Sun Pharma: Strong Biz Acumen

It was no easy journey for first generation entrepreneur Dilip Shanghvi to have grown from a small Indian drug distributor to the fifth-largest generic drug maker in the world. His sharp business acumen was based on a low-cost-high-profit strategy.

Equity researcher Morningstar, in its latest report, sees Sun Pharma’s low-cost advantage, strong brand recognition in emerging markets, and proven capability of manufacturing complex products supporting sustainable long-term profitability. “The firm has a narrow economic moat primarily as a result of its low-cost advantage, which includes low manufacturing and employee costs at its primary manufacturing base in India and a vertically integrated active pharma ingredients division that generates a cheap source of raw materials, thereby enhancing its cost advantage,” the report says.

Besides this, it was also Shanghvi’s knack for turning a bad situation into good fortune that helped him create a Rs 28,000-crore behemoth. Although, the company has always been considered one of the worst paymasters and a tough employer to boot, its sheer size in the industry and the promoter’s proven managerial capability propelled it into the list of BW Businessworld’s Most Respected Companies in 2015.

Sun Pharma, has not only been the most valued pharmaceutical company in India, it is now counted among the world’s top generic pharmaceuticals companies, rubbing shoulders with Teva and Mylan, particularly after acquiring its troubled Indian rival, Ranbaxy Laboratories, in April 2014. The company, started after Shanghvi acquired the small drug manufacturing unit in Gujarat’s Vapi in 1983 to manufacture drug formulations for his distribution business, currently owns 48 manufacturing units across the world and has an active presence in generic medicine markets in 150 countries.

Since then, Sun Pharma has made several acquisitions. The Ranbaxy acquisition was made at a time when the country’s then largest drug maker was going through its worst regulatory troubles and its market value was at an all-time low. A 2009 acquisition of Israel’s Taro Pharmaceutical Industries was signed when that company was struggling to deal with a financial crisis. Ranbaxy lost half of its business following a strong regulatory action from the US Food and Drug Administration on its erring manufacturing units in India, leading to the complete stoppage of exports and new approvals to the market since 2008. Sun was exploiting that opportunity as it had a unique synergy with Ranbaxy’s product portfolio and registrations both in the domestic and foreign markets. Sun Pharma’s acquisition of Taro was also almost a similar case though it had nothing to do with regulatory issues but rather a financial crunch.

Shanghvi’s well-known “patient approach” in fighting the odds, including long legal battles, helped the company to scale up to the current level. Sun Pharma’s several other asset buyouts, mainly in India and the US, were also made through such inexpensive deals. The management believes that its ability to sustain long turnaround processes both in terms of finance and business synergies can ultimately help turn these difficult deals to its favour.

Nevertheless, one big challenge the company has often had to face is having to manage sticky regulatory issues. For instance, Sun Pharma, though it struggled hard to retain the operations at one of its US subsidiaries, Caraco Laboratories, that could not be sustained. The company had to finally close down production at that facility and lay off the workforce.

While Sun Pharma has already felt the pinch of heavy costs involved in resolving US regulatory issues in Ranbaxy’s key manufacturing units, similar issues in two of its own main production units in Gujarat poses a bigger challenge. While all of Ranbaxy’s manufacturing facilities in Madhya Pradesh, Himachal Pradesh and Punjab have been under import ban by the US drug regulator, Sun Pharma is also currently in the process of cutting down a good portion of Ranbaxy’s workforce and production facilities to derive benefits from the acquisition. The company has already sold one of its manufacturing units in the US in early December. The US FDA had, in the second week of December, issued a warning to Sun Pharma’s own large manufacturing unit at Halol in Gujarat. This is in addition to an existing import alert on another unit at Karkhadi. Sun Pharma has already posted a significant drop in sales and profit in the past two quarters mainly due to delayed product approvals in the US market and costs involved in the regulatory compliance processes. Sun Pharma’s net profits in the June and September quarters were down 60 per cent and 46 per cent respectively. For Sun Pharma, which earns at least 75 per cent of its revenue from export markets, mainly from the US, any negative impact on those markets will directly hit its profitability. “Sun’s biggest challenge is the risk of changing global regulations on drug manufacturing, approval processes, product pricing, and taxation,” says Morningstar’s equity analyst Surchi Jain in her report. “For example, the near-term headwinds of stricter facility compliance measures by the USFDA led to the issuance of a warning letter to Sun regarding its Halol facility in December 2015. This facility accounts for some 10 per cent of the firm’s sales. In light of this new development, we are moving our uncertainty rating to Very High from High, as the merger integration and compliance issues pile up for the firm.”

Says MD Shanghvi, “We have pledged to being CGMP (regulatory) compliant and are committed to continuing to supply our customers and patients across the world with quality products that meet all specifications.”

unni@businessworld.in; @unni_ch

(This story was published in BW | Businessworld Issue Dated 11-01-2016)