Wind beneath his wings

On a scorching humid day in Mumbai, an Audi unobtrusively zips across the driveway of a suburban hotel. The doors open to reveal India’s most reticent billionaire, who steps out amid a flurry of camera flashes from the assembled media contingent. Dressed in a simple white shirt, the gentleman quickly slips into a coat. And it’s not just journalists — even analysts from research houses mill around him with requests for a meeting. He nods politely. If the media and the Street are willing to eat out of the tycoon’s hands, it’s not without reason: the man in question — Dilip Shanghvi — runs India’s largest drugs company, worth ₹16,000 crore in revenue and ₹2.28 lakh crore in market cap. 

The managing director of Sun Pharmaceutical Industries meeting the media is a rarity, considering he lets his work do all the talking. A rare display of his standing in society was seen a few years ago when his son Aalok got married to Priyanka, who is from the family that promotes Deepak Fertilisers; the political dispensation of the time turned up in large numbers for the wedding. In the recent past, Shanghvi was also a part of the prime minister’s delegation to Japan along with other prominent names. 

Today, he is here to announce the formal completion of Sun Pharma’s $4-billion merger with Ranbaxy, the troubled domestic pharma company owned by Japan’s Daiichi Sankyo. For a change, Shanghvi drops his guard and flashes a smile at the assembled contingent.

A man of few words, Shanghvi possesses the rare ability of understanding both commerce and pharmaceuticals. This ability allows him to seamlessly move from an issue like generic drugs to Ranbaxy’s dwindling profitability in some markets with élan over the course of the 45-minute media interaction. Shanghvi is understated but reveals his tacit aggression remarkably well.

When he says something gently, the point comes across clearer and firmer than usual. But he can be witty as well, especially when talking about his son, who heads the emerging markets business at Sun Pharma. “Markets like Russia and Ukraine have witnessed a devaluation in their currency. In that sense, Aalok has a very interesting job,” says the father, barely holding back his laughter.

The only other time that Shanghvi stepped out of this pharma-commerce binary for a media interaction was to talk about his investment in wind turbine maker Suzlon Energy. For someone as reticent as Shanghvi, going public about his personal investment is as intriguing as the investment itself.

Out of thin air

Suzlon was once the darling of investors but lost its way in recent years. Promoted by Tulsi Tanti, the Pune-based company wilted under its expensive buyouts and a drying order pipeline post the 2008 financial crisis. Losses mounted and its balance sheet bloated with debt that could shake the confidence of even a hardened businessman. It finally ended up on the bankers’ table, who threw it a lifeline by restructuring its debt. Both Suzlon and Tanti survived. But their mediocre existence got a fresh breath of air when Shanghvi decided to play white knight. 

A deal was struck through Shanghvi’s eponymous personal investment vehicle Dilip Shanghvi Family and Associates (DSA), which infused ₹1,800 crore for a 23% stake in Suzlon at ₹18 a share (see: Who holds what). Post the investment, DSA shareholders will hold 23% equity, while the Tanti family will hold 24% shares. But management control will vest with the Tanti family by virtue of the pooling arrangement for voting. Kirti Vagadia, group head, corporate finance, Suzlon, says, “Absolute control will remain with the Tanti family. The shareholding of the family will be higher than DSA.”

However, a voting pool arrangement will ensure DSA has the right to vote along with the Tanti family. According to Shriram Subramanian, founder and managing director, InGovern Research Services, a corporate governance advisory firm, the pooled arrangement means that DSA will get voting rights but those will be pooled along with Suzlon’s promoters’ voting rights.

The turbine maker has used such pooling arrangements in the past, where its defacto voting rights are higher than the beneficial ownership interest. One such instance was when Suzlon acquired Areva’s stake in REpower Systems; the company then took its aggregate ownership in REpower to 66%, with pooled voting rights at 89%, including the stake held by the largest shareholder, Martifer.

Coupled with the corporate debt restructuring, the fund infusion through a preferential issue couldn’t have come at a better time for Suzlon. The question, though, is why has Shanghvi taken a shine to this company? Wind power is a business far removed from pharmaceuticals, an industry in which the 59-year-old has spent pretty much all of his working career. The buzz on the street is that the government’s relentless focus on renewable power, which includes both wind and solar energy, is a big reason for his interest. 

Just as unconventional his investment may seem, it’s no different from the way Shanghvi grew his business.

In good health

Dinesh S Patel, managing director and CEO of Mumbai-based active pharmaceutical ingredients (API) manufacturer Themis Medicare and Shanghvi’s friend for over two decades, describes the man’s style of functioning as distinctly Japanese. “He is extremely introverted and can absorb a lot of information effortlessly,” he says. A commerce graduate from the University of Calcutta, Shanghvi is said to have spent six months in the early 1980s at the Bombay College of Pharmacy just to learn the basics of the pharmaceutical world from scratch. Over time, he would also figure out how to make a robust business out of it.  

From modest beginnings in 1983 with a capital of ₹10,000 to becoming India’s largest pharma company — with a market share of 9% — and the world’s fifth largest generics player, Sun Pharma has grown thanks to Shanghvi’s focus on running a tight ship and his penchant for not overbidding for assets while acquiring companies, unlike his peers. Even the segments that the company is present in were chosen very carefully — Sun Pharma’s debut foray was into products used to treat psychiatric ailments. Again, there was a sound reason behind that. “The segment was then characterised by low volumes, high margins and, more importantly, these medicines were recommended by a limited number of doctors,” Patel adds.

Rather than fighting multinationals and going after larger segments such as anti-infectives and gastro-intestinals, which needed a larger distribution and sales force, Shanghvi chose to go after chronic therapies such as psychiatry, cardiovascular disease, neurology, oncology and dermatology. As people’s lifestyles became more stressful and sedentary, demand for these products shot up steeply. 

He used the extra profits generated by these high-margin products to expand his footprint in the domestic and overseas market. The investment made by Shanghvi in Suzlon is in line with his now time-tested strategy of buying distressed assets. Themis’ Patel says this was evident even in the past, when Shanghvi didn’t waste time building factories. “This was obvious when he bought good assets such as Gujarat Lyka (for its bulk drugs business) and MJ Pharma (for antibiotics),” he explains. MJ Pharma’s manufacturing plant went on to become Sun’s first US food and drug administration (USFDA)-approved plant for formulations.

The company also acquired Tamil Nadu Dadha Pharmaceuticals (TDP) in 1997, mainly for its portfolio of cancer drugs. In 1999, for its foray into ophthalmology, Sun bought into Milmet and went on to build a successful franchise in that segment. Its foray into the overseas market began with the acquisition of Caraco in 1997 to enter the US market and the company has since gone on to complete 14 buys, including its recent acquisitions of URL’s generics business in the US from Japanese company Takeda, specialty dermatology company Dusa and the sterile injectable capacity of US-based company Pharmalucence.

Some of the takeovers haven’t been easy and that was no more evident than when Sun pitched for control of Israel’s Taro Pharmaceutical Industries. The deal had gone back and forth from the time it was announced in mid-2007. Taro’s investors, including Franklin Templeton chairman Mark Mobius, opposed the $454-million acquisition (valuing Taro’s equity at $230 million and the balance being debt) on the grounds that Sun’s price was too low and was unfair to the minority shareholders. After a protracted three-year battle, Shanghvi bought out the majority shareholder.

“He is not a man who demonstrates aggression. Even if he does, it is only by thought and action and never by his tongue,” says Patel in the context of the Taro deal. Not to mention that Shanghvi was quick to spot a once-in-a-lifetime opportunity when Taro was on the brink of liquidation, unable to pay $15 million to its bondholders. In three years’ time, with some help from its profits, Taro managed to bring its net debt down to $23 million, which brought the overall acquisition price tag down even lower.

Nearly eight years later, that investment is now worth over $4 billion. But Shanghvi reserved the masterstroke for his home market, demonstrating his skill in hiring the right talent and spotting the right opportunity by snapping up pharma company Ranbaxy.

The right deal, the right people

It is widely known that Shanghvi is a family man and converses in fluent Bengali thanks to a childhood spent in Kolkata, which also explains why his close circle is made up of people from the city. Leisure time, a scarce commodity for Shanghvi today given his business commitments, is most often spent with his wife and two children in Mumbai or at his weekend home at Pavana Dam, a picturesque location about two-and-a-half hours from Mumbai. 

Within the pharmaceutical fraternity, he enjoys a personal relationship with the likes of Zydus Cadila chairman and managing director Pankaj Patel, Torrent Group chairman Sudhir Mehta and Patel of Themis. He is known to pick his friends and staff very carefully and oversees all new product launches, getting personally involved in the nitty-gritties of the business.

 But as the company got bigger and the business more global in nature, Shanghvi was quick to realise that there needed to be a change in leadership. He brought in Kal Sundaram in 2010 as CEO and additional director on the company board. Prior to this, Sundaram was the managing director of the Indian arm of GlaxoSmithKline Pharma and also spearheaded its emerging markets strategy. Sundaram is now the CEO at Taro. 

Another of his notable appointments was Teva’s former CEO Israel Makov, who was anointed as Sun Pharma’s chairman in May 2012. Makov is known to be responsible for driving Teva’s revenues from $2 billion to $8 billion in the five years during which he headed the company and is known to be extremely close to Tokyo’s investment banking folks, a community dominated by Jews. In fact, it was this network that helped clinch Sun’s deal with Daiichi.

A pharma industry CEO points out that Makov drove the transaction single-handedly to convince Daiichi of its merits. “There was no way the deal could have been finalised otherwise,” he says. In India, the pharmaceutical circle was buzzing with ‘something big’, even as the Ranbaxy stock moved sharply.

But the truth of the matter is that the Sun-Ranbaxy merger came with more than its share of challenges. Ranbaxy was acquired by Japanese pharmaceutical major Daiichi for $4.6 billion in mid-2008, including the holding held by the Singh brothers, who were a part of the promoter family. It has been a rocky ride for Ranbaxy since then, with the USFDA banning the import of products from four of its plants.

Effectively, this prevents the company from shipping its products to the US market. In that sense, Daiichi’s decision to exit India and merge Ranbaxy’s operations with Sun has been a distress sale; the company’s valuation has dropped significantly since 2008. If that transaction was struck at $4.6 billion, Shanghvi acquired Ranbaxy in April last year for $4 billion, including a debt of $800 million.

More than anything else, Shanghvi will have to contend with a pretty serious loss of reputation at Ranbaxy’s end. “Ranbaxy comes to the table with some heavy baggage. It will be imperative for Shanghvi to break that mould and subsume Ranbaxy into the culture of Sun, which is a very successful company,” thinks Ranjit Shahani, vice-chairman and managing director, Novartis India.

According to him, this will call for a new way of working and a total alignment in thinking by the incoming Ranbaxy team. “Change in management will play a pivotal role in the success of this deal,” he adds. Shanghvi himself is blunt about this and told the media that Ranbaxy has suffered a loss of trust. “We are committed to doing whatever it takes and win back the confidence of the regulator. They must trust what we do and trust what we say,” he said, employing his characteristic euphemisms. 

How Shanghvi tackles the challenges at Ranbaxy will be interesting. According to Hemant Bakhru, CLSA’s pharma analyst, the FDA today is a lot more proactive than it was in the past. “There was some leeway earlier. Today, there is a clear progression from just an observation letter to eventually banning a factory,” he says.

In fact, Sun Pharma’s facility at Halol, which contributes around 20-25% to its profits in Gujarat, was subject to a surprise audit in September last year. The company has since responded to all the concerns raised and is waiting to hear from the FDA. However, there are no concerns over the import alert sounded in the past as there were no data integrity issues found, just procedural irregularities, which, if not resolved quickly, could impact future approvals.

Bakhru points out that the merger is merely the coming together of two generic businesses. “In that sense, there will be several overlaps in areas such as sales and R&D. If there are two teams today, they might not both actually be required,” he says. According to him, many of Ranbaxy’s manufacturing facilities banned by the FDA could be shut down as part of the manufacturing realignment process.

Industry insiders maintain that Shanghvi is already in the process of placing his own team in senior positions, which will lead to exits at Ranbaxy. Synergy benefits, stated Shanghvi, would be to the tune of $250 million over the next three years. He was candid enough to admit that Ranbaxy’s R&D engine had slowed down. “At one time, it had 20-25 products in the pipeline. That has slowed down and we need to understand why that is the case,” he said.

Uphill battle

Like Ranbaxy, Suzlon, too, was battling its own set of issues. The paucity of working capital is what did the company in and that, combined with expensive buyouts in the international market, ensured that the balance sheet was laden with debt. 

If that was not bad enough, Suzlon defaulted on its foreign currency convertible bonds worth $221 million. All this put together led to a corporate debt restructuring (CDR) exercise which, though effective from October 2012, was approved in April 2013.

The $1.8-billion programme, which saw the participation of a consortium of 19 banks, all giving a shot at saving the company, includes a two-year moratorium on principal and term-debt interest payments, a 3% reduction in interest rates and a six-month moratorium on working capital interest. Also, ₹1,500 crore will be converted into equity over the next two years. 

The result of all this was a lack of focus in the domestic market, which led to serious erosion in market share. From a 60% share in FY08, Suzlon’s market share fell to around 45% two years later. The real hit was in FY14, when its India sales were only 75 MW on total wind installations of 2,077 MW, translating to a measly 4% share. In FY15, Suzlon installed 450 MW on a total base of 2,310 MW in India, accounting for a healthier 19% market share.

Madhusudhan Khemka, managing director of Chennai-based ReGen Powertech, the third-largest player in the wind energy business with a turnover of ₹2,300 crore last year by market share, puts it simply when he says working capital is a key requirement in the business. “For a WTG manufacturer to clock a turnover of ₹3,000 crore, the working capital requirement is between ₹1,200 crore and ₹1,500 crore, which is 40%-50% of the top line,” he explains. 

According to Ramesh Kymal, managing director of the ₹5,000-crore Gamesa Wind Turbines, the biggest player today, it takes about eight months from the time the order is placed to commissioning the WTG. “It is critical to get favourable terms from your suppliers and customers. This is a business with low profitability and volumes are extremely critical,” he says. The global rule of thumb for a very well-run WTG company is rarely more than a 10% margin at the operating level. 

“You will be in trouble if you do not watch your cash management carefully,” adds Kymal. UR Bhat, managing director, Dalton Capital Advisors (India), explains that the business of manufacturing WTGs is like any other engineering business that is capable of generating reasonable margins in an expanding market. The turnkey approach is unique to India, while in the rest of the world, the big players typically restrict themselves to the manufacturing of WTGs.

Bhat points out that this approach comes with its own unique set of challenges. “It involves land acquisition, getting governmental permissions, developing the site infrastructure and arranging for power evacuation. All these are time-consuming, uncertain and expensive and have serious implications on the working capital intensity of the business,” he says. 

Suzlon was a victim of this and was stuck with huge inventory and very poor execution capabilities. Consequently, it racked up debt to the tune of ₹17,000 crore, which became a huge cause of concern. The company has been in the red since FY10, with sales almost remaining unchanged over a five-year period.

The sale of Senvion, earlier known as REpower Systems, which was meant to give it a foothold in overseas markets, substantially knocked off that mountainous debt figure. “This was important from the company’s survival point of view, given how much it was overleveraged,” says a banker familiar with the process. 

This was not such a pleasant decision, given that Senvion was sold for €1 billion (₹7,200 crore) earlier this year against an acquisition price of €1.3 billion (₹7,315 crore) in 2007. As part of its four-pronged strategy, the company now plans to focus on markets such as India, US, China, South Africa and Turkey (see: Changing course). The other important change is the company’s decision to go in for an asset-light/debt-light structure by reducing its fixed expenses and interest costs.

Suzlon’s focus on India is easy to understand and is a strategy that companies like ReGen, too, are in agreement with, given that annual wind installations are expected to rise from 2,310 MW in FY15 to 4,000 MW in FY17E. 

Khemka points out that success in the international markets calls for a player to be in the range of 500-1,000 MW or well in excess of 10,000 MW. “There is nothing in between and that is what makes it extremely difficult for Indian companies to compete. Besides, we will be up against giants like GE and Gamesa, who have very deep pockets,” he says. The timing of Shanghvi’s investment in Suzlon was uncanny since it came just three weeks after the decision to sell Senvion.

Suzlon, now a company with some money at its disposal, could get back to just doing business (See: Winds of change). The company’s total debt today stands at ₹7,700 crore, as compared with the earlier ₹14,000 crore. Both Suzlon and DSA will form an equal joint venture, where each will also invest ₹400 crore for developing 450-MW wind farms. 

All in the family

Like many of his acquisitions, the Suzlon deal has also been structured by Shanghvi’s brother-in-law and Sun Pharma executive director, Sudhir Valia, who has a patent in financial structuring to his name. The fact that this field is his forte is evident from the intricate deal structure, which features about 20 companies and individuals stated as acquirers. Valia opens up on what the family saw in Suzlon.

 “The company has technical capability, though it was not able to manage its finances too well. There were some mistakes that were made, leading to a setback,” he explains. According to him, banks, beyond the debt restructuring, were unwilling to support Suzlon and this was in a scenario where the government was bullish on renewable energy. 

In every sense, this is a business that is far removed from pharmaceuticals, with nothing in common between the two fields. “Of course, this is a different ball game. Engineering is a subject that the management of Suzlon knows and financial engineering is something that we know,” he says, laughing. The investment is already paying off: ever since the deal was announced, Suzlon’s stock has moved sharply from ₹18 to ₹24.5 as on April 24, a neat 36% gain.

In Valia’s mind, there is absolutely nothing different when it comes to making a personal investment as opposed to one that Sun makes. “The criteria is not return but about the sector that we want to be in. It really comes down to recouping our investment over three to five years,” he says.

Either way, according to him, DSA has a lock-in period of two to three years on the investment in Suzlon. “What we do beyond that will depend on the chemistry between the parties and challenges in the business at that stage,” thinks Valia.

For now, the immediate agenda for Suzlon is to break even in a year’s time and simultaneously ramp up the business on the back of the fund infusion. “Yes, time has been lost and we expect the company to attain full form and shape by FY18,” Valia says. By that time, the company is expected to get to a market share of at least 40%.

Renewed interest

Shanghvi’s interest in renewable energy is clear as day, with his son Aalok having set up PV Power Technologies in 2008. Its products include residential and commercial solar rooftop installations, water pumping systems and telecom towers. Its balance sheet, sourced from the ministry of company affairs website, indicates a share capital of ₹1 lakh and long-term borrowings of ₹12.65 crore. How the solar energy project will coexist with the wind business is still not clear.

Valia is, however, quick to clarify that PV Power is “a very small business” and was merely a learning for Aalok before his foray into pharma. “There is no plan to grow the business. I would think Suzlon getting into solar energy at some point would be a more logical progression,” he says.

But there are inherent advantages in renewable energy compared with conventional energy, which could have prompted Shanghvi’s level of interest in the area. Renewable energy is characterised by a high capex outgo and low operating expenses, while conventional energy is quite the opposite — both have an outgo of ₹6.5 crore-7 crore to produce 1 MW of power.

Within the renewable energy spectrum, wind incurs more costs, since it works at a plant load factor of 20-23%, while the figure is 19-20% for solar (as compared with 80% for conventional). “The low plant load factor in wind energy is what makes it so expensive on a capex level. However, it has absolutely no running cost, which is a huge advantage,” says Gamesa’s Kymal.

Of course, both solar and wind energy have their own sets of challenges. “If sunlight is the key in solar energy, the determinant in wind energy is the availability of land,” says V Saibaba, CEO, Lanco Solar. In India, the wind energy story today is restricted to a handful of states such as Tamil Nadu, Andhra Pradesh, Karnataka, Maharashtra, Gujarat and Rajasthan.

But incentives such as accelerated depreciation, which allows a customer to claim 80% depreciation in the first year of installation, or generation-based incentives are other reasons for a player to be in renewable energy instead of conventional energy. Operating costs for wind stand at no more than 1-2% of the total cost, much of it relating to maintenance. For conventional coal-based plants, this figure can rise to as much as ₹1.8 per unit of power generated. Saibaba says rising coal prices and the possibility of coal not being available can play havoc with the business. 

Another factor that works in favour of renewable energy relates to the minimum project size. For a conventional power project, it is impossible to get started with anything less than 50 MW, which will involve an outgo of not less than ₹300 crore. Even if banks are willing to fund 70% of that, a promoter will necessarily need to bring in as much as ₹100 crore as equity.

A renewable energy project can get started with as little as 5-10 MW, resulting in an outgo that is never more than ₹60 crore. “Both have high financing costs at 12-13% per annum. Today, it is possible to generate an internal rate of return of 15% in a wind energy project without the worry of high operating costs,” adds Saibaba.

Newer horizons

Even as his intent in Suzlon plays out, Shanghvi is also looking beyond renewable energy. In his personal capacity, Shanghvi has also made small investments in the pharma space. The first was in 2011, when he acquired an 11% stake in Israeli firm BioLight Israeli Life Sciences Investments for ₹14 crore, followed by the acquisition of a 3.5% stake in Natco Pharma for ₹25 crore in the same year (now worth at least nine times that figure at ₹225 crore). Shanghvi has also ventured into investments in other sectors such as telecommunications and payment banking. An investment by one of his family investments firms Lakshdeep Investments in Telewings Communications in October 2012 paid off after it was sold to Telenor India for an undisclosed amount in 2014. The buzz is that it was sold at a profit of at least 3X. 

For now, however, he is moving quickly and enigmatically, both traits that have stood him in very good stead thus far. It is not yet clear, though, whether these traits will hold out in sectors where he has no prior experience. In February this year, Shanghvi put in an application to run a payment bank, an establishment that can only take deposits but not lend. He is not alone in this exercise — other applicants include names like Vodafone, Bharti Airtel and Videocon. 

Just a week later, Valia picked up a 50% stake in his personal capacity in Pay Point India Network, a payment solutions provider. This was soon followed by Valia investing ₹73.5 crore in buying stock of Greenply Industries. The thinking here is clear and that is about Sun Pharma never looking outside its core business and everything else coming out of the family’s personal investment vehicle.

“For instance, Pay Point has nothing to do with Sun Pharma, which will remain core to the family. We see a big opportunity in this business and will need to work with a large mobile operator,” adds Valia.

In the past five years, the promoter family received ₹1,220 crore as dividends alone and Shanghvi is actively working with Valia to look for avenues to deploy the cash that future dividends will bring. Valia sees software as yet another business opportunity that appears “fascinating”.

The sector is not exactly new for the Shanghvis as Sun Pharma has developed a software package for its laboratory information system (LIS) and this was totally built in-house. “Wipro liked what we did and has been keen to market it to other laboratories. Obviously, that is a big opportunity,” explains Valia.  

That Shanghvi is a shrewd businessman is a no-brainer — you don’t become India’s richest man by being plain lucky. Those who know him do not hesitate to call him a workaholic. Shanghvi has earned a reputation of always playing his cards close to his chest. 

Shanghvi, who hails from the enterprising Kapol community in Gujarat, has his hands full for the next few years at least, by any stretch of the imagination. His track record of turning around distressed assets in his core pharma business is legendary and if he follows his strategy of taking measured risks in his personal investments, the odds are more likely to be in his favour. Most analysts agree that Suzlon has the best product offerings in the market and that the company lost the plot by becoming over-ambitious. 

While it lost out on projects due to funding constraints, Suzlon should make the most of the growth in the domestic wind energy market, especially now that government incentives have been restored. Shanghvi probably picked the best time to enter the company and if he manages to keep the checks and balances in place at Suzlon, he is not going to be displaced as the richest Indian anytime soon.

The light-hearted banter among Shanghvi’s peers is that the gentleman concerned is full of ideas and much of that comes from the Harry Potter novels that keep him company on long-haul flights. But the truth is that much like Rowling’s protagonist Harry Potter, Dilip Shanghvi is indeed a wizard in his own right.