FDA sidewinder hits Caraco, Sun Pharma suffers collateral damage

Caraco Pharmaceutical Laboratories, a 74% subsidiary of Sun Pharmaceutical Industries, has come under fire from the FDA. American enforcement officials raided Caraco’s plants, seized medicines and ingredients used in their production. The seizure has been attributed to Caraco’s continued failure to meet cGMP norms (current good manufacturing practices). The FDA had warned Caraco in October 2008 and had given it time to rectify the deficiencies. The current action has been prompted by its inspection conducted in May 2009.

What does this mean for Caraco?
Caraco’s facilities are not up to FDA’s quality standards. The drug regulator said that the company has been making voluntary recalls since January 2009 due to manufacturing defects, including oversized tablets. Its decision to conduct a seizure is a preventive action, ensuring that defective drugs do not enter the market.

The regulator has said that ‘Seizures often lead to court orders that require companies to take steps to correct cGMP violations in their manufacturing processes. These steps may include hiring outside experts, writing new procedures, and conducting extensive training of their employees.’ Caraco will not be able to distribute any new drugs till it resolves these issues, to the satisfaction of the FDA. The regulator has also said that after a seizure, companies usually temporarily halt production.

As of the date of its previous SEC filing, Caraco had 29 pending abbreviated new drug applications (ANDAs) pending at the FDA of which it has tentative approvals for four products. FDA will not put on hold these approvals till the company rectifies the situation at its facilities.

Caraco’s sales during 2008-09 were $337mn, down 3.7% over the previous year, due to a $4.2mn reduction in manufactured product sales and the rest due to price erosion. Caraco sells products it makes and also distributes Sun Pharma’s products. In 2008-09, products it made contributed 33.1% to revenues and the rest were from distributed products. So, nearly 33% of its revenue will potentially disappear until it gets the requisite FDA approvals. The effect on profits is more severe, as the gross profit margin on manufactured products was 70%. Clearly, the FDA action is going to cost Caraco dearly. It will now be distributing products that are made in Sun’s FDA approved facilities and could perhaps even enter into other manufacturing arrangements.

What does this mean for Sun Pharma?
Sun Pharma owns 74% of Caraco and any deterioration in the subsidiary’s performance will affect the parent company as well. At $112mn, Caraco’s revenues (from selling products) contributed nearly 12% to Sun Pharma’s consolidated revenues. But this is not all. Sun Pharma and Caraco have a very close operating relationship. Caraco purchases nearly 70% of its raw material requirement from Sun Pharma. Since it will not be making any products, it will obviously stop buying these raw materials. This will have a direct impact on Sun’s manufacturing operations here. But Caraco can continue to market Sun Pharma’s products in the US market.

The financial impact is one aspect but such events also hurt the company’s image in the international market. The effect on Sun Pharma’s price has been drastic, it fell by 12% or Rs 3,220 crore worth of market capitalisation. That’s a big price to pay for not having paid enough attention to FDA’s concerns. Sun Pharma has a conference call tomorrow morning; it will have a lot of questions to answer.

Here is the FDA press release.

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