The Hindu Business Line : Global consolidation moves — The side effects on Indian pharma

In a globalising world, local industry cannot remain immune to developments elsewhere. And when the local industry is one with large outward linkages — with interests in export markets, contract manufacturing for generic players worldwide, and collaboration in drug discovery — as the Indian pharmaceutical industry is, such developments are more than ordinarily significant.

It has not been quiet times for the global pharma industry. When the going gets tough, big pharma, it appears, is compelled by the urge to merge, as developments over the past couple of weeks clearly indicate. And we are not talking of deals worth a few hundred million dollars here. These are multi-billion dollar deals that would create behemoths with the size and scale to be reckoned as a major force in the global pharma scene.

The two principal drivers behind such moves appear to be a need to combat the downside caused by patent expiries, apart from the imperative of boosting product pipelines. Europe has traditionally been the epicentre of such mega deals. Now, though, the geographical distinctions are blurring, and a recent deal involves an Australian major.

Strangely, though all these deals easily fall into the big-ticket category, none of them hit the front-page headlines. All they got was a column or two of space on the inside pages of business dailies. But that should not detract from the magnitude of the impact that such deals are likely to have — over the medium to long term — on Indian players positioned across the value chain.

We believe that as the consolidation trend accelerates, it will pose its own set of challenges to Indian firms. Before we dwell on them, here is a snapshot of the deals put through in the recent past.

The Mega Deals

Australia-based oncology outfit Mayne Pharma has asked its shareholders to accept a proposal from the US-based hospital products major Hospira to buy out the former's shares in a deal valued in excess of A$2.5 billion.

The UCB Group, based in Belgium, has made an offer to buy out the shareholders of Germany-based Schwarz Pharma, in a deal that values the latter at 4.4 billion euros.

Merck KGaA of Germany (no relation to its American namesake) has made an offer to acquire a controlling stake in the Switzerland-based biopharmaceutical player Serono; the deal values Serono in excess of 10 billion euros. Merck's recent bid to acquire Schering-Plough, however, failed and the latter was ultimately picked up by Bayer.

Nycomed, a privately-owned player operating out of Denmark, is acquiring the pharmaceuticals arm of the Altana Group, based in Germany. Altana Pharma has been valued at 4.5 billion euros.

Closer home, in what is vindication that a presence in India is being increasingly perceived as strategically important for success in the global market for generics, Mylan of the US stepped in to purchase a majority stake in the Hyderabad-based Matrix Labs.

Impact on Indian Pharma Sector

Global developments of the kind outlined above would, in our assessment, cause ripple effects and pose four key challenges to Indian pharma outfits.

Reduction of client base: From the point of view of a supplier of bulk drugs, consolidation automatically shrinks the number of customers he can cater to. Let us, for instance, consider the four international mergers mentioned above. Pre-merger, a bulk supplier would have addressed them as eight distinct customers; the merger slashes the number by half.

To illustrate, consider the Mayne-Hospira deal. Cadila has a joint venture with the former for oncology injectibles, even as the latter has a relationship going with Dabur Pharma for oncology products. Earlier, while Indian entities had two distinct clients to cater to, after the acquisition, they will have to deal with just one, bigger client. This is just one example; the overall impact of the various acquisitions on different Indian companies cannot really be gauged, as most client relationships are cloaked in confidentiality clauses.

However, in general, large players present in both bulk and finished segments would be impacted less, as their presence in the formulations business cushions the downside. Further, the bigger merged entity would also hold greater buying clout and will thus be able to drive down prices further. Outfits that focus on niches, such as new delivery mechanisms, as opposed to plain-vanilla products, may be relatively insulated from this trend.

Redefining existing relationships: In the past, Indian outfits have inked agreements with global outfits. Take the case of the deal involving Altana. Here again, Cadila has a joint venture with Altana for the manufacture of pantoprazole intermediates — for Altana's on-patent anti-ulcer blockbuster Protonix — which a highly profitable and brings in a shade less than a third of Cadila's earnings.

Likewise, when home-bred outfits are acquired by foreign players, there could be a conflict of interest, as some business unit of the company taken over may have an ongoing relationship with a competitor of the acquirer.

The importance of such business units/joint ventures is heightened when their contribution constitutes a sizeable component of earnings. Managing such phases of transition to ensure minimal impact on the bottomline is a key challenge.

Acquisitions to cost more: Domestic outfits have also loaded up on financial resources in their quest for inorganic growth.

With acquisitions getting expensive in the US, Europe is the next preferred destination. And Indian pharma players are not fighting shy of the big deals.

Ranbaxy's acquisition of Terapia, Dr Reddy's buyout of Betapharm, and Matrix's takeover of Docpharma show that drug majors are not averse to doing business in the big league. But size being increasingly seen as a prerequisite for profitability, and with the big wanting to get bigger, assets are only going to get dearer.

That certainly may not be music to the ears of domestic players who have set aside a war-chest to pursue acquisitions.

Raiders from abroad: Could the Matrix-Mylan deal open the floodgates for other international firms to rush into India with the intention of snapping up manufacturing outfits?

Even as players such as Dr Reddy's and Ranbaxy grapple with the issue of pricing pressure in the US markets, a new threat is taking shape in the form of global players wanting to leverage India's low-cost advantage.

Mylan is not the first to recognize India's low-cost potential. Heavyweights in the global generics arena, such as Sandoz, Teva and Watson, already have a presence in India, having acquired manufacturing units.

If they do manage to replicate the cost structures of some of the larger domestic players, they could considerably undermine a key aspect of the competitiveness of domestic players.

India's key strengths are the presence of a significant number of USFDA-approved plants, coupled with strong scientific skills. These factors should continue to make it a fertile hunting ground for multinational players.

When one considers that Indian companies have been making news for snapping up outfits abroad, the Mylan deal could just be the harbinger of a trend that will give domestic companies a taste of their own medicine.

Targeting India would be similar to what has been witnessed in the IT industry, with global players moving in to exploit the cost arbitrage. In the process, it could also set off a war for quality manpower.

While foreign players, with deep pockets, will spare no effort in hiring the best talent on offer, Indian outfits will have to fork out top dollar to retain their prized scientific workforces.

Admittedly, the cumulative effects of such global developments are unlikely to be evident overnight. But to take a benign view of such events would be equally unrealistic.

Clearly, Indian pharma appears to have its task cut out to overcome these challenges.