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Halol haze lifts, finally

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It’s time to count the learnings from Halol, both internally for Sun Pharma as well as for India Pharma Inc

News that Sun Pharma’s Halol facility was finally cleared by the US FDA bought cheer to India Pharma Inc. The warning letter (WL) of December 2015 had been a major bugbear for the company pulling down its share prices. Investors started getting jittery, as other big Indian pharma companies also faced reinspections and prolonged remediation activities.

As India’s top ranking pharma company, Sun Pharma was expected to address the issues raised by the US FDA but it took more than two years for the company to receive a clean chit in the form of an Establishment Inspection Report (EIR) after an  inspection conducted at the Halol facility during February 12-23 this year. The agency concluded that the inspection was now closed and the issues contained in the WL issued in December 2015 have been addressed. Calling this an important development for Sun Pharma, Dilip Shanghvi, Managing Director said, “We remain committed to following the highest levels of quality and 24×7 cGMP compliance at all our manufacturing facilities globally.”

This news should settle investors, especially the corporates. In an earnings call on May 25 to discuss the Q4FY18 results, Shanghvi was quizzed repeatedly on the preventive measures taken by the management to solve the problem at Halol. Given that the facility is responsible for around 15 per cent of revenues, and with continuing pricing pressure in the US, analysts pointed out that investors were losing money.

Shanghvi reassured the analysts that he agreed with some of their unhappiness and that as a large investor himself, he was also unhappy and they were trying to find a way to get the plant re-certified at the earliest. He admitted that it was taking ”much longer than what we would have liked it to.”

According to him, all analysts or investors should also keep in mind that last year Sun Pharma faced 18 US FDA audits and the company came out of each of those inspections with either no 483s or a very limited number of 483s. “Halol clearly has taken much longer than what we would have liked it to, but that is a reality and we have to find a way to fix it,” said Shanghvi.

His answer reveals a common angst: being pulled up for a fault, but ignored for and otherwise good performance. So even as Dr Reddy’s Labs (DRL) is likely to complete remediation activities by June-July for both its Srikakulam and Duvvada plants, it is time to count the learnings from Halol, both internally for Sun Pharma as well as for India Pharma Inc.

One major learning from Halol was that pharma companies needed to spread their product filings across multiple facilities, especially for key products and crucial markets. And no other market is as key as the US, the world’s biggest pharma market.

An HDFC Securities report on the pharma sector predicts that a comeback is on the cards and one of the major reasons is that companies have diversified filings across multiple facilities. For instance, three years ago, 50 per cent of US revenues of most Indian pharma majors were contributed by two plants. Since then, the report points out that they have added manufacturing plants and diversified filings across multiple facilities.

The HDFC Securities report analyses that Lupin now has seven formulation plants while Sun Pharma has built one more injectable plant (where it shifted products impacted by Halol’s WL). Sun Pharma’s Mohali plant has also received clearance from the US FDA. Cadila Healthcare, Aurobindo Pharma, Torrent Pharma and Alembic Pharma have also scaled up manufacturing base (both in numbers and capability). This has significantly reduced concentration risk with respect to future regulatory adversity.

With the Halol resolution, HDFC Securities has increased the P/E multiple of Sun Pharma from 20x to 24x, a clear indication of the impact of this news on market sentiment as well as the company’s perceived performance.

But revenues will take time to build up as the impact of a prolonged remediation process will take time to wear off. For example, in the case of Sun Pharma’s Halol’s facility, while the volume from the unit has started to improve in the last two quarters and will continue to improve post the EIR, Shanghvi explains that “if a customer has long-term agreements (with other manufacturers), even if we are available, does not mean we will get business. So it is a process, it takes time.” Which is why the HDFC Securities report says that it is unlikely that DRL will see lucrative approvals coming in from its Srikakulam and Duvvada plants in FY19, leading to further erosion in DRL’s US base business.

Thus the biggest lesson from Halol is prevention (of GMP deviations) is better than cure. That’s unfortunately easier said than done!

Viveka Roychowdhury

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