Kalyan Pharma Ltd.
Abhinandan K Jain, G Raghuram and Pramod K Agrawal
The case presented in this issue focuses on
the interaction between the logistics and
marketing aspects of KPL—a frontrunner in
the pharmaceutical industry. The key
strategic question is what distribution
system to have to ensure good customer
service as well as improved profitability.
Readers are requested to send their
responses on the case to Vikalpa office.
Abhinandan K Jain and G Raghuram are
members of the faculty in the Marketing Area
and Public Systems Area respectively, and
Pramod K Agrawal is a Research Assistant at the
Indian Institute of Management, Ahmedabad.
Vol.18, No.3, July-September 1993
In May 1991, Mr Sushrut, Director (Marketing) of
Kalyan Pharma Ltd. (KPL), Vatva, was reviewing the
new distribution system implemented in the phar-
maceutical division. The broad objectives behind the
adoption of the new system were to improve customer
service and sales promotion, and to bring down the cost
of distribution so as to improve profitability. He was
especially concerned about the order processing time
and the stock levels at different points in the distribu-
tion system (at the finished goods store, the regional
depots and the distributors).
KPL manufactures about 60 different products. The
distribution network consists of 16 KPL regional depots
(KRDs), 24 branch offices, 40 distributors located in
various states, about 2,000 stockists/wholesalers and
around one lakh retailers. Exhibit 1 lists all the KRDs,
branches and the states covered by each of the branches.
The flow of goods and orders along the channel is given
in Exhibit 2. There were about 687 medical repre-
sentatives in all the branch offices who took orders from
stockists and doctors. Nearly 4,000 salesmen of the
stockists maintained the order flow with the retailers.
Company Background
KPL was incorporated in 1907 with a paid up capital of
Rs 5 lakh. In 1990, the company's paid up capital stood
at Rs 411 lakh. Since its incorporation, the company had
diversified into the manufacture of different products:
glass, pesticides and chemicals, pharmaceuticals,
veterinary products and polypropylene fibre. Glass and
Pesticides and chemicals now existed as independent
companies. Pharmaceuticals, Veterinary products and
Polypropylene fibre were produced and distributed by
the company through independent divisions. In 1988-
89, a part of the product range of pharmaceuticals was
promoted as a separate division (Megacare), primarily
as a sales promotion strategy.
The annual sales turnover of the company in-
creased by 11 per cent in 1990-91 over the previous year.
37
The respective figures were Rs 138.63 crore for the year
ending 31st March, 1991, as against Rs 124.94 crore for
the previous year. The company earned a net profit of
Rs 1.20 crore for the year 1990-91. Exhibit 3 gives some
key statistics reflecting the performance of the com-
pany.
The sales (including export incentives) of the
pharmaceutical division, the largest division of the
company, was Rs 105.56 crore in the year 1990-91 as
compared to Rs 95.29 crore for the previous year,
registering an increase of 11 per cent. The same trend of
growth in sales has been exhibited in the previous years.
In 1976, KPL's sales was about Rs 25 crore and the
product line included antibiotics, vitamins, sulpha
drugs, anti- diarrhoeals, tonics and health restorers/and
cough and cold remedies. In the year 1990-91, the
product line included antibiotics, cough syrups, and
nutritional, cardio-vascular, anti-asthmatic, anti-TB,
anti-ulcer, vitamins, anti-arthritic and anti-cold
preparations. Due to the company's continued focus on
introducing new and competitive products in the phar-
maceutical division, KPL had maintained a consistent
market share of 2.8 per cent to 3.1 per cent throughout
the last decade. The company also continuously as-
sessed the performance and potential of its product
range as a result of which old and obsolete products
were eliminated.
Development of Pharmaceutical Industry in
India
Over the years, the Indian pharmaceutical industry has
been registering a consistent growth. The capital invest-
ment in the industry had risen from Rs 56 crore in 1962
to more than Rs 750 crore in 1989. The sales of phar-
maceutical products had also increased from Rs 70 crore
in 1960 to Rs 3,360 crore in 1988-89. There had been
considerable improvement in the export performance
too (Exhibit 4).
Prior to the second five-year plan (1956-61), the
manufacturing of pharmaceutical products by the In-
dian firms was largely limited to processing of bulk
imported drugs into tablets, capsules and other for-
mulations. Under agreement with foreign firms, they
were also making patented and proprietary medicines
including antibiotics in the form of injectibles, powders,
ointments and liquids. During the second and third
five-year plans (1956-61 and 1961-66), due to changes in
the political climate, manufacturing units were set up
38
to start indigenous production of basic (bulk) drugs.
Production of drugs like penicillin, streptomycin,
chloramphenicol, broad spectrum antibiotics, vitamins
and synthetic drugs (like sulpha drugs, aspirin, etc.)
was emphasized. During and after the third plan, the
government reconsidered its policy and not only
restricted the imports of essential drugs and raw
materials but also checked foreign capital investment.
The maximum growth of the Indian private sector was
recorded in the decade 1962 to 1972, because of the
government's policy of liberalization of licenses and
loans and encouragement to local entrepreneurs. The
industry, since then, has been expanding, despite cer-
tain problems due to non-availability of superior tech-
nology and trained personnel.
The Indian pharmaceutical industry can be broadly
categorized as public sector, foreign sector, Indian
(private) sector and small scale sector. In 1990, there
were about 8,000 firms engaged in the production of
drugs and pharmaceuticals, out of which 200 units were
registered under the Director General of Technical
Development and recognized as organized sector.
These 200 units constituted the core of the industry and
had a share of over 40 per cent of the total drugs and
pharmaceutical production and exports. The industry
was fiercely competitive. In response to this, some large
companies floated separate marketing companies to
augment their promotional efforts.
Until the 1930s, the Indian consumers obtained
medicines as dispensed by the doctors themselves
rather than buying medicines from medical retail stores
on the basis of a prescription. Even in the 40s, the market
for the dispensing items was more than 80 per cent
whereas the prescription segment was only about 10
per cent. The latter method slowly gained dominance,
and in the 70s, constituted around 90 per cent of the total
pharmaceutical market. The number of doctors over the
years has increased from 1,10,000 in 1970 to 2,50,000 in
1990. The growth in the number of chemists has been
faster as the prescription mode of buying has gained
almost complete dominance.
Marketing Strategy at KPL
KPL had achieved its leading position in the Indian
pharmaceutical industry through continuous changes
in its product mix, promotion and distribution which
were in response to the changing market conditions.
In the early years, KPL's product line consisted
mostly of galenicals. These were used by the doctors to
Vikalpa
prepare their own mixtures of medicines for dispens-
ing. As of 1990, the product line of KPL consisted main-
ly of formulations. Approximately 60 different
products were marketed by KPL including antibiotics,
cough syrups, vitamins, nutritional, cardio-vascular,
anti-asthmatic, anti-TB, anti-ulcer, anti-arthritic and
anti-cold preparations.
The Drug Price Control Orders (DPCO—1963,
1970, 1979 and 1986) (Annexure) had influenced the
pricing of products by KPL as well as other companies
in the industry. Currently, about 25 per cent of KPL's
products are under the decontrolled category, i.e., there
is no price control on them. In this category, KPL's
pricing has been in the middle of the industry spectrum.
KPL followed a strategy of extensive promotion of
its product to doctors, institutions and chemists. The
major elements of promotion to doctors were visits by
medical representatives, distribution of free samples,
mailing of product literature/information and free
gifts. The total budget for promotion increased from 5
per cent to 9 per cent of sales over the years. This is in
addition to the 9 per cent commission accounting for
the medical representative's salaries and associated
overheads. The number of medical representatives in-
creased from 300 in 1970 to 400 in 1980 to 687 in two
divisions (KPL and Megacare) in 1988.
The major elements of KPL's distribution strategy
were its wide network and open door policy. Under the
open door policy, any chemist could directly ask KPL
for its products. Till recently, this strategy was sup-
ported by 42 branches all over the country.
Distribution at KPL—Historical Profile
The major thrust of the company's distribution strategy
was on seeking the widest possible retail coverage. The
distribution system which had changed over the years
is described below:
Pre-1972: Sole Selling Agency
In the period before 1972, KPL had appointed an ex-
clusive sole selling agent for distribution, while it
directly concerned itself with marketing. The agent dis-
tributed all the company products on a commission of
15 per cent which was to cover the entire distribution
costs, viz., free delivery to wholesale chemists, ad-
ministrative and maintenance costs of branches includ-
ing inventory holding cost at various points, cost of
extra incentive offered to trade at times and a
Vol.18, No.3, July-September 1993
reasonable margin to the agent. This did not include
selling and promotion costs. The agent developed an
excellent distribution network with about 30 branches
located in important cities and towns throughout India,
selling to about 10,000 wholesale chemists. The
wholesale chemists sold the drug items to retail
chemists, who, in turn, sold them to the consumers after
adding their mark-up. The agent allowed a commission
of 2.5 per cent to 5 per cent to wholesale chemists on
various items. Because of keen competition, the average
mark-up by retailers was approximately 10 per cent.
The selling to the government and institutional markets
was done directly by the agent. The company viewed
its presence through the branches as being its strong
point, especially in serving the secondary and tertiary
markets.
1972-1979: Regional Marketing Companies
With an intention of strengthening its presence in
secondary and tertiary markets, the company formed
four regional marketing companies in 1972, one in each
of the four zones. In this reorganization, the physical
distribution aspects, namely, stocking and movement
of goods were taken over by KPL. However, the task of
promoting the goods to doctors and retailers was as-
signed to the four marketing companies, while the over-
all marketing strategy continued with KPL. The entire
marketing staff were shifted to the four companies.
After the reorganization, there was further growth in
the number of branches. At this stage, the company had
the largest number of branches in the industry.
In the mid-seventies, the company introduced
parenterals and antibiotics whose market was mostly in
the bigger cities and towns. The distribution was done
from the company to branch to retailers. However, this
wide distribution became less economical and difficult
to control. Due to the hike in the prices of raw materials,
increase in wage rate, less efficient and less effective
distribution, the company's profits and market share
started going down.
1979-87: Introduction of Wholesalers
After the DPCO (1979), the retailers' margin was nar-
rowed down from 25 per cent to 15 per cent. Conse-
quently, they were reluctant to deal directly with the
regional distributing company who could not provide
adequate margin. The company then focused on
wholesalers and started giving goods on credit, with the
annual sales target-linked rebate ranging from 2.5 per
cent to 5 per cent. The accounts receivables increased
39
during this period. The products were being used as
"loss leaders" by the trade.
In 1982, the company stopped direct supply to
retailers and instead restricted supply to a few selected
wholesalers. This move was resisted by the All India
Organization of Chemists and Druggists (AIOCD) be-
cause retailer margins were substantially reduced and
given away to wholesalers. Distribution through
wholesalers resulted in lesser effort of invoicing and
order processing for the company. However, the
wholesalers, unlike the retailers, were neither equipped
nor willing to promote the product. This actually
resulted in higher book debts and higher cost of dis-
tribution. The staff at the branch, in fact, spent most of
the time in attending to complaints and collecting debts
rather than on sales promotion.
1987-1990: Introduction of Regional Depots (KRDs)
In 1987, the company decided to shut down half of the
branches, bringing them down from 42 to 21. Stocks
were to be despatched from factory to one of the loca-
tions in a state from where they were to be supplied to
branch(es). This new stock point was called the KPL
Regional Depot (KRD). Most of the KRDs were in the
same city as one of the KPL branches in the state. These
branches performed the functions of sales promotion,
distribution and administration. Flow of goods and
information through various links in the system is
shown in Exhibit 5.
The branches were no longer a link in the physical flow
of goods thus eliminating the functions of receiving
supplies, sorting, stocking and despatching. These dis-
tribution functions and collection of outstandings were
to be performed by distributors for a commission.
Planning for the new system was started in early
1989. Given the strong unionization among the market-
ing staff in the industry, the new channel was imple-
mented completely only by April 1991. The channel
included 40 distributors in different states (See Exhibit
1 for location of distributors).
Results indicated that the inventory levels at dif-
ferent links along the channel had reduced. Customer
service had increased through faster order processing.
The book debts which were a major hindrance to the
profitability of the company had gone down from 90
days to just 7 days of sales. Distribution related staff at
KPL had been reduced from 600 to 200. A comparison
of operational details of both the systems is given in
Exhibit 6.
Future Concerns
Mr Sushrut wanted to evaluate the new distribution
system. He was also wondering what else he would
need to do to strengthen the newly introduced system,
particularly in the context of developments in informa-
tion technology.

The system had a wide distribution network, both

in urban and rural areas. The major disadvantages of
this system were the higher cost of distribution com-
pared to the industry and poor customer service. A
large part of the time of the managers at the branch level
(estimated at 60 per cent) was consumed in distribution
and collections. Consequently, sales promotion was
neglected.

Present System (1991)

Since cutting down the branches resulted in poor ser-
vice and higher cost of distribution, a new link was
added to the distribution channel in 1990. Distributors
were introduced in every state with the purpose of
providing better service to the customer, reducing ac-
counts receivables and improving sales and
profitability. The goods in the new system (Exhibit 2)
were to flow from the factory to KRDs to the dis-
tributors who would then supply to the wholesalers.

40 Vikalpa
• Prices of new drugs have to be approved by the
government.
• Prices of drugs sold in loose are also regulated.
• Manufacturers are required to stamp the retail sell
ing prices on the containers of drugs.
Impact of DPCO, 1963
The freeze on sale prices, without a similar control on
the prices of raw materials, hampered the long-term
growth of this industry by reducing profitability of the
units.
Voluntary price reductions, which were a regular
feature before the price control order, may not be seen
in future.
DPCO, 1970
This was promulgated based on the recommendations
of the Tariff Commission with the following objectives:
• To reduce the prices of essential drugs which were
found to be high.
• To provide sufficient incentives to the industry to
facilitate its growth from the basic stages.
• To develop research facilities and expansion in a
planned manner.
• To promote diversification of entrepreneurship in
future development of industry and thereby pro
vide better opportunity for Indian personnel with
requisite technical qualifications.
• To curb excessive profits.
Bulk Drugs
The DPCO, 1970, divided the bulk drugs into 'essential'
and 'other' bulk drugs, announced the sale prices of 17
essential bulk drugs and froze the sale prices of other
bulk drugs at the level prevailing immediately before
the order.
Formulations
It prescribed a formula indicating norms for conversion
and packing charges for recalculating the prices. Mark-
ups, which were meant to cover the expenses on out-
ward freight, commision to the market functionaries,
promotional expenses and manufacturer's margin,
were dictated:
• All formulations were allowed a 75 per cent mark
up on the total ex-factory cost without any ceiling
Vol.18, No.3, July-September 1993
on profits. Formulations involving greater produc-
tion effort were allowed a higher mark-up of 100
per cent. New drugs made from the drug produced
out of original research in India were provided with
a higher mark-up of 150 per cent.
• Formulations based on essential drugs were al
lowed a mark-up of up to 75 per cent and others a
mark-up not exceeding 150 per cent, subject to an
overall profitability ceiling of 15 per cent pre-tax
profit on sales turnover.
Impact of DPCO, 1970
After analysing the pre-tax profitability on formula-
tions based on the returns received from 58 companies,
the Hathi Committee concluded that:
• The ratio of profitability on the sale of formulations
declined from 15.47 per cent in 1969-70 to 8.53 per
cent in 1972-73 since they were brought under price
control in 1970.
• The sale prices calculated by the formula resulted
in an increase of prices of some of the products.
DPCO, 1979
This was promulgated based on the recommendations
of the Hathi Committee and it replaced the DPCO, 1970.
Under this, the maximum sale prices of selected bulk
drugs were fixed and bulk drugs were grouped into 3
different categories.
The prices fixed by the government were based on
the average cost of the drug of an efficient producer and
allowed reasonable return on net worth. The return to
be allowed was fixed as 14 per cent post-tax on net
worth for bulk drugs used in the production of category
I and category II formulations and 12 per cent on net
worth on other bulk drugs.
Impact of DPCO, 1979
Division of formulations into 3 categories for the pur-
pose of determining the mark-up to be allowed is un-
realistic.
Mark-ups allowed on categories I and II formula-
tions are much lower than the breakeven level. Hence,
there is no incentive to produce such life saving drugs.
As per the order, the manufacturers have to secure
prior approval before revising the prices. Government
approvals are usually granted after a considerable time.
As a result, cost increases remain uncompensated for
45
considerable time. This cuts into even minimum
profitability allowed in granting price revision.
While granting price approvals, the costs accounted
are based on certain norms which favour some and
penalize others.
It does not contain provision for automatic revision
of selling prices to accommodate variations in the
manufacturing costs.
DPCO, 1987
The three categories of drugs have been reclassified into
two categories. Drugs necessary for national health
programme are listed in the first category and other
essential drugs in the second category.
One hundred and sixty six drugs have been
brought under government price control, 27 drugs in
category I (essential drugs) and 139 drugs in category
II.
To regulate equitable distribution and increase
supply of indigenously produced bulk drugs, maxi-
mum sales price was fixed.
46
Formulations of the first category would be entitled
to 75 per cent maximum allowable post-manufacturing
expenses (MAPE) and those of the second category to
100 per cent MAPE.
Impact of DPCO, 1987
In an interview published in Business India, March 18-31,
1991, Mr Mahendra Dadha, President, IDMA, was
speaking about DPCO and its impact on the industry.
He mentioned that even though 70 per cent of total sales
of bulk drugs and formulations was made up of items
under price control, there was no consideration of ac-
tual increases in costs of inputs, conversion and pack-
aging costs while fixing the prices. The prices were fixed
based on 1979 costs of inputs and were increased only
after the recommendations of the Sankaran Committee
in 1986. The increase was, however, limited to 50 per
cent of what was recommended and the remaining 50
per cent was to be increased in two instalments in the
next six months which was not implemented. Since cost
updation was not periodical, many companies were
opting out of the manufacture of essential drugs.
Vikalpa