The Evolution of the Pharmaceutical Industry: An In-depth Analysis

Coronavirus hit the world hard at a time when no one was ready for it. With a contagious disease harmful enough to cause deaths in millions, the absence of a vaccine caused a disaster. At such a time, India’s pharmaceutical industry played a huge role in the global market by exporting 723.435 lakh doses of COVID vaccine to 94 countries by the end of 2021. This was a powerful boost for the nation’s pharmaceutical industry and a subject of pride for the citizens.

The pharmaceutical industry has been a complex sector to analyse, whether it comes to finding the right medicine for a health issue or looking for the best company to invest in. There are too many obligations that this sector needs to follow, which complicates understanding the business model.
The little pills we swallow with one gulp take 10+ years to come to our palms. The journey of that pill from a researcher’s notebook to the chemist’s shop goes through a strict set of regulations which are essential to follow due to safety concerns. These regulations give birth to various sectors in the pharmaceutical industry, making the entire sector puzzling.

Thus, investors, especially beginners, find it challenging to comprehend where to invest.

To help you out, as Insider’s goal for our readers is, I am bringing a comprehensive guide on what makes up a pharmaceutical company. So, be ready to get a peek at the secret signs you can look for while analysing a pharmaceutical company. This article will guide you towards making the right choice to invest in the pharma industry and help you decide whether this sector is right for your portfolio.
Without further ado, let’s begin!

Manufacture of a New Drug In a Nutshell

India’s pharmaceutical industry is the world’s third-largest drug producer, volume-wise. When comparing value-wise, India’s pharma industry ranks 14th in the world trailing behind Spain and Brazil. India is proud to boast one of the fastest-growing pharmaceutical industries in the world.

In order to understand how a pharmaceutical company works, one should first grasp what a pharma company entails. People who are unaware think of a new drug's production, packaging, and marketing as a simple and direct process, but it can't be farther from the truth. The drugs you use for even normal colds take years to develop and go through rigorous checks to be available at the chemist. The steps for the production of various drugs can be different, but here is the most generic process of how a medicine is developed ⬇️

The infographic above shows the work included in drug manufacturing. The steps mentioned here give a superficial representation of drug production.
One thing to keep in mind is that each kind of drug, from pain relievers to vaccines, is developed with one or 100 different steps included. The raw material, or the base formula, is developed by one company, and another develops the final product. In fact, the patent for the drugs may belong to one company, the production to another (formulation company), and packaging from the next one. 

Here are the five segments in the pharmaceutical industry:

• API: Active Pharmaceutical Ingredients, aka API, is the ground-level segment in the pharmaceutical industry chain as it produces the basic elements or drugs in bulk. These elements or ingredients are then utilised by other companies to prepare full-fledged drugs. Divi's Laboratories are the most prominent example of API segments which is the largest manufacturer of 10 generic APIs in the world.

If you want to analyse Divi's Laboratories with Dr Tanmay Motiwala, click on the link.

• CRAMS: Contract Research and Manufacturing Services, aka CRAMS, is the research centre of the industry. They provide research data and services to other segments of the pharma industry. This is one of the largest growing segments in the industry. Biocon’s subsidiary, Syngene, is a popular example of this sector.
• Formulations Manufacturing Companies: This segment in the pharma industry is usually the last step as formulation companies take baser drugs from APIs and convert them into the final medications. India is a renowned centre with 40% of the world’s generic drug production, with companies like Cipla, Sun Pharma, etc., taking the lead.
• Biosimilars: Also known as biologics, biosimilar companies develop a similar copy or an alternative to a well-known biologic product. Biocon, Lupin, etc., are a few leading companies in the biosimilar market. India still has development room for this sector as it only handles 8% of the global market.
• Vaccines: This segment in India’s pharmaceutical industry has the largest share worldwide with a 60% dominance, as per WHO. India proved its top position in the vaccine production market during the Covid-19 pandemic by distributing vaccines to more than 98 countries. Serum Institute of India is the largest vaccine manufacturer in the world, volume-wise, in this segment.

All in all, the pharmaceutical sector in India is a blooming market with many opportunities for advancement for companies. But, despite these opportunities, the sector has proven to be a risky bet for investors due to the instability of the business model.

Factors That Prevent Pharmaceutical Companies from Becoming a Goldmine for Investors

When it comes to noting the three essential sectors in life, food, education, and medicine would top the list. These three sectors play a major role in helping humans lead a comfortable life and thus can't be neglected. One is essential to sustain a healthy body; another is important for developing intellect, whereas the third protects both mind and body. Along with making our lives worth living, these three sectors also lead the investing market. It's never surprising to see stocks from one or more sectors in an investor's portfolio.

Unlike other industries, medicine, aka the pharmaceutical industry, is not as easy to evaluate as it may look. There are too many companies present in the market from varying sectors, such as API, generics, etc., and all companies from these sectors have their pros and cons.

The Indian pharmaceutical industry contributed 1.72% towards the country’s GDP in 2021. Our nation holds the position of being the largest producer of low-cost generic drugs as well as contributes 8% to the global API production. When observed Y-o-Y, the size of the Indian pharmaceutical industry has seen a positive hike and is likely to be a $130 billion sector by 2030. ⬇️

With its motto of becoming a nation that follows the example of “Vasudhaiva Kutumbakam”, meaning “The World is One Family”, India forwarded its aid to under-developed countries with Covid-119 vaccines in low or free prices. The program was named “Vaccine Maitri” and involved nations like South Africa, Nepal, Bangladesh, Myanmar, United Kingdom, Sri Lanka, etc. Around 16.29 crore vaccine doses were distributed to 96 different countries as part of the program till February 2022.

Despite all the developments the nation's pharma industry has been witnessing, the companies involved still face trouble regarding operations and marketing. Producing a drug is so complicated and contains several barriers that it takes more than ten years to be ready for marketing. And when it is finally time to launch the drug in the market, it cannot be advertised like other sectors. You will never see an ad for a diabetes drug on TV or anywhere else due to the DMR Act.

The reason for such a ban is justifiable, but it ends up opening a direct path for corruption and other negative elements. A brief analysis of factors preventing the pharma industry from being a good choice in investments is explained below:

Regulatory Checks & Pricing Policy

The regulatory body’s approval before launching new drugs in the market is the most essential and the most time-taking step. After going through clinical trials that take place in 2-3 phases, the time for getting a clean check from the regulatory body comes up. Here, the Central Drugs Standard Control Organisation (CDSCO), headed by the Drug Controller General of India (DCGI), takes charge.

The average approval rate for a drug lies somewhere between 10-20% for India, and this number has not changed for a long time. Hence, the capital utilised in the R&D department of the company as well as a certain portion of other sectors, is continuously filled to prepare drugs which can be approved.

Another factor close to regulatory policies is the pricing ceiling for drugs in India. The National Pharmaceutical Pricing Authority (NPPA) sets the ceiling for pricing medications in India. As per the ceiling, a drug can be priced equal to or lower than the ceiling value. This value keeps on changing due to certain factors every year. The instability in price policy makes it difficult for investors to make calculative decisions for long-term investments.

Difficult to Enter the Global (USA) Market

Boasting 30-40% of the worldwide pharmaceutical market, the USA is the nation every global pharmaceutical company targets to distribute. The US pharmaceutical market is estimated to grow at 2-5% CAGR and reach the $605 billion mark by 2025. Imports for drugs and vaccines keep on increasing for the nation because of the high consumption by the citizens.

Such a vast market attracts pharmaceutical companies from all over the world, including Indian firms. But, entering the USA market is not as easy for pharma companies due to the strict regulations installed by FDA, Food and Drug Administration.
Despite the high demand for generic drugs in the US, Indian companies find it difficult to get approval to distribute their products in their market. Companies spend a large amount of time and capital to get that approval which does not always lead to a successful conclusion.

Abundance in Competition

India is now the nation with the largest population, around 142 crore. This leads to a rise in demand for a variety of drugs and vaccines in the nation. Hence, the Indian pharmaceutical market is bound to increase in size in the upcoming years, approximately $130 billion (as mentioned in the graph above). The market is large and regulatory requirements for starting a pharmaceutical company are low, which leads to new entrees every year.

The low barrier for entry is one of the reasons why the marketshare is divided, leading to little profit for all the players involved. Low manufacturing costs, low labour costs, incentives and financial subsidies from the government also work in favour of these companies. This causes the number of companies to increase in the indexes as well. After all, the pharmaceutical sector is one of the largest sectors in NSE, number-wise.

Parameters to Keep in Mind While Investing in a Pharmaceutical Company

We discussed what complicates the extremely necessary sector in the world from an investor’s perspective. But, not everything is grey for the sector as it is thriving and growing as we speak. Take the companies like Sun Pharmaceutical Industries Ltd., for example. When we compare the share price chart of the company for the 3-year range, then we can see the rapid rise in it (₹500 on average to ₹1,038 rupees today in 2023).

Coronavirus was one of the biggest factors that boosted the pharmaceutical industry in India to achieve the status of contributing around 1.3% to the global market. The unfortunate event that shook the world devastatingly caused unprecedented benefits for many, among which the nation's pharma sector was one. India supplies over 50% of the vaccines for the global requirement, in which 98 countries were included. Thus, the Indian pharmaceutical market is estimated to reach a size of $130 billion by 2030.

This raises the question of what would be the accurate screener an investor can rely on while analysing one of the pharma companies. Though the screeners can vary based on an individual’s return expectation, here are a few options you must check before making a decision:

a. Pipeline:

As I already mentioned above, each drug launched in the market takes 10-20 years actually to make its entrance. Till then, the companies work sideways in preparations for one or many new drugs. Thus many drugs are in their research stage, development stage, or in clinical trials stage. This is called a pipeline. Along with the 10-20 years of time duration, a capital worth $2.6 billion, which amounts to ₹213.64 crores, is invested to prepare a drug.

Thus, based on the number and type of drugs, either pills, vaccines, steroids, suppressants, etc., a pharma company can be analysed. While checking the pipeline of a company, one should check the number of drugs included, the number of drugs successfully launched in the market, drug reviews, and other things. This way, one gets a distinct idea of the million-dollar question of whether to trust a company’s financial state based on the flowing capacity of the pipeline.

b. Revenue Breakdown:

Research plays a huge role in guiding investors to make the right decision. Similarly, the research, or should we say, the R&D department in a pharma company, plays a big role in deciding whether the company is worth investing in or not. Usually, a well-established pharmaceutical company would contribute 8-10% of its revenue in the R&D, i.e. Research and Development sector. This sector is essential as a new drug's research, development, and formulation occurs here.

The revenue breakdown of a pharma company also showcases their plans with the operating revenue and helps in determining the situation of the financials. So, by checking out the revenue breakdown as well as financial statements for at least the last five years, one can determine the right stock for investment.

The Bottom Line

The pharmaceutical industry is worth 1,482 billion dollars today, and this sector is bound to increase with the rise in population. India has great potential in the sector, but we need to focus more on developing new drugs along with the flourishing generics sector. Investors must prepare the right screener to filter out the best stocks to benefit from the profits the pharma sector will likely bring. In conclusion, investors with low-risk potential need to be extra cautious while dipping their feet in the pharmaceutical industry.

*Disclaimer: The stocks and companies discussed above aren't a recommendation from Insider by Finology and shall not be construed as a replacement for professional advice. Consult a professional or conduct the necessary research before making investment decisions.