Small drug firms fear margin erosion will impact long-term growth

As most pharmaceutical companies have recently agreed to revert to the old trade margins for drugs listed under the Drug Price Control Order (DPCO), the move can come as a major blow for small and medium-sized drug firms, which expect erosion in margins as a result. This leaves SME drug makers strapped for cash, jeopardising their chances of diversifying into non-DPCO products to protect their margins.

Kamlesh Patel, managing director of West Coast Pharmaceutical Works and vice-president of the Indian Drug Manufacturers Association (IDMA), western region, explained that a margin erosion of at least five to six per cent is unavoidable for SMEs in the pharma sector, which would now have to offer the old margins to retailers and wholesalers.

The new DPCO 2013 recommends that margins for wholesalers and retailers be reduced for drugs in the controlled list. While typical wholesale and retail margins are in the region of 10 per cent and 20 per cent respectively, for DPCO drugs a lower margin of eight per cent and 16 per cent respectively was recommended.

The National Pharmaceutical Pricing Authority (NPPA) had brought the prices of 348 essential medicines under control last year, imposing a cap on prices based on the average of the prices of brands with at least one per cent share in a category.

The trade (wholesalers and retailers), did not agree to such an arrangement, and argued that while all pharma companies were not equally impacted by the price control order, everyone was taking advantage of the new order to lower trade margins, which, in turn, significantly eroded the profits of wholesalers and retailers.

Several retailers and wholesalers began avoiding selling drugs manufactured by companies that offered lower margins, and eventually most pharma firms – including big names like Torrent Pharma, Cadila Healthcare, Mankind Pharma, Emcure Pharma, Ranbaxy Laboratories and Lupin, among others – agreed to offer the trade the old margins.

SMEs too had to yield to the pressure from the trade lobby and raise margins on DPCO drugs, said an industry source. “While larger companies (which have higher marketing costs) would be more impacted by the move, for SMEs, it could become a question of survival. Big pharma has the resources to diversify its portfolio,” he added.

Chirag Doshi, chairman of the Gujarat State Board of IDMA, said, “SMEs will have a huge setback. It can affect the survival of small players. While the margins to trade remain intact, the maximum retail price is controlled, and hence the scope for growth gets limited. Now, if they want to switch to non-DPCO drugs, they would have to invest in marketing activities, which increases their costs. For a new drug, the gestation period is at least two to two-and-a-half years and with shrinking profits, many small firms would find it difficult to stay open.”

A revenue erosion of 10-15 per cent is expected for pharma companies across the country. A recent Dun & Bradstreet report had pointed out that quarterly net sales growth had slowed to nine and 12 per cent during the second and third quarters of 2013 (the period during which the DPCO was implemented) respectively, compared to over 15 per cent growth during the same period of the previous year, which reflects the impact of the DPCO as well as the slowdown in demand.

Ketan Patel, managing director of Troikaa Pharmaceuticals Limited, a mid-sized pharma firm, claimed that many small brands face the risk of going out of the market. “Big pharma can cut marketing expenses for some of their drugs and hence protect their margins, as they already have established brands in the market. Volume players will hence stay, but the real trouble is for smaller firms who have to continue to market their brands with reduced cash flow now.”