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Pills for the good health of pharma companies

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Rohitashwa Prasad, Partner, JSA outlines the business strategies that pharma companies need to adopt for risk mitigation to deal with the impact of COVID – 19

The healthcare industry is a silver lining in the dark clouds looming over the Indian economy since the outbreak of the COVID-19 pandemic. Demand for certain kinds of drugs, devices and healthcare facilities is expected to grow significantly in the near future. The latest AIOCD AWACS data shows healthy inventory and stock levels at the pharma companies’ and distributors’ level, respectively. Reflecting these positive trends and related factors, the BSE Pharma Index has risen almost eight per cent in the last month.

However, in this canvas, the Indian pharma industry cannot afford to lose sight of the risks that lurk in the background, one of the most significant of which is its heavy dependence on China, the US, and Italy – the countries most severely affected by COVID-19 – for the supply of active pharma ingredients (APIs), which are critical raw materials in the manufacture of drugs. Although reports indicate that Chinese suppliers, who contribute almost 70 per cent of India’s requirement of APIs, have resumed production continued shortages and price volatility due to transportation delays and regulatory action cannot be ignored. Further, should there be a second wave of the outbreak in China, supply chains will be disrupted again. In this scenario, the market could very well turn into a seller’s market if it has not to some extent already, with increased competition amongst pharma companies for the capacity of API manufacturers. To mitigate such risks, Indian pharma companies must take several measures.

Contractual risk assessment
To begin with, pharma companies should review their existing suppliers’ contracts to ascertain the respective rights and obligations of the parties in the event of failure to fulfil their commitments. In particular, provisions dealing with force majeure, material adverse change, notice requirement, and termination should be examined to assess whether, and to what extent, a supplier can suspend performance without breach and/or ask for price adjustment. On the other hand, the company’s right to seek damages and/or terminate the contract, and any duty to mitigate losses, must be evaluated.

It may be pointed out that the China Council for the Promotion of International Trade has issued more than 3,000 force majeure certificates to Chinese companies, including APIs manufacturers, entitling the recipient to take recourse to force majeure clauses under their contracts. This has incentivized some to wriggle out of their performance obligations. However, the certificate in itself may not afford safe harbour outside of China, and its impact on the force majeure clause in the context of a particular contract must therefore be analyzed. Existing insurance policies must be reviewed to determine whether or not a disruption in supply for reasons solely affecting the supplier is an insured risk. A similar exercise should be carried out in respect of the customers’ contracts to check if the force majeure clause therein is aligned with that in the suppliers’ at the back end to assess if the company has adequate protection if a supply chain disruption results in inability to fulfil customers’ purchase orders.

The risks assessed as aforesaid should determine the strategy a company adopts in dealing with each supplier and each customer, and in deciding whether to terminate, renegotiate, or continue the relevant contract as per the original terms, and/or whether to cast the sourcing net wider to cover other suppliers. Going forward, for new contracts, the learnings in respect of the existing ones should be factored in, and these clauses so drafted as to afford requisite protection in the event of supply chain disruptions. The pharma industry, as a body should also initiate a constructive dialogue with the insurance industry to assess the cost-benefit of risk coverage for business interruption due to such disruptions.

Boosting Domestic Production of APIs
At an industry level, Indian pharma must augment the domestic API manufacturing capability – both by utilising excess capacity and by making fresh investments. Companies should start utilising, to the fullest extent possible, the excess capacity in their existing facilities to produce APIs for themselves and for other Indian pharma companies that may be in need. The overall capacity utilization, factoring in all sizes of manufacturers, is currently estimated to be around 60-70 per cent. Whilst some of the excesses can be expected to be drawn down to meet the enhanced demand for drugs, the remainder must not be left idle but rather should be used to produce APIs. The industry should strongly urge the Government of India to grant expedited approvals for the manufacture of APIs at existing facilities already approved for drug production. The Director-General of Health Services (DGHS) has already, on March 19, 2020, announced that any application submitted to the Central Drugs Standard Control Organisation (CDSCO) in relation to R&D of drugs or vaccines for the prevention or treatment of COVID-19 will be processed on high priority. This could be made to serve as a precedent for granting expedited approvals, by all concerned authorities, for the manufacture of APIs also at such locations.

For the medium term, the pharma industry must capitalise on the production-linked financial incentive scheme for the promotion of domestic manufacture of critical drug intermediates and APIs announced by the Union Cabinet on March 21, 2020. Pharmaceutical companies, especially those with facilities in close proximity should also consider the feasibility of pooling resources to meet logistics-related problems that have arisen due to the nationwide lockdown.

In these trying times, when Indian pharma companies need to maintain good health, it is all the more pertinent to remember that their business itself is not immune to the contagion of COVID-19. To mitigate such risks, preventive and remedial measures need immediate attention.

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