The War for e-Pharmacy

Last week, 1mg announced a $50MM fundraise to take on Netmeds and Pharmeasy in an increasingly competitive e-pharma space. 

Not So Easy

Online pharmacies, while being significantly more convenient for customers, are not a game-changing concept.

Medicines and drugs are another product line to be sold online, and by extension have the same properties as an e-commerce channel. These pharmacies provide all the benefits of e-commerce viz. price discovery, transparency and convenience. 

Sounds simple to setup? Not if you’re governed by an act from 1940.

India’s drug distribution laws are still governed by the archaic Drugs and Cosmetics Act (yes, 8 years before independence). Our country’s architects had obviously notheard of the internet. 

The act was last amended 23 years ago, which suffices to say that it is not online ready. The act was obviously built with consumer protection in mind, but the gist is that you need a license to distribute in each state.

Imagine the logistical complexity if Flipkart needed to do that for its phones. 

A Rush of Drugs

What seemed not so easy, Pharmeasy decided to contradict with its name. 

Unperturbed by the challenges faced due to regulatory hurdles, Pharmeasy set up shop in 2015 to distribute drugs online. 1mg soon followed suit, and Netmeds spun out of Dadha’s and Co in 2016. 

By 2016, Pharmeasy would raise $5MM, 1mg took $26MM and Netmeds raised$50MM. The 3 players had almost $100MM to ship medicines to Indians online. 

The game was on. 

The three companies did more or less the same thing, which was to sell drugs online. Apart from drugs, the companies would also add other related services like diagnostic tests and healthcare products. 

The question here is – what would be motivating 3 players to do exactly the same thing? Why would investors back three similar companies, all in the span of 1 year?

A giant market for the taking, of course.

Billions for Blistering Brands

The Indian pharmaceutical market is one of the largest sectors in India, with the industry pegged at $30Bn, expected to reach $50Bn in 3 years. 

The market is so big, that annual sales of just anti-diabetic drugs are as much $3Bn. 

Indian Pharma has grown in prominence over the last decade, driven by India’s push into generic drugs. Sun Pharma, Lupin, Cipla and multiple Indian brands have grown incredibly fast, and in the process created multi-billion $ companies. 

50% of India’s pharmaceutical drugs are exported, and India accounts for 20% of global exports. The domestic market is growing at 15%, driven by increasing incomes, health awareness and easier availability of healthcare.

As Indian companies grow to create drugs for the world, so would consumers begin to purchase with greater frequency. For generics, that are essentially the same drug with different packaging, distribution and marketing are the real keys to success.

Distribution, though, was costly. 

Mercy of the Middleman

Pharmaceutical drugs have elaborate, and well-oiled supply chains.

After the company manufactures the drugs, the drugs are distributed to regional warehouses, then wholesalers, then retailer and finally to the consumer. 

Each layer in the supply chain is to be compensated for the value it adds. Due to the price sensitivity of the consumer, each layer operates on wafer-thin margins.

Recall the fact that to distribute drugs, you need a license in each state (and sometimes each district). There are different kinds of licenses, wholesale or retail, that you need to apply for to be able to operate. 

This regulatory framework is precisely the reason why there are so many local pharmacy stores. Buyers of pharmaceutical drugs are price and time sensitive, and hence would want drugs cheaply and fast. 

Licenses create a “barrier to entry” for procuring and distributing drugs. Distributors who don’t have the license to procure in a particular state, but have a license in another one, would have to send their drugs across two states.

Losing both the advantage of time and cost would make a larger, but faraway, pharmacy lose its edge over a local pharmacist.  The outcome has resulted in more than 500K+ pharmacies and 60K+ stockists. 

The middlemen had created a huge, disorganized market. 

A Disorganized Cartel

The disorganization, though, did not mean that the local pharmacies did not have heft. 

The myriad regulations that each state have are already incredible friction for a startup with limited resources. With license issue a process, there is potential forpressure from incumbents. 

The license pressure, though, would only be the start of large scale cartelization by local pharmacies.

In classic disruption battling strategies, incumbents with vested interests (i.e. local pharmacies), would push for having e-pharmacies “following the rulebook”. The irony is that a lot of these local pharmacies flout these very rules, such as providing medication without prescriptions for certain drugs. 

These calls for “transparency” have resulted in witchunts for e-pharmacy players. In cooperative behaviour that is unlike any other online e-commerce market, all e-pharmacy players came together to form an association that lobbies for their interest. 

Strong lobbies have resulted in oscillating between punitive high court bans for e-pharmacies to beneficial drafting of specific rules for e-pharmacies. 

Right Shade of Grey

Grey areas in law is a risky place to do business, but if the laws move in your favour they can result in outsized returns. 

e-Pharmacies operate in the grey of regulations, and because rules are uncertain, large players in the market will be rewarded in an outsized manner if rules move in their favour. 

There are already positive signs for the e-pharmacies, which only account for 1% of the overall market today. 

If the rulings fall in the favour of e-pharmacies, they could free online pharmacies of having state-specific licenses. A domestic license would be enough for online players to distribute drugs all across the country, which provides significant abilities to scale. 

With recognition on the right side of the law, e-pharmacies will be able to combat local pharmacies better. Patients will trust e-pharmacies more because of their transparency.

Trust, though, will be a bigger hurdle than regulations for e-pharmacy players. 

Love Thy Neighbouring Pharmacy

Medicines, unlike like electronics or food, are extremely critical to health.

Patients, especially for chronic illnesses, can’t afford to take medication that is spurious or ineffective. That decision would literally be life-threatening. 

Local pharmacists, and rightly so, build decade long relationships with patients. Patients, therefore, trust these pharmacists with their lives, and making someone switch is incredibly hard. 

Drugs for chronic illnesses are generally more expensive than off the shelf medication and are therefore more profitable. Patients of these chronic illnesses are usually older and are loath to trust a “newbie” online player. 

This turns out to be a double whammy for online pharmacies and is going to be a challenge for them to solve. 

That could mean bleeding to win. 

Racing to the Bottom

Given that online pharmacies are distributors of “commodity” drugs, the three large e-pharmacy players are racing to acquire customers in a land grab.

The necessity to acquire customers is evident if you look at economics. Pharmacy retailers make 10-15%, while distributors make 25-30%. Assuming a 25% margin for a drug that sells for 30 INR, an e-pharmacy makes 7.5INR. Assuming a spend of 150 INR to acquire a customer, it needs 20 purchases before a customer breaks even.

The business is one of repeat. 

The implication is that customers will necessarily purchase repeatedly, and acquiring them first is critical. e-Pharmacies will, therefore, spend significantly on customer acquisition, both through marketing and even a 60% discount on products. It is little wonder 1mg burnt $20MM on revenue of $10MM. 

That said, e-pharmacies don’t have network effects, because the supply side is one entity (unlike multiple restaurants on Swiggy).

Being large, though, provides significant economies of scale that can help with the war.

A Complex War

e-Pharmacies, with 1mg raising $93MM, Pharmeasy at $108MM and NetMeds at$100MM, are significantly well capitalized.

Notice the “coincidental” equivalent fundraise, which has happened due to nothing but the game theory of each investor group upping its “stake on the table” to win. The company that is able to raise from a large investor (ahem) is likely to get a significant advantage. 

Not only are the three companies fighting with each other, but they are also fighting with a massive group of incumbents. Unlike retail, where similar small shopowners exist, local pharmacists have significant heft due to trust and regulatory advantages.

Capital will be spent on both customer acquisition and managing regulations. Customers will benefit from a better experience, transparency and competitive pricing. 

The winner of this three-way war will likely change the way we buy medicines.