India Inc's expenditure on R&D declines to lowest level in six years

Expenditure on research and development (R&D) by Indian companies has declined to its lowest level in six years.

Of the S&P BSE 500 companies, an analysis of 98 firms (for which continuous data is available over the last decade) shows that their R&D expenditure, on average, came in at 0.54 per cent of net sales.

This is the lowest since 2012-13. The absolute value of R&D expenditure showed a 2.7 per cent fall in FY19, the first decline since at least FY11.

Lower expenditure by pharmaceutical companies may be a key reason for the fall.

ICRA analyst Gaurav Jain said in FY19 major Indian pharma companies (Torrent Pharmaceuticals, Cadila Healthcare, Lupin, Sun Pharmaceuticals, Dr. Reddy’s Laboratories, Glenmark Pharma, and Aurobindo Pharma) posted a 2 per cent year-on-year (YoY) decline in R&D spend in absolute terms.

They spent 7.8 per cent of their operating income on R&D in FY19, compared to 8.8 per cent in FY18.

Jain says FY18 too saw a decline in spend in absolute terms — of around 4 per cent YoY.

From the fourth quarter of FY17, pricing pressure in the US picked up, squeezing the margins of firms that had a presence in America. This made the firms cautious about their R&D spend, and directed it towards more profitable molecules. 

R&D expenditure went up from 6 per cent of operating income in FY13 to 9 per cent of operating income in FY17. After that there has been a steady decline in the past two financial years.

ICRA estimates the R&D spend for FY20 to be 7.5-8 per cent in aggregate terms, while for individual companies it can either increase or decrease, depending on their pipeline. 

Sun Pharmaceutical Industries, India’s largest drugs firm, has guided for an increase in R&D spend in FY20 while its investment in developing a long-term specialty pipeline is expected to continue. “For FY20, we expect our consolidated revenues to grow in low-to-mid teens, while R&D investments are estimated at 8-9 per cent of sales,” it said.

In FY19 its R&D spend (as a proportion of sales) had come down to 6.9 per cent from 8.6 per cent in the previous financial year (FY18).  Dilip Shanghvi, founder and managing director of Sun Pharma, said in the company's FY19 annual report: “We are evaluating our generics R&D investments, to ensure a reasonable return on investment.”

The US generics industry continues to face pricing pressure, and the Indian pharma industry has started responding to it by rationalising product portfolios and discontinuing non-remunerative products. “A robust domestic business gave the comfort to invest in R&D. Now that isn't there anymore," said the managing director of a Gujarat-based pharmaceutical firm.

The average R&D spend for the companies in the sample grew at more than 17.4 per cent between FY11 and FY16. This dipped to 2-4 per cent in FY17 and FY18. Growth turned negative in FY19. The companies cut spending by Rs 426 crore (or 2.7 per cent) in FY19 over that in the previous year.

This cut in spending comes even as the most innovative companies of the world have increased their R&D expenditure to record highs. The annual spend rose 11 per cent in 2018. The measure of R&D spend as a proportion of sales is at an all-time high of 4.5 per cent, according to the 2018 ‘Global Innovation 1000’ study.

“Globally, all regions saw an increase in R&D spend, most notably China (+34%) and Europe (14%) where spending grew by double digit rates,” according to the report on the top global 1,000 publicly listed spenders on R&D, by consulting firm Strategy&, which is part of the PwC network.

Independent market analyst Anand Tandon said it was important to focus on outcome as well as expenditure. But, a fall in expenditure can be a drag.

“If you do not spend on R&D, you fall behind on innovation,” he said.

A reduction in tax breaks for R&D expenditure may have had an impact on the way expenses are categorised, according to Deepak Jasani, head of retail research, HDFC Securities.

“Obviously if you are not going to spend on R&D, then you are going to fall behind on innovation,” he said.