India pharma marriages Will they work ?

The Ranbaxy-Orchid alliance sets the scene for a shake out in the fragmented Indian pharma industry. Arshiya Khan analyses the fallout

Imagine a hypothetical situation of a Cipla merging with a Ranbaxy. This may seem quite difficult but not impossible. The Indian pharmaceutical industry seems to be taking the first steps towards a much-awaited consolidation, with the hostile take over of Orchid Chemicals and Pharmaceuticals by Ranbaxy Laboratories finally settling into an amicable alliance. Another deal which firmed up was Dabur Pharma's sale of its oncology division to the German Fresenius Kabi. As more MNCs enter the Indian pharma market, Indian players will have to grow fast, organically or inorganically, to compete.

So is the consolidation of the Indian pharma industry finally on the horizon? Will this work? And are companies ready for this? These and many more questions need to be answered. Ranbaxy's deal with Orchid and indeed with at least three other Indian firms, could be set a precedent. Consolidation in the sector will significantly improve efficiency, increase scale and capacities of production and prevent duplication of facilities, feel industry experts.

Shying away

Most strategic alliances and JVs within the Indian pharma industy are between small or mid sized pharmacos and one of the Indian Big Pharma firms. There are several instances of products being manufactured by one company and being marketed by another. The tie-up between Lupin Laboratories and Bharat Biotech is such a case in point. Therefore, "It is really a question of complementarity. At times there could exist situations that may give rise to potential conflicts thanks to common customers' etc, which prove to be a barrier to more such alliances," feels Utkarsh Palnitkar, Industry Leader and Partner, Healthsciences, Ernst & Young.

There have been instances of big Indian pharma companies taking a stake in relatively smaller companies such as the Ranbaxy-Zenotech, Ranbaxy-Jupiter Biosciences deals, and now the Ranbaxy-Orchid deal. These tie ups are more in the nature of strategic investments and would in the long run provide an impetus to both the investor, as well the investee company, adds Palnitkar. A few other deals in the list of M&As between the small and mid sized pharma companies would also include Hetero Pharma's acquiring Lyka's formulation business, Ipca and Ajanta's tie ups with Ranbaxy to sell their products in the South America, Maneesh Pharmaceuticals acquiring Kopran's brands, and Alembic's acquiring Dabur's non-oncology business, etc.

However, there are not many examples of tie-ups between the Indian Big Pharma companies. There could be many reasons but, D G Shah, General Secretary, Indian Pharmaceutical Alliance feels that, "One common factor is that no promoter is willing to pull out at this stage as most (promoters) think that they can still add value to their enterprise. That is also the reason why they do not entertain any such moves from foreign companies. It is not that they are not approached. They do not entertain such overtures."

Currently, big domestic companies are in acquisition mode in the overseas markets, given the number of overseas acquisitions. Besides, for anything other than brands/business, acquisitions are not necessarily the most efficient way of doing business. It is at times more rewarding to build new facilities (ie. grow organically) than to acquire by paying a premium, feels Shah.

"One common factor is that no promoter is willing to pull out at this stage as most (promoters) think that they can still add value to their enterprise. That is also the reason why they do not entertain any such moves from foreign companies. It is not that they are not approached. They do not entertain such overtures" - D G Shah General Secretary Indian Pharmaceutical Alliance

"Companies, which have a strong and fresh product portfolio, a good Intellectual Property pipeline (not only from the point of view of research but also strong brands), are vulnerable for take over" - Dr Ajit Dangi President and CEO Danssen Consulting

History repeats itself

Industry experts have divided opinions on the 'condition' of the Indian market. Was India's situation (ie. fragmented market, dominated by owner driven companies) seen in pharma markets across the world, at any point of time and how did that market evolve? According to Shah, the pharma markets of Germany, Portugal and Italy show some similarity to India's.

But consolidation seems the only way forward. Dr Ajit Dangi, President and CEO, Danssen Consulting points out, "Historically many markets in developed countries evolved over a period of time through process of consolidation. The largest and one of the most successful healthcare companies in the world Johnson & Johnson (2007 sales—$61.1 billion, net income—$10.6 billion, stock price $66.5, market cap—$188.2 billion) is a case in point." Although founded by two Johnson brothers over 100 years ago, over a period of time it evolved as a family of companies (Janssen, Cilagchemie, McNeil, Ortho, Depuy, Cordis, Vistakon, Lifescan, Neutrogena etc).

Dangi also points out that there have been several failures in this strategy. A Harvard Business Review study shows that over 40 percent of M&A strategies have failed to create shareholder value.

However Palnitkar offers a different view. The situation prevalent in India is unique in that India has the largest number of pharma companies in the world. To fully comprehend this, we must visit the way the market has evolved. Incentives provided to the SME sector lead to the proliferation of small sized units. The companies that started off in the eighties and nineties leveraged the same set of benefits in order to explore globalisation to its maximum. Changes in GMP requirements ushered in by amendments to Schedule M of the Drugs & Cosmetics Act, as well as the growing importance of international accreditations, made it imperative to achieve units of a minimum scale to justify larger investments. This has been further fueled by the change in the patent regime. The industry has turned a new leaf with the adoption of a globally harmonised patent regime in 2005. The domestic industry has evolved substantially and is in the process of transformation to an innovative research led business and being globally competitive.

Companies at greater risk

"It is really a question of complementarity. At times there could exist situations that may give rise to potential conflicts thanks to common customers' etc, which prove to be a barrier to more such alliances" - Utkarsh Palnitkar Industry Leader and Partner Healthsciences Ernst & Young

Although Indian pharma industry has made phenomenal progress in the past one decade, domestic sales at $8 billion remain a paltry two percent of global pharma sales of $640 billion. Dangi feels that one of the reasons for this state of affairs is that apart from issues such as IPR, Pricing Policies etc, the industry is highly fragmented. With over 10,000 manufacturers and the market leader having a market share of less than six percent, the time has come for consolidation.

"Companies, which have a strong and fresh product portfolio, a good Intellectual Property pipeline (not only from the point of view of research but also strong brands), are vulnerable for take over," feels Dangi. Whether it is hostile or not will depend on the ambition and aggressiveness of the acquirer and the ability of acquirees to sustain such pressures. Even in Europe MNCs with one of the best product pipe lines like Roche have successfully staved off overtures for a take-over. However world wide, many MNCs have succumbed to M&A fever for eg. Aventis, Parke Davis, Burroughs Wellcome, Smith Kline Beecham, Warner Lambert etc. "If India has to achieve the magic figure of $20 billion by 2015 in domestic sales, consolidation is inevitable," remarks Dangi.

Besides, it is not just promoters with minority stakes who are vulnerable. Any promoter with less than a majority holding in the company could also be a target for predatory activity. The next in line would be companies that are family promoted who would not want to give it up and move on due to emotional attachment, Parting with a business whose association dates back to years is understandably tough. "When an artist sells his art, it will remain as pretty and beautiful to him. You cannot negate his good work and the attachment," is how Anand Burman, Founder and Director, Dabur Pharma chose to explain his decision to exit the pharma space.

Besides reluctance on the part of promoters (mostly family owned),high valuation expectations have been the other factor preventing acquisitions/ consolidations in the domestic industry. Promoters believe their companies' hold more value than an objective outsider sees in them. Shah adds, companies in which the promoters do not having majority holding and are performing well or are operating in an exclusive space (plant approved by foreign regulatory authority, specialty product pipeline, etc) will be targets for acquisition.

Deflecting takeover bids

While there seem to be many reasons for owner-driven companies pharma company to avoid take-overs, can they actually take steps to safeguard their companies and discourage takeover bids? Palnitkar believes there are countless textbook strategies that are followed. Amongst the more popular ones are 'Golden Parachutes' that give the top management of the target company large termination packages if their positions are eliminated as a result of a hostile takeover. Another strategy is dubbed a 'Poison pill', where the target company offers low-price stock to its current shareholders in order to make it more expensive for another company to buy them out. Some owners resort to locking up assets, in which the target firm sells off its most attractive assets to a friendly third party or spins off valuable assets into a separate entity.

Whereas, Dangi feels the only strategy pharma companies can adopt to thwart take-over bids is to have a majority controlling stake in the family. However, the downside to this strategy is that it will affect company growth due to lack of access to capital which will impact expansion. Eventually Darwin`s theory will come in to play, Dangi signs off.

arshiya.khan@expressindia.com