The word “tabloid” has its origin in compressed medicine tablets, a technique that invigorated the pharmaceutical industry in the late nineteenth century. Henry Wellcome, the pharma entrepreneur, coined the term in 1884 by blending the words “tablet” and “alkaloid” to denote the new product being offered by his firm, Burroughs Wellcome. ‘Tabloid’ became one of the most powerful brand names in business history, so much so that it passed into general use for other items in compact form, most notably the tabloid newspaper.
Wellcome introduced other marketing masterstrokes too, including lavish hospitality. Having moved to London from the United States in 1880, Wellcome hosted some of the most spectacular parties of the day, networking with the cream of English society and paying for sumptuous banquets at scientific and medical conferences.
Endorsement from people of influence boosted his company’s profile and sales, and Burroughs Wellcome grew into a pharmaceutical major that was later merged into today’s GlaxoSmithKline (GSK). The Shanghai office that Wellcome set up in 1908 also marked the beginning of GSK’s heritage in China.
But in the modern-day drug industry, the dividing line between acceptable giveaways and overly aggressive marketing seems to be growing thinner. The costs for overstepping the mark are also immense. This time last year GSK parted with $3 billion – the biggest healthcare fraud settlement in US history – for promoting its drugs with unsavoury tactics. And as of last week, GSK found itself in similarly troubled waters with the Chinese authorities too.
How did GSK’s difficulties begin?
The first sign of problems in GSK’s China business became public as early as March. An anonymous whistleblower alleged that the company’s research head in China, Zang Jingwu, had fabricated data in a paper published in 2010 in the scientific journal, Nature Medicine.
GSK withdrew the paper and Zang was sacked in June (he claims he has been made a scapegoat for the errors of colleagues). A co-author of the dissertation also resigned.
More damaging leaks then followed a few days later. The Wall Street Journal cited another anonymous source as claiming that GSK’s sales staff were involved in widespread bribery between 2004 and 2010. Doctors in China were provided with “speaking fees, cash payments, lavish dinners and all-expenses-paid trips” in return for prescribing GSK’s products, the article suggested, citing the tipster’s emails which were sent to GSK’s top executives in January.
While GSK was investigating the allegations, police in Beijing, Shanghai and Changsha raided the drug giant’s regional offices late last month. Since then, at least four senior managers – all Chinese nationals – have been detained by police for ‘economic crimes’. The unit’s finance director was briefly barred from leaving China. GSK has since replaced its China head Mark Reilly with Hervé Gisserot, one of its two top European managers.
How serious are the allegations?
Many of the highest-profile corruption probes in China are conducted in secret, with little public view of what might be going on behind closed doors. But the Chinese authorities have been unusually transparent in the GSK investigations, with extensive briefings given to journalists. In a rare appeareance last week, Gao Feng, head of the economic crimes investigation unit at the Ministry of Public Security, even accused GSK of acting like “the ringleader” of a “criminal organisation”.
“We found that bribery is a core part of the activities of the company,” Gao told journalists. “To boost their prices and sales, the company performed illegal actions.”
According to the People’s Daily, the police began their investigations by looking into the activities of a Shanghai-based travel agency called Linjiang International. The newspaper described Linjiang as a “husband-and-wife firm” but found it strange that the agency hasn’t arranged any travel at home or abroad, only organising business conferences in China. Thanks to its business ties with GSK, Linjiang’s annual revenue had spiked to “several hundred million from a few million” in just a few years.
Police are now examining more than 700 “travel agencies” of a similar kind on allegations that they may have served as conduits for illegal payments and perks to doctors, medical staff and government officials across the industry.
How does the system work?
Liang Hong, one of the senior GSK managers detained, was paraded on CCTV to confess his wrongdoing. According to Liang, the phantom “travel agencies” were established because of anti-corruption rules imposed on drug firms which made it difficult to deal directly with a customer. When a “travel agency” helps to organise a medical conference of 100 executives, a pharmaceutical firm would typically pay for a 150 attendees. The agency in question would then use the excess budget to “clear all the roadblocks in the medical network” with pay-offs, Liang says.
He then confessed that he controlled annual “conferencing fees” worth several hundred million yuan. Putting this into perspective, Liang said GSK’s China revenues were Rmb4 billion ($651.7 million) in 2012, and that “conferencing fees” are part of operating expenses that typically equate to 30% of the price of GSK’s drugs.
That makes the kickback industry a lucrative one: the People’s Daily reckons there are so many middlemen like Linjiang that these shady entities have to compete with each other for business. In doing so, kickbacks are soon flowing back to pharmaceutical executives themselves, it claims.
As WiC has reported before, many listed firms in China carry bulky entertainment and meeting fees in their operating expenses (WiC194). But the proportion of these expenses seems especially high for Chinese pharmaceutical and drug-distribution firms. In the case of Fosun Pharmaceutical, which is controlled by Shanghai billionaire Guo Guangchang, Rmb308 million was spent on staff costs last year from sales expenses totalling Rmb1.5 billion. But Rmb226 million was spent on conferences, Rmb240 million on marketing, Rmb203 million on travelling and Rmb431 million on unspecified “others”. Similar expense ratios apply to state-run heavyweights such as Sinopharm, which accounts for about a tenth of China’s drug distribution market.
Is GSK the only guilty party?
Apparently not. The Chinese police said these 700 agencies have a wider range of clients, while the New York Times has reported that Linjiang was used by companies including Roche, Sanofi, Novartis and Merck. All of these companies have since severed links with Linjiang.
Economic crimes boss Gao Feng has delivered a blunt message that others could soon face GSK’s predicament too.
“We have also found some clues of illegal money transfers involving other foreign firms. Whether they have been involved in these allegations we are not sure now. Probably you better ask them yourself. One question is enough: can you sleep well at night?” the UK’s Telegraph newspaper quoted him as saying.
This week, Xinhua said that police had already raided the Shanghai offices of AstraZeneca and taken away one employee. Belgian drugmaker UCB has also confirmed that it has been visited by police.
Why is bribery so widespread?
At the root of the problem is China’s paltry medical spending on its 1.35 billion population.
When Beijing kicked off its Five-Year Plan in 2006, healthcare spending was $121.5 billion a year, compared with just over $2 trillion spent by the US in the same year. That translated into per-capita expenditure of $92 – versus $6,714 for the US and $3,552 in the UK – ranking China 101st in a World Health Organisation list published in 2006.
Expenditure has increased over the years. (McKinsey projected last year that it would grow from $357 billion in 2011 to $1 trillion in 2020.) The State Council also said in March that spending in 2013 would climb 27% year-on-year.
Greater government subsidies will eventually change the face of Chinese healthcare. But that is still some way off and until this point Chinese hospitals (nearly all state-run) have been left to cover their own costs. As WiC has mentioned previously, hospitals have long relied on drug sales to patients for much of their income. Even the health ministry admits it, with official figures suggesting that drug sales accounted for 44% of hospital revenues in 2010. For less affluent cities – where government financial support is weaker – the proportion could be as high as 70%.
This model results in routine over-prescription of medicine and improper pricing. CCTV revealed in late 2011 that patients were paying prices five times the manufacturing costs of the 20 most common drugs. As a result, hospital pharmacies become a breeding ground for bribery (for an example, see WiC114). Payments by drug firms to get their products onto prescription lists is standard practice.
For instance, GSK’s Liang Hong told CCTV that a pack of Heptodin, a GSK drug for hepatitis B, sells for Rmb140 at a Chinese hospital. Out of this sum 20% is used for bribing medical staff, while GSK still keeps a 20% profit margin.
According to China Business News, the pharma giants face a dilemma: “Foreign drugmakers are being forced to choose between following the underground rules or losing out on a booming market to rivals who do so.”
Is GSK being singled out?
Gao, who will conduct any future case against GSK, denied that the UK giant was being singled out because it is a foreign firm. But as efforts continue to restructure the Chinese economy to one more driven by domestic consumption, cynics point to a bigger picture: Beijing is increasingly flexing its regulatory muscles against multinationals.
European food packaging group Tetra Pak became the subject of an antitrust investigation last week (see WiC201) and this was followed by a pricing inquiry into foreignmilk powder firms. Then came the crackdown on Western pharma. (CCTV weighed in this week by claiming that ice cubes at American fast-food chains like KFC are “dirtier than toilet water” too.)
International newspapers have highlighted that GSK’s case reiterates that foreign firms can expect a rougher ride as they vie for a foothold in China’s vast consumer market. Some of the local media are sympathetic towards GSK’s predicament though, noting that it takes two to tango in corruption cases. But so far, there is little sign of local parties being pursued as enthusiastically by the authorities. Century Weekly was typical in its view: GSK is alleged to have offered bribes to everyone in the medical food chain, it noted, but not a single Chinese government official or entity has been named in the scandal. “Why aren’t the people taking the bribes being named?” it demanded. “We all know the answer, some of them are people of significance. GSK is just the tip of the iceberg.”
According to Liang, bribes were being offered to officials at all the key agencies including the China Food and Drug Administration (equivalent to the FDA in US), the National Development and Reform Commission (which regulates drug prices) and even the Ministry of Human Resources and Social Security (which pays for some of the state’s health budget).
And the way forward?
The president of GSK’s international businesses, Abbas Hussain, met the Ministry of Public Security this week. In a statement that followed, the UK multinational admitted violating Chinese laws but stressed that company executives had also acted in contravention of GSK’s own rules and regulations.
“Certain senior executives of GSK China who know our systems well appear to have acted outside of our processes and controls which breaches Chinese law. We have zero tolerance for behaviour of this nature,” Hussain insisted.
GSK also says that it shares the desire of authorities to root out corruption and fully supports reform of the medical sector. More importantly, it will now change its operational model to reduce drug prices further, although no details were given on how this might be achieved. The comments may well strike the right note with Beijing (some analysts suspect that the ongoing investigation is designed to force the pharma giants to cut their prices in China) but they are unlikely to stop the probe from widening.
The State Council has said it wants to wean hospitals off their reliance on income from drug sales before 2015. That means Beijing will soon be footing the bill for an ever-increasing proportion of the prescription drugs consumed by Chinese patients. Ergo, if medicines cost more, the government bill will be bigger, so eliminating the bribes said to have been paid by GSK (and potentially by many others) could prove significant in budgetary terms. A back-of-the-envelope calculation suggests it might make medicines 20% cheaper.
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