Pharma stocks con­tinue to un­der­per­form as pol­icy un­cer­tainty adds to the toll taken by USFDA and mar­ket chal­lenges.

Business Today - - CONTENTS - By E. Ku­mar Sharma Il­lus­tra­tion By Ni­lan­jan Das

Pharma stocks con­tinue to un­der­per­form as pol­icy un­cer­tainty adds to the toll taken by USFDA and mar­ket chal­lenges

The Big Pharma of In­dia is pass­ing through tur­bu­lence af­ter hit­ting the jack­pot with generic drugs and in­gre­di­ent mak­ing. On Novem­ber 7, 2017, Mumbai-head­quar­tered Lupin in­formed the stock ex­changes that two of its man­u­fac­tur­ing units in Goa and In­dore had re­ceived a warn­ing let­ter from the US Food and Drug Ad­min­is­tra­tion (USFDA) and con­se­quently, its shares went into a free fall. The stock hit a 52-week low, los­ing a mar­ket cap­i­tal­i­sa­tion of ` 7,871.8 crore in just one day. It was a steep slide from its peak at ` 94,856 crore just two years ago when the scrip traded at around ` 2,000. But even be­fore that an­nounce­ment, there was a del­uge of an­a­lyst re­ports that high­lighted the firm’s weak fi­nan­cial num­bers. On Oc­to­ber 30, for in­stance, Credit Suisse an­a­lyst Anub­hav Ag­gar­wal said in his re­port (up on the Lupin web­site), “We fac­tor the weak­ness of US sales and cut FY18/19E EPS by 4 per cent/7 per cent. We re­it­er­ate that Lupin has high risk and FY20 profit is likely to be flat as (1) 10 per cent of FY19 profit is from Ranexa ex­clu­siv­ity; (2) Aurobindo and Nostrum will en­ter the For­tamet mar­ket by FY20; (3) Sun should have en­tered Glumetza by FY20; (4) we ex­pect more com­pe­ti­tion in Levothy­rox­ine as well. There­fore, the stock is al­ready trad­ing at 20.5x FY20E EPS.” Lupin is wit­ness­ing fall­ing sales in the US, its key

mar­ket that ac­counts for more than $1 bil­lion or over 40 per cent of the com­pany’s to­tal sales). Lupin is the sec­ond most valu­able com­pany af­ter Sun Pharma, in the BT 500 Pharma and Health­care sec­toral rank­ing; over­all, it ranks 42nd, a sharp fall from the 27th spot last year.

But Lupin is not alone when it comes to shrink­ing sales or slug­gish per­for­mance on bourses. Most com­pa­nies are now trad­ing at less than 50 per cent of their peak share prices two years ago. Sun Pharma used to trade at around ` 1,100 at the time while Lupin was at around ` 2,000. Earn­ing fore­casts made at the time for the cur­rent pe­riod have also been trimmed by 50 per cent. All this is bad news for the coun­try’s $32 bil­lion pharma mar­ket, two-thirds of which is con­trolled by the top 20 which ac­count for nearly 75 per cent of the US ex­ports.

“From a US per­spec­tive, there have been pric­ing pres­sures, and some of the com­pa­nies are fac­ing reg­u­la­tory chal­lenges. On the do­mes­tic front, sev­eral pol­icy changes and the un­cer­tain­ties around them seem to have an im­pact on stock prices. Mar­kets tend to look at the fu­ture; there­fore, un­cer­tainty is bad,” says Pankaj R. Pa­tel, Chair­man of Zy­dus Cadila and Pres­i­dent of the Fed­er­a­tion of In­dian Cham­bers of Com­merce and In­dus­try. “There is noth­ing wrong with the sec­tor struc­turally. What is hap­pen­ing is trig­gered by a com­bi­na­tion of sev­eral fac­tors.”

All Is Not Well

A deadly cock­tail of three ad­verse fac­tors is re­spon­si­ble for the gloomy pic­ture. First, the USFDA hur­dles. Lead­ing com­pa­nies – the likes of Sun Pharma, Lupin and Dr. Reddy’s – have all been hounded by it. Sec­ond, chan­nel con­sol­i­da­tion in the US. To­day, only four large whole­salers and chains source generic drugs, com­pared to about a dozen three years ago. It means they have tremen­dous bar­gain­ing power that puts more pres­sure on pric­ing. The net ef­fect, cou­pled with fierce com­pe­ti­tion among man­u­fac­tur­ers, pro­duces an­other piece of data that is trou­bling most play­ers op­er­at­ing in the US. A com­pany’s base port­fo­lio (the main drugs it launched, say, a year ago) is get­ting eroded by 10-12 per cent ev­ery year. But the firms fac­ing reg­u­la­tory chal­lenges are un­able to cush­ion it with new prod­uct launches as they have trou­ble get­ting mar­ket­ing ap­proval in the US.

Back home, com­pa­nies are also fac­ing rapid tin­ker­ing with reg­u­la­tions, and the draft phar­ma­ceu­ti­cal pol­icy is not mak­ing things eas­ier. The pro­posal un­der­lines a con­stant move to­wards price con­trol and fo­cusses on generic drugs with­out much be­ing ef­fec­tively done about qual­ity con­trol or al­lay­ing fears on the po­ten­tial en­try of spu­ri­ous drugs. Even though the draft talks about in­spec­tions, com­pa­nies are far from con­vinced on the checks, given the man­power and in­fra­struc­ture chal­lenges that the reg­u­la­tors have to deal with. (More on that later).

Fail­ure on the re­search front is an­other cru­cial fac­tor. In­stead of chas­ing ba­sic drug dis­cov­ery, many com­pa­nies are now putting their re­sources be­hind more pre­dictable in­no­va­tions on ex­ist­ing gener­ics in a bid to gain mar­ket share with prod­ucts that have limited com­pe­ti­tion.

For most firms, about 80 per cent of the to­tal profit comes from the US and In­dia. So, a closer look at the gi­ants will fur­ther re­veal if they have re­ally landed in deep wa­ter. Sun Pharma, In­dia’s largest drug maker by mar­ket cap, had seen its share price tum­ble more than 50 per cent in two years from its all-time high in April 2015. Founder Dilip Shanghvi, once the rich­est man in In­dia, saw his net worth take a big hit. Worse still, the com­pany is still deal­ing with a warn­ing let­ter from the USFDA over vi­o­la­tion of man­u­fac­tur­ing norms in its ma­jor plant at Halol in Gu­jarat. Sun is de­vel­op­ing a pipe­line for spe­cial­ity prod­ucts, but to what ex­tent a pure play gener­ics com­pany can tran­si­tion to a com­plex ecosys­tem is yet to be seen.

Ci­pla, with around 40 per cent of its to­tal sales com­ing from In­dia, is fac­ing two ma­jor chal­lenges. One, nav­i­gat­ing the pol­icy un­cer­tain­ties at home, in­clud­ing the pos­si­bil­ity that more drugs will come un­der price con­trol. It should also scale up its busi­ness in the US, which ac­counts for about 17 per cent of its to­tal sales. The com­pany must build pre­dictabil­ity

on high-mar­gin prod­uct launches to stay ahead in that mar­ket.

As for Dr. Reddy’s, only one of its three plants faced with the warn­ing let­ter has been cleared. But its key in­jectibles unit at Duvvada, Visakha­p­at­nam, is yet to close a USFDA in­spec­tion. It in­vests more into R&D than most of its peers, but faces the chal­lenge of mon­etis­ing the pipe­line of com­plex gener­ics and biosim­i­lars prod­ucts where it will be seek­ing ap­proval.

Home Turf Woes

In­ter­est­ingly, com­pa­nies largely de­pen­dent on the US mar­ket are not the only ones to suf­fer. At home, there are grow­ing con­cerns over the draft pharma pol­icy men­tioned ear­lier. First, mak­ing bioavail­abil­ity and bioe­quiv­a­lence tests manda­tory for all man­u­fac­tur­ing per­mis­sions given by the reg­u­la­tors can raise costs and hin­der small firms. Sec­ond, phas­ing out loan li­cens­ing may not see the de­sired out­come. Cur­rently, a man­u­fac­turer de­vel­ops one phar­ma­copeial drug in mul­ti­ple brand names and sup­plies the same to other firms so that these can be sold at a price cho­sen by them. In fact, many com­pa­nies have mul­ti­ple brands for the same mol­e­cule and sell them at dif­fer­ent prices across dif­fer­ent mar­kets. Scrap­ping the prac­tice will up­set their eco­nomics and es­pe­cially hurt niche and smaller play­ers de­pen­dent on just one or two mol­e­cules.

Take the case of Mankind Pharma (not yet listed), which be­lieves in tak­ing on the com­pe­ti­tion with its low-priced prod­ucts. The strat­egy has borne fruit and nearly 90 per cent of its sales comes from the do­mes­tic mar­ket. Ac­cord­ing to Founder and Chair­man R.C. Juneja, Mankind has moved up some fivesix notches in the do­mes­tic peck­ing or­der, but now the draft pol­icy poses chal­lenges and con­tra­dic­tions. “Un­cer­tain­ties around pric­ing and the move to­wards pre­scrip­tion of generic drugs will only harm the in­dus­try and lead to an in­flux of poor qual­ity and spu­ri­ous drugs into the mar­ket,” says Juneja.

D.G. Shah, Sec­re­tary Gen­eral at In­dian Phar­ma­ceu­ti­cal Al­liance, con­curs. “Dif­fer­ing voices from dif­fer­ent author­i­ties give mixed sig­nals to the in­dus­try, which is un­able to plan for growth at the mo­ment. What the in­dus­try needs is sta­bil­ity and clar­ity on poli­cies for the next two years, at least.”

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