To buy or not to buy

Indian generic companies are acquiring their way to success and the trend seems to be inevitable. Katya Naidu finds out why generics and acquisitions go together.

Whenever a generic company comes to sale, no matter how big it is or where it is from; Indian pharmacos are amongst the first to volunteer a bid. The recent sale of Merck Generics, the generics arm of Merck KGa has generated a lot of interest from many Indian companies like Ranbaxy, Dr Reddy's and Torrent Pharma (which was the only company to stay in for the final bid). However, this enthusiasm to acquire is not a trend exclusive to Indian pharma companies.

The world generic industry is in the consolidation mood as well. This trend was triggered off by the merger of Teva and Ivax in 2005 which created a behemoth. Along with it, the new entity also created insecurity amongst its now rather small competitors, forcing them to go on a shopping spree. Generic industry deflation would lead to displacement of weaker players and hence consolidation, believes CLSA report Greener Pasterurs: Generic Potential outside the US.

Generic industry is fraught with intense competition and therefore price erosion. Attaining scale and product portfolio seems to be on the agenda of many companies. "Mounting generic com-petition, as more and more major drugs face imminent loss of patent protection, coupled with a sudden dearth of blockbuster pipelines, has shaken up the industry, especially big pharma companies which often acquire smaller firms in order to bolster portfolios and increase drug pipelines," says the YES bank report Indian Pharmaceuticals Industry: Prescription for Growth. Companies are also fortifying themselves with low-cost manufacturing facilities, a trend which was popularised by Mylan's acquisition of 71.5 percent stake in Matrix Labs.

Stop: M&A ahead

"Not just the large sized companies but also the small and mid-size players broadened their horizon beyond domestic boundaries to global markets and rely heavily on deriving revenues from them" - Hitesh Gajaria Sector Leader-Pharmaceuticals KPMG

The merger trend has moved the Indian companies too, who have embraced this path rapidly after being placed in close quarters with big international giants like Teva, Barr, Actavis, Merck and Watson. Therefore Indian companies have less choice but to pursue expansion via M&A. "Indian companies are aggressive in their approach and response to industry developments, yet their ability to compete globally is limited by the size of their balance sheets," comments N Prasad, Chairman, Matrix Labs in Ernst & Young report Progressions 2006: Capturing Global Advantage in the Pharmaceutical Industry. Hence, acquisitions have become the order of the day. And Ranbaxy undeniably the frontrunner in the acquisition business has successfully completed eight acquisitions in 2006 after dropping out of the Merck Generics sale, quoting over valuation.

This trend however is not limited to the big Indian companies. Quite a few small companies with big plans are progressively looking at acquisitions too. "Not just the large sized companies but also the small and mid-size players have broadened their horizon beyond domestic boundaries to global markets and now rely heavily on deriving revenues from them. Thus most companies including small and mid-sized players are looking at rapid expansion in the global generics space," says Hitesh Gajaria, Sector Leader-Pharmaceuticals, KPMG.

Shifting focus

"It (global generics market) is expected to touch $300 billion in five years as drugs worth $120 billion will go off-patent over the next couple of years in the US alone" - Sumita Nag Analyst IndusView

After the US generic market has become unpredictable, Indian companies have shifted focus to other markets like Europe, Latin America, Middle East and CIS countries. The easiest way for companies to enter new markets is the acquisition route and companies have gained by this strategy as well. Likewise Ranbaxy which has acquired Terapia, the largest generic company in Romania had its results paid off as the company announced last quarter that the conclusion of integration has contributed to its growth in Romanian market which is close to 50 percent.

Moreover, Indian companies are heavily upbeat on the merger way and are ready to take heavy risks, which goes over and above mere financials. The latest acquisition of Taro Pharma by Sun Pharmaceuticals has raised eyebrows since the company is involved in legal wrangles. Franklin Advisers and Templeton Assets Management which is the beneficial owner of approximately nine percent of the Taro's ordinary shares, filed a motion in Tel-Aviv District Court to prevent what they allege to be discrimination against minority shareholders. They have also filed a request with the court for a temporary injunction to prevent Taro from entering into any transaction which might result in discrimination against minority public share-holders. However, the company believes that that the proceedings initiated by Franklin Advisers and Templeton are without merit.

But the question still remains as to why are companies willing to take every risk and seize every opportunity to buy a company? The answer lies in the potential that the generics offer. "It (global generics market) is expected to touch $300 billion in five years as drugs worth $120 billion will go off-patent over the next couple of years in the US alone," informs Sumita Nag, Analyst, IndusView. The acquisitions are these companies' way of being prepared for opportunity.

Hope turns hype

Nevertheless, it is also true that M&A is a high risk strategy and has not favoured well in many instances. One obvious disadvantage being that the companies have to compete to acquire with not just their Indian counterparts but also global majors. Much like the generics where competition played the truant decreasing margins; here too bid wars have boosted valuations and pressurise potential acquirers. Moreover, 1+1=1.5 hypothesis too proves itself with a good strike rate in the merger case. "Ranbaxy and Dr Reddy's face multiple risks, including possible glitches in the integration of acquisitions and stretched balance sheets," observes CLSA report Greener Pastures: Generic potential outside the US.

M&A also adds to the performance responsibilities of companies, which has to be handled with utmost care and diligence. "As they (Indian companies) acquire, merge, and collaborate with pharmaceutical and biotech companies in foreign markets, they are also tasked with globalising their operations to focus on varying characteristics of each new market they enter," comments Prasad.

Mergers vs partnerships

Though the general sentiment is for mergers, there are some companies who have chosen not to get onto the bandwagon. Amongst these companies is Cipla which is popular for its non-merger low risk partnership model. But this model has not made it any less competent since it is also one of the best geographically diversified company among the leading Indian pharma companies. Also, it is different from its competitors Ranbaxy and Dr Reddy's in the sense that it is also not involved in aggressive patent challenges and Para IV filings. In spite of this, it has been showing a steady growth.

"Cipla has grown successfully through the organic route by partnering with other pharma companies especially in foreign markets. Cipla is backed by a large product portfolio, strong brand name and has the first mover advantage. So far, Cipla's strategy seems to be working well," lauds Gajaria.

On the other hand, Sun Pharma too is yet another company which concentrates in organic growth and has a hybrid model. Sun Pharma is present in US through its subsidiary, Caraco. It also targets emerging markets with a partnership approach. "We prefer the partnership model when aiming at export opportunities, as it enables companies to target a larger number of geographies at the same time without taking on accompanying risks," the CLSA comments.

katya.naidu@expressindia.com