Ind-Ra: Acquisition of European Generic Businesses Partially Comforting to Indian Formulators

India Ratings and Research (Ind-Ra) believes that the sale of European generic assets by global pharmaceutical majors will throw open potential acquisition opportunities for Indian formulators. This would, however, only partially offset the negative impact of operating in the challenging US market. Also, the European region has divergent commercial and regulatory policies which lead to uncertainty in timely integration and subsequent growth in scale and profitability of the acquired generic assets.

Operational stress, due to pricing pressures and deleveraging commitments, has led global pharmaceutical majors to announce business restructuring plans and sale of generic assets in Europe and the US. A muted recovery amid the likelihood of unabated pricing pressures in the US markets for the medium term is likely to re-kindle the interest of Indian formulators in Europe to tap inorganic growth opportunities to gain scale and/or diversify operating profitability.

However these acquisitions also carry risks on account of the structural complexities in operating in Europe due to divergent sub-region dynamics and this could delay integration. Some of these factors have also limited organic growth, leading to a low scale in Europe for Indian formulators. Historically, the integration of generic businesses acquired in FY14 has been challenging for Indian formulators and the debt-funded acquisitions of generic assets in FY17 are yet to demonstrate operational integration and synergies in operating profitability. While the acquired assets may provide immediate scale benefits, the growth of the acquired generic portfolios is susceptible to amendments in regulatory and fiscal policies in the acquisition geography, impacting product economics and business strategy. Furthermore, steady-state operating profitability of integrated/optimised assets is likely to be in mid-teens which would be structurally lower than those to be earned in the US in the near to medium term, translating to marginal long-term benefits. Any delay in integration amid sharp headwinds in the US will weaken profitability below the average expected for the medium term.

Indian formulators have stepped up the R&D expenditure on select limited competition complex generics and new chemical and biological drugs to create a long-term sustainable US business. Hence, conserving internal accruals to fund R&D spends and committed growth capex may lead to a higher propensity to expedite the closure of proposed acquisitions with debt. Large debt-funded acquisitions are likely to keep the net leverage elevated and return rations depressed for 24-36 months post acquisitions in the current operating environment, thus delaying deleveraging.

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