Pharma Price Control : Pay 20% Less or Die!!!

I was looking for the companies in the pharma space from a 4-5 years or may be 10 years of investment perspective, as promised in the last blog, when this news hit the wires. One of the major threats that various research firms have highlighted for the Indian Pharmaceutical Industry has been the government's pricing policy regarding the essential drugs. While the industry has been booming in the present, there are prominent hurdles which can drag the growth of the industry lower in the future. The regulated pricing regime for the critical drugs/medicines is one of them.
So, the Department of Pharmaceuticals has gone ahead and given the nod to bring 348 drugs and 614 formulations under the NLEM (National List of Essential Medicines) regime. NLEM would ensure that the prices of these drugs and formulations are kept under check. The estimate is that these drugs would get cheaper by an average of 20% from the present prices. To be specific, 60% of the drugs would have a reduction of more than 20% in prices while the rest would have less than 20%. The committee says that the selection of the drugs have been done as per "the principles and concepts of "Essential" drugs as enunciated by WHO" and as had been followed in the previous lists of 1996 & 2003. By definition, the purpose of essential drugs are intended to be available within the context of functioning health systems at all times in adequate amounts, in the appropriate dosage forms, with assured quality.



Probably the last two expectations of 'appropriate dosage forms, with assured quality' can be met through stringent norms. But the clause of having them available at all times is a little stretched for the regulators to implement. A single formulation or drug is generally manufactured by various players in the industry. How to decide who produces how much? Even if the government assigns some target to each player for a particular drug, since it (Government) won't be involved in the distribution of the medicines from the manufacturers to the retailers, there is ample scope to cook up the books to meet the regulation. Moreover, the demand scenario is changing every year because of the sheer increase in the population and reach of people to healthcare facilities. Can a government act as a project manager of an IT firm (or may be a sales head) to sit at the back of the pharma companies and dictate their targets every year. More importantly, can it take them to task if they fail to meet the targets? By forcing them to price their products lower, there is an incentive for them to cook up their manufacturing numbers! Like several other populist policies of the government, this policy is also intended to do social good. But without fullproof regulatory framework, this could well turn into a nightmare like most other schemes. Worst case scenario, the government would just be pushed to a corner to provide subsidy on the NLE Medicines in the coming years!


Probably, my fears are far-fetched but there are some data which point towards this direction. This was not so apparent when the previous list in 2003 came about. Earlier there were only handful of drugs under NLEM regime and the impact to the businesses were not big. But now with the number jumping to over 300 and some drugs being very expensive, the impact to the businesses will be high. The government is projecting an impact of only 20% to the revenues of the essential drugs which constitutes only 30% of India's Rs 60,000 Cr pharma industry. That boils down to only 6% of revenue loss or Rs 3600 Cr to the pharma companies.



But I have reasons to believe that the number projected by the government has some lapses as usual. Capitaline reported that the aggregate sales of 153 Pharmaceuticals companies grew by 17% YOY in Q1' FY13 to Rs 22094 crore driven by 17% sales growth in domestic players to Rs 20,532 crore. So, if we expect that the same sales figures are maintained (and there is no sales growth for the rest of the year), the top 153 companies account for about 88,000 Cr or so. The actual figure, by rough estimation, should be northwards of 1,00,000 Cr. In fact, the total sales of the pharmaceutical sector was at Rs 1,26,033.86 Cr for the year ended Mar 2012 as per Capitaline website. Well, some of the players are too small to get impacted and some are in businesses which does not get impacted by this policy. Hence a portion of the sales figure can be deducted and a rounded figure of Rs 1,00,000 Cr can be agreed upon, still 40% higher than the government's estimates.
I have doubts over the 30% figure too, quoted by the government for the portfolio of NLEM marked drugs.
This can be established by looking at the category of drugs that are covered under the NLEM:
1. Anaesthetics
2. Analgesics, Antipyretics, Non-steroidal Anti-inflammatory Medicines, Medicines for Rheumatoid disorders
3. Antiallergics and  medicines used in Anaphylaxis
4. Antidotes & Other substances used in poisonings
5. Anticonvulsants/Antiepileptics
6. Antiinfective medicines including antibacterial, antiviral etc
7. Antimigraine Medicines
8. Anti-Parkinsonsism Medicines
9. Medicines affecting the blood
10. Cardiovascular Medicines
11. Dermatological Medicines etc.


There are, in total,  27 such categories. This, I have picked up from the 2003 NLEM document. You can find the document here. In 2011, drugs for HIV and additional drugs for cancer have been added to this list. With the inclusion of 8 new Cancer drugs, the list today stands at 30 drugs for cancer only. Now, when you have included the most common to most expensive drugs in your list, it is a little tough to believe that all these 27 categories of drugs constitute only 30% of the total. I mean, what else do they sell?
Well, it may be possible that Raja Sekhar Vundru,  Joint Secretary, Dept of Pharma,  was talking from the volume point of view. From the value point of view, I think it should be higher than 30%. But, in absence of concrete data to support my point I would stick to the government provided 30% figure. By the way, another estimate from a reputed research house estimates the market size of the NLEM at Rs 29000 Cr and thus the revenue hit is at Rs 5800 Cr. Well, both the estimates are only Rs 2200 Cr apart and in comparison to the kind of money we have been talking in the past few years (Remember 2G, CoalGate), this looks like 'chhutta' (change).
The actual figure will be higher than both the estimates. Why? Because as the medicines become cheaper, their demand would increase. And lets,  for the time being, assume that companies would meet all the demand, their (prospective) revenue hit would be much more than the expected figure of Rs 3600/5800 Cr. Add to that the fact that the pharma companies would do exactly the same thing that the fertilizers companies have been doing so far to get higher subsidies from the government - Over-reporting of their sales to farmers at subsidized prices etc. Now, such an approach would put the revenue-loss to the tune of Rs 10,000 Cr or more and their pitch for government subsidy would go high or else they would threaten to cut down the production of the NLEMs which anyways would not be making them high margins that they are accustomed to. The exit of smaller players, specially in specialty segment drugs, from the market would ensure that the government can be grabbed by its you-know-what to give in to their demands. The larger players can bear the loss due to under-production by focusing more on exports.




If government's policies make this sector unattractive then some of the borderline players would exit the industry and the major ones would only comply with the regulations somehow. This would lead to a lot of inefficiencies in the system. With the ever increasing population of our country, the requirement for drugs is only going to increase in the coming days. With major focus on exporting the drugs, my biggest fear is that this policy could lead to more inaccessibility of essential drugs for people of our country and specially the one for whom this policy has been formulated : the political class' favourite Common Man!

But again, as I said, my fears could be far-fetched as the healthcare industry, as a whole, in India, provides huge opportunities for the players starting from the drug manufacturers to healthcare insurers. And probably, they can take up a loss of 10% of their sales if the revenues keep going up at the rate of 17% or so. A lot of our drug companies depend heavily on the generics business about which I have written over here. They all have been seeing splendid growth in their topline and bottomline owing to the expiry of a lot of patented drugs in the period between 2011 to 2015, the median being at 2012. For ex. If we take three of the top 10 players in the pharma sector viz. Ranbaxy, Sun Pharma and Cipla, all of them have posted excellent results based on the growth in their major generics. Cipla has Lexapro and Vancocin, Ranbaxy enjoyed the 180 day exclusivity for Lipitor and Caduet while Sun Pharma made a killing with Lipodox.  With several other drugs about to expire in the next 6 months or so, the sales through FTF (First To File) drugs would be quite robust. Most likely, they would ignore the pain due to the NLEM policy for now. Post 2014, when the pipeline of the patent-expired drugs dry down and the FTF companies' exclusivity periods expire, the pharma sector may not see the similar kind of growth rate. That would be the time of heightened M&A and consolidation in the sector. Companies would be pushed to the walls to save on costs. One such being the NLEM dictated under-pricing of drugs. Some companies would be affected higher than the others as they have different portfolio-weightage for different drugs. Cipla and GSK are expected to be the worst hit under the NLEM regime.
Will our pharma companies would be prepared to face the challenges at that time. More importantly, will the government be ready with a solution to maximize the economic profit of the country?
Definitely, no one but the Time will tell.