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Pharma: Towards a healthy future? - Views on News from Equitymaster
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  • Dec 28, 2006

    Pharma: Towards a healthy future?

    While the BSE-Sensex made historical highs during 2006, the performance of the BSE Healthcare Index, like in 2005, left a lot to be desired. Nothing highlights this fact more clearly than the following statistic - In the past one year, while the Sensex, albeit hiccups in May 2006, notched up nearly 44% gains, the healthcare index has under performed the benchmark managing to garner only 22%! This is despite the fact that the performance of the pharma industry in 2006 was much better than that in 2005.

    The year that was…
    2006 was a better year for the pharma industry, which witnessed strong performances both in the exports and domestic markets. The year began with some key acquisitions made by the domestic pharma behemoths like Dr. Reddy's (Betapharm) and Ranbaxy (Terapia) in the global generics market, which branded them as major contenders in the consolidation drive in the global generics industry. These acquisitions also highlighted the fact that while the US continued to be the key market on the domestic companies' radar, the focus was slowly shifting to the second largest and a more heterogeneous market - Europe. Other companies were not to be left behind either. Wockhardt (Pinewood), Nicholas Piramal (Morpeth) and Sun Pharma (Able Labs and the Hungarian acquisition) were the other newsmakers on the acquisition front. Those companies focusing on contract manufacturing, such as Cipla and Nicholas Piramal, also witnessed strong traction in revenues.

    The difficult pricing environment in the US continued to play spoilsport to the pharma industry's fortunes. Also, this pricing pressure spilled over to the European markets as well. While the UK faced pricing pressures due to generics being highly commoditised in that country, Germany and France were also witness to tough conditions due to regulatory changes by the respective governments. Having said that, after a long time, domestic companies tasted success on the 180-day exclusivity front with Ranbaxy and Sun Pharma garnering this lucrative exclusivity window for 'Simvastatin 80 mg' and 'Ultracet' respectively. Similarly, Dr. Reddy's was successful in bagging authorised generics deals for two of Merck's drugs 'Simvastatin' and 'Finasteride'. In the domestic market, sales growth was stronger as compared to 2005 due to the low base effect last year on the back of uncertainties surrounding the implementation of VAT. Having said that, MNC companies were slower in launching products from their parent's portfolio with Pfizer being the most aggressive of the lot (3 launches in the domestic market).

    Our 2006 assumptions Vs reality
    While putting through our outlook for 2006 at the end of 2005, we had indicated that the generics potential would be higher in 2006 as compared to 2005 due to larger number of patent expiries. As indicated, domestic companies were able to capitalise on the huge generics potential during the year. While Ranbaxy and Sun Pharma received 180-day exclusivities for 'Simvastatin' and 'Ultracet' respectively, Dr. Reddy's was the authorised generic for two drugs and Cipla was the bulk drug supplier to Teva/Ivax during the exclusivity period, which the latter had garnered for two drugs. Also, as indicated, while the pricing pressure continued in 2006 as well, it was not as severe as in 2005. Also, as indicated, the R&D expenditure of most of the domestic pharma companies witnessed a rise due to increased investments in new chemical entity (NCE) research and ramp up in ANDA filings.

    We had indicated that 2006 would see an increase in new product launches from MNC pharma companies from their parents' stable. However, while Pfizer and GSK Pharma have been launching products either from their parents' stable or through the in-licensing route, the pace of these launches have been a tad slower. Players such as Aventis and Novartis did not make any significant product launches during the year.

    The outperformer: Glenmark Pharma
    Domestic pharma companies were the key gainers during 2006 with Glenmark Pharma emerging as the leader and Dr. Reddy's not far behind. Buoyancy in Glenmark's stock was a result of strong performances by the company both in the domestic and exports markets. Robustness on the international front was led by the company's formulations business in the US, Latin America and Rest of the World (ROW) markets. The performance in the US markets was driven by the ramp up in the number of products. In fact, during 2QFY07, Glenmark launched three new products, thus taking the total number of products in the US market to 10. Glenmark's presence in the regulated markets, especially the US, has been gaining scale and the company has adopted the strategy of entering into alliances with companies, which is likely to give a further boost to its US generics business going forward. On the R&D front, with 'Oglemilast' moving into Phase II clinical trials, Glenmark is awaiting the receipt of the next milestone payment for the same from Forest Labs (will accrue in FY07). Besides, it is also looking to find out-licensing partners for the same molecule in the European markets. Glenmark has recently signed an agreement with Merck KgaA for out-licensing the former's anti-diabetic molecule GRC 8200. Glenmark is expected to receive milestone payments for the same, the total value of which could be 190 m euros. This includes an up-front payment of 25 m euros. While out-licensing is a positive step in terms of monetising R&D expenditure, research being a high-risk business, the possibility of failure cannot be ignored.

    Key gainers in 2006
      22-Dec-05 22-Dec-06 % Change
    Glenmark Pharma 302 630 108.2%
    Dr. Reddy's 492 804 63.4%
    Sun Pharma 668 951 42.4%
    Cipla 175 248 41.8%
    Dabur Pharma 58 73 26.2%
    Ranbaxy 358 387 7.9%

    The laggard: Novartis

    The laggards in 2006
      22-Dec-05 22-Dec-06 % Change
    Novartis 565 372 -34.1%
    Biocon 500 353 -29.4%
    Abbott India 707 514 -27.4%
    Wockhardt 438 332 -24.3%
    Pfizer 939 767 -18.3%
    Aventis 1,619 1,368 -15.5%
    Nicholas Piramal 289 258 -10.5%

    MNC pharma stocks failed to make a mark on the investors' radar during 2006 especially due to lack of any significant product launches from their parents' portfolio. To add to their woes, the government has proposed to bring 354 essential drugs under price control, which if implemented, would be detrimental to MNC companies, since they have a relatively higher exposure to drugs under DPCO as opposed to their domestic counterparts. Novartis was the worst performer, which saw the stock plummet by over 34% during the year. The company's performance in the past has been volatile in comparison to its MNC peers and 2006 was no different. Novartis' generics segment continued to be a drag on overall revenues due to low realisations from the anti-TB business. The fact that one of its key drugs 'Tegrital' was subject to price control, also took its toll on the revenues from the pharmaceutical segment.

    What to expect in 2007?
    Generic landscape: The period between CY06 and CY10 is expected to see US$ 65 bn worth of drugs (in terms of innovator sales) going off patent, thus indicating huge revenue potential for the pharma industry. However, if one were to look at this potential year wise, then CY06 was the most lucrative year in terms of patent expiries. This means that while there are patent expiries in CY07 as well, the opportunity may not be as high as that witnessed in CY06. Also, pricing pressure is expected to continue, especially in the US generics market. Consolidation activity is expected to continue in CY07 as well with Indian generic players such as Ranbaxy, Dr. Reddy's, Sun Pharma, Glenmark and Wockhardt unveiling plans of either entering newer markets or strengthening their position in the existing markets. Those companies focusing on contract manufacturing and research (CRAMS) will continue to witness a robust growth in revenues in 2007.

    New product launches: In light of the patent regime, the number of new product launches will be the key to stay ahead in the domestic markets. Most of the MNC pharma companies have envisaged making patented product launches in the country from 2007 onwards and hence the year could turn out to be an inflection point for MNC majors. However, it will not be a cakewalk for them, as the prices of these patented products will be subjected to negotiations.

    Resolution of the 'price control' issue: This, perhaps, will be the most important development to watch out for in 2007. While the government proposes to bring 354 essential medicines under price control, this move has been stiffly opposed by the Indian pharma industry, which has called for price 'monitoring' and not 'control'. While a 14-member committee has been formed to look into various issues, no law has yet been officially passed. Thus, 2007 should see more clarity on the price control issue.

    R&D focus: 2007 is most likely to see domestic companies stepping up their R&D expenditure. This expenditure will be towards generics as well as new chemical entities. In fact, most of the domestic companies such as Ranbaxy, Dr. Reddy's, Biocon, Wockhardt, Nicholas Piramal and Glenmark have already initiated R&D for discovery of new molecules and this activity will continue in 2007 as well.

    Overall, 2007 will test the mettle of pharma companies in the global generics markets (in terms of countering pricing pressures, making new launches and integrating acquisitions) and in the domestic market (in terms of new product launches and likely regulatory changes).

    To read our thoughts on year 2006 and our view for 2007, click here - Reflections 2006.



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