Jul-Sep 2013

Organic and Inorganic Internationalisation: Insights From Dr Reddy’s Labs

Dr Reddy’s Laboratories (DRL) was promoted in 1984 by Anji Reddy, a pioneering scientist-entrepreneur, as a manufacturer of bulk drugs or active pharmaceutical ingredients (APIs). Over the last three decades, DRL has emerged as an integrated global pharmaceutical company offering a wide range of products including APIs, generics, biosimilars,  and differentiated  formulations.  Nearly 80% of the company’s revenues  are derived from overseas markets that include the United States (US), Russia and Commonwealth of Independent States (CIS) and Europe, apart  from  other  select geographies within  emerging  markets. G  V  Prasad is current Chairman and Chief Executive Officer (CEO) of DRL and is widely considered the architect of the company’s successful global generics and API strategies. Following are select excerpts from a conversation on DRL’s organic and inorganic internationalisation strategy that he had with Professor Raveendra Chittoor of ISB. 

Before looking specifically at DRLs journey, it is worth noticing the tremendous internationalisation of many Indian companies in the last decade or so. What do you think are the triggers for this rather sudden change?

You say a lot is happening but I feel not enough is. We in India are in the early stages of this journey,  so we are seeing a lot of activity. But honestly speaking, I think we are in the very early  phases of globalisation. We have very few products which are global brands today. Of course, there are company brands in information technology (IT) services etc. But  fundamentally,  we are exporting  commodities,   and we have really not established our innovation  capabilities in the world.

Having said that,  let me answer your question about why companies are going increasingly international.   India  was a closed market  for many years. Just getting an industrial  license was a huge process until  the 1990s. Even now, doing business in India is very, very tough. We are ranked abysmally low in terms  of the  ease of doing business. Competing  in a market like India really builds muscle.

When  a company is successful in India  against all the odds, I think it is able to compete in very adverse circumstances.  So it has a natural  advantage when  it goes international  and competes in more favourable regimes. Successful companies in India are taking this strong in-built  competitive advantage  to the world today and finding better markets.

Companies internationalise for different reasons. One is, of course, growth. It makes sense to market your product everywhere  that you can. And  access to customers and markets is one important  element of globalisation. I think for the IT industry, the markets are in the West and they are seeing this huge labour – intensive work shifting to Asia – India and China.

When a company is successful in India against all the odds, I think it is able to compete in very adverse circumstances. So it has a natural advantage when it goes international and competes in more favourable regimes.

The other reason why we are going international is to access technologies, capabilities and infrastructure. In fact, we bought a factory in the US. We are shifting manufacturing from India to the US, and it is working quite well for us. So I think  each industry, each sector is going international for different reasons.

Can you describe the internationalisation  process of your own company?

Today  DRL is  a  US$  2.5 billion  company. But it started in 1984 as an active ingredients manufacturer of what we call bulk drugs. The founder, Dr Reddy, was a chemical  technologist  experienced  in the public sector  unit of Indian  Drugs  and  Pharmaceuticals Limited.  From there, he emerged and started several entrepreneurial ventures and ultimately  ended up with DRL.

  Sometimes, instability offers you an advantage. Venezuela today is a great market for us in a counter- intuitive way. A lot of western companies have moved out, creating a vacuum.

Those were the days when India  had import tariffs  upwards of 100%.  And  people who  could develop technologies and manufacture products could make good money. But with competition, companies had to look for growth  internationally.  So just after three  or four years  of our existence, we  started exporting  – first to traders.  The  pharmaceutical trade was centred around Hamburg.  Then you had Switzerland   and  Spain  as  trading   centres.   These were  places  where  traders  used  to import from India and then redistribute around the world. That is how the Indian pharmaceutical industry started its internationalisation   journey.  This  happened in the late 1980s or early 1990s.

Then, we started realising that these trading companies were really exploiting  the information asymmetry. As we were  looking  at creating  greater value  for our companies, we started  going directly to customers internationally.  Today it all sounds very archaic – going to customers sounds like something we should have done in the first place. But in those days, it was pioneering  to go international  when we had limitations  on everything, including the foreign exchange that we could draw.

So  the   first step  of internationalisation    was primarily  going and meeting customers. Then from there, we moved on to opening representative offices in key geographies, such as the US,  Europe,  Russia and so on. Along the way, we moved up the chain from pharmaceutical ingredients to finished dosages.

Why Russia?

India  and Russia had a lot of very  strong defence links and there was always this Rupee-Ruble  counter trade. We  always had a Ruble  surplus  because we used to buy a lot from the erstwhile Soviet Union.  They also bought many goods from  India – largely commodities such  as coffee, tea, cigarettes, rice etc. Drugs and pharmaceuticals  were  then  added  to the  list and Russia became  a big market for Indian pharmaceutical companies.

Meanwhile, the generics industry started growing in the US and they started sourcing products globally, active  ingredients   from India, China  and  other countries. The Soviet Union  collapsed and moved to a free market economy.

We started our internationalisation  journey in the decade of 1990s, by setting up representative offices. Then slowly we moved up the value chain by beginning to acquiring internationally. I think we made our first international acquisition in the year 2002.  This was a small company in the United Kingdom (UK).  We did it to really get a foothold in the UK market, using this small acquisition as a base.

After  that,  we  started  a series of acquisitions. We went and acquired a site in Mexico from Roche, and  then  we  acquired  a site  in the  US  BASF. We acquired Betapharm, a big German generic company. We acquired the Dow Chemicals facility in the UK. It includes  a research  facility   in Cambridge   and  a manufacturing facility near Manchester.

Most recently, we announced a technology capability acquisition in the Netherlands called OctoPlus.  Overall,  this  has been  our globalisation journey. Initially,  we started by exporting  products. Then we moved to opening our own offices worldwide. After that is when we began our inorganic growth and commenced creation of global sales-forces.

How do you decide which markets to enter?

We look at markets which are attractive from  an ease of entry perspective and at our own ability to compete. For example, the transparency of the regulation, the orderliness of the trade, the size of the market — all these make the US the most attractive market in the world.  The US was a natural choice.

Russia became  very attractive  to us for specific reasons.  It  was  on  the  cusp  of political  turmoil and  change  as Gorbachev arrived  on the scene and unrolled  Glasnost and perestroika. A centralised economy was transforming  itself to a market-driven one; we just rode the wave. Today it is a very, very attractive market for us, and  we  have a very strong brand presence in Russia.

Sometimes, instability  offers you an advantage. Venezuela today is a great market  for us in a counter- intuitive way. A lot of western companies have moved out, creating a vacuum.

South Africa is another good example. It was another country in transition; we were there quickly after the transition.  As the economy opened up, we participated in that. So ease of entry and our ability to make a difference  are important   factors, in addition to our ability to compete and the attractiveness and size of the opportunity.

For example Indonesia is a very large market but there is no opportunity  for us to make a big difference there. The local industry is well  entrenched.  So we did not enter Indonesia.

We  actually  learnt  our lessons   as  we  started internationalising.  In the  first few years, we went haywire  and went  to about  40 countries.  The complexity  of serving   so  many   markets   became over whelming. Then we rationalised our international presence. We sharpened our attention on five main markets and ten secondary markets. That brought in a lot more focus and simplicity  to our strategy and it has been working  very well for us.

Internally, we have decided that we will not be very broad-based in our product offering. We will remain narrow and target products with a high degree of scientific complexity. Largely, we are the first or the second to get into a segment, but not the tenth.

There are a lot of generic firms, Indian as well as the rest, competing hard for global markets. How do you cope with this competition?

We differentiate  ourselves in the global market in two ways: basically through  the choice of customers and the choice of products. We  have customers  of two kinds. One is the business-to-business (B2B) kind of customer – the distributors.  Then we have the end- users as customers in the branded markets.

In Russia, we go directly  to the customer. In the US, it is B2B. In the B2B markets, we select customers who are long term in nature and who require  a very high level of service. We avoid transactional customers, the ones who come only for price.

In the branded markets, we choose therapeutic areas (TAs)  where  we can make a difference.  So we select  a subset  of doctors in our  TAs and we make a customer  choice.  We  also make product  choices. Internally,  we have decided that we will not be very broad-based in our product offering. We will remain narrow  and target products  with a high  degree  of scientific  complexity.  So we tend  to be in product markets  where  there  are not many  companies participating.  Largely, we are the first or the second to get into a segment, but not the tenth.

When it comes to actual mode of entry into different markets, you have adopted various approaches – exports, acquisitions and greenfield entry. How do you choose the appropriate entry mode, particularly acquisitions?

The one big acquisition  that we did for market  entry   was  the   acquisition    of Betapharm in Germany. Everywhere else, we first  established an organic presence or established  a partnership   and  learnt more  about  the  market  before  making an acquisition. The big bang acquisition in Germany was, in retrospect,  a mistake. We   acquired    a  company    as  an  entry strategy without  understanding the local markets and without  fully understanding how   the  legislation  was  evolving.  But now we very clearly know that we won’t acquire a company before we understand the market in great depth. So we invest in learning about the market, either through an organic presence or through  a partnership.  We build  enough knowledge and only then, will we make our inorganic move.

We plan to have direct  presence in Tier  I markets, and would  be willing  to invest in inorganic growth after learning about the market well enough. We will either work directly or through local relationships in Tier II markets.

Then there is another group of markets where we are not present directly  but we have partnerships. For  example,  we have a very broad  partnership  with GlaxoSmithKline.  GlaxoSmithKline  has the critical mass in many, many markets  where we don’t  have a presence and we probably never will. We are leveraging their presence by distributing our products with them.

 Acquisitions are very, very risky. The execution risk in acquisitions is much higher than in organic growth because there are very few factors that you can control once an acquisition is made.

What in your view is the right way to do acquisitions? I am asking this question because acquisitions by many companies have been found to destroy value.

Acquisitions  are very, very risky. The execution risk in acquisitions is much higher than in organic growth because there   are very few  factors  that you  can control once an acquisition is made. First, I think the company should be very clear about why it is acquiring at all. Today, we spend a lot of time writing down the hypothesis for the acquisition and the rationale for it, without get carried  away by the size.

Acquiring for size is a stupid approach, according to me. I think you need to acquire only when you can take the asset and create much  greater  value than before.  Two  plus two  can become six or seven if you have a very strong strategic rationale and approach for what you will do with the acquisition.

I think  our approach to acquisitions  has changed post-Betapharm.   We  do  a lot more thinking  about why we should acquire, what we should acquire and then we go ahead and search for targets. Also we are clear and better prepared to react when an acquisition opportunity comes along.

What I now  say applies  only  to DRL  and may not be applicable  to other  companies.  We  have done  a series of acquisitions and every acquisition  has added value for us, except Betapharm. The first acquisition in the UK  was a very small acquisition, but it helped us to get a foothold in the UK market.

In Mexico, we acquired an API company, which was  an  unloved   asset.  This   asset used  to belong to Roche  to manufacture products  whose patents had run out. They were just running it to maintain employment.  So we got the facility  for a song.  We bought it for a quarter  of what would  have taken us a hundred  million  dollars to build. It was counter- intuitive  to produce  APIs in Mexico,  so nobody bid for it. With this  asset, we got  huge capability, infrastructure  and a portfolio   of global customers. This whole acquisition paid for itself in six months and was a great success.

Then we acquired a facility  in the US from  BASF, again an unloved  asset. We wanted  North American infrastructure to serve our customers better through proximity.   Some customers  were  saying that  they would like us to have local facilities  to assure supply from a North  American source. And so it fit into our business model very well  and as a result  of it, we got a lot of new business from existing customers.

We acquired  a technology centre in Cambridge, UK. This  was a capability  building   acquisition.   It constituted    a  portfolio of technologies,    a  group of scientists  and  a location   that  was a magnet  for scientific  talent. We have now made it a Centre  for Excellence for DRL.

We  acquired   Betapharm   as we  wanted  to be a leading  player  in the European  generic space. Betapharm  was the fourth  largest generic player in the  German  market,  which  was a branded market and also the largest generic market in Europe before it turned. After we acquired the company, the market started changing from  being a branded market  to a tender-driven,  commodity  market. We got caught in the downward spiral.

Recently we acquired OctoPlus, which is a boutique pharmaceutical development house, located in Leiden  outside  Amsterdam. Leiden  is a biotech hub. This acquisition is similar to the Cambridge one, for research and development (R&D)  capability in the finished  dosage space. If the Cambridge facility was in chemistry, OctoPlus  was in drug delivery. We are creating a global network of R&D centres; we will leverage local talent and technologies  to create unique products.  This  is our thinking  today, acquiring for capability building.

We are flexible about managing people, culture and so on. In some cases, we don’t integrate. We let them have their own culture because it is very valuable and we want to preserve that. This is especially true in the R&D acquisitions

Thank you, that was very insightful. Do you have a standard  process for  post-acquisition integration, which is considered to have significant bearing on the value created by an acquisition?

We standardise certain  aspects but we don’t codify everything.  For  example,  we have a strong  process for integrating IT systems. We integrate the financial governance. As we are a US listed  company,  we are bound  by the Securities and Exchange Commission (SEC) and we are very careful about compliances and corporate governance. These aspects are standard. We just get them done quickly, within  a week.

But we  are  flexible   about  managing  people, culture   and  so  on.  In some  cases, we  integrate completely because it is important. In some cases, we don’t  integrate. We let them have their own culture because it is very valuable and we want to preserve that. This is especially true in the R&D acquisitions where  we want  to preserve the work  culture,  the scientific temperament and the talent we have acquired. We draw people from  various disciplines and put together  a cross-functional team to integrate. We decide what to integrate and what not to integrate on a case-to-case basis.

In fact, even before we make the bid, we decide how we will integrate.  So when we have created the rationale for the acquisition and the hypothesis for value creation,  we know exactly what we will do post- acquisition – whether we will  go in and take costs out or go in and expand the group – and who will be responsible for integration etc.

How do you address and prepare for the challenge of multiple cultures involved in internationalisation?

We  do  have a large number  of people with global experience today. This used to be a problem,  but we consciously  upgraded  our managerial  capabilities. Today,  I  think many  members  of our senior management understand global cultures.

If an Indian company wants to become truly global, do you think a different, global mindset is needed in the leadership team?

I will not call it “truly global” or Indian. But I think we have to be excellent  at what we are doing.  We have to be at the top of our game. And often times, this is a challenge.  We are serving some of the top markets of the world  where quality needs are higher than Six Sigma. your products  need to be world  class in every aspect. The biggest risk for Indian companies is the propensity to take a short cut and do something as an expedient, as opposed to working on the cutting edge and world  class. I think  a commitment  to excellence is, very important  for an organisation  today if you want to succeed at the global level or even in domestic markets for that matter.

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