Achieving Sustainable Cost Competitiveness

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Kedar Upadhye,
Joint President and
Global CFO, Cipla

Sustaining profit margins in today’s volatile and uncertain environment is a continuous challenge. At the same time, landmark changes such as the GST are transforming how businesses operate, and how they manage costs. As the CEO’s co-pilot in driving profitable growth, the CFO’s ability to manage cost intelligently, without compromising on growth-fuelling investment, is absolutely vital.

When Kedar Upadhye, Cipla’s Joint President and Global CFO, joined the company in mid-2016, he had to contend with serious margin pressures, as well as a cost base that was out of synch with the firm’s overall footprint and sales trajectory. The new cost agenda he championed – arguably one of the biggest cost management and efficiency improvement programmes seen in the Indian pharmaceutical industry in recent years – spanned procurement, supply chain, SG&A, capital allocation and team productivity. Nicknamed ‘Project Eagle’, it sought to holistically transform the spend base, and to ensure sustainability and continuous improvements. The initiative has already yielded annualised savings in the region of Rs 600 crores, and makes possible significantly (and sustainably) higher EBITDA margins. Centrally sponsored by the CFO’s office, Project Eagle’s next phase is currently underway.

Mr Upadhye – who won IMA’s 2018 India CFO Award in the ‘Excellence in Cost Management’ category for these efforts – places strong emphasis on governance issues. One of the key enablers for ‘Eagle’ is the Project Management Office (PMO), which is responsible for reviewing cost-saving ideas and ultimately, delivering on cost targets. The PMO includes specialists, drawn from multiple functions, who identify savings opportunities, with ongoing guidance from the Board and the CEO. A robust and rigorous governance process ensures that these efforts are sustained, and that important matters do not fall through the cracks. Technology – including the digitisation and automation of processes, and solid business applications and IT infrastructure – has also played a pivotal role in generating cost efficiencies and productivity improvements.

Our conversation with Mr Upadhye reveals important insights on how Cipla has managed to deliver so convincingly on its cost management objectives.

The Big Picture

What are the Cipla’s strategic goals for the next 3-5 years?

Cipla is very uniquely positioned with a stronghold in the branded market. Broadly, our strategic goals are: continue to build momentum in branded markets; build strong positions in the US generic industry through a combination of in-house organic development and inorganic pipeline; and establish another engine of earning through specialty and institutional business. Further, our goal is also to become world-class in cost, productivity and efficiency. Lastly, we want to make Cipla an employer of choice. Ultimately, the criticality of regulatory and quality compliances cannot be overemphasised.

Our goal is to become world-class in cost, productivity and efficiency, and to make Cipla an employer of choice.

Where would you position Finance in the achievement of these objectives? What role does Finance play in enabling the business to manage change effectively?

Finance has a direct stake in the achievement of these objectives. My role transcends beyond Finance, which is viewed as a key partner accountable for driving business outcomes through strong business partnering; ensuring discipline in performance management systems; constant funding for new initiatives; and providing guidance in terms of capital allocation, risk management and IT, which also reports into Finance.

Over the last year, the Finance function has been increasingly involved in drafting the business strategy and identifying avenues for growth. There is a clear focus on eliminating non-value adding businesses, and intelligent capital allocation towards high-margin and medium gestation businesses. The visibility and analytics presented through monthly business reviews have enabled the company to take targets and deliver across markets with the philosophy to optimise margins. As a result of this, several of the core businesses’ gross margins have seen an increase of 400 bps in the last three years.

Finance has been increasingly involved in drafting the business strategy and identifying avenues for growth.

Which risks would you identify as key? Conversely, what are the key opportunity areas?

We have prepared a list of top risks facing our company, such as supply chain, currency, competitive headwinds, etc. In the pharmaceutical sector, however, the biggest risks are regulatory (manufacturing compliance with respect to the US FDA), and pricing (in the case of the National Pharmaceutical Pricing Authority in India). We have mechanisms and infrastructure to mitigate these risks and have adopted a very scientific approach to risk management. The Risk Committee of the Board monitors these risks on a quarterly basis. For instance, the Current Good Manufacturing Practice (CGMP) compliance is one of the biggest risks for manufacturing in pharma. To mitigate such risks, we ensure that our people are trained, that there are adequate capital and equipment to maintain the quality of products, and various monitoring mechanisms are timely deployed, and that there is sufficient degree of automation.

We have a very scientific approach to risk management, and we have put in place strong mechanisms and infrastructure to deal with regulatory and pricing risks.

Driving Sustainable Cost Management

Under your watch, Cipla operationalised ‘Project Eagle’, a major cost management and efficiency improvement programme. What was the scope of the programme? What were the outcomes?

Project Eagle is a programme to drive excellence in procurement, supply chain, and operations. It is expected to deliver bottom-line improvement through holistic transformation across the spending base, and to ensure sustainability and continuous improvement by strengthening processes and building capabilities across teams. Other industry peers are now following the same approach and looking at right-sizing their cost base. This was a highly collaborative effort and well-timed to meet the company's need for expanding margins and aligning the cost base with market realities.

In term of the scope, Project Eagle addressed each cost element under the three levers:

  • Procurement: Raw materials, packaging, indirect spend (promotional spend, R&D spend, etc.), services (logistics, insurance, etc.), corporate administration
  • Operations, supply chain and quality: Working capital optimisation, Capex optimisation, conversion cost optimisation
  • Structural/business models: Business model calls (exit from low profitability businesses), and shifts in operating model (outsourcing of products/services, partnering with a third party vendor, automation to reduce wastage)

Project Eagle is an ongoing improvement initiative which has already led to direct and attributable benefits of over Rs 600 crores in savings. In terms of the non-financial impact, the initiative led to greater discipline, drove simplification and harmonisation of processes, consolidation of accountability, and centralisation of operations.

Project Eagle is one of the biggest cost management initiatives in the Indian pharma industry, and has delivered Rs 600 crores in cost savings.

Specifically, what was the role of Finance in driving this initiative?

The CFO’s office centrally led the initiative at the corporate level as a sponsor on behalf of the entire Management Council, and drove the approach, its design and implementation from the start along with the project team and knowledge partners. There is also a team within Finance to ensure that P&L savings are realised, and that things do not fall through the cracks. We are now approaching a phase wherein Project Eagle will become a way of life at Cipla – and this has been our biggest achievement. A new team – ‘Continuous Improvement’ – has been constituted to take on this task and ensure its sustainability.

Project Eagle is centrally led by the CFO’s office, which is responsible for its overall approach, design and implementation.

What were the key challenges you faced?

We started ‘Project Eagle’ with an aspirational target of USD 100 million, or around Rs 600 crores at the then-prevailing rates. Initially, there was a lot of apprehension in terms of lack of clarity on individual targets, and expected contribution over and above the day’s job. To drive the initiative forward, we incorporated a Project Management Office (PMO), which was sponsored by the CFO’s office. It also included members of the Management Council on the SteerCo, along with a Project Champion (a senior colleague with deep knowledge of our products, technology and operations), and five other team members drawn from Supply Chain, Marketing, Manufacturing and Quality, Finance, and other departments in Operations. Each Member was a category head, who became a catalyst to drive changes within his/her teams. The PMO helped tangibilise individual targets through benchmarking studies, clearly define expectations, and recognise the contributions made. The cross-functional nature of the PMO not only helped alleviate the concerns of the team, but also elevated the importance of the initiative form the corporate to enterprise level.

A cross-functional team of experts – the Project Management Office – was constituted to drive the cost management initiative.

What was your role as the champion of the PMO? How did you ensure that efforts led to tangible outcomes?

The category teams were doing their job on a day-to-day basis. Initially, I used to review the work once a week, mainly to de-bottleneck and ensure that the projects did not fizzle out. Once things got off the ground after the first six months, we put in place a stringent process to monitor and track ideas and their implementation. The ideas were tracked, using the ‘Idea Level’ framework, at five levels: initiation, feasibility, specificity of impact, progress on implementation, and realisation of benefits. In essence, governance mechanisms should be robust and rigorous, else the project runs the risk of falling through the cracks.

Without strong governance mechanisms, any initiative runs the risk of falling through the cracks.

Working capital optimisation and liquidity enhancement were the key focus areas in FY18. What initiatives were taken to improve the positions of inventory, payables and receivables?

Cipla has implemented a supply chain finance programme that allows for extensions in payable days, as well as an early-pay programme for the benefit of its vendors. This allows our partners to access access working capital at cheaper rates, thus enhancing our overall partnership with them. Externally, we have also benchmarked our credit periods with industry players. Internally, we did it across various categories. We have corrected several anomalies in the process of unreasonably lower credit periods, and negotiated better (higher) credit days in the process, without impacting other parts of commercials or service levels.

Our ‘Inventory Programme’ was successfully implemented across all of Cipla’s locations, helping the company manage inventory with an increase in serviceability. We have brought in greater balance between serviceability and inventory holdings, with a view to ensure both goals are prioritised from a risk-return standpoint.

Under our ‘Receivables Programme’, we initiated dealer financing on a pilot basis. Given our increasing focus on growing our business in the US, we are working to significantly optimise our working capital investments in the US operations.

We have also brought in stringent controls on the capital expenditure processes and spends front. As a cumulative impact of all of these actions, our net debt has drastically reduced from Rs 3,738 crores in March 2016 to Rs 2,200 crores in September 2018. Consequently, the net debt to equity ratio came down to 0.15 in September 2018 from 0.31 in March 2016.

Working capital optimisation and liquidity enhancement had been the key focus areas for Cipla, leading to a drastic reduction in debt levels.

According to you, what is the potential for technology to drive cost efficiencies? Can you share some examples of tools and apps you used for this purpose?

We implemented a WAVE tool, which operates through the Idea Level framework and ensures that an idea is initiated, vetted, implemented, and that the benefits are realised. The tool rests on a technology platform, which governs the whole process. Without technology, it is almost impossible to drive this level of initiative forward.

Technology plays a pivotal role in driving the cost agenda.

How was the tool developed? In-house or through an external vendor?

We hired an external vendor to develop the WAVE tool for us.

What metrics do you use to track cost-saving efforts? Do you maintain a dashboard to track progress?

We mainly track three metrics: the quantum of an idea generated, the value realised in the income statement, and the sustainability of the effort. For the first six months, we reported on a once-a-week basis, and when we realised (at around the ninth month) that the quantum of savings was satisfactory, we made the reporting once a month. Now, we can get real-time insights through the tool.

Technology helps us get real-time insights into what is working, and what is not.

How do you ensure that costs do not creep back into the system?

This is achieved through continuous tracking, monitoring, and ensuring accountability of cost reduction targets. For instance, we maintain a compliance tracker to assess adherence to cost-saving targets. In the area of travel spends, the tracker helped us realise 35 per cent cost savings through automated identification of cases of non-compliance.

How do you track the sustainability of your efforts?

There are a couple of ways through which we ensure sustainable efforts towards cost optimisation. First, in the performance scorecard, the progress on the annual target is regularly tracked against performance. Second, the continuous improvement team ensures there is constant identification of needs and opportunities for the organisation while maintaining a minimum EBITDA percentage. Third, an eye is also kept on the practices employed by the organisation. For instance, when the Supply Chain function negotiates for a particular product then we make sure to focus on the right practices to mitigate supply chain risks.

What is the role of the Board in driving sustainable cost savings?

The Board ensures the highest standards of corporate governance and transparency in the company’s functioning. The Risk Committee – which is headed by a Board member – keeps a register of risks facing the company. When I joined the company two years back, Cipla faced a liquidity challenge, with low EBITDA and cash reserves. The Board was quick to highlight the issues, and prompted the management to create a plan for cost optimisation. As a CFO, besides acting as a strategic partner to the CEO, I play a vital role in presenting the public face of the company to investors, regulators and policy makers. It has always been my key agenda to lead the role in keeping the stakeholders well informed about the company. We have significantly enhanced our disclosure, investor relations and Board governance practices. The quality of these interactions and disclosures has received extremely positive feedback from external stakeholders and includes areas such as the complete overhaul of the annual report, quality of earnings call and presentations with enhanced disclosure practices; and regular participation at various industry and investor forums. Over the last 12 months, we have also implemented new and improved versions of the Insider Trading Code and Code of Conduct for Cipla’s Global Operations. We have also reinvigorated our Enterprise Risk Management programme, which is reviewed every quarter with the Board. In 2018, Cipla bagged the prestigious ‘Golden Peacock’ for excellence in Corporate Governance.

Over the last 12 months, we have implemented new and improved versions of the Insider Trading Code and Code of Conduct for Cipla’s Global Operations, and reinvigorated our Enterprise Risk Management programme.

What do you expect in the next phase of cost cutting?

We are now working on the next phase of the project, which is focused on working capital, fixed capital and revenue growth.

On a lighter note

Being a CFO to you means....

It is all about generating, protecting and communicating long-term shareholder value for the company.

One important learning?

The sky is the limit in any role. Many times, most of the constraints and bottlenecks are in the mind. The world is full of possibilities!

What was the toughest decision you had to make in your role as a CFO?

Taking severance actions in line with business model decisions.

What’s come to your mind when I say the following:

a. Communication and the CFOs: It is very intrinsic and ‘defining’.
b. CFO & Strategy: The other side of the same coin
c. CFO & Risk Management: Inherent to a CFO’s identity

Top three things on your bucket list:

Spending ‘own’ time in the Himalayas; taking a long ‘no-distraction’ vacation with my family; and becoming an entrepreneur someday

Favourite book/movie:

Movie: The Godfather
Books: Steve Jobs by Walter Isaacson, and The Difficulty of being Good by Gurcharan Das

Comfort food:

I am in the process of becoming vegan, and I am enjoying it.

What do you do to keep yourself operating at optimum level?

I try to cycle, run, sleep well, and keep the smartphone away as much as possible.