Rules of Profitability – Understanding Generic Pharma
The global pharma industry spends over $ 200 billion in R&D every year.?By contrast, the generic pharma industry annual R&D spend is approx. $ 15 billion per year.?The most quoted metric is R&D as a percentage of sales.??For innovator pharma, this figure is approx. 25% whereas, for the generic pharma, this figure is closer to 7-8%. It is clear that while innovator drug companies have a higher R&D spend in terms of both, absolute value and percentage of sales, the generic pharma picture is more complex.?
?This article aims to understand the business model of generic companies based on their R&D spend.?Analysis of R&D as a percentage of sales for Indian generic pharma players reveals that the data ranges from 0.2% to 12%.?This data point by itself does not reveal any greater insight into what the company does.??On the other hand, if you look at the R&D spend as a percentage of Profit After Tax (PAT), one can draw some general inferences regarding the business model of the company.
The table below shows the summary of select Indian generic players.
?< 10% - Companies with a R&D/PAT value of < 10% (Godavari Drugs, Divis, IOL Chemicals & Pharmaceuticals, Aarti Drugs) are companies with a high focus on APIs.?These players have few API molecules (typically, 10-12) in their portfolio (often, commodity or semi commodity molecules).?These players focus on backward integration and have high strength in chemical manufacturing.?These companies do few molecules, but, do them well.
领英推荐
10-15% - This segment includes companies such as IPCA, Granules, Glenmark Life Sciences.?These are players that offer a wider API portfolio (20-25 molecules).?These are players that have lower levels of backward integration into intermediates but, offer value added products like DC grade APIs, pre formulations or Contract Research and Manufacturing Services (CRAMS)
16-25% - This segment includes companies that have a portfolio of API products with a strong technology differentiation. ?Laurus Labs, Fermenta Biotech and Biocon fall in this category and all these players have technologies related to fermentation and or biotechnology in their portfolio.?It is clear that leveraging these technology platforms to develop products requires a larger R&D spend.??Solara also falls in this segment even though it does not have any technology differentiation.?This is primarily due to the higher spend to build a CRAMS business.?The higher R&D expenses are justified by the high profitability of these companies.?All these companies operate in the EBITDA range of > 25%
> 25% - This segment includes companies that are integrated formulation players.?This group of companies includes Lupin, Dr. Reddy’s, Cipla, Sun Pharma, Zydus, Alkem, Strides, Torrent and Natco.?These are typically, large size companies (sales > $ 1 billion) running at EBITDA margins of 20-30%.?These players derive their value primarily from the formulations business and the API business essentially plays the role of backward integration.???
In essence, R&D as a percentage of Profit After Tax (PAT) is a more meaningful number to look at versus R&D as a percentage of sales.?The former allows one to understand the broad business model of a company based on 1 single data point alone.?While detailed analysis is required to understand each player in depth, the R&D/PAT ratio serves as a good guide ?and also helps compare the potential sustainability of profits (assuming it is linked to technology).?Needless to say, Divis, is a outlier in that it has a R&D/PAT number of 3%.?While this appears to be small, it must be noted that the total R&D spend of Divis is > INR 50 Cr spread over very few molecules.?Combined with an innovator customer base with a CRAMS business, Divis demonstrates exceptional performance.?So, while the model presented in this article is applicable to perhaps 80% of the players, there will be exceptions and hence the model must be used by exercising caution and taking into considerations granular details. ?