"We are going through a transition phase; trying to sell globally and also trying to understand how IP (intellectual property) and regulated markets work" G. V. Prasad VC & CEO, Dr Reddy's

The morning after Dr. Reddy's Laboratories (DRL) announced its results for the October-December 2004 quarter, its Vice Chairman and CEO G.V. Prasad got a call from one of its suppliers. "Don't worry, we are solidly behind you as your business partner," the concerned vendor offered. "Not too long ago, the same supplier had complained that DRL wasn't treating him as a business partner," notes Prasad wryly, keen to note the subtle condescension underlining the expression of solidarity. But the vendor is hardly to blame. For the first time ever, Dr. Reddy's-considered a credible peer to industry bellwether, Ranbaxy Laboratories-announced an 8 per cent drop in quarterly sales to Rs 470 crore; worse, net profits plunged 93 per cent to Rs 4 crore compared to Rs 59.20 crore in the same quarter the year before. The stock market reacted by knocking some 5 per cent off DRL's stock. "We are going through a transition phase," says Prasad. "We are learning to sell globally, we are trying to understand how IP (intellectual property) and regulated markets work, and some of us are also moving into high-end research."

Prasad may well be speaking for Indian pharma. After all, these are wrenching times for the industry, and companies big and medium-Ranbaxy, Torrent, Orchid, Matrix and Divi's included-have reported a drop in profits for the October-December quarter. In fact, an analysis of the results of 90 companies in the industry reveals a consistent slow down in net profit margin growth over eight quarters now. The symptoms, of course, point to the churn at an industry level. The arrival of a product patent regime starting this year means that Indian companies will no longer be able to survive selling knockoffs of patented drugs. The domestic market, fourth largest globally in terms of volume but a distant 13th by value, is going through other structural changes. New MRP-based excise and vat apart, hundreds of manufacturers will have to carry out expensive upgrades to their facilities due to new good manufacturing practices (GMP) laws. Says Murali Divi, Chairman and Managing Director of Divi's Laboratories, a Hyderabad-based custom research and manufacturing company: "There's big trouble ahead for those who haven't planned for post-2005."

In the international markets, which are now driving Indian pharma's growth, competition in the generics business (generics are unbranded copies of off-patent drugs) has gotten fiercer simply because the last couple of years did not see too many blockbuster drugs go off patent. Even innovator companies have recently started "authorising" generics to get a piece of the low-cost drug market, even as they continue to sell their own branded drug. As a result, the fight for a limited number of new generics has been bruising. Margins in bulk drugs and formulations (think of bulk drugs as the batter and formulations as the cake) are coming from process improvements rather than higher retail prices. To add to that, costs-R&D, employee, selling and legal-are soaring for most companies. "The challenges are tremendous for the pharma industry today," says Satish Reddy, coo and Managing Director of DRL.

"The only way to beat cyclicality in the generics business is to have new products flowing through year after year" Brian Tempest CEO & MD, Ranbaxy

The Game Changes

Let's get one thing straight: the soul-searching in the industry is not because of just one bad quarter. And neither will the new patents ordinance-yet to be passed into a bill by Parliament-change the face of the industry at least for the next two years. The question really is, what will happen to the industry over the long term? To answer that question, one needs to put together three big pieces of the Indian pharma story. One is the domestic market, the second is the global market, and the third has to do with alliances-all kinds of alliances in just about every area, both in India and elsewhere.

But first, let's quickly understand the nature of the pharma business, because from that stem strategies of Indian and MNC pharma. The best that one can do, if you are in the pharma business, is to develop and market new drugs (imagine if a miracle cure could be found for, say, prostrate cancer-the price would be yours to command). But as with other things in life, the best is also the hardest to achieve. One needs superlative R&D skills and deep pockets to a) understand how exactly a disease works and then b) to identify a molecule, from among several thousands, that's effective in curing it. Since we are talking about lives of people, regulations are understandably strict. The new drug must be tested several times over in a limited way before it can be introduced in the market. As a result, it takes more than $800 million (Rs 3,520 crore) and anywhere between 12 and 15 years to bring a drug to the market.

Indian companies have neither such skills nor deep pockets. But they do have something honed over the years: impressive reverse engineering and process chemistry skills that, relatively speaking, don't cost much. That's helped the better companies like Ranbaxy, DRL, Cipla and Sun get a toehold in international markets either as a supplier of bulk drugs or formulations, or both. Of late, they have used those skills to make the R&D leap to discovery of either new molecules or a novel way of delivering an existing drug. For example, Ranbaxy's copy of Bayer's Cipro (an anti-anthrax drug whose patent expired end of last year) was a significant improvement in terms of dosage; Bayer's Cipro needs to be taken twice a day to be effective, whereas Ranbaxy's is a once-a-day formulation. In 2001, Cipla rocked Big Pharma by offering a year's dosage of aids drugs at $600 (Rs 26,400) compared to $12,000 (Rs 5,28,000) of branded manufacturers (eventually, the latter cut prices in Africa to compete). But an Indian company building a drug from scratch is still about five years away.

So circa 2005, the Indian pharma story reads something like this: In the domestic market, there are thousands of companies-estimates range from 6,000 to 20,000-who, starting three or four years from now, will be hard pressed to launch copycat drugs. A lot of them follow, what Pfizer India's Country Manager Hocine Sidi Said calls, a "question mark business model" and, therefore, must reinvent themselves or surrender to the grim reaper. But fortunately for Indian pharma, there are hundreds of medium- and big-sized companies that have a fair chance of surviving-and many of them, thriving-in the global markets. Here too, companies and governments are under pressure to lower costs of drugs, but R&D is getting more expensive and less productive for a variety of reasons. Public support for cheaper copies of branded drugs is swelling and that is opening doors to generics from around the world, mainly China and India.

Pharma's Changing Contours A consolidation seems inevitable in the industry. Here's how it may get categorised:

Making R&D count: Relatively low cost of research is a big plus for Indian pharma THE INNOVATOR: This will comprise the best and brightest of Indian pharma and include 20-odd players including Ranbaxy, Dr. Reddy's and Cipla. The innovators will push R&D even as they continue to earn their bread and butter through generics, formulations and bulks. Not too far in the future, one of them should launch a made-in-India blockbuster drug. Making it to Big Pharma is a long road, but the innovators will stay doggedly on it. THE COLLABORATOR: Players without the budget or skills to focus on new drugs or even generics will turn collaborators of all sorts. They will do high-value contract manufacturing like Nicholas Piramal, or do contract research and custom synthesis like Divi's, Shasun or Dishman. Yet others will focus on clinical research, a $500-million (Rs 2,200-crore) opportunity, or domestic marketing. Medim-sized but vertically integrated companies will want to move up the value chain. In fact, that'll be part of the industry's evolution cycle. THE ENDANGERED: This actually comprises the bulk of the industry (upwards of 4,000 companies). This category, typically, does less than Rs 25 crore in annual revenues, doesn't have good manufacturing practice certification (forget about FDA certification), sophisticated R&D skills, or strong brands. It competes on price alone, and will soon be unable to copy patented drugs of other manufacturers.

The Movers And Shakers Of Indian Pharma There are a little over 20 companies pushing basic research and generics. Here's a look at some of them.

Ranbaxy: Indian pharma's flagbearer, it derives more than half its revenues from markets abroad. It is chasing opportunities in generics, NDDS and NCEs. So far it has filed 146 ANDAs, of which 96 have been approved. Dr. Reddy's: It has a smaller ANDA portfolio (35 filed), but a larger number of riskier albeit more profitable patent challenges (24). By 2010, it hopes to launch its own drug. Cipla: A top three formulations player in India, Cipla shocked Big Pharma with its low-priced AIDS cocktail. It is now stepping up its US focus and recently tied up with Pentech Pharma to market a range of generics. Sun Pharma: Low profile but aggressive, Sun (along with its US subsidiary Caraco) has about 20 ANDAs, one molecule in clinical trials and two NDDS products in the pipeline. It recently raised $350 million (Rs 1,540 crore) from markets overseas to fund acquisitions abroad. Lupin: Relatively a new player in US generics, Lupin received approval for its first ANDA in 2003 and in April-December 2004 filed 10 ANDAs. Last year it launched a branded generic (Suprax) via Cornerstone of the US. Two of its molecules have entered phase one of clinical trials. Torrent Pharma: Domestic formulations make up nearly two-thirds of its revenues. Has a deal with Novo Nordisk for manufacture of insulin, and has out-licensed a molecule to Novartis. Wockhardt: It gets 57 per cent of its revenues from markets abroad. In the US, it has tie-ups with Ranbaxy and Ivas for marketing. In 2003 it acquired CP Pharma in the UK, and Espharma in Germany last year. It has filed several ANDAs. Zydus Cadila: Domestic formulations fetch a major part of its revenues, but this year will see it make its entry into the US generics market with two drugs. Nicholas Piramal: Pushing aggressively into contract manufacturing (it has three long-term deals). Last quarter, it paid $14 million (Rs 61.6 crore) to acquire UK-based Rhodia Oraganique's global inhalation anaesthetics business. Orchid Pharma: A $160-million (Rs 704 crore) cephalosporin giant, it sees growth coming from other segments like cardio vascular starting 2008. It has identified 64 products for launch between 2007 and 12. Revenue target: $1 billion (Rs 4,400 crore) by 2010.

Indeed, a clutch of Indian companies anticipated this opportunity way back in the early 90s and started investing in competencies needed to play the global game. That meant pulling up R&D by the bootstraps, investing in us Federal Drug Administration (FDA)-certified facilities, understanding the intellectual property and regulatory issues, and putting marketing alliances in place. As a result, today, there are at least two dozen Indian companies that can compete globally in both the developing markets such as Latin America and the developed markets of North America and Europe. But there are 78 companies with US FDA certifications, so the number of global competitors should increase. Says Ranjit Shahani, Vice Chairman and MD, Novartis India: "The future of small companies depends on how they upgrade their manufacturing practices and standards."

Low-cost Drugs And Patents: The Debate

Buying knockoffs? Not for too long The new patents ordinance has stirred a hornet's nest because it makes copying patented drugs illegal and thus kills the local generics industry. The question now being asked is whether a poor country like India can afford patented, thus expensive, medicines. That, critics of the ordinance say, is inevitable because India has allowed Big Pharma a "mailbox" facility, where patent applications beginning 1995 were kept in the run up to the product patent regime starting this year. Many drugs under mailbox may be given exclusive marketing rights, forcing out any generics player. "In effect, this wipes out a major portion of India's exemption from early application of TRIPS," says Bill Haddad, Chairman and CEO of New York-based Biogenerics, and a global champion of generics. D.G. Shah, Director General of Indian Pharmaceuticals Alliance, says that of the 7,000 pharma applications in the mailbox, majority are for formulations and seek to extend original patents on "frivolous" grounds. If granted, the critics argue, such patents would mean the end of their generic copies. The government retains the right to authorise generics in case of a national health emergency, besides which it has said that it would insist on the lowest international price for the patented drugs. "According to me India is in a permanent health crisis, with 60 million diabetics, 50 million asthmatics and some 300 million people with latent tuberculosis," says Yusuf Hamied, Chairman of Cipla, and another generics champion. The patents bill is slated to come up in the Parliament session starting February 25. So we'll soon know who's winning: generics champs or Big Pharma.

Traditionally, most of these certified companies have exported either bulk drugs or formulations, or both, but now the name of the game is generics-in the US, Europe and Latin America. It's easy to see why. Some $50 billion (Rs 2,20,000 crore) worth of drugs go off patents in the US over the next four years (see Some Drugs Going Off Patent), and although generic prices are typically only 30 per cent or lower of the original drug (which means the opportunity immediately shrinks from $50 billion to $15 billion, Rs 66,000 crore, or less) that's still a lucrative market because costs of manufacturing generics is low and the manufacturer only needs to prove "bioequivalence" (that is, prove that the generic copy is equally effective) and not have to put it through clinical trials. Besides, a generics manufacturer that is first to file such an application (called abbreviated new drug application, or ANDA) with the US FDA and successfully challenge the relevant patent of the innovator (called Para IV filing), gets a 180-day marketing exclusivity and hence better prices.

If more and more companies are looking at generics in markets abroad it's because of two advantages that India affords them: One, the industry has a deep supply chain, with some of the big companies vertically integrated-doing everything from R&D to manufacture of bulk and formulations to marketing. Two, the cost of manufacturing in India is 40 to 50 per cent lower than in the developed markets. Says Dilip Shanghvi, Chairman and MD, Sun Pharma: "Indian pharma's technical and managerial capabilities are second to none, and that allows us to compete internationally on an equal footing."

That said, generics isn't everybody's game. To start with, the manufacturing plant must be US FDA approved and so must the drug ingredients. Filing ANDAs isn't cheap either. According to K. Raghavendra Rao, Managing Director, Orchid Pharmaceuticals & Chemicals, the cost per ANDA can be as high as $500,000 (Rs 2.20 crore). And the cost of those andas that challenge innovator patents could be higher still. Worse, one needs a large number of andas to keep flowing through the R&D pipeline to ensure steady, if not increasing, revenues from generics. That's also required for large distributors to take the player seriously. Says Brian Tempest, CEO and MD, Ranbaxy: "The only way to beat cyclicality in the generics business is to have new products flowing through year after year." Ranbaxy, which aims to be a $5-billion (Rs 22,000-crore) giant by 2012, has 100 ANDAs approved and 50 waiting to be launched.

"According to me, India is in a permanent health crisis, with 60 million diabetics, 50 million asthmatics and some 300 million people with latent tuberculosis" Yusuf Hamied Chairman, Cipla

Alliances Galore

The other way to mitigate risks is through alliances-just about in every area. In return for milestone-linked payments, Indian companies routinely out-licence new promising molecules to somebody like Bayer or Novo Nordisk to take it through clinical trials. In fact, DRL is contemplating roping in financial or strategic partners for its R&D, which is a $46 million (Rs 202.4 crore) business split between drug discovery and generics development. The unprecedented idea is aimed at limiting R&D risks. Those players without a broad generics portfolio or distribution presence abroad usually tie up with other big generic manufacturers such as Teva, Ivax and Watson. Cipla, for instance, has tie-ups with the latter two for supply of active pharma ingredients (APIs) and one with Pentech Pharma to tap us generics markets. Similarly, Lupin has an alliance with Baxter Healthcare for distribution of its generic sterile vials. Some others have gone ahead and acquired manufacturing facilities in the US to access channels. Sun Pharma last year hiked its stake to 63 per cent in Detroit-based Caraco Pharma, which had $45 million (Rs 198 crore) in revenues in 2003 (it is yet to file its 2004 results). Says Habil Khorakiwala, Chairman and Managing Director, Wockhardt: "We are building a sustainable business model through acquisitions abroad." Khorakiwala has acquired three companies in Europe over the last five years, and recently raised $100 million (Rs 440 crore) for more acquisitions. Ahmedabad-based Cadila Healthcare too acquired Atlanta Pharma's (itself a Cadila partner) French unit to access the local generics market. Says N. Prasad, Chairman and CEO, Matrix Labs: "All of us have to diversify geography and products to minimise risks."

Alliances, however, are by no means a one-way street. Several of the pharma mncs have tie-ups with Indian companies as well. In fact, the prospects here are so good that mini-industries within the industry are springing up. One is that of contract research. Already, annual revenues here are estimated to be in the range of $100 million. But with almost every big pharma company moving into it, the market could boom. The Boston Consulting Group projects $500 million (Rs 2,200 crore) in revenues by 2010. Says D.A. Prasanna, Vice Chairman and CEO, Manipal Acunova: "The opportunity we have tapped so far is a fraction of the multi-billion (dollar) global market." Manipal has invested $10 million (Rs 44 crore) in a clinical facility and has a separate tie up with industry leader Quintiles of the US.

The other opportunity is in contract manufacturing. Nicholas Piramal, for instance, has signed three long-term custom manufacturing contracts. One is with Advanced Medical Optics for select eye care products and another is with Allergan for high-value anti-glaucoma APIs. The company has not revealed the name of the third customer, or what pharma products it plans to manufacture. Here again, specialised skills and low costs matter. "Since we offer manufacturing flexibility at lower costs and play a complementary role to the innovators, some of the top pharma innovators are working with us today," says Divi of Divi's Laboratories, another custom research and manufacturing outfit. Adds Ajay Piramal of Nicholas Piramal: "By 2010, I want half of our revenues to come from custom manufacturing." Currently, that figure is 11 per cent for Nicholas. Shasun Chemicals, Suven Life Sciences, and Dishman are some other companies tapping opportunities in contract research.

"We want to continue marketing drugs that are innovative and more than just a pill" Hocine Sidi Said Country Manager, Pfizer India

A Full Circle

Until the government of India passed the (process) Patents Act in 1970, thereby providing a shot in the arm to copycat manufacturers, pharma mncs dominated the scene. Ever since, though, they have mostly fought a losing battle, in part due to the unfavourable patents regime. But coming up ahead is a Big Pharma comeback. Early signs of it are visible. Pfizer India's topline grew 11 per cent last year to Rs 528 crore after years of modest growth; its pat jumped 90 per cent. A large part of it has come from refocussing on key therapeutic segments such as central nervous system and cardio vascular. Going forward, Pfizer-like Novartis, Glaxo and Eli Lilly-plans to tap into the parent's product portfolio. Says Said of Pfizer India: "We want to continue marketing drugs that are innovative and more than just a pill." His game plan: wrap value-added services around the medicines. But it may be 2008 before any of Pfizer's patented drugs is launched in India. What happens to prices of medicines is a big issue (see Low-cost Drugs And Patents: The Debate), but Pfizer India expects to be Rs 1,000-crore big by 2009.

Trust other pharma MNCs to have similar plans. But their growth will likely come at the cost of the smaller players. Many of them will shut shop, but some of them could become partners for the bigger companies (see Pharma's Changing Contours). Says Hamied of Cipla: "If companies don't change, they'll get wiped out in another 10 years." But that has been the nature of the global pharma industry. Sanofi, Smithkline Beecham and Warner-Lambert are just some of the global companies that existed until recently, before they either merged with or got bought out by a bigger player. Indian companies will have to make their call as they go down the road. At the end of the day, despite what they may say, the pharma business is about making money, not saving lives.

-additional reporting by E. Kumar Sharma in Hyderabad, Sahad P.V. in Delhi and
Rahul Sachitanand in Bangalore