‘Indian pharma companies are likely to halt their expansion plans and may wait to execute overseas plans’

The depreciation of the Indian rupee comes with a mixed bag of implications on the Indian pharmaceutical industry. While the consequences are inclined marginally toward the positive, some companies are likely to bear the brunt of this devaluation. The rupee has depreciated ~11 per cent against the US dollar during the past quarter. This event is likely to benefit Indian pharma companies which are in nature primarily export driven. Exports comprise 50-80 per cent of revenues of Indian pharma companies and the majority of the revenues are US dollar denominated. On an average, one per cent depreciation in rupee results in ~1.3 per cent increase in operating earnings (assuming exports comprise 50 per cent of the overall revenues).

Considerations

However, there are a few key factors that should be considered before drawing any inference:

• 70 per cent of raw material and 20 per cent of labour cost are linked to the dollar.
• The price competition among tier-II pharma companies.
• The depreciation in other emerging market currencies against the dollar.

Consequences

While the impact could be positive for companies with significant international revenues, many pharma companies have substantial foreign currency loans as well. Many firms hedge their net exposure over varying time frames, thus the positive impact could be affected by hedges and mark-to-market losses on forex liabilities. Interest costs may rise due to depreciating Indian currency, which could eventually lead to restatement of loans and hedges for companies. Short-term loans and increased working capital requirements are also likely to contribute to higher interest costs. On the domestic front, there may not be a substantial change, but companies need to be vigilant about inflationary concerns impacting the input costs and expensive imports, if any. These should be streamlined and monitored.

Historically, the depreciation of the rupee has worked in favour of Indian generic companies, when rupee depreciated ~11 per cent q-o-q in 3QFY12, the margin performance of Indian pharma companies improved significantly. On the transactions front, Indian pharma companies are likely to halt their expansion plans and may wait to execute overseas plans. Also, the Indian companies may find fund raising to be a challenge as investors are likely to exercise extra caution over decreasing bond yields, which in certain cases are below the currency conversion rates. However, it should be kept in mind that the reverse is also true as a strong dollar will encourage MNCs to scout for potential targets in the Indian pharma market; domestic companies with strong portfolios and offering unique propositions are likely to attract acquirers and investors. Recent FIPB clearances on FDI should initiate M&A activity presenting a win-win situation to the acquirers and the targets.

To conclude, the current currency depreciation may be positive at an operational level, but it has mixed implications for transaction considerations for the Indian pharma companies.

– Utkarsh Palnitkar, Partner, Head – Transactions and Restructuring, National Head – Life sciences ppactice, KPMG