Are drug recalls always a good thing? - Views on News from Equitymaster

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Are drug recalls always a good thing?

Mar 6, 2013

As per the USFDA website - "A recall is when a product is removed from the market or a correction is made to the product because it is either defective or potentially harmful. Sometimes a company discovers a problem and recalls a product on its own. Other times a company recalls a product after FDA raises concerns".

The USFDA conducts random checks on the batches of the drugs manufactured by the companies which are meant to be distributed in the US. During course of verification, if the USFDA finds any flaw, then it has the authority to direct the company to recall that batch of drug, where transgression has been detected.

Both, companies on their own or the USFDA can initiate drug recall. Drug recalls are normally done in following circumstances: A drug contains some unwanted feature like any superfluous particle detected in it, the packing does not match as per norms, the drugs do not carry required warning, drug information is missing from the packets, and in various such circumstances and so on.

When does a drug recall help companies?

Whenever a drug is recalled, the manufacturer pulls back its defected inventory from the market. In some situations the manufacturer might have to recall its drugs on several occasions. In such situations, the manufacturer might temporarily stop the manufacturing if such defects are continuously perceived. In the course of these events, other generic producers get the opportunity to eat into the market share of the company facing drug defect problems. A company can take best advantage when it is manufacturing a drug which has low competition.

Many companies have taken advantage of the situation when their competitors are facing manufacturing defects. They get more time to supply their drugs and grab market share. In light of these events we have taken Dr Reddy's as an example of a company which benefitted from its competitors having to recall their drugs.

How did Dr Reddy's benefit?

Dr Reddy's generates more than 50% of its revenues from the US business. It has a variety of products in the US which includes Para IVs and various low competition products. Tacrolimus and Lipitor too form part of the company's product basket. These drugs were recalled by other generic companies selling them and we shall take a look at whether Dr Reddy's was able to benefit from those events.

Tacrolimus: There are few players selling the generic version of Prograf, generically known as Tacrolimus. Dr Reddy's was one among the early entrants to launch this product. The other peers were Mylan and Sandoz at its time of launch. Gradually, Dr Reddy's was able to gain 20% market share from this product. However since June 2012, Mylan had to recall its drugs due to some defects and is temporarily not selling it in the market. This has helped Dr Reddy's increase its market share from 20% to 40% as on date. Almost, doubling the revenues. However, Mylan might re-launch its generic version soon. As this product has low number of players, Dr Reddy's has generated better margin than other drugs. The branded market size of this drug was US$ 1 bn.

Lipitor: Ranbaxy, Mylan, Sandoz Apotex, and Dr Reddy's are companies selling the generic versions of Lipitor in the US market. Recently, Ranbaxy had to recall its batches of drugs due to manufacturing defects. As Ranbaxy had 180-days exclusivity for this drug, it had gained 40% market share for it. Mylan too had grabbed sizeable market share. Dr Reddy's market share was in single digits before Ranbaxy recalled its drug. As per Dr Reddy's management, Mylan has taken large part of the share which was lost by Ranbaxy. Thus, although Dr Reddy's too has benefited from this recall, it has been very little. The branded market size of Lipitor was US$ 7 bn, before generics entered the market.

Our view:

Whether companies will benefit from drug recalls done by their competitors is a function of various factors such as the nature of the drug in question, the number of players selling it in the market and how long it takes to correct the manufacturing defects and launch it again. In many cases, companies have benefitted from drug recalls conducted by their competitors and gained market share. But it does not mean that that company will continue to witness better market share always. In the event that the company which was impacted by the drug recall, re-starts marketing its drug, there is the possibility that companies which had benefitted from the event may start losing market share.

Whatever the case, investors need to have a cautious view on such events. The temporary increase in market share and thus in revenues might not last long.

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