Sun Pharmaceuticals Ranbaxy buy increases heft in US market

Written by fe Bureau | Mumbai | Updated: Apr 8 2014, 06:21am hrs
SunRemains the 5th largest player in global generics market, but halves gap with Mylan. Reuters
THE fact that Indian drug makers need to have scale if they are to cash in on the large generics market in the US estimated at $50-60 billion isnt lost on Dilip Shanghvi. On Monday, Shanghvis Sun Pharmaceuticals Industries catapulted itself to the position of the fifth largest specialty generics drug maker worldwide, saying it would acquire 100% of the Daiichi-Sankyo-owned Ranbaxy Laboratories in an all-stock transaction.

That the combine will be Indias biggest pharmaceuticals firm is of less consequence even if it commands a 9% share revenues from the US market can be far bigger and margins more robust. Suns revenues from the US geography are estimated at $1.7 billion for FY14 and will likely contribute more than 60% of its total revenues.

However, its buyout of Ranbaxy comes at a time when the US market has become a far more competitive place the dramatic consolidation in the distribution space with just seven players now accounting for close to 85% of the purchases has tilted the scales in favour of bigger generics suppliers. The fact is, Indian generics players are getting left behind as their global peers pursue acquisitive strategies and offer more specialty products; analysts point out that without additional market share gains, Indian companies will not be able to spend adequately on R&D, and consequently, leave them without ammunition to win shares in the bigger spaces of inhalers and biosimilars. Suns spends on R&D in FY14 are estimated at around $150 million, a fraction of what its global competitors invest.

Against this backdrop, the acquisition of Ranbaxy gives Sun Pharma a bigger range of products and more manufacturing units that can help it grow the business faster combined generic sales (excluding branded sales) will be approximately $1.7 billion to $1.8 billion proforma sales, giving it a share of roughly 2.5%, assuming a market size of approximately $60 billion, Uday Baldota, senior VP, accounts and finance, observed.

However, profitability might be under pressure in the initial years given that Ranbaxys margins are way below Suns. Globally, Sun Pharma ranks fifth in terms of market share while Ranbaxy is ranked ninth; post-merger, the gap in revenues between Sun Pharma and fourth-ranking Mylan will reduce significantly from $3.5 billion to $1.7 billion, say analysts.

Most important, the buyout will not pressure Suns balance sheet although it will take on debt of $800 million.

There are several regulatory issues to be sorted out but analysts believe Sun is capable of fixing them it has faced problems with its US outfit Caraco. Moreover, as BoA Merrill Lynch points out, Sun has a history of turning around distressed assets such as Taro and URL. Regulatory overhang and high fixed costs have depressed Ranbaxys profitability, where Sun can bring its operational strengths, the brokerage wrote on Monday.

After merger, Ranbaxy will be Sun Pharmas wholly-owned subsidiary with Daiichi Sankyo holding 9%; in what seems like a sweet deal for shareholders of Ranbaxy, they will get 0.8 shares of Sun Pharma for every share they own in Ranbaxy.

The Daiichi Sankyo-led Ranbaxy has been in USFDA cross hairs ever since it took over Ranbaxy in 2008 for about $4.6 billion. Four of Ranbaxys production facilities are under an import alert owing to non-compliance with USFDA mandated good manufacturing standards. The Gurgaon-based company has been in the red for two out of last three financial years due to poor sales and adverse impact of forex movement. The merger results in nearly $4.2 billion in proforma sales, according to CY2013 figures, the companies said. Combined Ebitda for Sun Pharma would be approximately $1.2 billion, for the same period.

The merger will see the new entity command a domestic market share of 9.43%, according to AIOCD-AWACS. The organisation, which tracks the Indian pharmaceutical market (IPM), added that the merged entity has reached a very dominant position by being within the top 4 among the top 10 therapy areas, in IPM. The 10 therapeutic areas account for 90% of the market.

The market capitalisation of the merged entity will be Rs 1.41 lakh crore, taking it to among the top 10 listed companies in India, according to Mondays closing price on BSE.

Sun Pharma managing director Dilip Shanghvi was convinced Sun Pharma would be able to leverage the strengths of Ranbaxy, saying that he hoped to achieve $250 million in synergies in three years time, in a call to analysts.

The transaction actually strengthens our leadership in the specialty therapy area which was the focus of our future growth. It also gives us presence in some businesses in which we were not present before and we believe that we can find a way to grow them, Shanghvi said, adding there was very little product-specific overlap between Ranbaxy and Sun Pharma, so there is an enormous opportunity to develop synergy.

It strengthens our position in chronic therapy but it also gives us leadership position in acute care, hospital care and OTC products, so its a very synergistic transaction, Shanghvi said.

The transaction expands Sun Pharmas reach as it did not have any have any significant sales in rural areas, which Ranbaxy does. Shanghvi said it gave the company a platform to distribute products in the rural market and will allow it to capture many prescriptions which it was not able to catch till now due lack of distribution.

The swap ratio represents an implied value of Rs 457 for each Ranbaxy share, a premium of 18% to Ranbaxys 30-day volume-weighted average share price and a premium of 24.3% to Ranbaxys 60-day volume-weighted average share price, in each case, as of the close of business on April 4, 2014.

Analysts have lauded the deal, with Edelweiss analysts saying the merger is a positive development for Sun Pharma given that the businesses complement each other, Ranbaxys depressed profitability and valuations. While the deal will be earnings dilutive in the near term (-4% in FY16), we see significant synergies over the next 3-4 years which we believe will lead to 10-12% incremental EPS in year 3 from the acquisition, BoFA analysts observed.

Sun Pharma has made five acquisitions since 2008 including that of Taro Pharmaceutical Industries and URL Pharma. The Mumbai-based companys market capitalisation rose almost four times or by $7.2 billion to $21 billion after Taro deal in September 2010 and URL acquisition in December 2012.

Actavis conducted three acquisitions in 2013 and three in 2014, including big players such as Warner Chilcott and Forest Laboratories two deals which vaulted it to number two generic player globally. Canada-based Valeant Pharmaceuticals also is expanding inorganically with the purchase of with 8 deals in 2013 including contact lens-maker Bausch & Lomb and medical device maker Solta Medical.

Sun Pharma shares touched a high of Rs 599, up 4.7% on the BSE before closing at Rs 587.25 on Monday while Ranbaxy shares touched a low of Rs 434.05, down 5.5%. Ranbaxy shares closed at Rs 445.20.