India’s road to freedom from Chinese API dependence

As COVID-19 struck the world in 2020, numerous international supply chains stood disrupted. This is a natural outcome of the disease epicentre coinciding with the world’s largest manufacturer by volume, China. 

Like almost every other nation, while several Indian supply chains were heavily impacted, India’s pharma industry felt an incomparable brunt. Almost 85% of India’s annual API (Active Pharmaceutical Ingredients) requirement is imported with China making up 65-70% of this value.

The panic of rapid disease transmission coincided with the fear of exhaustion of essential drugs. This led to Indian Government’s ban and subsequent reversal on API exports. India’s vulnerability to Chinese imports lay exposed and the Indian Government announced a generous US$ 400M grant to promote indigenous API manufacturing causing API companies like Lasa Supergenerics, Shilpa Medicare, Gujarat Themis and Solara Active Pharma’s stock prices to skyrocket.

However, is the optimistic outlook on indigenous API supply justified?  

API is the pharmacologically active constituent of a drug and is responsible for its efficacy. It is usually present in minor quantities and the bulk of a drug dose is made of pharmacologically inactive ingredients called excipients which lend the drug its shape, form, color and stability.

As per our studies, API and API process intermediates make up 23-25% of a drug’s Retail Selling Price (RSP) & 60-65% of the manufacturer’s cost. Hence, the focus on API’s cost is immense and China wins by a whopping 15-25% margin in this cost war against indigenous API manufacturers. For instance, APIs like emtrifitabine and efavirenzes for HIV/AIDS prevention and treatment are ~25% and ~16% cheaper respectively when sourced from China while bulk paracetamol is up to 25% cheaper.

The major cost heads in API manufacturing are raw materials (known as Key Starting Materials or KSMs), labor, utilities, logistics and financing. While labor is significantly cheaper in India (40-50%), we heavily loose on the other four equally important cost heads with each head being 20-30% costlier in India.

Minerals and petrochemicals are the most common raw materials required for API manufacture. While China has abundant mineral resources (limestone etc.), India depends on import for most minerals. Petrochemicals cost fluctuates with the global oil price which unfortunately has failed to benefit India yet as oil prices for Indian consumers have only risen. 

Utilities like electricity and water are more expensive in India due to distribution losses and insufficient supply. This results in heavy reliance on alternate fuel-based sources like generators raising the overall cost. Financing is another uphill task for Indian players due to lender reluctance ensuing from delayed Return on Investment (RoI). This is result of lower revenue and utilization for Indian players due to price undercutting by Chinese APIs – a quintessential chicken and egg problem. 

While electricity and logistics are heavier battles to fight immediately, the Government has sought to ease financing issues to nullify Chinese advantages in raw material. The US$ 400M grant for 3 bulk parks to be disbursed in a Production Linked Incentive (PLI) scheme will ensure competitive indigenous supply to formulation manufacturers while ensuring margins for API producers.

The PLI scheme is a kick-starter for API producers to ensure supply at competitive prices. The objective is to gain enough volumes in the grant period so that economies of scale make the post-grant business of API production viable.

Currently, capacity utilization for a large chunk of API manufacturers such as Amoli Organics, Tyche Industries, Anuh Pharma, Valiant Pharma etc. is low (~30-50%) and these players stand to benefit in the medium term (1.5-2 years) from the scheme as cost competitiveness gradually kicks in due to interplay of increased local demand and grant inflow.

We estimate that large scale capacity boost with significant contribution from new entrants is required to cater entire domestic API demand. New entrants, however, see a rough road ahead for themselves. For new entrants – a must, if entire Indian API demand is to be met locally, the process unfortunately is still arduous It is expected that a minimum of 3-4 years is required to set up a fully functional chemical plant with requisite environmental and infrastructure permissions. During this time-period, a significant share of Chinese imports is expected to remain unimpacted. In recent years, the Chinese based API manufacturers are being challenged back at home due to rise in labor wages and stringent environmental regulations. In a post-COVID-19 world, these progressive trends however, might take a backseat since China is depending on its manufacturing prowess to combat ostracization by its largest importers – US & EU. 

Hence, it is up to India to make its API industry competitive and recent Government measures are steps in the right direction. India’s well-developed stronghold in generic process engineering would ensure that cost efficiency is achieved, however, fast-track of new plant setup is required if India must free itself of Chinese dominance in APIs – once and for all.