Pricing pressure the new worry for Indian pharma

Pace of drug price erosion in the US to increase to 10-12% from 7-8% currently

The intense pricing pressure in the US market, reflected in the 26 per cent dip in March 2017 quarter net sales of Sun Pharma’s US subsidiary Taro Pharma, saw India’s largest pharma company lose nearly eight per cent in intra-day trade on Tuesday. The stock closed 4.3 per cent down at Rs 612.55. The price correction was not limited to Sun Pharma with all pharma majors either hitting their 52-week or yearly lows. The BSE Healthcare Index was the biggest loser among sectoral indices, shedding over three per cent on Tuesday. 

Thus far in calendar year 2017, the Nifty Pharma Index has underperformed with a fall of nearly six per cent, compared with a rally of around 14-15 per cent in the Nifty50 and the S&P BSE Sensex.

Among individual stocks, Lupin, Aurobindo Pharma, Divi's Laboratories, Glenmark Pharmaceuticals, Indoco Remedies, Strides Shasun and Wockhardt hit their respective 52-week lows on the BSE in intra-day trade on Tuesday.

The drop in Taro’s revenues came despite the three per cent increase in volumes, indicating the fall in realisations or price drops. Taro’s interim CEO Abhay Gandhi indicated the company was witnessing a difficult generic pricing environment, driven by intensified competition among manufacturers, new entrants to the market, buying consortium pressures, and higher ANDA approval rate from the US FDA. Analysts at Credit Suisse who had factored in an 8-10 per cent decline in Taro sales each year over the next two years, said the current run-rate showed a very high impact of increasing competition in the dermatology portfolio and was panning out even weaker than expected. 

Credit Suisse, in a May 22 report titled “Structural concerns in US increase further”, highlighted that Indian pharma stocks have de-rated by 10 per cent over the past one year, but with price erosion expected to increase, a further de-rating is expected. They expect price erosion to increase to 10-12 per cent from 7-8 per cent currently due to higher competition from increasing FDA approvals, increasing channel consolidation with top three buyers now accounting for 90 per cent of approvals and higher share of (product) approvals for new entrants. In the past nine years, price erosion was largely stable at three-four per cent; in CY15, though, it was slightly higher at five per cent, the brokerage estimates.

In fact, the 10-12 per cent erosion could worsen if the FDA approval rate increases from the current rate to include the backlog of 4,000 ANDAs. This would bring in a flood of new competition. 

ICICI Securities, too, in a recent report had highlighted that the US pricing pressure was steeper than expected. Managements of Glenmark and Dr Reddy’s said there would be high single-digit to low double-digit price erosion in the US in the backdrop of client consolidation and intense competition, mainly in the oral segment. ICICI Securities analysts led by Sidhant Khandekar said pharma players with US franchise were facing intense competition in existing products and client consolidation in the US was leading to price erosion. While approvals for new companies was increasing, Indian companies were facing increased FDA scrutiny and frequency of inspection/re-inspection was also delaying key approvals. 

Other issues compounding all this was the pricing probe by the US Department of Justice, adapting to the bidding process and the imposition of border tax on imported drugs. These were near-term overhangs. Strengthening of the rupee against the US dollar was also making matters worse. 

"Earlier, the threat was mostly from US FDA observations/warnings and the subsequent action. This has been compounded by expectations of lower realisation from the export markets in the backdrop of Taro's March quarter numbers. Having said that, pharma stocks have underperformed since a long time and given the fall, they should bottom out soon. However, one needs to be stock-specific here,” said G Chokkalingam, founder and managing director of Equinomics Research & Advisory.

This, coupled with the Indian government’s decision to bring down drug prices and expand access to affordable health solutions by asking doctors to prescribe drugs by their generic names, would also lead to both pricing and margin pressures for large pharma names. The Indian pharma market growth has moderated to 8.3 per cent in April on a year-on-year basis, from the 9.4 per cent growth recorded in March. 

Thus, the Street, according to analysts, will ignore good long-term growth expectations and attractive valuations given these apprehensions. Analysts at Credit Suisse have cut the target price for Lupin to Rs 1,200 (from Rs 1,250), Dr Reddy's Laboratories to Rs 2,200 (Rs 2,300), Sun Pharma Rs 600 (Rs 620), Cipla Rs 655 (Rs 675), Aurobindo Rs 750 (Rs 910), Cadila Rs 540 (Rs 560), Glenmark Rs 700 (Rs 760) and Torrent Rs 1,550 (Rs 1,770).