Gold Dollars Signs In Pill

Source: Flickr user Bill Brooks

Runaway healthcare spending poses a major risk to Americans, but generic drugs have been responsible for cutting $1.5 trillion in costs over the past 10 years, according to IMS Health data.

That's an astounding amount of money, but the pace of saving should accelerate as new generic alternatives to pricey biologics, known as biosimilars, hit the market in the next few years.

Keeping a lid on costs
A larger and longer-living population means that healthcare spending is going higher and generic drugs should be perfectly positioned to benefit from payers' insatiable appetites for savings.

Consider this point: As former top-selling, small-molecule medicines like the $12 billion per year statin Lipitor have lost patent protection, payers have increasingly embraced generics to cut costs. In 2004, the use of generic drugs resulted in healthcare savings of $74 billion, but by last year those savings had soared to $239 billion.

G

Source: IMS Health

Changing of the guard
A lot of that increase in savings stems from 2010-2013's patent cliff, a period in which $95 billion in top-selling, small-molecule drugs like Lipitor lost patent protection.

Although the tailwinds from the small molecule patent cliff are ebbing, I believe that approaching patent expiration on biologics, including AbbVie's Humira -- the best-selling drug on the planet with $12 billion in sales last year -- makes generic drugmakers still worth investing in.

Apparently, drug giants agree:

  • In February, Pfizer acquired biosimilars trend-setter Hospira for $17 billion, citing a potential $20 billion in market opportunity by 2020.
  • Novartis is pouring money into its Sandoz generic business to develop biosimilars, and those efforts are beginning to pay off with FDA approvals of biosimilars to the blockbuster drugs Neupogen and Copaxone this year.
  • Amgen has increased the number of biosimilars it's developing from six to nine in the past year.
  • And last month, Biogen announced its investment in biosimilars to Remicade and Enbrel could lead to sales soon given that they've now been proven to work as effectively as the brand name versions.

The increasing attention being focused on the biosimilar opportunity by these companies likely isn't misplaced.

According to Express Scripts, roughly $70 billion in brand-name biologics will lose patent protection by 2018, and healthcare payers could save $250 billion between 2014 and 2024 if the likeliest biosimilars enter the market. That's a big number, but it may underestimate the longer-term opportunity given that the Pharmaceutical Research and Manufacturers Association of America reports that there are more than 900 biologic drugs under development that, if approved, could someday lose patent protection.

Investing in the basket
Investing in generic drugmakers makes sense given that:

  • biologics carry price tags that run into the tens of thousands of dollars per year;
  • biologics are tough to manufacture and likely to be priced higher relative to the brand-name drug than small-molecule generics have traditionally been priced;
  • and healthcare payers are likely to welcome biosimilars costs savings with open arms.

Obviously, large players like Pfizer, Novartis, Amgen, and Biogen have the potential to benefit from biosimilar success, but investors may also want to consider smaller companies that are more focused on biosimilars, such as Momenta Pharmaceuticals.

Momenta is partnered up with Novartis on its recently-approved Copaxone biosimilar, and the company could benefit handsomely from that relationship. Prior to the launch of a longer-lasting Copaxone, the original formulation targeted by Novartis and Momenta's biosimilar was racking up over $4 billion in sales annually. It's unclear how much of that remains in play -- estimates suggest 60% of patients have swapped to the longer-lasting formulation of Copaxone -- but Momenta will split profit with Novartis on any sales, and it could also receive milestone payments from Novartis if sales eclipse certain thresholds.

Investors who are willing to take on more risk may also want to keep an eye on biosimilars pure play Coherus BioSciences, which IPO'd earlier this year and is working on a Neupogen biosimilar that could be filed for FDA approval by early next year, and is partnered up with Baxter International on an Enbrel biosimilar.

Regardless of how investors choose to get exposure to generics, the positive impact on healthcare spending suggests that this is one healthcare trend that's worth betting on.

Todd Campbell has no position in any stocks mentioned. Todd owns the equity research firm E.B. Capital Markets, LLC. E.B. Capital's clients may have positions in the companies mentioned. The Motley Fool recommends Baxter International, Express Scripts, and Momenta Pharmaceuticals. The Motley Fool owns shares of Express Scripts. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.