Porter's Five Forces Analysis The Five Force model of Structural Analysis of Industries was suggested by Micheal Porter

in the year 1983 and till date it is one of the most popular and widely used tool for Industry Analysis. The Five Forces model analyzes an industry by breaking down the influencing factors into five separate parts: Threat of new Entrants, the Bargaining power of Buyers, the Bargaining power of Suppliers, Threat of Substitutes, Industry Competition.

A Graphical representation of the Five Force Model is as shown below: The Five Forces as applied to the Indian Pharmaceutical Industry gives rise to the following points: 1. Threat of New Entrants: This point encompasses not only the ease with which a new entrant is able to set up shop in an industry but the question of sustainability of the set-up is also taken care of in this point. The Indian Pharmaceutical Industry and the Pharmaceutical Industry in general has a high entry barrier for new entrants wishing to enter into the industry. Some of the points that are related to the entry barrier in the pharmaceutical industry in general are as follows: The presence of economies of scale in manufacturing, R&D, marketing, sales etc. and Capital requirements and Financial resources. Already existing companies have a huge advantage in terms of the costs involved in launching new drugs and formulations. For a new entrant to match the economies of scale and R&D capabilities of the incumbent companies is extremely difficult, if not impossible. The percentage of revenues spent on R&D by some of the established Pharmaceutical Companies is as follows: R&D Costs of a few Indian Pharma Companies Company R&D as % of sales Cipla 4 Wockhardt Ltd 8 Cadila Healthcare 4.45 Nicholas Piramal 1.76 (source: www.myiris.com) The Differentiation of the product from the already existing products in the market and Creating a brand awareness in the minds of doctors and pharmacists Since the products in this industry are basically the same and the question of gaining trust of the patient/doctor is extremely important new entrants can face an extremely tough time in this industry. Also a new entrant would need time to develop efficient distribution channels and preferred arrangements with doctors/pharmacists. Regulatory policy including patents, regulatory standards. The Indian Patent Act, 1970 recognized process, but not product patents. This led the Indian Companies focusing on creating generic versions of products patented by the multinationals, rather than focusing on R&D and new product development. But the introduction of product patents as part of the TRIP (Trade Related intellectual property rights) part of WTO (World Trade Organization) agreement has lead to a huge entry barrier for potential entrants. 9

2. Bargaining Power of Buyers: In the pharmaceutical industry, the buyer does not have much power over the manufacturer because of the presence influencing element in this case, i.e. the doctor. However, due to the extremely fragmented nature of the industry and the presence of government policies like Drug Price Control Order (DPCO), 1970 under which the power to control prices is with the National Pharmaceutical Pricing Authority (NPPA) the low power of the buyers does not have much effect on the manufacturers. Also, except in generic and OTC medicines, the buyer does not normally switch medicines easily.

3. Bargaining power of suppliers: The main suppliers to the pharmaceutical industry are mainly the organic chemical industries and the labor force. The fragmented nature of the chemical industry prevents it from having much bargaining power over the manufacturers as the switching cost is low for the manufacturers. But there are also cases like Orchid Chemicals where suppliers have gone on to become manufacturing organizations themselves.

4. Threat of Substitutes: The main substitutes to the synthetic pharmaceutical industry would be the emerging biotechnology chemical industry. Also in a developing country like India, the traditional medicines also play a major substituting role. This as lead to a major constraint on the size of the Indian Pharmaceutical Industry. E.g. According to industry estimates, around 70% of the Indian population is supposed to supplement and at times even replace pharmaceutical medicines with traditional medicines.

5. Intensity of Rivalry: The India Pharmaceutical Industry is extremely fragmented with around 250300 manufacturing and formulation units in the organized sector which contribute to only 70% of the market share of total sales in the country. The concentration ratio (indicates the portion of total industry output by the largest firms in an industry) for the industry is very low. The Top 10 Indian Pharmaceutical Companies with their market shares are as given below: Also, Government subsidies have led to the proliferation of many small players. And since the product patents were not valid in the country till 2005, the differentiation in the products is very low. The key driver in the industry is cost-competitiveness. After 2005, the major MNCs like Pfizer and GSK have started introducing newer products in the market which has given rise to greater competition in the industry. 11

SWOT ANALYSIS OF THE INDIAN PHARMACEUTICAL INDUSTRY Before looking at the SWOT analysis, let's have a look at the industry's last six years performance. The pharma sector does not have any cyclical factor attached to it. The demand for growth is likely to increase in the long term, irrespective of the economical growth. It is a largely fragmented industry and immensely competitive with a large number of players. The following chart shows the break up of Indian Pharmaceutical industry for the last six years: *Volume growth of existing products

Source: http://www.equitymaster.com Now let us analyze the position of this industry with respect to its internal and external environment. Strengths: 12 1. It is a well developed industry with a strong manufacturing base. The cost of production of drugs in India is one of the lowest. India can produce drugs at about 40-50% of the cost to the rest of the world, which in some cases may reach up to as low as 90%. 2. With a penetration of modem medicine less than 30%, India is basically an untapped market. Per capita health care expenditure in India is US$ 93 while the same value for Brazil is US$ 453 and for Malaysia, it is US$189. Also the strong marketing and distribution network will act as an added advantage to increase the penetration. 3. The high middle class growth has led to fast changing lifestyles in urban as well as to some extent in the rural centers. This has opened a huge market for lifestyle drugs, which currently have a low contribution in the Indian pharmaceutical market. 4. The cost of production of drugs in India is one of the lowest. India can produce drugs at about 4050% of the cost to the rest of the world, which in some cases may reach up to as low as 90%. 5. The competitive advantage of the Indian companies lies in its excellent chemistry and process reengineering skills. This adds companies. It further helps them in developing cost effective processes. 6. One more factor adding to the strengths of this industry is the presence of patent protected drugs that ensure future revenue streams. 7. Due to consolidation of acquisition's operations, a large pool of installed capacities exist. Economies of scale in marketing, production and administration can be garnered. 8. As research forms an integral part of the industry, access to a pool of highly trained scientists also add to the strengths. 9. Liberalization of government policies is also a great contributing factor.

Weaknesses: 13 1. One of the biggest hurdles for the Indian pharma companies is the price regulation. It has led to a reduced pricing ability of the companies. The price regulating authority, NPPA (National Pharma Pricing Authority), sets the prices of different drugs, which in turn leads to lower profitability for these companies. Low cost producers are at an advantage in this case. 2. Lack of product patent prevents new drugs introduction in the country and thereby suppresses innovation and drug discovery. But this in a way has favored the Indian pharma companies. Also there is lack of experience even to efficiently exploit the new patent regime. 3. Indian pharmaceutical market is one of the least penetrated markets in the world. Slow growth has made the Indian majors to rely on exports. Consider this: India accounts for about 16% of the world population but the total size of pharma industry is just 1% of the total! This can be partly explained by the fact that the medical expenditure and healthcare spend is very low in the country. 4. Although the installed capacities are high but due to very low entry barriers, they are highly fragmented. There are about 300 large manufacturing units and 18,000 small units across the country. This makes the Indian market extremely competitive. This has led to price competition, which in turn affects the growth of the industry in value term. In the year 2003, the actual industry growth was 10.4% but due to price competition, it came out to be only 8.2% in value terms. 5. Recently the industry has been exposed to high monetary obligations due to the need for acquisitions and mergers.

6. Low investment in R&D and lack of desired resources make it difficult to compete with the MNCs on a worldwide basis. Few Drug Discovery Systems and low level of Biotechnology add to the problem. 7. Low quality Indian drugs tarnish the image of the industry as a whole. 8. There is no strong linkage between the industry and the academia as such, which could have proved to be a growth driver by providing regular feedback. 9. There is a huge shortage of medicines containing psychotropic substances, some of which are life saving. 10. Enough intermediaries are not available for bulk drugs. 11. Also, the industry on a whole lacks accurate technology forecasting and strategic future planning.

Opportunities: 14 1. The migration to the new patent product regime will transform the industry by bringing with it new innovative drugs. This in turn will increase the profitability of the Indian MNCs and will force domestic companies to focus more on the R&D front. This migration may result in consolidation too as very small players may not be able to sustain the challenging environment. 2. New market opportunities are in the way for the Indian pharma companies as a large number of drugs are going off-patent in the US and Europe between the years 2005-2009. Spreading use of generic drugs and the fact that generic drugs are commodities by nature will provide low cost Indian producers with a competitive advantage. 3. The expected growth in the per capita income and opening up of health insurance sector are the key growth drivers for long-term. This will lead to an expansion of the healthcare industry of which pharma is an integral part. 4. There exists a significant export potential for the Indian companies being one of the lowest cost producers. FDA approved plants will act as an added advantage for them. 5. With the aging of the world population combined with new diagnoses and new social diseases, the demand for the medical products on a whole is increasing. Also, there is a growing attention to health. Moreover, with new therapy approaches and new delivery systems, Indian industry is bound to grow. 6. There is a huge potential for the development of India as a center for international clinical trials. 7. Contract manufacturing arrangements and globalization will act as an additive for easier international trading. 8. India being a niche player in the pharmaceutical market has a huge growth potential. Also, the market saturation point is far away.

Threats: 1. The future of the current patent regime is questionable. The new government may change certain provisions of the existing patent act as formulated by the preceding government. Also, this patent regime may pose serious challenge to the domestic industry unless it invests in R&D. 15 2. Other low cost producers like China and Israel pose a great threat to the Indian industry. 3. Drug Price Control Order prevents the pharmaceutical companies from being much profitable and thus from generating surplus that can be further invested. 4. Regulatory requirements hamper the R&D efforts of the Indian companies. For example, the restrictions on animal testing outdated the patent regime.

5. In the battle of competition, small pharmaceutical companies face the danger of being taken over by big players. 6. The MRP based excise duty regime poses a threat to the existence of many small players, especially in Maharashtra and Andhra Pradesh which were a part of the contract manufacturing for the larger players of the market. 7. High cost of discovering new products leads to fewer and less frequent discoveries. 8. Greater number of potential new drugs and greater number of efficient therapies pose a threat to the Indian players. 9. High entry and sales and marketing costs are also a big threat to the upcoming players. 16 The linkages between the strengths and opportunities as well as the weaknesses and the threats of the industry are shown in the table below: 17 STRENGTHS Well developed industry with a strong manufacturing base Low production costs Huge untapped market Opening up of a huge market for lifestyle drugs Excellent chemistry and process reengineering skills Presence of patent protected drugs ensuring future revenue streams Existence of a large pool of installed capacities Access to a pool of highly trained scientists Liberalization fuelling growth WEAKNESSES Price regulation leading to lower profitability Lack of product patent preventing new drugs introduction Slow growth in the Indian pharma market leading to reliance on exports Low entry barriers and highly fragmented market High monetary obligations due to the need for acquisitions and mergers Low R&D investment and thus greater competition with MNCs Low quality drugs tarnishing the industry image on a whole Weak feedback from the industry Industry lacks accurate technology forecasting and strategic future planning OPPORTUNITIES Migration to the new patent product regime will bring new innovative drugs New market opportunities are in the way for the Indian players Expected growth in the per capita income - key growth driver for long-term Significant export potential Growing attention to health Potential for development of India as a center for international clinical trials Market saturation point is far away Globalization facilitating easier trading THREATS The future of the current patent regime is questionable Competition from other low cost producers Drug Price Control Order prevents greater profitability Regulatory requirements hamper the R&D efforts Small companies in danger of takeover

 High cost of discovering new products High entry and sales and marketing costs New drugs and therapies pose threat

ANALYSIS OF KEY PLAYERS OF THE SECTOR: RANBAXY LABORATORIES LIMITED Ranbaxy was set up in 1961 and is India's largest exporter of bulk drugs and pharmaceuticals. It manufactures and markets pharmaceuticals for human care, animal health care and also a variety of bulk drugs and intermediates. The company has a global presence with manufacturing units in seven countries and ground presence in forty nine countries. The company's products are sold in over a hundred countries. Ranbaxy has been growing inorganically by a number of acquisitions. Currently it is India's largest pharmaceutical firm and is amongst the top ten generics manufactures worldwide. In the year 2006, the company had consolidated sales of Rs 60,698 Mn and a net profit of Rs 5204 Mn. There was an appeal against Ranbaxy by Pfizer regarding Pfizer's `995 Lipitor US Patent. This was overruled and the company can now launch its drug in 2010 instead of the earlier stipulated 2011. CIPLA Cipla was set up in 1935 as The Chemical, Industrial & Pharmaceutical Laboratories. Cipla has a wide product range in the anti-bacterial and anti-asthmatic segments and was the first in Asia to launch a non CFC metered dose inhaler. Cipla has been a major provider of anti-malarial drugs as well as drugs for neglected diseases. Till 2000 Cipla was primarily into the domestic market but since then it has started gaining significant revenues from exports. In the year 2006, Cipla had a consolidated sales of Rs 3114.20 crores and a net profit of Rs 607.64 crores. A Japanese firm LTT Bio Pharma has recently tied up with Cipla to develop nanosteroids which are expected to be more effective and have lesser side effects as compared to the traditional steroids. DR. REDDY'S LABORATORIES 24 Dr Reddy's Laboratories was set up in 1984. Dr Reddy's manufactures and markets Active Pharmaceutical Ingredients, dosages and biologics. India and USA account for a major share in the company's sales but the company has presence in more than sixty countries. It was amongst the first Asian Pharmaceutical companies to be listed on the NYSE. Dr Reddy's has funded its R&D largely through venture capitalists. With patents on major products expiring in 2010, there are a huge number of opportunities in the pipeline for the company. For the financial year 2006, Dr Reddy's had a net sales of Rs 20032.55 Mn and a net profit of Rs 2111.12 Million. Dr Reddy's Lab has also been granted approval by US FDA for their drug for Ondansetron Hydrochloride Tablets.

FUTURE OUTLOOK Going ahead the future looks bright for the Indian pharma industry. The main drivers of growth for years to come are going to be Generics Biotechnology Outsourcing

About $65 billion market is coming up in USA & Europe alone, thanks to many blockbuster drugs going off patent. Indian companies are expected to corner around 30% of this market. Indian companies score because of lower costs than competitors. Mores ever companies are lobbying hard for level playing fields in US generics markets. If that happens a sizeable chunk of this new business will come towards the Indian companies. But there are a few challenges. Firstly, the prices of generics have stagnated or are falling which in face of tough competition threatens to erode the profitability of the segment. Secondly, the launch of Authorized Generics' by major drug manufacturers can become a spoilsport. If Indian companies can find a way out of this, there is no stopping them. and the recent acquisitions of European generics companies by Indian majors shows their appetite for growth. Dr. Reddy's acquired Betapharm in a $570 million deal, by far the largest by an Indian pharma company. At $500 million in exports Indian biotech firms are small players in the global game but this market is slowly & surely catching up. More money is being pumped into this sector and is the most probable way for Indian companies is forward. India has a huge talent pool which if used properly would deliver great results. The global industry is estimated at around $55 billion with India in a position to garner a huge pie out of this.India's biotech policy aims at attracting investments, U.S. style academia partnership & cluster models are worth emulating.India faces a challenge in this regard from Chinese companies as china is also a part of the Global genome project. India's low cost skilled workforce provides a competitive advantage which will take some time to emulate. 26 India has a huge advantage because of it's status as a superpower as far as IT is concerned with access to specialized skills & 24/7 work force.It makes India the choice destination for contract research, including drug discovery. More than 80% of U.S. companies rank India as first choice for outsourcing. India's rich talent pool, time-tomarket, creditable quality, operational flexibility, technological innovation, cost effectiveness are upper hands that are hard to emulate by competitors. Other advantages are Current Good Manufacturing Practice (cGMP) and U.S. FDA compliance levels, High visibility in generics, Manufacturing capacity, Access to new technologies, Cost efficiency and track record, Recognition of product patents, compliant manufacturing, Strong financial position with ability to scale up, High-quality. Contract manufacturing & contract research are two main areas of thrust. While the former presents a $ 168 billion opportunity by 2009 where India and china could grab a 35-40% pie, the latter provides $ 1 billion opportunity to Indian firms by 2008. India's new product patent scheme has helped build confidence amongst the global players & they are more than ready to share their knowledge and invest in R& D if need be. This is going to transform the Industry in a big way. Currently from a low cost manufacturing base to high end research destination. In other words they will move up the value chain into more lucrative segments. But before this could happen we have to overcome few challenges IPR Though government has done much in this regards to boost confidence amongst pharma majors by introducing the product patent regime in line with the Doha round of WTO agreements, much more still needs to be done. The Industry expects the government to follow international guidelines as in compulsory licensing, whereby governments can waive of patents in particular cases. Elsewhere only emergency invokes it, but here reasonability of product price can also be a reason for compulsory licensing. Also data protection laws in India are non existent which makes company jittery in sharing information. Pricing Issues 27 Drug Price Control Order (DPCO) controls prices of 74 drugs that account for more than 40% of the market. This price control mechanism discourages companies from bringing in their products.

Industry expects that a move away from the price control to price monitoring will go a major way towards building up the industry. While new Indian policies emphasize on R&D spend but price control mechanism acts as a deterrent for the same. The fear of spiraling prices is uncalled for as Indian industry is one of the most competitive & prices here are already 10 % of U.S prices. Regulatory Reforms Much has been done on this front but still a lot has to be done. Company should be relieved of the pressure to reduce prices. The Government needs to provide incentives & allow them to make additional proficts that can be ploughed back into research. Tax incentive could be a blessing in disguise as has been shown in countries like Singapore & Taiwan. Infrastructure for clinical trials is being setup starting with allowing multi clinic trials, protection of trial participants, integration & quality of data. R & D Spending A lot has to be done on this front & merely tax breaks are not going to help. What is required is R & D grants in some form with a proper frame work. Indian companies spend less than 5% of their sales on R&D whereas the global value is 20-30%. If something is not done on this front Indian companies are going to lose on a big scale. Without R&D capabilities matching international standards, Indian companies would lose out in the long run. 28

References 1. The Indian Pharmaceutical Industry: Collaboration for Growth, KPMG, 2006 2. CRIS-INFAC Database 3. QUARTERLY PERFORMANCE ANALYSIS OF COMPANIES (July-September 2006) Cygnus Business Consulting & Research 4. http://www.naviamarkets.com/recos/stocktrends/pharmaind.htm 5. Harnessing the Power of India: Rising to the productivity challenge in Pharma R&D, BCG, May2006 6. COMPETITIVENESS OF THE INDIAN PHARMACEUTICAL INDUSTRY IN THE NEW PRODUCT PATENT REGIME FICCI, March 2005 7. Offshoring in the Pharmaceutical Industry, National Academy of Engineering, Oct 2006 8. Sector Focus: Pharmaceuticals, www.equitymaster.com 9. PHARMACEUTICAL INDUSTRY, Issue 4Q, 2006, ISI Analytics 10. Patents and the Indian Pharmaceutical Industry, Nilesh Zacharis and Sandeep Farias 11. Learning to innovate: The Indian pharmaceutical industry response to emerging TRIPs regime Dinar Kale 29