A bitter pill

The UK health body's move is the latest blow to generic drug makers

The UK National Health Service's demand for compensation of a sizeable amount from Ranbaxy UK, allegedly for overcharging NHS for the supply of ranitidine, is the latest in a series of blows to hit Indin pharma companies.

However, analysts point out that this development is not expected to have an immediate adverse impact on either Ranbaxy UK or its parent company's balance sheet or cash flow, as the company is expected to vigorously defend its position before the relevant UK courts. Naturally, in the short term, legal costs in the UK are anticipated to rise significantly for the company. This is not the first time Ranbaxy has faced similar charges in its overseas operations.

In December 2003, the NHS had initiated similar proceedings against seven companies including Ranbaxy UK, for allegedly overcharging for the supply of penicillin.

Analysts say that neither Ranbaxy Laboratories Ltd nor its overseas subsidiaries have made any payments to overseas regulators to settle these claims.

On the bright side, Ranbaxy has received a $4 million milestone payment from Schwarz Pharma, towards further development of the molecule RBx 2258, for treatment of benign prostate hyperplasia. However it'll take at least 2-3 years for this molecule to be commercially viable, as several more studies / trials need to done and also numerous clearances have to be obtained from regulatory authorities.

It's not just Ranbaxy, but the entire Indian generics industry, that is facing a de-rating by the markets. Over the last 7 days, the BSE's health care index has dropped 4.5 per cent, compared to the Sensex falling around 2.7 per cent, after foreign broking firm Credit Lyonnais Securities Asia (CLSA) downgraded the sector, citing margin pressure in the generic business.

The Ranbaxy stock has dropped around 6.2 per cent over the last 7 days, while Dr Reddy's has fallen 5 per cent. In contrast, multinational pharma stocks, which are unaffected by the recent trends in the generics sector, have withstood the negative sentiment "" the Pfizer stock has dropped merely 1.8 per cent in the last 7 days, while Aventis Pharma went up half a per cent.

Analysts explain that investor sentiment towards pharmaceutical stocks has shown signs of weakness with the USA FDA now granting co-exclusivity for all generic applications made on the 1st day.

The most recent example of co-exclusivity is seen from Ranbaxy's recent 180-day exclusivity for Metformin HCL Extended Release Tablets, which it obtained from Barr Laboratories. Teva too has obtained the same rights from IMPAX.

This trend would lead to multiple generics even during the first 180-day exclusivity period, resulting in profit margins shrinking considerably. And in the post 180 day period, the entry of a very large number of players has led to profit margins becoming wafer thin.

For instance, when 13 companies were recently given permission to launch generic versions of ciprofloxacin in the first 180 day exclusivity period, the price of the drug fell by approximately 90 per cent in a relatively short period of time.

A similar scenario was witnessed when Benazepril, a cardiovascular drug, went off patent in early 2004 "" with eight companies in the market from day one, the size of the market shrank from approximately $330 million to around $30 million within a short period.

Another strategy being followed by MNC pharma companies which could affect Indian pharma companies is to use authorized generics, which are generic versions launched with permission from the brand/patent owners. By using this strategy, brand owners are able to generate a profit stream on mature products by way of royalty and are also able to utilize excess manufacturing capacity. Not all analysts agree, however, that Indian generic companies are in dire straits. They point out that even with price erosion of 80 per cent, Indian companies are able to keep a high markup on the base costs.

Perhaps the key survival strategy for Indian generic manufacturers would be to expand aggressively into new markets. A region that is attracting increasing attention is that of the Mercosur trading bloc especially Brazil "" the pharmaceutical market in this South American country is estimated at $5 billion annually and growing at 10-12 per cent per annum.

And a weak rupee should help Indian generic manufacturers enter new markets. The other strategy would be to concentrate on areas where entry barriers are high. Instead of going in for products such as ciprofloxacin, for instance, they could concentrate on cephalosporins.

With contributions from Amriteshwar Mathur