Intellectual Thoughts by Sanjay Panda !!!!!: November 2006


Tuesday, November 28, 2006

Finance- Real economy & exchange rate

The Chinese experience shows the costs of under-valuation are a lot less than the benefits in terms of jobs.

In recent years, as China’s exports have grown rapidly, and the country is registering increasingly larger surpluses on the current account (an estimated $140 billion this year), it has faced a lot of pressure for a “more flexible” exchange rate regime. Instead of openly calling for an upvaluation of the currency, the politically correct euphemism is to use the term “more flexible exchange rate”.

After holding on to a steady yuan-dollar exchange rate for more than a decade, China has engineered a modest appreciation (5.4 per cent) over the last year and a half. China’s exchange rate policy is clearly rooted in the need to create manufacturing employment. China needs to create at least 25 million non-agricultural jobs a year, considering the number of new entrants in the job market, as also the vast immigration from rural to urban areas. Most of these would have to be in the manufacturing industry, and its global competitiveness is, therefore, of crucial importance. 

Hence, the undervalued yuan. Indeed, for many years, the yuan’s fall in real effective terms was even more than in nominal effective terms, because China has had lower inflation than the US for nine years! This is remarkable at a time of surpluses on current account and huge capital inflows (in theory, both generate inflation pressures), resulting into reserves accumulation of a trillion dollars. One advantage China has in sterilising the excess money supply is that domestic interest rates are lower than the dollar or euro interest rates: this means that there are financial gains to the central bank in sterilising the growth in money supply. China is not only keeping domestic inflation low but, as a low-cost manufacturer, is a major contributor to keeping global inflation low despite the very high commodity prices of recent years.

But there is also a major risk in the reserve accumulation. As argued earlier also earlier, given the huge deficit on current account in the US, the possibility of a sharp fall of the dollar can hardly be ruled out. Indeed, diversification of Chinese reserves into other currencies (as Russia, Switzerland, Italy and the UAE are already doing) could itself trigger such a fall: it is Chinese investments in the US treasury market that keep the dollar from falling and the yield curve flat to negative. On the other hand, should the yuan appreciate against the dollar, there would be huge paper losses for the central bank as dollar assets become worth less in yuan terms. Assuming that, currently, 70 per cent of the reserves are in dollar assets, even a 5 per cent yuan appreciation against the dollar would lead to a translation loss of something like 250 billion yuan! Clearly, the authorities are treading on delicate ground trying to balance the needs of the real economy with the possibility of large paper/financial losses if and when the yuan is forced to appreciate in dollar terms.

Arguably, the root cause of the large and increasing surpluses China is registering on the current account, is the savings-investment imbalance. Despite huge investments, the savings rate is so high, above 50 per cent of GDP, that the excess savings result into a surplus on the current account. Interestingly, the household sector savings in China as a percentage of GDP are actually less than in India — this, despite the fact that personal consumption in China per capita is only about 70 per cent higher than in India, while per capita incomes are 2.5 times as large. The real cause of excess savings is the corporate sector: the corporate sector’s savings amount to as much as 30 per cent of GDP, with retained earnings alone contributing two-thirds of that. One reason, it seems, is that Chinese companies do not distribute dividends. 

At the macro level, one way of reducing the excess savings and the politically sensitive surplus on current account, is to get the public sector companies to distribute dividends, and spend the money on needed social services like health care, higher old age pensions, and so on. Sooner or later, we should see some movement in this direction even as the yuan gradually appreciates. Incidentally, the non-deliverable forwards market is factoring a yuan rise of just about 3 per cent over the next 12 months.

One point on which we need to learn from China is the focus on the real, job-creating economy rather than philosophical arguments about market versus managed exchange rate, the cost of sterilisation, and so on. On the second issue, what we often seem to overlook is that the cost to the real economy of an appreciating currency (jobs uncreated or lost, business profitability, forgone GDP growth, and so on) can be far, far bigger than the financial cost of sterilisation. To be sure, these costs are not as easy to calculate as the cost of sterilisation — but are, nevertheless, as concrete and perhaps even more important.

Sunday, November 26, 2006

Bucking the trend- The reverse expansive outsourcing

It’s a paradox facing India’s outsourcing industry. Its low cost location is its raison d’etre. But to stay in the game, it also has to be where the customer is, often an expensive site in western Europe or the US. First, India’s IT services industry began to buy western companies. Now, India’s drug makers are following suit.

In the past year, three Indian companies — Nicholas Piramal, Dishman Pharmaceuticals and Chemicals, and Shasun — have acquired European contract research and manufacturing (CRAM) outfits. They conduct early stage research and development (R&D) of experimental drugs for large and emerging drugmakers, produce them in small amounts for clinical trials, and do contract manufacturing. The reasons for this are sound: Indian companies have found that Big Pharma is either wary of offshoring some key, patent-sensitive activities to India or lacks adequate incentive to do so. India accounts for barely 1-1.5 per cent of the global CRAM industry. “[Acquisitions] will give the Indian companies access to customers who may not have otherwise considered doing business with them,” says Edward Vawter, president, QD Information Services, a US-based consultancy firm.
The path is not without risk. Though the companies have not been bought at fantastic valuations, the acquisitions come with high labour and manufacturing costs. Managers and scientists are free to leave once their contracts expire. But this is just the beginning. “More Indian companies will be purchasing European companies,” predicts Harry Rathore, US-based vice-president (sales and business development) at leading European contract manufacturer Lonza. The players also say they are open to more deals. So, what is behind this appetite?

Big Pharma is outsourcing like never before. According to Frost & Sullivan, the global pharma outsourcing market is worth $37 billion and growing at almost 11 per cent. Cost and time pressures are forcing customers to turn to China and India. By one estimate, India’s annual labour costs are at $3,000 a head compared to over $50,000 in western Europe. This has no doubt put western incumbents on the backfoot. But even today, most of the outsourcing activity happens there. Fifty per cent of the contract manufacturing market is in North America and just 10 per cent is in Asia, with the balance in Europe. This will not change in a hurry. “While we are an important cog in the wheel, it is never going to be all India and China,” says Ajit Mahadevan, president (custom manufacturing) of the Rs 1,582-crore Nicholas Piramal. This is why Nicholas and its peers have decided to take the battle for market share to the West.

No doubt, India is very much on the radar of the bluest of blue chips. Big Pharma such as Pfizer, AstraZeneca and Eli Lilly have outsourced to India. But business is only trickling in. Take the case of early-stage R&D. “There are some things that will not happen in India for two decades,” claims Janmejay Vyas, managing director, Dishman. Vyas claims that innovators are not comfortable offshoring early stage R&D — developing and scaling up new chemical entities — to India. The country has an untested patent protection law and no data protection. This is partly why the Rs 277- crore Dishman stumped up $74.5 million (Rs 343 crore) to buy Carbogen and Amcis, two sought-after names in the western outsourcing space.

Carbogen synthesises bulk drugs —the key ingredients that lend a drug its potency — for innovators. This includes finding the best possible process to make a bulk drug with the least amount of impurities. It also produces these bulk drugs for human trials. This isn’t rocket science. Indian companies have the skills to do it. But Vyas claims that Big Pharma will very rarely, if ever, offshore this to India. At the bulk drug synthesis stage, a company’s research may not yet be protected with watertight patents. India and China, with their history of copying innovator drugs (legal until recently), are therefore suspect.

Vyas says Dishman’s experience proves this. In spite of landing its first customer in 2002, Dishman only gets contracts to work on intermediates, the building blocks of a bulk drug. This is safer from a customer’s point of view since without knowing what the intermediate goes into, there is little you can do with it. Vyas thinks Carbogen, which works on about 400 products a year, will help Dishman move up the value chain. The other reason is proximity to the innovator. Early-stage R&D requires continuous interaction between scientists. Also, at this stage the drug goes back and forth between the innovator and the outsourcing company several times. “A scientist on the west coast of the US is going to struggle to communicate with someone sitting in Chennai or Mumbai,” says Mahadevan. Last December, Nicholas acquired UK-based Avecia from some private equity investors. Avecia owns 100 per cent in Canada-based Torcan, which is also into early R&D, like Carbogen.

Companies are not just reacting to what they perceive as problems. They are also proactively cementing ties with the biggest outsourcers. Nicholas already had a contract for process development and scale-up of world No.1 Pfizer’s animal healthcare products. But by acquiring Pfizer’s factory in Morpeth, Scotland, Nicholas emerged as its largest supplier in dollar terms. (Pfizer has agreed to source from this factory for the next five years or so). This means Nicholas now sits in on key supplier discussions. “When there is talk of ways to use a new supplier strategically, we are in the process,” Mahadevan says. It was Chennai-based Rs 377-crore Shasun’s existing customers who recommended Rhodia Pharma Solutions, says its CEO and managing director N. Govindarajan. Shasun can now offer a broader range of services to them.

Customers aside, specific skills and technology are also attractions. The low-cost Chinese juggernaut is providing tough competition to Indian companies in the high-volume, low-value business. They need to quickly enter higher barrier-to-entry markets. Technology can make the difference where cost won’t. Amcis, the contract manufacturer that Dishman bought along with Carbogen, is a case in point. Its facilities are small but handle potent and highly toxic material used to make cancer and eyecare drugs, requiring high levels of safety and containment. Although their potency means they are administered in small quantities, their dollar value is far higher — anywhere from $10,000 to $100,000 per kg. Being highly-priced, these are profitable for innovators. Minor cost differences cannot motivate them to change suppliers. “The contribution of manpower cost in a $5,000 product is nothing. What logic says that if I save $10 on a $5,000 product, the customer will be interested?” asks Vyas. Similarly, with Rhodia, Sha sun got access to technologies that it had licensed from Harvard University and MIT to counter low-cost competition from India and China. Nicholas’ Avecia is abile to make toxic products and other high-value drugs such as hormones, and owns fermentation equipment to make drugs more efficiently.

These deals are also about building scale. With Avecia and the Morpeth aquisition, Nicholas’ revenues from custom manufacturing jumped to Rs 920 crore from Rs 220 crore. Nicholas has laid claim to being among the top 10 contract manufacturing companies in the world. With Amcis, Dishman has added $100 million (Rs 460 crore) to its topline. Shasun has got business worth $72 million (Rs 331 crore) from Rhodia. The upshot of all this is that companies are converting fast to the view that to leapfrog a business is to buy it. Says Nimish Mehta, pharma analyst, Edelweiss Capital: “Companies have realised they have to run some part of their businesses outside India.”

But there are concerns. One is that of customers deserting. Often they have another source supplying the same product and could increase offtake from them. This concern has led the Indian acquirers to meet all key customers before they sign on the dotted line. Also, in some cases they have got an assurance from the seller that the customers will honour their contracts.

But losing customers is a business risk. It is not unique to acquisitions. It can happen to any CRAM company. The more pertinent question is: where does all this leave their famed cost advantage? How long can they offer viable solutions to customers with expensive manufacturing sites and high-cost labour? “In the short run, this works out very well but I doubt whether you can sustain it,” says Venkat Jasti, vice-chairman and CEO of Hyderabad-based Suven Life Sciences.

Jasti should know. In 2003, when India didn’t have a product patents law, Suven was the first Indian company in the outsourcing space to purchase a small US laboratory called Synthon Chiragenics that did research for innovators. Synthon did have some technology, but Jasti believed that its value lay in its location — in the innovators’ backyard and far from India. “It was about giving comfort to the customer,” he says. But by 2005, things changed. The same customers came back to Jasti asking for cost benefits from its Indian site. By December 2005, Jasti had closed the lab and moved the equipment to India. He admits it wasn’t difficult — the lab employed 18 people, was located in a hire-and-fire market, and did not have any manufacturing attached to it.

That is not the case with the latest acquisitions. They come with hundreds of workers employed in factories. Redundancies are tough and expensive. This is likely part of the reason why no acquirer is willing to discuss the migration of jobs to India. At least, not yet. “We did not buy these companies to shut them down, scoop up the insides and bring them home,” says Mahadevan. There is another good reason for this. Factories are continuously churning out drugs for their customers and a disruption in supply would prove fatal. Changing a manufacturing site requires regulatory clearance that takes at least a year.

The acquirers are, thus, going for the low-hanging fruit. Sweat the existing assets better and squeeze efficiencies out of the supply chain. The first thing that Dishman, Nicholas and Shasun have done is switch raw materials that the Europeans were buying from Europe and the US with Indian and Chinese supplies. Dishman’s Vyas points out that Amcis, for instance, couldn’t be bothered with tapping Asia for incremental savings for its high-value drugs. “But now, if I can save them this money, then why not?” he asks. The second thing is to increase capacity utilisation. Nicholas has done this by moving customers from one-year contracts to 3-5 year ones. Earlier, according to Mahadevan, customers were unwilling to do this since Avecia was seen to be struggling. But the sale to Nicholas has brought stability. This, and new contracts, have improved its capacity utilisation from 60 per cent to close to 90 per cent. Shasun expects to increase Rhodia’s ultilisation by 10 percentage points to 50 per cent for similar reasons.

More importantly, by fitting the large-scale Indian manufacturing back-end into the existing operations, the Indian outsourcers think they offer a proposition that’s hard for customers to ignore. Again, look at Carbogen and Amcis. An innovator works with Carbogen through the early stages of bulk drug synthesis until phase 2 of human trials (Carbogen makes the drug for the trials). By phase 3, the quantities required are much larger since these trials are conducted on large numbers. This is where Amcis — Carbogen’s sister company — a pure-play contract manufacturer, comes in. Since the project manager remains the same, the customer does not feel he is dealing with a different company.

But Vyas found that, thanks to its cost structure, Amcis would turn down any business below a particular value. The innovator had to look for another contractor. Enter Dishman. It can offer to make both phase 3 and launch quantitities of a drug synthesised at Carbogen in its facilities in Bavla, Gujarat. By then, patent protection around a product is sound and the economics makes sense. Importantly, it saves a precious two years of transferring technology from Carbogen to the innovator and from him to his contract manufacturer. Vyas says this one-stop solution lowers the total cost of bringing a drug to market for the innovator and increases Dishman’s revenues. He claims a bluechip customer who found Carbogen too expensive has now signed up, thanks to the India connection. Dishman also sees Amcis able to take on business that requires a far larger capacity — in terms of fermentors, for instance — than what Amcis can currently provide.

Companies would also like to move the production of mature drugs that have reached the end of their patent life into India while retaining the manufacturing of new patented drugs in the UK. Both Nicholas and Shasun want this. Shasun also wants to use the patented process-development technologies that it has aquired, back home. “You have to employ 20-30 chemists to keep trying these technologies. We can do that cost-effectively in India, and that would increase their viability,” Govindrajan says.

In the meantime, all three are marketing their Indian facilities to customers through the acquired companies. They claim that, through this marketing, existing customers are giving them more business and new ones are coming on board. “If you can fill up the plant there and you get a lot of value, including business, coming into India, then why would you want to shift?” asks Mahadevan. Nicholas’ near-term margins have been under pressure due to Avecia’s losses. But a turnaround is expected by the end of this fiscal. Shasun’s Govindarajan also expects Rhodia to post a profit this year.

Industry watchers warn that western Europe is losing the cost battle to India and China. The true test for the Indian acquirers, then, will come a few years down the line when customers start squeezing more out of them. Then these assets and people may harm, rather than help, their business. Getting custom, they may discover, was the simple part.

source -BW

Saturday, November 25, 2006

Strategy- BASF, The Chemical company

In German, it is called the Verbund. Jürgen Hambrecht, the chief executive of BASF, describes his company's sprawling complex of pipes, towers and storage tanks as the “ultimate business cluster”. Spread over ten square kilometres (four square miles), it is the biggest integrated chemical site in the world. At first glance, BASF's third-quarter results, out on November 2nd, did not look great. Profits plunged because of restructuring costs at Engelhard, an American producer of catalysts (as in catalytic converters) which BASF bought earlier this year. And, on the same day, BASF announced 2,000 job losses.

But the underlying trend at BASF is surprisingly healthy, given that it is an old-fashioned manufacturing company in a part of the world where heavy industry tends not to flourish these days. It more than doubled its profits between 2002 and 2005. One-off charges aside, its third-quarter results suggest the company is in line for a 20% increase in turnover this year to over €50 billion ($64 billion), with pre-tax profits up 11%. Although many industries are fleeing from Europe to less costly countries, the efficiencies of the Verbund show how a traditional business can remain highly competitive, even when it operates in an expensive place like Germany. The complex at Ludwigshafen, across the Rhine from Mannheim, comprises up to 250 individual chemical factories turning out 8,000 different products. These range from simple petroleum distillates to sophisticated nanomaterials—tiny particles which can be used to change the properties of plastics or other substances. BASF employs about 36,000 people in Ludwigshafen, where it also has its headquarters. Many travel around the site on red works bicycles, individually numbered.

range from simple petroleum distillates to sophisticated nanomaterials—tiny particles which can be used to change the properties of plastics or other substances. BASF employs about 36,000 people in Ludwigshafen, where it also has its headquarters. Many travel around the site on red works bicycles, individually numbered.

The site's legendary efficiency comes from extracting the last drop of value from every chemical reaction. It makes use of the numerous by-products from each process. At other places these are often sold or shipped from one factory to another for further processing. At the Verbund, what is left over from one process is used only a few hundred metres away to make something else. This saves BASF a fortune. Compared with having, say, 70 separate factories some 100km apart, BASF calculates its cluster enjoys annual savings of €300m ($380m) in logistics, €150m in energy and €50m in infrastructure.

For Mr Hambrecht, the Verbund represents a huge advantage in an industry in which competition is increasing, especially in Asia. So BASF is trying to replicate the benefits of its cluster, not only in other countries but also at the corporate level. Instead of splitting into lots of firms specialising in one chemical, as many giants have done, BASF is seeking to become an even bigger conglomerate.
Mr Hambrecht, who is 60, has spent half his working life at BASF, which was founded in 1865 as Badische Anilin- & Soda-Fabrik. Anilin was once important in making dyes; soda is used in glass, soaps and textiles. Today the company's products end up in goods ranging from cars to electrical goods, cosmetics, sports equipment and medical devices.

Mr Hambrecht enthuses about “the industry of industries”. Indeed, chemicals seem to be in Germany's blood. The country accounts for a quarter of the chemical industry's sales in Europe and a similar share of employment there. Germany supplies more than 12% of world exports of chemicals, the biggest single share. And the German industry spends a higher proportion of its revenue on research and development than that of any other country.In many countries, chemical factories are hardly the subject of civic pride. They are in Germany. In September an “open day” attracted thousands of visitors. Frankfurters, in particular, are proud of the huge chemical complex straddling the river Main at Hoechst, west of the city. Though Hoechst, once the local chemical giant, was absorbed into sanofi-aventis of France in 1999, its Frankfurt site still churns out polymers, pigments and pharmaceuticals. The former Hoechst headquarters, a redbrick relic of the 1920s, is an admired piece of Bauhaus architecture. Yet few sites are as efficient as the Verbund. A recent study of Germany's chemical industry by A.T. Kearney, a consultancy, found that most other production centres had big gaps in their “value chain”: raw materials and by-products had to be shipped around, at extra cost. The reasons are often historical or political. A complex at Leuna in east Germany, for example, was cleaned up at huge expense after German unification. It has never achieved its potential, even though firms such as Dow Chemical, Linde, Total and BASF have operations there. Other sites are too small or are underused, but cannot be closed for political reasons. BASF has recently been adding to its product range in a big way. In March it bought Degussa Construction Chemicals, part of a German maker of specialty chemicals, for €2.7 billion; in May it spent $470m to buy America's Johnson Polymers and in June it paid $5 billion for Engelhard, the cause of the profits crash.

Asia starts producing

Although these European and American additions bolster its business, BASF cannot ignore developments elsewhere. Ever bigger petrochemical and other downstream production facilities are being built in the Middle East. And burgeoning demand in Asia, particularly in China, is resulting in more chemicals being produced locally. Moving into developing regions can have benefits beyond lower production costs. It can allow chemical companies to get closer to both suppliers of raw materials and more potential customers. It nearly always makes sense to produce bulky chemicals, such as washing powder, where they are sold, to keep transport costs low. This puts places like China, which is a long way from the big Western consumer markets, at a disadvantage in exporting some products. But there are plenty of others to be made. Anything that can be conveniently put into a container and shipped cheaply is likely eventually to be made in Asia's low-cost factories.

Hence even BASF is having to shed businesses in which it thinks it is no longer competitive. The next to go may be a factory in Minden, Germany, which among other things makes caffeine. The Chinese now offer caffeine, which is easy to ship, to firms such as Coca-Cola at a third of the price that European factories can. Nevertheless, demand in China is so great that it will be many years before the country becomes a net exporter of chemicals, Mr Hambrecht believes. Demand across Asia is strong. Around half of future worldwide demand for chemicals is expected to come from the region. BASF already has almost 19% of its turnover in Asia, up from just 9% in 1995.

As it expands overseas, BASF is trying to replicate the Verbund concept. It has built smaller versions of the cluster in Belgium, Texas, Louisiana, Malaysia and China. The foundations of its Chinese factory in Nanjing were laid in 2001. Last year petrochemical production began there in a joint venture with Sinopec, a Chinese oil company. Mr Hambrecht, who fought internal opposition to the investment, believes that such opportunities in Asia offer European chemical companies their only chance to grow faster than at home. Chemical companies can be highly vulnerable to changes in the price of raw materials. Here too BASF hopes to gain some protection from its cluster effect. As long ago as 1969 it bought Wintershall, an oil producer. It has proved to be a useful hedge against oil-price rises. BASF is now trying to secure its lines of supply from Russia by a joint project with Gazprom to build a gas pipeline across the Baltic. It also has a share in a west Siberian oilfield. BASF was mining coal until the late 1980s, and today even that might again make sense. The company's expansion into energy seems set to continue: it recently announced plans for a joint-venture biodiesel plant in Belgium, which will use rapeseed and other organic material to produce fuel. Indeed, oil and gas provided 40% of the group's profits in 2005.

Other giants in the chemical industry have spun off various divisions to narrow the spectrum of their business . For instance, Bayer, Germany's second-largest chemical firm, listed its specialty chemical division, Lanxess, as a separate company in January 2005. Although the trend in the industry is to put new labels on bits of the business, such as “life sciences”, which includes health and food, or “coatings”, which includes paint, BASF still brands itself as “The Chemical Company”. The one business it has quit is pharmaceuticals, accepting that there is little overlap between drugs and its other products.

The diversity of its operations makes BASF unpopular with some investors because it muddies their view of the firm as a “pure play” on chemicals. Mr Hambrecht is unrepentant. He argues that conglomerates are better overall long-term performers than specialists. Through diversity, he maintains, companies can weather poor performance in one or two of their divisions. The specialist can also be more vulnerable to disruptive technology and the sudden substitution of one material for another. This is a particular risk for the chemical industry in Germany, which is highly exposed to the car business. Almost 70% of the German industry's innovations, such as smarter or lighter materials, go into vehicles. But it is harder to apply the Verbund effect in the developing field of biotechnology. A big handicap for BASF is the German government. Despite vowing in its coalition agreement last year to clear the way for genome technology, the government has since dragged its feet. Bayer is developing genetically modified rice, rape and cotton, but in America not Germany. BASF has the majority of its biotech research in Europe and believes Germany to be an excellent place for genome activities. But, says Mr Hambrecht, the government's attitude risks driving it away.

The virtue of virtuality
Perhaps the biggest danger to the Verbund, and the conglomerate-building which it encourages, is that it could lack the flexibility to cope with rapid market changes. But a variation of the concept might overcome this. This is the “virtual” Verbund; a large chemical site where a number of independent companies could voluntarily work together to achieve the same economies of scale, but use different processes as market conditions change. A.T. Kearney suggests that something like this might be done at some of the chemical sites in Germany where production capacity is underused. A European Union project supported by seven big companies, including Siemens and Degussa, is trying to get the idea going by streamlining test-production. Called Impulse, the project aims to reduce the cost and time of research and development by miniaturising test equipment. This would primarily benefit smaller, more flexible companies. The political objective is to keep jobs and factories in Europe.

Perhaps such initiatives might one day steal away some of the Verbund's advantages. But not yet. For now Mr Hambrecht, whose contract with BASF runs until 2011, is confident in the future prospects of his firm. As he jogs through the vineyards near his Rhineland home in the early morning he can indulge in thinking up new things to make.

Friday, November 24, 2006

Consolidation time for OTC drug manufacturers


Since the days of the wandering snake-oil salesmen, the business of "over the counter" (OTC) medicines has lacked glamour. For one thing, the market for prescription pharmaceuticals is far bigger and more profitable than the $117 billion global market for OTC drugs. For another, the brightest researchers prefer to work on glamorous life-saving drugs rather than on mundane stuff like cold remedies. The head of research for an American OTC firm has been known to joke: "If the customer takes our syrup, his cold will go away in seven days; if he doesn't, it'll go away in a week."

Perhaps it is no surprise then that Pfizer, the world's biggest pharmaceutical firm, has let it be known that it is thinking of selling its OTC arm—which peddles, among other things, Listerine mouthwash, Rogain, an anti-baldness treatment, and Benadryl allergy pills. June 6th was the deadline for outsiders to bid for the division, which Goldman Sachs, an investment bank, reckons may fetch $10 billion-12 billion. Britain's GlaxoSmithKline and America's Johnson & Johnson (prescription-drugs firms with big OTC arms), as well as Reckitt Benckiser, a British household-products firm, and others are rumoured to have placed bids. Pfizer is expected to unveil a shortlist of bidders in a matter of weeks and—assuming the board decides not to float the division on the stockmarket—a final sale will probably take place this autumn.

But this week's reported bidding frenzy raises an awkward question. If outsiders find Pfizer's OTC division so desirable, why is the firm eager to get rid of it? Revenues at the consumer division are nothing to sneeze at: they made up $4 billion of the company's overall sales of roughly $51 billion last year. While its prescription-drug sales have stagnated, OTC sales grew 19% in 2004 and 10% last year; Goldman Sachs reckons the division had profit margins above 15% for the past two years. What is more, the OTC business is generally much less risky than the expensive and frustrating quest for the next breakthrough prescription drug. But that may be one reason why Pfizer is flogging its OTC division. Between 2005 and 2007, the firm is set to lose patents on drugs earning some $14 billion a year in revenues. Finding new drugs to replace them will cost many billions of dollars. During that same period, the firm also plans to launch perhaps ten new prescription drugs, which will also need lots of marketing money. Selling the consumer business will bring in much-needed cash and may focus managers' attention.

Pfizer may also reason that this is a particularly good time to sell an OTC company. The sector looks ripe for consolidation. Andy Tisman of IMS Health, a consultancy, points out that none of the leading OTC firms holds even a 5% share of the world market (see chart), and the top ten command less than a third. A merger wave began last year when Reckitt Benckiser paid £1.9 billion ($3.4 billion) for Boots Healthcare International (BHI), which owned popular brands like Nurofen and Clearasil. As that valued BHI at over 20 times earnings, Pfizer bosses took immediate notice.

Bigger OTC firms would be better placed to establish global brands and capitalise on growth in developing markets—especially China. Euromonitor International, a research outfit, estimates that while global OTC sales will grow at 3% per year from 2005 to 2010 (and sales in Japan and America at barely 2%), sales in China should soar by 9% a year over the same period.

At present Pfizer has only a weak presence in China's OTC market. It does, however, have a strong prescription-drug business there, but that has been hobbled by piracy and legal battles over intellectual property—until now. Just this month, a Chinese court upheld Pfizer's patent protection on Viagra, the firm's much-pirated prescription remedy for impotence. And although the Chinese customers' taste for the delights of Western OTC products like Listerine mouthwash remains to be proven, nobody doubts that the country has a gargantuan appetite for impotence remedies. If you doubt that, ask any of the few remaining rhinoceroses in Africa.

Sunday, November 19, 2006

Indian gaming Industry. Outlook

Indian gaming industry is estimated to be $30 million in 2005, according to Nasscom. By 2009, the Indian gaming development industry is expected to grow to $300 million, at a CAGR of 78 per cent.

The numbers, while impressive, hide an important fact. For close to a decade, gaming development in India has held immense promise. Unfortunately, it still continues to do so. In the same period, the IT services industry has grown at 32 per cent from $13 billion to $17.2 billion. In the past two years, the number of gaming development companies in India has gone from 14 to just 20. It is, in fact, one of the rare software-related areas where India has not yet been able to make a significant mark globally. Not for lack of trying, though.

Gaming companies like Indiagames, Mobile2Win and Dhruva Interactive have striven long and hard for success against huge odds: lack of a gaming culture and skilled professionals, low funds and some heart-rending near misses.

For instance, a chance meeting with gaming legend and Infogrames Studios (now Atari) co-founder Eric Mottet in December 1998 offered Rao, and Dhruva, an opportunity to make a mark on the global stage. Infogrames selected Dhruva to work on parts of the PC game version of the movie Mission: Impossible. For over a year, Dhruva worked on the project, but when the time came for its release in the market, Infogrames backed out. By that time it was gunning for the licence of Mission: Impossible II and the film’s promoters didn’t want to publicise the earlier movie.

Despite the disappointment, Dhruva did not falter but took the services path and ventured into product development.” Dhruva’s fortitude is symptomatic of the industry. Pitted against the might of the Americans, Koreans and several others, and the general apathy of the Indian authorities, the Indian gaming development community has only had its passion and will power to sustain it. And while it will still take a momentous effort to attain Nasscom’s projections, things are beginning to change on the ground. Slowly.

The prospects of the gaming industry in India has been bolstered by the entry of animation companies like DQ Entertainment, Animation Bridge, Paradox Studios, ColorChips, Toonz Animation and Ittina Studios.

Why animation companies like Toonz should enter gaming in a big way is not difficult to understand. For one, it is easy for them to tweak existing resources (employees with skills in animation development) to make capital of a new opportunity. For another, the industry is slated to grow at twice the pace of animation, both in India and globally .

For both animation and gaming companies, a major source of revenues is outsourced services. For instance, it takes $6 million-7 million to develop a PC game in the US, compared to just $0.5 million-3 million in India. There is also the matter of reducing development time. A PC or console game takes two years on an average to reach the beta stage.

It, therefore, made sense for game publishers to outsource development to low cost destinations. In 2000, companies like Microsoft, Electronic Arts, UBSoft, Konami, Activision and Take 2 Interactive outsourced select modules to small firms (with teams of just 15-30 developers) in countries like the Philippines, South Korea, Singapore, India, Taiwan and China. This lowered development costs and brought down production time to 18-19 months by leveraging on the global delivery model.

For the past two years, Indian companies have also been trying to move up to the next level by developing their own intellectual property. For instance, come early 2007 and console game Archie’s Riverdale Run will hit the market. Developed by India’s FXLabs Studios, the game would have undergone its entire development lifecycle — from concept creation to final testing — in India. DQ Entertainment has formed a joint venture with French studio Onyx Films to produce three animation feature films — Skyland, Night of the Child King and The Enchanted Boy —and develop games around them for $89.5 million. The first movie, Skyland, and its game version will hit the market in early 2008.

Then, the success of Hanuman (developed by Percept Pictures and Sahara India Group), India’s first local content animation blockbuster, has spurred gaming developers to explore the rich repertoire of Indian content. Bangalore-based Ittina Solutions is likely to launch titles for mobiles and PCs in the next couple of years. Mumbai-based Indiagames, Paradox Studios and Fantasy Labs are also betting high on local content development not just for mobiles but for PCs and console games.

As mobile mania in India keeps moving north (it is the world’s fastest growing telecom market), consumers have shown a surprisingly high propensity for value-added services like game downloads. Riding this momentum, mobile gaming is expected to constitute 70 per cent of the overall gaming market by 2009 (it’s at 53 per cent now), according to Nasscom. Gaming companies have already benefited. For instance, mobile gaming constitutes 60 per cent of DQ Entertainment’s gaming revenues, and 40 per cent of Dhruva’s.

In mobile gaming, local content has already made its appearance. Thiruvananthapuram-based Toonz Animation launched its flagship animation title Tenali Raman as a mobile game and licensed it to Tata Teleservices across the circles it is operating. Going further, the company intends to launch games titles like Geeth Mahabharat and Hanuman.

Mobile gaming is also seeing new players planning to display their wares. For instance, Virgin Animation & Comics India, a JV between filmmaker Shekhar Kapoor, self-help guru Deepak Chopra and Virgin’s Richard Branson, has firmed up plans to venture into mobile gaming. Sharad Devarajan, managing director of the firm, says, “Our first phase into gaming would be through the mobile platform by end-2006, followed by other access platforms. Mobile gaming may be growing fast, and may constitute a large chunk of the industry’s revenues, but the margins for developers are wafer thin. For instance, a premium mobile game can be downloaded for Rs 150, and a standard one, Rs 50 upwards. Margins for these games can be 20-25 per cent for game developers. Indian telecom operators like Reliance have even introduced price-per-session concept, where a game could be priced as low as Rs 2 and Rs 4 per session. On the other hand, games on PCs and consoles come at a minimum Rs 350 and Rs 600, respectively. Premium PC and console games could get you down by Rs 2,500 and Rs 3,500, respectively. And margins, at 40-60 per cent, are healthy. Says FXLabs’ Garcia, who was one of six professionals who started GameStudio at Microsoft: “PC and consoles are attractive markets over mobiles both in terms of margins and to experience the game’s liveliness.” But while margins are healthy, PC and console games are far more expensive to produce. So, it may take even more time before Indian companies make a mark.

If there’s one thing that can wreck the aspirations of this budding industry, it is a shortage of skilled people. The problem has been around for ages, but not much has been done about it. India has 4,000-odd game developers right now. The demand is for 10,000 professionals in animation and 2,000 in gaming. Governments in states like West Bengal have initiated training programmes, but they produce just about 100 professionals a year. In comparison, Korea has about 60 colleges dedicated to animation education and has a game academy producing 250 professionals a year. (In 2005, it had 25,000 professionals.)

Then, the Chinese government is expected to spend up to $240 million to finance domestic game development over the next three years, according to Piper Jaffray, an investment bank and institutional securities firm. There is no such commitment from its Indian counterpart. Some companies are trying to make the best of the situation by setting up in-house training divisions. They are also trying to work with state governments to design a curriculum for gaming development. For instance, Toonz-Webel Academy in Kolkata is an animation school set up by the West Bengal government with Toonz Animation. The National Institute of Design, Ahmedabad, is also slated to introduce a game development course. Still, these efforts are far short of what is needed to propel the industry into the global league.

This is not to say that there is no hope. There is, but it will take a concerted effort from all parties involved. Of course, Indian consumers can change things themselves. Their growing numbers will give gaming companies reason to smile.


Saturday, November 18, 2006

Pharma- The biogenerics opportunity

The 30-year-old biologicals industry is over $50 billion in size. At 15 per cent growth rate, it is also the fastest growing category of drugs in the global pharma market. Of course, conventional pharma, at $500 billion, is 10 times as big, but it is growing at about 8 per cent.

Today, biologicals present another opportunity for Indian pharma — in the form of biogenerics (also called biosimilars) or generic copies of biologicals.

Here’s how. In the last few years, new filings of conventional drugs have shrunk. So, there are fewer drugs to make copies of. Stricter regulations, higher failure in clinical trials, and longer time taken for approval of generics are other dampeners. Meanwhile, development of new biologicals has been on the rise. Besides, biologicals worth $14 billion are expected to go off patent by 2010. While insulin and erythropoietin are already off patent, products like interferon (Schering-Plough, Biogen) and granulocyte colony stimulating factor or G-CSF (Amgen) are scheduled to go off patent soon.

Even assuming a 50 per cent price erosion (since biopharmaceutical companies, creators of original biologicals, slash prices at the first sign of a biogeneric), it is a $7 billion-$9 billion opportunity for generic players. And, unlike in conventional pharma, Indian companies are on par with global ones to make good of this opportunity.

Roadblocks Galore

Cracking biogenerics is easier said than done, though. First, programming microbes to secrete a specific drug is much tougher than stringing together a group of chemicals to create a copy of a drug.This makes developing a biogeneric a more time-consuming affair (5-7 years) than a conventional drug (2-5 years). Also, controls over manufacturing conditions are far more stringent, leading to high investment.

But, perhaps, the biggest obstacle is that in lucrative markets like the US and EU, regulatory bodies (US FDA and EMEA or European Medicine Evaluation Agency, respectively) have not defined standard procedures for approving biogenerics, unlike conventional pharma generics. In a conventional pharma generic, provided you create the same molecule, and do a clinical trial to show that it works as well as the original, you are through.

In the case of biogenerics, biopharmaceutical companies contend that when the manufacturing process of a biological is changed, it may not be as effective or even similar. So, innovators’ data cannot be used to get regulatory approval. A biogeneric, thus, has to generate its own data through extensive clinical trials on far more patients before approval is given.

Fortunately for companies eyeing biogenerics, in 2005, EMEA defined a regulatory pathway for four biogeneric products — insulin, erythropoietin, human growth hormone (hGH) and G-CSF. The FDA, though, has approved only one — Sandoz’s Omnitrope (human growth hormone) — that, too, after prolonged litigation. But it has clarified that a standard regulatory pathway has not been defined for biogenerics.

All these factors have restricted pharma companies worldwide from getting into biogenerics. So, unlike the pharma space where western companies like Teva and Mylan had a headstart of more than a decade over Indian companies, in biogenerics all players are starting off on the same footing.

Revving Up Biogenerics in India

Mostly, Indian companies have preferred products that are relatively easier to make, like insulin or even erythropoietin. Few companies have chosen to tackle products like hGH and G-CSF, which are tougher to make but offer higher margins.

Things first started happening in the 1990s. First off the blocks was Dr. Reddy’s in 1994 (with a biologics department that was converted into a full-fledged division in 1999). It launched its first product, filgrastim (a G-CSF) in 2001, which was re-launched earlier this year in India and Brazil as Grafeel.

Then came Wockhardt in 1998. It launched its Hepatitis B vaccine in 2002, insulin in 2004 and erythropoietin in 2005. Also, in 2005, it created a separate division for biologicals R&D as well as manufacturing. They were followed by Biocon, which announced its plans for entering the market through insulin in 2002, and launched the product in 2005.

Strategy of Indian companies :

Dr. Reddy’s has chosen to focus on its areas of strength, oncology and related products, even in biologics. Brand building and marketing will be much easier because the products will move across the same channel. Wockhardt, on the other hand, is looking at products like insulin for India, developing countries as well as regulated markets. The strategy is to first enter the European market with products that have a defined pathway, and then look at the US once the pathway is clear.

And Biocon is initially targeting the biogeneric opportunity for its human insulin. The company is filing forapproval of its insulin in the regulated markets starting with Europe.Some companies, including Ranbaxy, are looking at taking biogeneric products developed by other companies and selling them in India and other less regulated markets. The idea is to take good products from small companies and use the bigger company’s marketing muscle to sell them. Some, of course, plan to eventually crack the US and European markets.

For instance, Concord Biotech, in Ahmedabad. Besides being the world’s only biogenerics company to manufacture all four immuno-suppressants, Concord also undertakes custom synthesis projects. In November 2005, Hyderabad-based Matrix Laboratories acquired majority stake in Concord. The products from Concord’s stable will be marketed in Europe through Docpharma (a generic company in Belgium that Matrix acquired last year) and then in the US.

Then, Ranbaxy has tied up with Hyderabad-based Zenotech Technologies to inlicense and market its products. Companies like Shreya Life Sciences, Intas, Cadila and Emcure also have well-defined marketing programmes. Shreya, which started as a distribution company in Russia and the CIS, is looking at products that can be imported and launched in India. Indus Biotherapeutics, a subsidiary of Intas, has developed human GCSF and recombinant erythropoietin for its parent. Cadila has launched Streptokinase under the brand name STPase. And Pune-based Emcure started by inlicensing biogenerics, and its current pipeline of products focuses on nephrology, oncology, cardiovascular diseases and gynaecology.

Brand Is The Key
Unlike generic pharma, in biopharmaceuticals, marketing is driven by brands simply because it is important for a company to establish that it has the capability to create a biogeneric successfully. Maximum value can be realised only from a finished formulation.” That’s because while raw material is cheap, the development process is long and expensive, making the final product almost as expensive as the innovators’. So, it makes sense to market under ones own brand name.

Aware that post approval, biogenerics will require extra promotion to sell in a new market, Indian companies are already setting up marketing front ends in Europe. Dr. Reddy’s plans to leverage its German acquisition, betapharm, to position its biogenerics in Germany and the UK. Others following suit include Ranbaxy in Germany, France, Belgium and Romania, and Wockhardt in the UK. Indian companies plan launches across the world. “India, rest of the world, Europe and the US, in that order. Wockhardt’s planned launch path is similar to Dr. Reddy’s.

so the race is on.



source BW

Acquisition & Merger - India's overseas acquisition spree

Indian companies are in an expansive, acquisitive mood. For example, Tata Steel, India's largest private-sector steelmaker, that it is on he process of acquiring Corus, a much larger Anglo-Dutch rival. If the deal came off, it would be worth several billion dollars, by far the largest foreign purchase ever made by an Indian firm. In the first three quarters of this year Indian companies announced 115 foreign acquisitions, with a total value of $7.4 billion, a huge increase on previous years, and almost as much as foreign firms have invested in Indian purchases.


The shopping spree spans industries from information technology (IT) and outsourcing to liquor. Wipro, for example, one of the country's big three IT firms, has this year acquired technology companies in Portugal, Finland and California. In pharmaceuticals Ranbaxy, an Indian maker of generic drugs, bought Ethimed of Belgium and Mundogen, the Spanish generics arm of GlaxoSmithKline. Bharat Forge, the world's second-biggest maker of forgings for engine and chassis components, based in the Indian city of Pune, has since 2004 bought six companies in four countries—Britain, Germany, Sweden and China. Suzlon, another Pune firm, which makes wind turbines, this year bought Hansen, a Belgian gearbox-maker. And United Breweries, a booze conglomerate from Bangalore, has made an unsolicited bid for Whyte & Mackay, a Scottish whisky distiller.

Behind this push overseas lies a combination of forces: a domestic boom; the availability of credit; a rush to achieve global scale; and a new self-confidence about Indian business's ability to add managerial value. India's economy is in its fourth successive year of growth at around 8%. In the first two quarters of this year GDP grew at rates of 9.3% and 8.9% respectively over the same periods in 2005.

With strong balance sheets, finance is not an obstacle. The stockmarket has been booming. Rupee interest rates, although they have been edging upwards for the past two years, are still, in real terms, at about half their levels of a decade ago. And, despite capital controls that place limits on external borrowings, India's big companies can raise huge amounts of money abroad. In August Reliance Petroleum raised the largest-ever syndicated loan for India, of $1.5 billion. Tata Steel is reported to have secured financing commitments of $6.5 billion for its putative bid for Corus.

Going global

That an Indian firm should even be contemplating borrowing so much for an acquisition shows how much corporate India has matured since 1991. That was when the government began to dismantle the “licence raj” of bureaucratic controls that had hobbled Indian business.


Tata Steel is emblematic of the successful parts of Indian manufacturing. It is known as the lowest-cost producer in the world. It is one of the firms that thrived in the more competitive marketplace that emerged in India after the 1991 reforms, and have since been able to take on the best in the world. What is noteworthy about many of them is that the root of their success is not India's obvious competitive advantage: its vast, low-cost labour force. In the IT and outsourcing industries, lower salaries for college graduates are an important reason behind Indian firms' rapid growth. But in manufacturing the stars tend to be experts in automated, capital-intensive production. Bosses who have flourished in such businesses in India, with its poor infrastructure and still-daunting regulatory environment, understandably feel confident that they have lessons to teach their new purchases in other countries. to be contd....

Saturday, November 11, 2006

Technology, Green Energy - Making waves the Wave energy

The prospects for wave power have risen and fallen, appropriately enough, for years. But now the technology finally seems to be making headway. Not only is the world's first commercial wave farm due to be switched on and connected to the electricity grid in Portugal this summer—but an even newer type of wave-power generator could drastically reduce the cost of extracting energy from the sea. As you may be aware of that Wave power refers to the energy of ocean surface waves. Though often co-mingled, wave power is distinct from the diurnal flux of tidal power and the steady gyre of ocean currents.

Wave power first attracted interest in the 1970s, when Stephen Salter of the University of Edinburgh devised a device that converted the motion of waves into electricity. The potential is vast: a report published earlier this year by the Carbon Trust, an organisation set up by the British government to help meet its targets for reducing greenhouse-gas emissions, concluded that 20% of Britain's electricity could be provided by wave and tidal power. This is four times more than previous estimates, and means that marine energy alone could enable Britain to reach its emissions-reduction targets. In America, meanwhile, the Department of Energy's National Renewable Energy Laboratory has estimated that the use of wave power on the east coast could provide 10-25 times more electricity than the total wind potential of the Great Plains.

Given this potential, why is it that so far, not a single commercial wave-power generator is in operation? “The biggest problem with wave-power generators is that they are relatively expensive. Most produce electricity at a cost of between 18-36 cents per kilowatt hour (kWh), whereas electricity produced from natural gas costs around 8 cents/kWh. One reason for the expense of wave power is the need to make the equipment impervious to storm damage and corrosion. Of the countless wave-power concepts invented over the years, most have been heavily over-engineered to reduce the chances of breakdown at sea. This reduces their efficiency, increasing the cost per kWh and preventing wave power from making progress.

But now things seem to be changing. Near Póvoa de Varzim, off the northern coast of Portugal, three 150-metre-long articulated snake-like pontoons, called Pelamis Wave Energy Converters, are in the final stages of being hooked up to the country's national grid, says Andrew Scott of Ocean Power Delivery, the firm behind them. Each one has three power-converter modules distributed along its length, which transform the flexing motion at the snake's joints into electricity as the snakes are buffeted by the waves. The three snakes are the first stage of a planned 24-megawatt wave-power farm, which will be capable of providing 15,000 households with power. The Pelamis's design avoids the trade-off between resilience and efficiency by switching to a higher-efficiency mode in calm seas.

But the new device, called the Snapper, increases efficiency still further. Electrical generators tend to work most efficiently when a small force is applied at high speed—which is just the opposite of what wave power provides says the inventor of Snapper. This invention works much like a typical linear generator, in which a magnet is moved up and down inside coils of wire, inducing electrical currents in the process. But there is a crucial difference: alongside the coils are a second set of magnets of alternating polarity. These prevent the central magnet from moving up and down smoothly. Instead, magnetic forces repeatedly halt its motion, so that it moves up and down in a jerky fashion. The resulting series of short, rapid movements is more suitable for generating electricity than a slow, smooth movement. Early tests suggest that it could be as much as ten times more efficient than existing wave generators. Having spent years floundering in the water, could wave power finally be ready to make a splash?. Only time will tell.

Friday, November 10, 2006

Special Export Zone ( SEZ). Business proposition or land grabbing opportunity

On the face of it, setting up a special economic zone (SEZ) seems to be the hottest business to get into. At last count, 263 companies had received formal approvals to set up SEZs, and another 169 had been granted in-principle clearance by the government. Reliance Industries is pumping in Rs 30,000 crore into two SEZs in Maharashtra and another Rs 40,000 crore into a third in Haryana; DLF is investing over Rs 31,000 crore in four units in Amritsar, Ambala, Ludhiana and Gurgaon; and the DS group has a Rs 12,000-crore plan for two SEZs in Haryana and Himachal Pradesh. Others such as Bharat Forge, Videocon, Suzlon, etc., are investing over Rs 1,000 crore each in SEZs in places such as Pune and Mangalore.

Together, they hope to buy, develop and lease out over 300,000 hectares of land. These SEZs will house factories, IT parks, office space, warehouses, residential apartments and malls. A few may morph into cities. All that will call for a cumulative investment of Rs 3,30,000 crore (based on a bare minimum of Rs 138 per sq. ft needed to buy and develop the land). Some, like infrastructure consulting firm Feedback Ventures, put the figure at Rs 5,50,000 crore. That is the equivalent of pumping 10-17 per cent of India’s GDP into one grand realty development plan: corporate India’s biggest investment rush, at least on paper. But amidst all that hype, one fundamental question has been lost: Can SEZs be a viable, profitable and sustainable business venture? Can they earn a decent return on the thousands of crores about to be invested?

The world over, the majority of successful SEZs have been built with government capital. There are few precedents of private capital building economic zones or earning returns out of them. Of course, hundreds of private companies have invested billions of dollars in building their factories and offices within SEZs. That is different. What we are talking about here is the money needed to set up and maintain an SEZ. So far, money for that has largely come from governments.

Dubai’s Jebel Ali Free Zone, one of the world’s most successful zones and home to over 5,000 businesses, is perhaps the best example. In the 1980s, Dubai’s ruler, the late Sheikh Rashid bin Saeed Al Maktoum, pumped in $3 billion in a port in Jebel Ali. It later became the Jebel Ali Free Zone and much of the initial investment (worth $9 billion at current prices) was virtually written off before the zone was handed over to the Jebel Ali Free Zone Authority (JAFZA) for management.

Today, JAFZA is a commercial organisation. But it is financially supported by the Dubai government, its sole owner. JAFZA’s mandate is to attract investments, create jobs, and promote trade and industry. Profits, and a reasonable rate of return on the capital invested, are only secondary objectives. Moreover, it has almost unlimited access to cheap capital, funded through the government’s oil revenues. Finally, the Dubai government’s tax largesse makes India’s fiscal incentives pale in comparison. For units within SEZs, Dubai offers a complete 50-year corporate and personal income tax holiday (India offers a 100 per cent tax waiver only for five years). JAFZA is one of the world’s most successful zones from an investment promotion perspective, but perhaps not from a return on capital point of view. After two decades of operations, profits have just crossed $100 million.

Similarly, China’s successful SEZs were initially capitalised with government money. These were then leveraged for bank lending (again encouraged by the government). Mostly, the government set up and funded the SEZs. Their mandate was not profit, but investment promotion. They were to be more like development agencies than profitable corporations. Some obvious conclusions can be drawn from the global experience so far. SEZs are great for countries seeking to promote investments; they are great for companies seeking world-class infrastructure and big tax breaks; but companies that set up SEZs don’t make much profits. But India is a completely different story. Largely, it is private capital that is waiting to build SEZs. But private capital comes at a cost. So, what kind of returns can India’s SEZ builders expect?

As of now, there is only one balance sheet in India where you could expect to find some answers — that of Mahindra World City Developers, the Mahindra Gesco subsidiary that set up the 1,400-acre Mahindra World City SEZ near Chennai in 2002. It carries accumulated losses of Rs 35.4 crore on a net worth of Rs 138.5 crore — that is the price to pay in the early stages of an SEZ business. Things are improving, though — revenues grew from Rs 36.7 crore in FY05 to Rs 86.89 crore in FY06. The operational losses of Rs 4.09 crore (FY06) have since given way to an EBIDTA (earnings before interest, depreciation, tax and amortisation) of Rs 11.87 crore (FY06). It reported Rs 2.14 crore net profit last year, but this was drained away by the dividend that was paid on preference shares. It is yet to show positive earnings per share. This is the paradox. The Mahindra experience, and that of SEZs worldwide, clearly show that this is a tough business. Yet, there is a mad rush to acquire SEZ clearances and buy thousands of hectares of land.

Most seem to believe there is truckloads of money to be made. The suspicion, though, is that many are hoping to build land banks and cash in on rising property prices. All the players are expecting returns far greater than what Mahindra World City or even JAFZA have managed so far. Reliance expects good returns: revenues of over Rs 1,000 crore when about 90 per cent of the first phase of the project is sold out; a loss of over Rs 80 crore in the first year, but annual profits of over Rs 300 crore in a few years; and an internal rate of return (IRR) of 16 per cent on the first phase investment of about Rs 4,000 crore. Of course, these are only unofficial estimates, and their veracity is questionable. But it does give some indication of what large groups expect from their SEZ investments.

Broadly, there are four phases in the life of an SEZ. The first, and the most difficult, is the ‘development’ phase. This is when the promoter starts leasing out the land after acquiring and developing it. Already, there is a huge cost — both financial and political — associated with land acquisition. Only a few projects have received large pockets of land from the government. The rest must buy land on their own. Land costs are soaring, and legal and procedural delays, and social and political opposition are wrecking project schedules.

Once the land is acquired, the commitment to developing is where the serious SEZ promoters stand out from those merely looking for quick profits. That is because land development calls for big, upfront capital investments.
To begin with, roughly 40 per cent of the land acquired is not saleable. The government dictates that at least 25 per cent should be reserved for open spaces. This apart, some land will also be lost due to geographical factors — there may be small hills, water bodies, etc. Roads could take up at least another 12.5 per cent of the land. “The moment an SEZ promoter acquires the land, he loses almost half of it. Only half the land will be saleable.

“If it takes $82 million (Rs 370 crore) to acquire 1,000 hectares, it will take another $250 million (Rs 1,125 crore) to develop it, For example, it costs roughly Rs 1.4 crore to lay a kilometre of two-laned road. And that is only the beginning. More needs to be done to match what Shenzhen or JAFZA has to offer. “A 2,000-MW power plant will cost Rs 8,000 crore; a desalination plant will cost Rs 800 crore; an airport with just one runway will cost Rs 150 crore-200 crore; a port with only one jetty and two berths will cost Rs 500 crore.

Reliance had initially started off with a Rs 25,000-crore budget for its SEZs in Maharashtra. Soon, it realised that it had to build a dam in order to meet the water requirements of the one million people who will eventually live there. It also felt the need for a second port in Rewas. It also figured that the initial plan for a 1,600-MW power plant was inadequate and has now opted for a 2,000-MW plant. The result: the project cost has escalated to Rs 30,000 crore.

The rough benchmark is an investment of around Rs 1.2 crore per acre. Now, most of these investments have to be made upfront. Unless you build the infrastructure and offer it on tap from day one, companies will not come and invest. Obviously, these have to be factored into the cost of land when it is leased out. Here is the problem: in the development phase of an SEZ, customers will not be willing to pay a premium on land. “When we set up Mahindra World City, prospective tenants would walk in and ask why we were charging so much when the adjacent land was so cheap.

In the development phase, SEZs suck up huge amounts of capital. And most of the capital has to come as equity from the promoters. This can be tricky. Now, with the RBI asking banks to treat SEZ projects as real estate, loans will be even harder to get. Moreover, cost of such debt has also risen. “As a result of higher provisioning norms (that real estate projects demand), cost of bank credit to SEZs could increase by 1-2 per cent. “Besides, real estate projects are not permitted to go for external commercial borrowings (where the cost of debt is cheaper — only 5-6 per cent plus the currency risk).Only the serious players will have the capital to make the investments this phase will demand. However, this phase will also see the most land speculation. The less serious players, pursuing realty arbitrage, will have a field day parcelling out the land and selling it.

Just one minor clarification: SEZ promoters cannot sell the land, they can only lease it. However, 30- to 60-year lease agreements can be structured smartly to work around this constraint. Here, up to 95 per cent of the land cost is paid upfront as a deposit, and a nominal lease rental is paid over the tenure. From a cash flow point of view, this is as good as a sale.

If an SEZ reaches this stage, co-developers could contribute 20-30 per cent of the project cost, and internal accruals (primarily in the form of advances from prospective occupants) could bring in 40 per cent. Revenues from the project are good enough to start servicing the debt. Further borrowing becomes easier and promoters can tap into innovative debt instruments. Securitising future lease rentals is one option. At this stage the SEZ also earns forex income. So, it can borrow cheap dollar funds — at least 300 basis points lower than domestic rates — from offshore banking units (OBUs). (The RBI has allowed OBUs to be set up in SEZs. OBUs can borrow cheaply from international sources, and lend to units located in the SEZ and SEZ developers. Repayments must be in dollars, eliminating currency risks and costs associated with hedging the same.) Still, promoters are unlikely to earn returns in this phase.

The third payback phase is when the real money starts flowing in. But it could take eight years for an SEZ to reach this phase. By now, the SEZ should have a strong brand equity and have several success stories among the units operating there. The ‘cluster effect’ would have started to kick in. Companies will be queuing up to buy land and will be willing to pay a huge premium for it. The project will generate enough returns to foot any further investments.

Now comes the industry’s worst kept business secret: the more land the SEZ promoter has at this stage, the bigger his windfall. The land could be selling at 20-30 times the cost of acquisition and development. And whatever land is acquired has to be acquired now, before the actual development begins. Later, prices will shoot up. Hence, the current rush to build up huge land banks running into thousands of hectares. There is one economic philosophy that the SEZ business runs on — the more land you buy, the more capital you pump into it, and the longer you hold on to both, the greater your return.

SEZ builders must have the capacity to inject the capital early and wait for returns — it takes a minimum of eight years to take the project into the payback stage. “Relative appreciation of land value has to be higher than the holding cost of capital. If you can achieve this, you are making

This is where the serious players will score over the speculators. Their returns will be far higher than those who parcelled out the land earlier. “IRRs of 35 per cent are not unheard of. The average IRR could be 20-25 per cent. After this, the final annuity phase becomes easy. Here, the SEZ generates a steady stream of income and needs minimum management. Utilities and facilities management are, perhaps, the only requirements.

To understand an SEZ business, take the balance sheet of a realty company and merge it with that of a municipal corporation. Realty companies buy land, develop it, and sell or lease it. Municipal corporations provide infrastructure and utilities for a fee — generally a combination of user charges and subsidies through tax revenues. An SEZ must do both. Initially, land lease will dominate revenues, but with time, utility, maintenance and administrative charges will account for a larger chunk. Beyond the 10th year, an SEZ balance sheet will be similar to that of a municipal corporation.

Unfortunately, many SEZ builders see this more as a grand realty development opportunity than as an infrastructure business — buy, build, sell. That model may bring profits in the short to medium term, but is unlikely to help the nation’s objectives of investment and export promotion. On the contrary, they could wreck India’s SEZ dreams by increasing competition and affecting the profitability of the serious players. They may also leave investors with bitter experiences or may simply unproductively lock up land. “Large numbers of SEZs will limit the success of all zones. It is prudent to believe that only a few zones near metros will be successful. The rest will be a drain.

Experts believe that there is a huge amount of excess capacity building up in the SEZ space. For example, in the NCR-Rajasthan belt, there are 24 SEZs coming up in 53,000 hectares of land. Is there enough room for all of them? Sure, much of this capacity could be used up by hordes of domestic companies not caring much for sophisticated infrastructure, but hungry for the tax breaks that SEZ status will bring. Still, the excess supply is unlikely to go away. If all the 300,000 hectares are indeed developed, roughly 225,000 acres of industrial plots will be created. To fill this, an investment of Rs 45,00,000 crore will be required. However, in the past five years the entire Indian industry has seen combined investment (government, private and foreign) of only 7 per cent of that amount. Obviously, there are bound to be many casualties among India’s SEZ builders, both big and small.

source- BW

Monday, November 6, 2006

Arranged Marriages

Guys Prospective :

Finished your studies, landed a job, and settled down? Like most other guys, "marrying" will probably be the next thing on your agenda. But, the dynamics of an arranged marriage have changed. Find out what the realities of this age-old tradition are, for a new generation.

New avatars

"Nowadays, parents simply suggest the person they feel is suitable for their son or daughter. Only if their child approves (after interacting with him or her), do things move ahead. Also, children are now increasingly taking the initiative to find their own partners. The number of people putting up their profiles at matrimonial sites is a case in point.

What are you looking for?

Who you will marry is one of the most important decisions you will make. Some questions that crop up include: What sort of a girl do I marry? Will she adjust to my family? How can I decide just by meeting her a few times? When should I marry? What if I make the wrong choice?

"Take a pen and paper and list the attributes you are looking for in a girl. For example, educational achievements, profession, appearance (looks, height, weight), etc. You might not find the 'perfect' girl, but you will have a fair idea of what you are looking for.The key to choosing the right partner is to look for a person with a good character too, not simply a good personality. Qualities to look out for include maturity and responsibility, a positive attitude toward life, commitment to the relationship, emotional openness, integrity and high self-esteem.

"Many men go for beauty when looking for a suitable bride. Sure, looks are important, but that should not be the most important criterion. Later on in life, it is her maturity and behaviour that will make all the difference.

In arranged marriages, family support also plays a major role in ensuring a successful marriage. This is where compatibility of social status, family values and caste/religion may come in. "If she is going to live with your parents in a joint family set-up, it would be wise to take a few inputs from family members as well.

Tell your parents

The selection process is tough on every one involved in it. In arranged marriages, the involvement of family and society is pretty high. Clearly define some minimum criteria for selection in terms of education, physical appearance, social status, family values, future career plans, etc., so your parents don't waste their time. "It would be unfair to meet a girl three to four times only to change your mind, as it can have repercussions for her too. You should have your criteria ready. Be clear about what you are looking for, so you meet fewer people.

People often prefer partners from the same profession for better understanding. "For example, doctors sometimes prefer doctors for reasons that include being able to start a clinic together, etc. Also, the partner is better able to understand the working hours and professional difficulties. Thus, if you are looking for a specific match, convey it to your parents.

Background research

It is important for you and/or your parents to check the educational and family background of a prospective partner. This can be done via a reference check, a visit to the workplace (or institute, if she's studying), through relatives, etc. The same process is used when the girl is abroad, but it is definitely more difficult. For one, a personal visit may not be possible and you have to rely on other sources for information. If you have friends/family abroad or living in proximity to the prospective bride, request them to meet her and check things out.

You can also perform an employer verification, check the visa status, request a medical test, etc. Also, communicate regularly through emails, phone, chat, etc. to know her better and get an insight into her lifestyle.

A meeting of minds

As we all know, it is difficult to judge a person based on a few meetings. How, then, do you select a life partner??. "This is where you need to take additional help of other mediums of communication like phone, email, chat, etc.

Whenever you do meet, relax and be yourself. Keep an open mind and don't hesitate to discuss important issues. Wear something that you look good and feel comfortable in. Try meeting away from the usual crowd of relatives, at some neutral place like a coffee shop, so you can interact without being influenced by others. Above all, trust your gut feeling.

Ask away!

Those days are long gone when youngsters getting married hardly knew anything about each other. Now you can ask just about anything and no one is supposed to take offence. "If you have questions that may seem uncomfortable but deal with the reality of today's social situation, or if you have doubts, by all means ask! Because NOT asking a question may ultimately prove to be a bigger mistake than asking.

Here are some aspects that could be looked into once you get on familiar terrain.

General questions

  • Are you ready for marriage?
  • How would you describe yourself?
  • How do you like to spend your free time?
  • How do you feel about smoking and/or drinking?
  • What are you looking for in a spouse?
  • How much time do you need to decide?
  • What are your preferences, in terms of food?
  • What are your pet peeves?
  • How do you act when you get upset?
  • How do you feel about pets?
  • What is your family like?

Professional queries

  • What career path do you plan on taking?
  • How ambitious are you?
  • How much time do you spend at work?
  • How do you plan to balance work and family life?

Previous relationships

Today, a lot of young people may already have had a previous relationship. "Though having had a relationship is neither uncommon nor something to be ashamed of, people sometimes bring some 'baggage' -- emotional and / or health-related -- from the previous relationship. Of course, this applies to both men and women. Now, a woman should be equally cautious if a guy tells her he has had relationships previously, and should look for signs of any serious issues.

Medical check-up?

"Yes, you and your partner should get one."It's not as if you can't ask the girl to be tested, but there is a degree of reluctance in asking, as it is a very delicate situation and people may feel insulted if not outraged. However, if tactfully handled, most people would respond favourably. "What you can do is tell the girl (and / or her parents) that, like you, they too are probably aware of the increasing incidence of HIV and may be experiencing some apprehension about it. Moreover, a blood test can also check for thalassemia and Rh factor.

It's your call

Do remember, all said and done, it is your marriage and your life that is at stake. After you get married, you and your wife are the ones who will face the music. Don't marry a girl just because your parents or friends asked you to do so. "Once you marry, if things don't work out and you end up saying, 'It's only because of my parents that I married you', then your marriage is destined for disaster.


Girls Prospective :

Many of the things mentioned above remains same few additional ones

Background research

Although researching the boy's background might seem painstaking, it is very important. The difficulty of researching goes up a notch when the boy is abroad, especially if you don't have any friends/relatives to help you out there. Thus, it would be wise to make discreet inquiries outside with the help of relatives and friends, with respect to his job, family background, age, education, habits, financial condition, medical history, lifestyle, etc.

Is he the one?

Finally, there should be mutual consent and understanding from both sides; only then can a marriage can be sustained. "It is important that you like your prospective partner enough to marry him. Good arranged marriages occur when the parents support and help their children find life partners.


compiled from Rediff