Over the past decade, the biotech and pharmaceutical industry has moved toward an outsourcing model for drug development. This is true for companies of all sizes, from the small startup to the multi-national conglomerate. Outsourcing results in reduced overhead and greater expense control, as companies are not required to maintain development infrastructure. Nowadays it is becoming more common for startups and clinical-stage development companies to utilize a Virtual Drug Development Model, where staff is geographically dispersed and the majority of development work is outsourced.

The Dawn of the Virtual Drug Development Company

In a 2014 article published by Lynn C. Klotz, PhD, the author provided a simple calculation demonstrating how a small biotech company can bring a drug to market for ~$250 million1. This is dramatically less than the approximate $1.8 billion provided in a 2010 study conducted by Eli Lilly and Company2, which includes cost for discovery, preclinical and clinical testing; as well as the cost of failed drugs and the cost of capital. For a virtual company that in-licenses a single asset, these latter costs are irrelevant, since they only have one drug to take through clinical development.

For the purposes of this article, a Virtual Drug Development Company (VDDC) is defined as a company with one to 50 employees that relies heavily or entirely on outsourcing for every stage of the development process. VDDCs can be mixed office or home based, maintain a global geographical spread and have little to no infrastructure to handle development activities. The development pipeline is sourced through licensing or acquisition of one or few clinical-stage assets and the company has a defined exit strategy, typically through partnership or acquisition. Most importantly, VDDCs have no revenue and limited capital. VDDCs are constrained by limited resources, specifically manpower and cash. As a result, these companies must rely on outsourcing and strategic cash spending in order to survive.

How a company maximizes their chances of generating data using the cash in hand is primarily driven by the development strategy (when do I perform what development activity) and vendors’ contract payment structure. The first part of this article will focus on key elements of vendor contracts that impact cash and the second will recommend ways that costs can be controlled from the sponsor’s point of view.

Key Elements of Development Contracts that impact cash

Vendor contracts

  1. Upfront payment: The majority of vendor contracts will require some amount of an upfront payment. It is important to minimize this payment whenever possible. The risk here is that once the money has been paid, it is difficult and time intensive to get it back in the event work is not completed or the vendor is deemed negligent. Upfront payments also reduce the sponsor’s leverage when negotiating with vendors in the event of a dispute or cancelled project (which is ultimately governed by the contract terms). Vendors do commonly request an upfront payment to cover personnel resources, raw materials or supplies. In this case, invoices or line-item estimates including overhead should be provided to the sponsor so it is understood how the upfront payment is being applied.
  2. Monthly invoicing and pass-throughs: For large contracts that are paid monthly, such as a CRO contract for a clinical study, the invoice should be unitized and based on work performed. The sponsor should review and approve the units each month (in addition to pass-throughs), prior to the invoice being generated, to ensure the sponsor is in agreement with the invoice amount. If there are questions or discrepancies, they should be addressed before finalizing the invoice. A flat fixed monthly payment structure should never be used for performance based vendors or when the work is variable. Flat fixed monthly payments can be useful for consultants when work is being performed on an ongoing basis or the consultant needs to be retained for the project.
  3. Cash held in escrow: Many clinical trial contracts require a percentage of the total Investigator Grant (IG) be held in an escrow account. A portion of this money is used to pay IG invoices on an ongoing basis, and a percentage of this money is typically held until the end of the study to pay remaining IG invoices. Any excess cash is refunded to the sponsor at the end of the study. Cash held in escrow should be eliminated or kept to a minimum whenever possible. Similar to upfront payments, once the money has left the company, it can be difficult to get it back. Additionally, each dollar held in escrow is one less dollar that can be spent on another development activity or could be earning interest for the sponsor company.
  4. Timelines: Timelines need to be realistic and agreed upon by both the vendor and the sponsor. In the case of a CRO contract, Project Management is the largest recurring fee, which is driven by the project duration. Therefore, the projected timeline has a significant impact on the total value of the contract, which also drives upfront payments, as these are typically a percentage of the total contract. In the event of a milestone-based contract, timelines should be agreed to by both parties and vendors must be held accountable by the sponsor. Incentive/penalty clauses can be an effective tool when managing milestone-based contracts, and will be further discussed in Part 2 of this article.
  5. Change orders: There needs to be accountability from both the vendor and the sponsor when dealing with Change Orders. It is the vendor’s responsibility to work with the sponsor to accurately plan and estimate the project contract. If an activity is missed that should have been included by the vendor at the project start, resulting in a change order, then the sponsor needs to hold the vendor accountable and the vendor should absorb the cost or offer a discount to the sponsor. For example, if a sponsor is relying on a CMO to manufacture a GMP product, proposals provided for the manufacturing should include all activities required to release under GMP. If an activity is missed from the proposal, such as the cost of release testing, then the activity should be absorbed by the CMO. Sponsors should be upfront with this approach to vendors, so vendors have an incentive to present a robust proposal and not a proposal with a low dollar amount (which will ultimately increase with change orders). This is true especially in the case of multiple RFPs. If the sponsor drives changes to the scope of work, then the change order is warranted. In the event of a change order, fees should always be reviewed and approved by sponsor and negotiated whenever possible.

Clinical Site Contracts

  1. Start-Up fees: Similar to upfront fees and cash held in escrow, site startup fees should always be minimized. A startup fee is a sunk cost, meaning it is money you will never get back. Startup fees typically cover IRB/EC fees and overhead for the time involved negotiating the site contract/budget and initiating the site. It is also not uncommon for a site to request payment for one patient as part of the startup fee. However, there is never any guarantee that a site will enroll a patient in the study. For this reason, startup fees should always be reduced to an amount the sponsor is comfortable with sinking.
  2. Overhead: Clinical sites are becoming increasingly demanding when it comes to overhead. It is up to the sponsor to push back on these amounts to a reasonable and fair level for both parties. Often time sites will claim that overhead is not negotiable. However, a sponsor should always try to negotiate overhead, as this is a significant cost driver of the site contract. If a reasonable amount cannot be agreed upon by both parties, the sponsor needs to be prepared to accept the overhead as-is or drop the site from the study.
  3. Treatment costs: Treatment costs can vary greatly from site-to-site and country-to-country. It is important to standardize these treatment costs for budgeting purposes (pricing from Centers for Medicare/Medicaid or generated by a grant manager software). In addition to treatment costs, standard pricing should also be applied to other drugs provided while on study (for example, drugs provided to mitigate side effects). Site pharmacies may charge a premium for these drugs in addition to the pharmacy fee and overhead, so it is important to know what is a reasonable price for the specific drug before finalizing the site contract.
  4. Screen failures: Sites want to be paid for the time involved with screening a patient. Sponsors want quality patients screened to increase their enrollment. By utilizing a screen failure ratio in the site contract, it removes the incentive for a site to screen patients for the sake of screening and creates an incentive to screen quality patients. For example, one screen failure is paid for every three patients that are randomized. Another approach is to only pay for screening activities performed rather than a fixed rate for screen failure.

Having explored some of the key factors associated with contract development, Carrie Nodgaard Helland will look to consider strategies virtual companies should implement to ensure effective cost control.

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Please return to Clinical Trials Arena soon to read the second part of this article investigating what sponsor companies can do to control costs when working with partners to promote success and budget control through your clinical trial.


1. Klotz, PhD, Lynn C. “What Is the Real Drug Development Cost for Very Small Biotech Companies?” Genetic Engineering News, 16 January 2014.
2. Paul, Mytelka, Dunwiddie, Persinger, Munos, Lindborg and Schacht. “How to Improve R&D Productivity: The Pharmaceutical Industry’s Grand Challenge,” Nature, Vol. 9, March 2010.