INDUSTRY Indian Pharma Players Ready for a New Strategy? If indications, such as listing on the New York Stock Exchange, earning a major part of the revenue through international operations, and increasing research on new molecules, are anything to go by, Indian pharmaceutical companies seem to be on a roll. The industry was valued at US$6 bn in 2006, compared to US$2.3 mn in 1901. However, the question is: Can the industry sustain this growth? – Anand Agrawal Faculty Member, The Icfai Business School, Hyderabad O n April 11, 2001, a short, be spectacled man stood waving from the balcony of the New York Stock Exchange (NYSE) after his company became the first Indian—in fact, the first Asia-Pacific (non-Japanese) pharmaceutical company—to list on NYSE. It was an unforgettable day for 59-year old Kallam Anji Reddy. For, he had founded Dr. Reddy’s Laboratories (DRL) in 1984 and worked hard enough to develop competencies for his company covering an entire pharmaceu- tical chain—basic research, finished dosages, generics (drugs marketed under their non-proprietary name rather than a brand name), bulk actives, biotechnology and diagnostics in less than 20 years. The result—DRL, once ranked the second most successful company in pharma industry in India, just one rank behind Ranbaxy Laboratories that was founded in 1961, i.e., 23 years before DRL, came to be seen as a major competitor to Chemical, Industrial & Pharmaceutical Laboratories, popularly known as Cipla (established in 1935 and regarded as India’s second largest drug maker by market share after Ranbaxy Laboratories). In fact, DRL had even surpassed Cipla—a company that was about 50 years older once (in 2003) in terms of annual turnover (Table 1). While establishing the Research Foundation, Dr. Reddy, a Ph.D. from National Chemical Laboratory, Pune, said, “Many feel this was a daunting task. Even today, I am often inundated by various ‘facts and figures’: for every new drug that is launched, some 10,000 molecules fail; that the average cost of bringing an NCE to market is over US$800 mn; and the time taken is anything between 10 and 12 years.” After more than 10 years of research activities, the company publicized its success in developing more than seven NCEs, of which five were at Phase II and two were at the pre-clinical phase of trial. The company also emphasized its status of being the first company in India to out-license a molecule for clinical trials to Novo Nordisk—the world leader in diabetes. But, after seeing so much silver lining, when in 2003, Novo Nordisk discontinued further clinical trials of DRL molecules, the shock was not easy to absorb for the company, and Dr. Reddy, along with his team that included his son Satish Reddy, MD and COO, decided to rethink the company’s strategy for the future ahead of 2005 when patent laws had been enforced in India according to the WTO agreement. The global pharmaceutical market The world pharmaceutical market is estimated at US$650 bn and is expected to grow to US$842 bn by 2010. With inflation adjusted compound annual 32 | February 2008 | Analyst_Feb-08.pmd | Chartered Financial Analyst | 32 1/29/2008, 2:39 PM Indian Pharma Players growth rate of 20% over the last two decades, growth of this market has significantly outstripped global economic growth. Developed countries represent not only the largest but, in some cases, also the fastest growing market. The US is the largest single homogeneous market, currently generating around US$182 bn in annual pharmaceutical sales. This is followed by Europe and Japan, each of which account for sales worth US$169.5 bn and US$60.3 bn respectively. Figure 1 provides the regionwise share of the global pharmaceuticals market. Despite the huge and growing size of the global market, the industry continues to enjoy a consistently high return on invested capital even after capitalizing the huge Research and Development (R&D) investments. Several factors have contributed to these high returns, but the chief among them are the low levels of competition. This shows up at several levels. First, there are huge entry barriers, and over the last few years there has been a contraction in the number of international players owing to consolidation and concerted mergers and acquisitions. Second, in sharp contrast to other industries, any two given drug companies usually only narrowly compete with each other. There are more complementarities in product portfolios than direct substitutes. Third, patents create significant periods of product protection from generic products. Thus, in a particular therapeutic segment, the typical global scenario is one where only three or four products compete with each other in mass consumer markets with powerful underlying growth. And, while generics constitute a very large and rapidly growing market throughout the world, it is occupied by distinctly different pharmaceutical players. There are hardly any international companies that are strong in both new drug discovery and in generics. Indian pharmaceutical industry However, despite having a very large number of players, India accounts for only 1.3% of the global pharmaceutical market. Sales of the domestic industry are expected to exceed Rs. 260 bn in 2005-06. Bulk drugs (Active Pharmaceutical Ingredients or APIs) business accounts for 21.42% of the sales, while formulations account for the remaining 78.57% in Indian pharmaceuticals market. More than 60% of India’s APIs production is exported. The balance is sold locally to other formulators. Over 85% of the formulations produced in the country are sold in the domestic market, which makes India largely self-sufficient in formulations. The pharmaceutical industry is a knowledge-driven industry and is heavily dependent on R&D for new products and growth. However, basic research (discovering new molecules) is a time-consuming and expensive process and is thus dominated by large global multinationals. Indian companies have only recently entered the area. The Indian pharmaceutical industry came into existence in 1901, when Bengal Chemical & Pharmaceutical Company started its maiden operation in Calcutta. The next few decades saw the pharmaceutical industry moving through several phases largely in accordance with government policies. Commencing with repackaging and preparation of formulations from imported bulk drugs, the Indian industry has moved on to become a net foreign exchange earner, and has been able to underline Table 1: Turnover of Companies Year Cipla Ltd. DRL Ranbaxy Labs. Wockhardt Ltd. 2001 1,064.31 991.24 1,983.89 558.48 2002 1,458.48 1,711.82 2,162.40 649.43 Source: Database Prowess (Client) 2003 1,644.14 1,719.52 3,128.61 741.64 2004 2,055.43 1,839.09 4,275.30 881.55 (in Rs. Cr) 2005 2,400.89 1,738.96 3,714.21 928.36 2006 3,103.62 2,341.47 4,188.62 1,071.11 its presence in the global pharmaceutical arena as one of the top 15 drug producers worldwide. Currently, there are more than 2,400 registered pharmaceutical producers in India. There are 24,000 licensed pharmaceutical companies. Of the 465 bulk drugs used in India, approximately 425 are manufactured here. India has more drugmanufacturing facilities that have been approved by the US Food and Drug Administration than any country other than the US. Indian generic companies supply 84% of the AIDS drugs that doctors without borders use to treat 60,000 patients in more than 30 countries. The challenges Patents Patents are a vital aspect of the global pharma industry. Patent protection is essential to spur basic R&D and make it commercially viable. But only the developed nations endorse product patents. Most third world countries have patent laws but enforcement is totally lax. Some developing nations, such as India, Egypt and Argentina, allow only process patent registration. As a result, pharma R&D is concentrated amongst the pharma MNCs in the US, Japan and Europe. A researcher undertakes patent registration once a molecule shows some promise of therapeutic effectiveness. Patent life counter starts running from the day the patent application is made. The patent office then starts the process of establishing that | February 2008 | 33 | Chartered Financial Analyst | Analyst_Feb-08.pmd 33 1/29/2008, 2:39 PM Industry the molecule is unique. The steps involved are: Ø Within 18 months of filing the application, a brief write-up of the molecular structure and its therapeutic utility is published as a public document. Ø The patent office thereby invites objections, if any, from third parties, for example: competitors. Ø Objections received are conveyed to the applicant who has a chance to defend or modify his claim to originality. Ø The modified claims are republished and once again objections are invited. Ø Once the patent office is satisfied about the applicant’s claim, it grants the patent. The whole process takes 4-5 years due to significant backlog in the patent registration office. Once a patent is granted in one of the developed nations, it is relatively easier to get it in other countries. Also, certain patent authorities have coverage over many nations, e.g., European Patent Office covers a large part of the European sub-continent. New Drug Approval (NDA) Prior to launching its products in any country, a pharma company undertakes patent registration to protect its own interests. To protect the interests of the consumers, it is necessary that the product be approved by the drug authorities in that country. Mostly, the process for seeking approval is initiated alongside the patent registration process. An NDA is filed with the drug authorities— such as FDA in US or Drug Controller in India—detailing the new molecules’ therapeutic properties. Then, clinical trials are carried out in three stages: Ø Animal toxicity (testing on animals). Ø Trials on a few select volunteers. Ø Trials on a larger scale in hospitals/ institutions. The approval of the drug authorities has to be taken at each stage, and only when all three trial stages are successfully completed can the product be launched. Once a new product has been launched in any of the developed coun- tries such as the US, Japan or Europe, it takes relatively lesser time to get the approval from drug authorities in other countries. WTO Due to pressure from the developed countries across the world, uniformity in patent laws is being implemented under World Trade Organization (WTO). Presently, different countries have different patent types and life period. WTO has decided upon a product patent life of 20 years in all countries. However, to ensure a smooth transition and provide local players in the developing countries ample time for gearing themselves up, a moratorium up to the year 2005 was provided. So, new products, i.e., drugs introduced after this date, have to be accorded product patent protection even in countries such as India and Argentina. Entering the US market Beginning in the early 1970s, the US government encouraged manufacturers to make duplicates of big drugs and sell them cheaply in the country. In the mid1990s, Indian companies searching for overseas revenue streams began pushing into the US, where chronically high prices for prescription drugs created a ready market for generics. Dr. Reddy’s, for example, was one of the hundred companies in the US that over the years knocked off everything from the antibiotics to the specialized drugs. DRL now generates one-third of its sales in the US. To speed up approvals for generic firms filing for approvals in the US markets, the FDA formulated some statutory approval mechanisms such as 505(b)(2) new drug application, which drug makers can use if a generic drug they are trying to sell is not a virtual duplicate of an original patented drug. It is the most preferred route for seeking approval because it allows the chemistry of the copycat drug to differ slightly while retaining the main ingredients; and it also doesn’t mandate a proof of safety and effectiveness. When Indian drug makers such as Dr. Reddy’s, Ranbaxy and Cipla decide to crack the global markets they do not simply wait for the patent to expire as many generic drug makers do. Instead, they turn to lawyers and ask them to exploit a loophole in an existing patent, and consequently, file legal challenges on a range of drugs that seemingly have years of exclusive sales left. With their new strategy, Indian generic drug makers do not even challenge a patent directly, rather they argue that their product doesn’t infringe on patent protection because it is made of different ingredients, even though it has the same effect as a branded drug. Indian pharmaceutical companies are also leaving other countries behind in the race to grab a share of the huge US market. Worldwide, 37% of the Drug Master Files submitted last year came from India, the largest share of any country. Table 2: R&D Expenditure by Companies Year Cipla Ltd. DRL Ranbaxy Labs Ltd. Wockhardt Ltd. 2001 40.90 41.50 73.40 40.30 2002 46.76 101.80 77.12 40.24 2003 NA 163.50 192.20 60.41 2005 98.98 298.00 693.30 81.08 2006 155.40 254.00 483.80 127.90 Source: Database Prowess (Client) 34 | February 2008 | Analyst_Feb-08.pmd 2004 56.50 226.10 399.70 62.28 (in Rs. Cr) | Chartered Financial Analyst | 34 1/29/2008, 2:39 PM Ad - 8 | February 2008 | 35 | Chartered Financial Analyst | Analyst_Feb-08.pmd 35 1/29/2008, 2:39 PM Industry In the first six months of the current calendar year, Indian companies filed 58 Drug Master Files (DMFs)—nearly double the number of DMF filings in the corresponding period last year and more than the combined filings of companies from the next five countries. This is in sharp contrast to the situation a few years back. In 2000, Indian companies had 40 DMF filings, second to 44 by Italian companies. One reason Indian companies are doing so well in the US is that they have learned to exploit the US patent laws that were amended two decades ago to allow for the sale of copycat pharmaceutical products. After the US, it is now destination Europe for Indian pharma companies. While domestic majors such as Ranbaxy, Dr. Reddy’s and Wockhardt have already set shops in Europe, Zydus Cadila has just made its entry by acquiring Alpharma France. Wockhardt also lapped up the UK-based CP Pharmaceuticals, which has helped it to get into the top 10 generic companies in that country. Research and development The vision of DRL as stated in company documents after 1992 was: “To be a discovery-led global pharmaceutical company.” Though, when it was started in 1984, like some other players of that era in India, it concentrated on strengthening reverse engineering capabilities to produce high quality bulk drugs and formulations at low-costs and sell them in the domestic market. Dr. Reddy, who claims that his first love had been research, knew the importance of these skills, for they created the technological foundations for the company’s successful foray into the international generics market. But within the next eight years, he realized that the ultimate accolade for a pharmaceutical company comes from the strength of its drug discovery program and the size of its New Chemical Entity (NCE) pipeline. And the results are: five R&D facilities in India and the US; Dr. Reddy’s Research Foundation (DRF —that focuses on lead optimization, lead profiling and pre-clinical trials) and the New Technology Development Center (TDC—that aims at reducing the chemical cost of producing NCEs) at Hyderabad; Dr. Reddy’s US Therapeutics Inc. (RUSTI—a bio-pharmaceutical company for discovery and design of novel therapeutics focusing on diabetes, inflammation, lipid metabolism, oncology and cardio-vascular disease with molecular biology technology platforms) in Atlanta, US; a specialized research laboratory set up by its subsidiary Aurigene Discovery Technologies (a post-genomic discovery services company focusing on building skills in automated medicinal chemistry, structural biology and structure-based drug design) in Boston, US; and Aurigene’s Bangalore Laboratories in Bangalore, India. In 2006-07, Dr. Reddy’s filed 33 Abbreviated New Drug Applications (ANDAs) in the US, including 7 Para IV filings. With these, the company has joined the elite club of 100+ ANDA filers. Earlier in 2001-02, DRL got 180days exclusivity grant in US to sell its Fluoxetine 40 mg capsules, due to which the company saw a tremendous growth of 58% during that period. However, after the shocking news of the failure of their out-licensed molecule to Novo Nordisk, Dr. Reddy was reminding his team their earlier claims of pursuing a strategy of going up the value chain incrementally to manage risks intelligently by out-licensing new molecules to larger pharmaceutical companies, which have the resources to take the molecule to the market faster. They further devised their strategy plan of conducting target-based drug discovery in Atlanta complemented by the chemistry-based research approach in India. Further, they identified their core businesses of API, Branded Formulations and Generics, whose businesses can offset the risks inherent in discovery and specialty and provide a cushion against unforeseen events and risks by building a critical mass for the organization. Now, Dr. Reddy is keen to see the status of his company along with other Indian pharmaceutical companies in terms of relative performance (annual turnovers) and R&D investments (Box 3). It is to be noted that DRL once managed to surpass CIPLA in terms of turnover in 2003. But, that achievement was short-lived. DRL has been lagging behind CIPLA and Ranbaxy for the last three years. However, till now, the R&D is directed toward supporting the business to focus on the marketing of process development and manufacturing services to emerging and established pharmaceutical companies. The company claims of pursuing an integrated research, with their laboratories in the US focusing on discovery of new molecular targets and designing of screening assays to screen for promising lead molecules. The competition The aspect in the figures of the R&D investment by Ranbaxy, the biggest competitor to DRL and currently India’s largest pharmaceutical company, which Dr. Reddy had noticed, was an inconsistent investment. In 2006, Ranbaxy invested more than 11% of its sales in R&D (as compared to less than 11% by DRL), but in absolute figures Ranbaxy had been investing much more in R&D. However, it was not just the amount of investment that was disturbing Dr. Reddy; the direction of the research was another huge issue. Ranbaxy is primarily involved in the manufacture and marketing of antiinfectives, cardiovasculars, Gastro-Intestinal tract, and sedatives. Though it 36 | February 2008 | Analyst_Feb-08.pmd | Chartered Financial Analyst | 36 1/29/2008, 2:39 PM Indian Pharma Players was incorporated in 1961, only in 1993, it decided to go full throttle with R&D by setting up a Research Center at Gurgaon, (near Delhi). The CEO of the company said, “Our coordinated efforts in R&D, international operations, marketing and global networking would see Ranbaxy evolve into a research-oriented specialty/branded pharmaceutical company.” Ranbaxy claims having 550 scientists with well-defined research programs in the areas of Chemical Research (Synthetic Chemistry, APIs), Pharmaceutical Research (Dosage forms), Novel Drug Delivery System (NDDS), New Drug Discovery Research (NDDR), and Fermentation Research (APIs). Ranbaxy had already made significant progress in its NDDS programs, which was its main R&D focus. Within a span of five years of full throttle research, they successfully developed four products in the area of Oral Controlled Release Systems, using its patented technologies, which were launched in India setting the base for roll out in various markets. But the company feels that the development of a unique once-a-day formulation of Ciprofloxacin—which has been licensed to Bayer AG, originator of this molecule—has been a breakthrough success for the company. Bayer, thus, obtained exclusive development and worldwide marketing rights to an oral once-daily formulation of Ciprofloxacin. But Dr. Reddy had a different view: “Whether it would be more advantageous for a company to commercialize its newly discovered molecule than out-licensing its marketing rights to some other companies having more developed R&D facilities?” And the impressive record of Ranbaxy had shown that it was capable of doing both of these things, with many NCEs in pipeline, more than 40 products launched in India, and six products launched in foreign market along with India, including South Africa, Poland, Hungary, Singapore, Malaysia, the US and Myanmar. Now what made Dr. Reddy impatient was the announcement of a 10-year vision (till 2012) by Ranbaxy for sustaining significant growth consistent with its mission: “To be an International Research-based Pharmaceutical Company”, under the rubric ‘Vision GARUDA’, with increasing emphasis on Novel Drug Delivery Systems Research (NDDS) and Drug Discovery Research (DDR). Now there is the belief that if the company develops state-of-the-art R&D facilities for all stages of drug discovery, then it would not have to out-license any of its new molecules and it could reach market with its own molecule. The competition was not just from a single giant for Dr. Reddy but also from other pharma biggies such as Wockhardt who claimed to possess 350 scientists in 2002 and to have invested over Rs. 300 cr in research and development in the last five years. Till 1999, Wockhardt and DRL had about equal turnover. But DRL, in 2001, left Wockhardt way behind and, in 2006, DRL had more than twice the turnover of Wockhardt. But it was well-known that a single exclusive marketing grant—like the one obtained by DRL for Fluoxetine— or a new successful molecule can instantly change these comparative figures in pharmaceutical industry. Therefore, he seemed more concerned about the R&D activities of his competitors. And, he was aware of the fact that this company had a record of being one of the highest investors in R&D activities. But Dr. Reddy was not comfortable with the statement in the company’s website: “In the longer-term, Wockhardt’s R&D stratTable 3: R&D Expenditure (as % of sales by companies) egy is to discover a series of Year 2003 2004 2005 2006 new drugs, especially in the field of anti-infectives, Cipla 0 2.75 4.09 5.00 Ranbaxy 8.82 9.34 17.21 11.55 antibiotics and antiDRL 9.50 12.29 17.29 10.89 bacterials.” It means, for him, Wockhardt 8.34 7.06 8.73 11.93 that he would have to face Source: Database Prowess (Client) a head-on competition in the research field with Wockhardt too. The most ambitious R&D for Wockhardt was the New Drug Discovery Program, which it embarked on four years ago. Another focus was on developing products based on their patented Novel Drug Delivery Systems like that of Ranbaxy. Like Ciprofloxacin of Ranbaxy, Kaizem CD, a unique oncedaily cardiac drug used in treatment of Angina, already seemed to be a success for the company. Moreover, it had already developed and launched two biotechnology and was claiming to launch Recombinant Human Insulin (RHI) that would make it the first in India and among the very few in the world to manufacture and market RHI. On the new drug discovery front, Cipla, another competitor to DRL, was comparatively quieter. In fact, Cipla and Ranbaxy, have been competing for being the number one company in the domestic retail market. Cipla’s research is mainly focused on NDDS, such as sustained and modified dosage forms, transdermal, inhalation, nasal, rectal and topical delivery forms, and CFC-free metered dose inhalers. On the NCE front, the company was working on antifungals, antihistamines and anti-HIV. However, Dr. Reddy seemed to be more interested in having a comparative view of the major achievements by his competitors vis-à-vis DRL in the area of R&D to chalk out his companies’ future plans. He had realized after going through the reports that DRL needs a strategic change in the area of R&D when he said, “The bigger challenge is to take a molecule from our pipeline all the way to the market place cost-effectively and also make it available at affordable price to the people.” However, even Dr. Reddy knows that bringing a molecule from research to market has been the most challenging task for Indian pharmaceutical players.n (Acknowledgement: The author would like to thank Janpriya, Alok Agarwal, and Saurabh Kumar—students of The Icfai Business School, Hyderabad, 2008 batch—for providing help in collecting the data for this article.) | February 2008 | 37 | Chartered Financial Analyst | Analyst_Feb-08.pmd Reference # 01M-2008-02-07-01 37 1/29/2008, 2:39 PM