www.pwc.ru/pharmaceutical Russian economy and pharmaceutical outlook April 2015
The ongoing economic crisis in Russia is very much different in causes from that of 2008-2009 and is likely to be less intensive, but will last longer Real GDP growth in Russia, yearly, % 8% 4% -4% -8% 5.2% 4.1% 4.3% 3.4% 1.3% 0,6% 0.6% -7.8% 2008 2009 2010 2011 2012 2013 2014E 2015F 2015 Forecasts: Morgan Stanley Moody s -5.5% CBR** -4.6% Minfin World bank EIU HSBC JP Morgan Citigroup MoED** -5.6% -4. -3.8% -3.5% -3.5% -3.3% -3. -3. -0.7%* -0.8%* * Optimistic scenario (at an oil price of USD 80) ** CBR Central Bank of the Russian Federation MoED Ministry of Economic Development Key reasons for the crisis of 2015 in Russia: 1. Global macroeconomic: Oil price decrease; 2. Local structural: Low direct investment; 3. International political: International sanctions. Global crisis caused mainly by external reasons; Global recovery supported internationally, incl. limits on oil production by OPEC. vs Local crises driven by external and internal reasons; No external support (moreover, sanctions against Russia). Lower magnitude of crisis compared to 2008 2009, but also a longer recovery Source: Rosstat, CBR, Minfin, World bank, EIU, HSBC, JP Morgan, Citigroup, Moody s, CEEMEA, analysis 10
Key factors of GDP growth 12% Going further the Russian economy is likely to stagnate at around 1% growth rate in 2018 as factors that used to fuel it up are not present anymore Real GDP annual growth in 2000 2017, % 8% 4% Aver. Annual Growth: 1% 2013 2014 1H: High oil price No sanctions Stagnation explained by the structural economic reasons Aver. Annual Growth: 1% 2018 on: 2013 dynamics to continue unless structural changes happen in the economy -4% -8% 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Before 2008 After 2018 1 Growth of working-age population 2 Relatively high investment flow 3 Increase in utilization of fixed asset base inherited from USSR 4 Fast growing oil production sector Quick exploration of natural resources Oil price increase 5 Other factors of labor productivity growth High attainment and high flow of new graduates Transfer of simple technologies2 VS. 1 Decrease in working-age population 2 Low investment amount 3 Utilization of fixed asset base at ceiling level 4 Stagnation of oil production sector Limited exploration of new fields Stable oil price 5 No other factors of labor productivity growth
The crisis is accompanied by four major negative economic factors affecting the pharma industry Economic crisis in Russia 1 2 3 4 Pressure on government expenditures Decreasing real incomes of the population Rouble devaluation and high inflation High interest rates and lack of bank financing 12
Pressure on state expenditures due to cuts in oil revenues have a negative impact on reimbursement programmes and state procurement 1 Russia Federal Budget s expenditures vs revenues, 2015, bn RUB Expenditures 15 513 421-1 Agreed budget cut for all ministries Healthcare budget (MoH) vs ~15% deficit Source: MinFin, DSM Group, Rosstat, analysis 15 082 Revenues - 7% - 2 Shortage of budget revenues Oil price 100$ 80$ 50$ Current price (02.03.2014) 59.54$ Russia public segment pharma sales growth, RUB, yearly, % 4 3 2 1 25.4% 2008 1,5% 2009 9,4% 2010 7,7% 2011 3,7% 2012 27,1% 2013 10,4% 2014 Key implications for the industry Cut to reimbursement programmes - Cancellation or limited financing of selected healthcare programmes (e.g. oncology programmes); - Underfinancing of existing programmes due to lack of budget revenues. Import substitution and support for local companies - Development of a differentiated scale of preferences depending on degrees of localisation in Russia for state and municipal procurement; - Development of import substitution measures. 15
Real income of the population is expected to decrease, resulting in a slowdown on the OOP market 2 Russia real personal disposable income growth, yearly, % 8% 6% 4% 2% -2% -4% -6% -8% 2.4% Sales growth in Russia s private pharma segment, RUB, yearly, % 4 3 2 1 2008 34,2% 2009 11,9% 3. 5.9% 2010 6,7% 0.5% 2011 14,9% Source: Rosstat, Ministry of ED, EIU, DSM Group, analysis 4.6% 2012 3.2% Optimistic forecasts 13,8% 2013 12,3% 0.3% -1.1% 2014E Historical Ministry of ED EIU 23,4% 2008 2009 2010 2011 2012 2013 2014-2.8% -7.8% 2015F Key implications for the industry Shrinking OOP market - Sales decrease in selected product segments (mainly in nonlifesaving drugs); - Re-orientation of the population towards cheaper drugs and generic products. 14
The Russian rouble s devaluation has deeply impacted on the profitability of pricecontrolled sales and launches of non-localised products 3 Production prices index in Russia, manufacturing, % 2 16,9% 15% 1 5% 1,9% 5.9% 8.3% 3,2% 1,6% 5,5% Key implications for the industry USD/RUB monthly exchange rate 80 70 60 50 2008 2009 2010 2011 2012 2013 2014 49% Prices issues - Significant cut in margins due to USD costs and RUB fixed prices* for EDL drugs (they have become unprofitable); - Unclear financial perspectives for the launch of new drugs (especially non-localised items). 40 30 20 35% 2008 2009 2010 2011 2012 2013 2014 * The option for EDL prices correction for foreign manufacturers is now being discussed in the Government. For more details, please refer to slides 19-20 Source: OANDA, analysis 16
High interest rates and the lack of bank financing results in financial difficulties for Russian companies and may also lead to bankruptcies 4 Key interest rates in Russia 2 15% 1 5% Key rate of Central Bank (1 Week REPO) Loan interest rates (up to 1 year) Dramatic leap +6.5% in one day Key implication for the industry Lack of financing and rising financial expenses for Russian companies - Changes in contract terms (markups, payment schemes, etc.) on the part of distributors, pharmacies, localisation of partners; - Bankruptcies of selected companies or their exit from certain regional markets or product segments. 2008 2009 2010 2011 2012 2013 2014 Source: CBR, MinFin, Banki.ru, analysis 16
To adapt to the new reality and challenges now in the pharma market, international companies are considering several actions Challenges Cuts to reimbursement programmes; Possible actions/ solutions Revision of go-to-market strategies and switching focus from the public market to the private out-of-pocket market; Shrinking OOP drugs market; Investing in sales force efficiency programmes; Expansion into Russia s regions; Pressure on the margins as the result of rouble-based revenues and USD expenses; Using this opportunity to increase market share (at the cost of the margin); Cost reduction programmes (e.g. business processes improvements, headcount optimisation, creation of centres of excellence, etc.); Difficulties with revenue forecasting as a result of unstable exchange rates; Revision of pricing strategies with reference to USD prices; Plans announced to introduce strong localisation requirements for reimbursement programmes; Localisation of projects (new construction or finding partners for technology transfer); M&A and post-merger integration activities; Growing pressure on the part of distributors who are currently subject to cash shortages as a result of local currency depreciation. More flexible payment terms; Increase in discounts, including fixed exchange rates for selected distributors. 24
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