Bloomberg News

Drugmaker Hub Hit as Power Gap at Six-Year High: Corporate India

January 04, 2013

Venkateswarlu Jasti, chairman of an Indian contract drugmaker, plans to buy electricity from exchanges to cut the cost of generating his own energy as power shortages worsen.

Companies in India’s Andhra Pradesh state, including Jasti’s Suven Life Sciences Ltd. (SVLS), have been increasingly relying on diesel generators to fuel plants after the power deficit in the area surged to 19 percent in the six months ended November, the biggest gap in at least six years. Suven plans to purchase 50 percent of its energy requirement directly from exchanges to ensure supply, Jasti said. Power exchanges allow generators to sell a portion of their production to buyers at a premium.

Diesel use is “going to affect each and every aspect of the business,” Jasti said in a phone interview. Using generators that run on diesel almost triples the cost of power and will probably slice 5 percent from profit in the year ending March, he said.

India’s drug exports will fall 5 percent short of projections in the year to March after the power deficit widened in Andhra Pradesh, which accounts for 33 percent of India’s $13 billion overseas medicine sales, according to P.V. Appaji, director general of the Pharmaceuticals Export Promotion Council of India. Outages of at least four hours a day contribute to a shortfall of more than 40 percent.

Widening Gap

The power deficit during peak hours in Andhra Pradesh widened to 19 percent in the April-November period, compared with 12.5 percent in the year-earlier period, according to data on the Central Electricity Authority’s website. The gap narrowed to 9 percent for the country as a whole from 10.6 percent, the data shows.

Power supply to the drug making factories, mostly located near Hyderabad, is almost completely shut off from 6 p.m. to 10 p.m., according to M.V. Rajeshwara Rao, secretary general of the Federation of Andhra Pradesh Chambers of Commerce and Industry. The state has 520 drug exporters, data show.

“Industry faces a heavier burden of the power cuts” compared with the state average, Rao said. “Even though the average power shortage is about 15 to 25 percent, industry is suffering 40 percent to 60 percent power cuts.”

Electricity sourced from the government-run electricity grid costs about 6 rupees per unit, compared with 18 rupees a unit from on-site diesel-run generators, according to P. Bhaskara Narayana, chief financial officer of Hyderabad-based drugmaker Natco Pharma Ltd. (NTCPH)

The cost of purchasing from power exchanges ranged from 6 rupees to 10 rupees a unit in December in the zone that includes Andhra Pradesh, according to Power Exchange India Ltd., which provides a marketplace for energy trading.

Power Woes

India has missed every annual target to add electricity production capacity since 1951, resulting in a peak demand deficit of about 10 percent. Power cuts are common across swathes of India as the country battles outages that the government says shave about 1.2 percentage points off annual economic growth.

The power supply situation in Andhra Pradesh may not improve till 2016 when additional capacity of 6,000 megawatts is expected to be available, K. Ranganatham, joint managing director for distribution at Transmission Corporation of Andhra Pradesh Ltd., said.

“We acknowledge the fact that industry has suffered due to the power crisis,” said Ranganatham. “There may not be a permanent solution to the power woes before 2016.”

Energy Costs

Shares of Suven, based in the Andhra Pradesh capital of Hyderabad, more than doubled last year, compared with a 26 percent increase in the benchmark Sensitive Index. They rose 3.8 percent to 32.5 rupees at close of Mumbai trading today.

Dealing with the power shortage is a “matter of concern” for both large drugmakers such as Dr. Reddy’s Laboratories Ltd., Aurobindo Pharma Ltd. (ARBP) and smaller competitors such as Suven and Natco, said Siddhant Khandekar, an analyst at ICICI Direct.

“It’s a double whammy for the small players,” said Khandekar. “The shortage is already there, and the government could increase prices of grid power because of rising demand.”

Running diesel generators continually to meet the power shortfall isn’t a sustainable option as the costs are “really prohibitive,” Sudhir Singhi, chief financial officer of Aurobindo Pharma, said on a Nov. 12 conference call.

Pfizer Supplier

The Pfizer Inc. supplier is the second-biggest drugmaker in the state after Dr. Reddy’s and recently switched to buying electricity from power exchanges to lower costs. Smaller companies’ requirements are often too little to make them eligible to purchase from these exchanges.

Suven’s net income, excluding units, rose 38 percent in the year ended March 31, slower than the 49 percent pace in the year-earlier period, according to data compiled by Bloomberg.

Suven makes medicinal ingredients and other chemicals used in the manufacture of drugs, according to its website. The bulk of its sales comes from pharmaceutical outsourcing and the company is a supplier of chemicals to large multinational drugmakers.

Natco, which gets half its revenue from finished drugs such as those to treat HIV and cancer and the rest from supply of drug ingredients, is also reeling from higher electricity bills on account of running more expensive diesel generators during outages.

“Obviously, it is more costly and it is eating into our profits,” Natco’s Narayana said in an interview. “I guess we have to put up with this condition for a lot of time to come and there is no alternative but to live with it.”

Earnings Forecast

Natco’s earnings before interest, tax, depreciation, and amortization margins, excluding units, declined for the second straight year in the 12 months ended March 31, according to data compiled by Bloomberg. Net income may increase 36 percent to 809 million rupees in the year ending March 31, according to the median of three analysts’ estimates compiled by Bloomberg.

About 18 percent of Natco’s power, and 20 percent of Suven’s came from diesel generators in the year ended March 31, according to their annual reports.

Drugmakers such as Suven and Natco get a big chunk of their revenue from exports. Suven gets 65 percent of its revenue from the U.S. and Europe, according to its website.

Exports of pharmaceuticals are forecast to rise 17 percent to $15.5 billion in the year ending March 31, Pharmexcil’s Appaji said. This target may not be met, he said.

Companies such as Virchow Biotech Ltd., the world’s biggest maker of the antibiotic sulfamethoxazole, said they will need to pass on the higher costs of using back-up power to the customers. Competitors elsewhere in the country and overseas may benefit from the situation, said Narayana Reddy, managing director of Virchow.

Passing Costs

The higher costs for drugmakers in Andhra Pradesh would mean that they will be outpriced by competitors from elsewhere by as much as 8 percent, said Suven’s Jasti.

“Today we are incurring the loss for the company who is the manufacturer,” Virchow’s Reddy said. “We cannot run all the time like this and it will be transferred to the customer.”

The drugmakers are concerned the outages will increase in summer months, when temperatures soar to as high as 44 degrees Celsius (111.2 degrees Fahrenheit) and power demand surges. It will put more at risk than just their profitability.

“Falling margins is only a temporary effect,” said Natco’s Narayana. “But if the situation continues like this, your ability to compete in the international arena will be vastly reduced.”

To contact the reporter on this story: Adi Narayan in Mumbai at anarayan8@bloomberg.net

To contact the editor responsible for this story: Jason Gale at j.gale@bloomberg.net


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