focus on margin mean for the company’s underlying technology and cost base? How competitive is Lonza vs players such as Catalent or WuXi that are investing aggressively?

Is Lonza at risk of falling behind its peers for cell therapies, whether autologous, allogeneic or new modalities such as iPSC [induced pluripotent stem cell] or anything else, given its inflexibility, focus on margins and potentially its approach to CAPEX? Indeed, to what extent do you need to be an early adopter of technology to win new customers, given the potential regulatory or execution risks associated with that?

Do you think Lonza has the appetite to invest in the latest manufacturing technology – whether across allogeneic, iPSC, MSCs [mesenchymal stem cells], exosomes or anything else – or is it more reluctant to do so than its peers?

Can you elaborate on Lonza’s LNP [lipid nanoparticles] capacity? I’m aware of a number of manufacturers that have significant LNP capacities, including CordenPharma, Merck Millipore and speciality chemicals players such as Croda and Evonik. Where is Lonza looking to position itself among that LNP value chain, what market share is it capturing and how do you see it growing here?

My understanding is Lonza’s collaboration with Moderna is only for the drug substance itself, ie, the mRNA API [active pharmaceutical ingredient]. Why do you think Moderna didn’t partner with Lonza for the LNP? Did it simply not have the capacity at the time?

Can we run through a similar exercise for Lonza’s exosome capacity? You highlighted last time that Lonza has invested in exosome capacity in its Lexington, US, and Siena, Italy, plants. What exactly is an exosome? How does it compare vs an LNP, and what are the future applications of this technology?

What would be the theoretical advantages of an exosome vs an LNP specifically? The latter has lower COGS than viral vectors, can be synthetically manufactured and can carry high kilobase lengths of genetic material in addition to proteins, with significant ongoing innovation including improved tissue tropism.

You noted you don’t see demand for viral vectors still existing in the future. Could you help us understand what tail demand would look like? Based on previous Interviews [see LNPs & Next-generation Gene Therapies – In Vivo & Ex Vivo Applications & Disruptive Potential to Incumbent Technologies – 15 March 2022], it seems the market is very keen to move away from viral vectors altogether, due to their immunogenicity issues, cost, supply chain and regulatory reasons. We’ve seen in vivo gene therapies such as Intellia’s NTLA-2001 demonstrating proof of concept using LNPs. We know AAVs [adeno-associated viruses] more broadly can’t accommodate the larger CRISPR-Cas9 gene editing complexes that are so important for the next generation of in vivo gene therapies. Ex vivo, LNP similarly represents a more attractive option than viral vectors for the transfection of cell therapies such as CAR Ts, and it seems to represent an even superior option to electroporation. How sustainable do you see the demand for viral vector manufacturing and capacity being, and where will it come from if C&GT moves to LNP or other delivery vehicles altogether?

Circling back to Lonza’s pricing strategy and approach to gross margin, how often would Lonza pass through supply chain cost inflation to clients vs absorbing it into its own P&L? How bitter a pill to swallow is that for prospective customers, especially in today’s macroeconomic environment?

How often does Lonza charge royalties or bake royalties into its contracts vs peers, and how sustainable is that? If we look at other businesses that charge royalties, such as Oxford Biomedica or MaxCyte, that seems to be fairly unpopular these days, having spoken to customers.

How has the lifetime value of a contract changed given Lonza is no longer baking in royalties and instead looking to make time guarantees? Has the lifetime value decreased significantly or does the premium associated with speed to market offset that somewhat?

Given everything we’ve discussed around how Lonza chooses its customer base and the type of customer it typically works with, how exposed is the company to the broader biotech sector slowdown and the reduced funding environment? 80% of small to mid-cap biotechs are trading below their IPO price, thus impacting their ability to issue new equity to fund R&D.

Lonza has seen a changing of the guard in the C-suite. What are your thoughts on the new management’s philosophy? Do you think it can address some of Lonza’s key legacy weaknesses and issues that you highlighted?

Has Lonza, under the new and former leadership teams, made the necessary CAPEX investments to sustain and accelerate future organic growth in C&GT? By reverse engineering the illustrative figure in Lonza’s recent presentation, 2021 CAPEX seems to be roughly CHF 80m for C&GT vs CHF 900m in biologics.

Based on other Forum Interviews, it seems the CAPEX required to build out C&GT facilities is the cheap part and that the OPEX is the challenging portion – in fact, OPEX appears far higher. Is that a barrier to future capacity being built out, and how soon do you think we’ll see the low CAPEX-high OPEX relationship reverse?

You highlighted talent churn in Singapore and very high staff turnover in the US, specifically at Lonza’s Houston site, perhaps due to local competition. Can you elaborate on the company’s ability to attract and retain talent and how significant a cost item that represents?

Circling back to our discussion around CAPEX and the capacity utilisation, how should we think about utilisation in the first year or ramp-up phase of a C&GT CAPEX projects as they go online? Is it safe to assume roughly 65% based on the requirement for anchor customers?

How should we think about the IRR or ROIC profile for a C&GT CAPEX project? I know Lonza targets an IRR of 15-20% and ROIC in excess of 30% at the group level, but is that reasonable in C&GT given everything we’ve discussed?

We know Lonza is aiming for a core EBITDA margin of 15% by 2024 for its C&GT unit, but as you highlighted, this includes the Biosciences division, and perhaps that target includes future Cocoon sales baked in too. I’m assuming the Biosciences unit is also typically associated with higher-gross margin sales. Looking at peers and the wider market, media sales are typically in the order of 80% gross margin. If we strip out Biosciences, what do you think the profitability of the underlying C&GT CDMO arm looks like at scale? Perhaps we can draw some comparisons to the 35%-plus we see in biologics and 30% for small molecules.

Presumably, the shape and extent of margin progression over the coming years relies on Lonza successfully transitioning clinical programmes to commercial. Is that fair to say?

As customer pipeline assets mature and enter larger-stage trials or get approved and go on market, how do the contract structures and associated economics change for Lonza? Presumably, these become longer contracts, there are fewer changeovers and it comes with higher asset utilisation with established manufacturing processes?

We’ve discussed how the clinical to commercial programme transition is a key lever by which Lonza’s C&GT CDMO profitability will evolve. Do you think the market is overestimating the number of therapies moving into larger clinical trials and being approved in the coming years? We’ve seen a huge number of C&GT trial pauses. I think 40% of clinical trial holds have been C&GT-related, despite making up far less than 40% of all studies, and only 50% have been allowed to continue.