Maybe the sops offered to pharma industry in Union Budget 2008 will have failed to bring in cheers to the pharma players with a focus on R&D. But they have many other things they can pin their hope on.
In recent times, several leading companies have hived-off their R&D activities into a separate company, largely to concentrate on new chemical entities (NCE) and new drug delivery systems (NDDS) and to reduce cost burden on bottom line.
Although industry experts feel that the budget outcome may affect their returns in short time this strategy of de-merging R&D into a separate company looks unique to Indian players. Since the strategy is not followed elsewhere, there is no predictive model to measure the long term success of R&D spin-offs. However, the company managements are optimistic about the success of this strategy.
New molecular research continues to be a highly expensive proposition for international pharmaceutical companies with a sharp decline in the number of new drug candidates coming out of their laboratories. In India too, the situation is no different with most of the dozen research intensive pharma companies like Dr.Reddy's, Ranbaxy, Lupin, Glenmark, Wockhardt, Nicholas Piramal and Biocon struggling to get successful new drug into the market. In this context, de-merging of R&D divisions is a boon to these players, as it would help them spend more resources into this to strengthen this segment.
According to Hitesh Gajaria, sector head, pharmaceuticals, KPMG India, the R&D unit spin-off strategy is becoming increasingly favorable among the leading Indian pharma players who are attempting to be discovery led companies and more and more such players are hiving off their R&D units in order to further focus on their core NCE / NDDS research operations. "Companies basically hive off the R&D unit in order to increase focus, scale up operations, access better funding from mature and sophisticated investors and improve the scope of collaborative research with international companies."
The pharma analysts are of the opinion that the de-merger of costly R&D activities will certainly help to improve earnings of other business and earning per share of the main company. But the success rate of R&D activity will continue to be risky and time consuming. However, the valuation of new R&D companies and returns are difficult to predict immediately. Every thing will depend on development of final NCE and investors will have to wait for longer time for returns.
In recent times, the R&D expenditures of leading 15 companies have gone up by 8.9 per cent to Rs 2,100 crore during 2006-07 from Rs 1,929 crore in the previous year. Notwithstanding this increase, net sales of these companies increased by over 26 per cent to Rs 25,871 crore without getting any significant returns from R&D investments. Also, their net profit moved up by 61.2 per cent to Rs 4,717 crore during the period under preview from Rs 2,925 crore in the prior year. If these companies hive off their R&D activities into separate subsidiary or entity, the bottom line will go up to some extent and in tandem with it earnings per share will also move up.
Since manufacturing and research operations carry different risk profiles, a separate company for R&D will help de-risk manufacturing in some way. However, the shareholders of R&D based companies will get returns only after commercialisation of NCE in a big way. The pharma industry was expecting some tax benefits and other concessions for R&D based companies in coming years. But finance ministry did not bother about the valuable demand and did not offer any soap. If the concession were announced, these would have gone to new R&D company and benefited them a lot.
Some analysts pointed out that the investment in R&D by corporates from highly regulated markets have started coming into India and China. India is much ahead in pharma research and quality with strong talent pool as well as state-of-the-art manufacturing facilities. The de-merged R&D companies may tap this opportunity and try to tie-up with major international companies. This strategy may start giving early returns. Several global companies may start investing considering the high cost of discovering new drugs in their own country as compared to the cost in India.
Indian majors like Sun Pharma Industries, Nicholas Piramal, Ranbaxy Laboratories Glenmark Pharmaceuticals, Wockhardt and Dr Reddy's Laboratories have decided or already de-merged their R&D activities into a new company. A few more companies may also consider same course of action.
Sun Pharma has de-merged its R&D activities into new company called - Sun Pharma Advanced Research Company Ltd (SPARC), with registered office at Vadodara in Gujarat. SPARC has two research centres - Vadodra and Mumbai. The new R&D based company received the entire innovative business comprising of research projects for new molecules and new delivery systems, scientists and intellectual property. The company is planning to invest $60 to $75 million in next three year for research projects.
As per scheme of de-merger, Sun Pharma has transferred net assets of Rs 54.64 crore during 2006-07 to SPARC. The SPARC scrip commenced its trading in July with price of Rs 87 per share and the same went to its peak level at Rs 125 and lowest at Rs 66.60 during last three months.
Nicholas Piramal India Ltd (NPIL) has de-merge its NCE Research Unit into a separate company NPIL Research and Development Ltd (NRDL) with effect from April 1, 2007. The listing of new company will be from June 2008 and it will take 2-3 years to generate revenue.
NPIL incurred an R&D expenditure of Rs 39.67 crore in the second quarter of 2008. The NCE programme has a pipeline of 13 compounds in Oncology, Inflammation, anti-diabetes and anti-infective segments. Four of these compounds are in clinical trials and other are at different stages. The new product is likely to be introduced in 2011. Currently, 400 people are working in R&D activities and the company is spending around 5 per cent of total revenue.
Meanwhile, NRDL has commenced phase I studies of a new experimental drug molecule, P1201-07, in the Netherlands. The company had submitted the clinical trial application (CTA) for P1201-07 to the central committee on research involving human subjects (CCMO), the regulatory authority of the Netherlands and the Independent Ethics Committee of the foundation Evaluation Of Ethics in Biomedical Research (BEBO), Assen, The Netherlands. Both these bodies have approved the company's application to initiate the phase I study of P1201-07.
P1201-07 is a compound from Eli Lilly & Co. (USA) and is being developed for metabolic disorders.
"This is our fourth new drug to enter the clinic and the first from the research collaboration with pharma major Eli Lilly. The drug development timeline is on schedule. We in-licensed this molecule from Lilly only in January 2007, and it has gone to the clinic in just a year", said Dr Swati Piramal, director -Strategic Alliances & Communications, NPIL".
Ranbaxy Laboratories Ltd has also announced a scheme of de-merger of the company's New Drug Discovery Research (NDDR) unit into a subsidiary, Ranbaxy Life Science Research Ltd. (RLSRL). Ranbaxy believes that this is a significant step in creating an independent pathway for NDDR with dedicated resources and an enhanced focus for long-term growth. Ranbaxy has state of the art Research infrastructure and a highly skilled scientific talent pool. These strengths can be more effectively leveraged through an independent vehicle that better aligns assets with priorities to accelerate the company's drug discovery programmes. The resulting operational freedom and flexibility will also help to open up new growth opportunities while providing a platform for increased collaboration.
The de-merger will result in cost savings of approx. US $25 million in the current year for Ranbaxy, a recurring expense, likely to increase significantly in the coming years.
Malvinder Mohan Singh, CEO and MD, Ranbaxy Laboratories Ltd, said, "The de-merger of our NDDR unit into a separate entity establishes a robust structure to carry out path breaking research at the cutting edge of modern medicine. It will also enable RLSRL to create intellectual property at a faster pace while positioning it for the future".