When the crisis taxes on the most profitable industries were launched in Hungary, speculation ran high about why the pharmaceuticals industry, renowned for its wide profit margin, was exempt. After all, the five largest drug firms (sanofi-aventis, Richter, Teva, Egis, GSK) had revenues of HUF 834 billion and took home a profit of almost HUF 100 billion in 2009.

At the time, pharmaceutical companies cited the extra taxes they had been paying since the new drug subsidy laws of 2007. In effect, they had contributed HUF 31 billion in 2010, an amount similar to crisis taxes imposed on other industries, the argument went.

Now, however, it seems that the extra tax burden was only a question of time. According to government documents published by the daily Magyar Nemzet, the government is planning to increase the 12% tax on revenues from subsidized drugs to 18% from July 1, 2011.

The tax increase could bring an extra HUF 3.9 billion in revenues to the National Health Insurance Fund (OEP), and there are rumors of an even higher tax rate. The government also plans to reduce the 80% reimbursement on cholesterol-lowering drugs, saving the budget HUF 5 billion – at the expense of the consumers or the firms.Also, the new drugs reimbursement system, with its framework laid down in the economic reform package of the Széll Kálmán Plan, targets HUF 120 billion in savings by 2013.

However, it seems the government has learned from the mistakes it made when introducing the other crisis taxes – on April 7, it consulted with the affected industries on how exactly these savings should be achieved. The decision on the final details is expected at the end of May.

Based on earlier government communication on the priorities of the Hungarian economy, such a strict cost-saving plan was not expected in the pharmaceutical industry. “We were moved to tears when reading the beautiful paragraphs that the New Széchenyi Plan had about the sector,” a prominent drug firm executive wishing to remain anonymous told the Budapest Business Journal ironically, adding that it would be nice to learn some tangible details about these ideas and to see some of them come true.

Indeed, Hungary’s New Széchenyi Plan (NSzP), the European Union-supported investment program, underlined the importance of the drug sector and, besides many others, promised to revise the burdens of the sector from the aspect of competitiveness. But the NSzP, launched on January 15, 2011, was later followed by the Széll Kálmán Plan, surprising the entire drug sector and immediately devaluing the stocks of major drug firms Richter and Egis on the stock exchange.

Take only if you give, please

The idea of harmonizing the forthcoming austerities with the NSzP has been mentioned by several market players. “All I can say is that we can accept the austerity measures heralded in the Széll Kálmán Plan only if harmonized with the aims of the New Széchenyi Plan,” Zsuzsa Beke, head of PR and public affairs at Richter told the BBJ, declining to comment further until a final decision is made.

Earlier, however, Richter said that the company could accept a significant increase in levies only if a significant proportion of the extra tax would be spent on a pay rise for health care employees. The fact that the Hungarian Pharmaceutical Manufacturers Association (Magyosz) – an organization that is headed by Richter CEO Erik Bogsch – also shares this opinion, and that the government failed to reach an agreement in due time, may suggest that Fidesz-KDNP has different plans for the surplus gained from drug companies.

Richter is not the only drug company that is refraining from opining on the current situation until the new concept of drug financing is finalized. All the other leading market players are saying is that they hope to reach a reasonable agreement with the government. Egis, for example, hopes that its “merits and interests will have the government’s ear,” since the company contributes to the development of the Hungarian economy in a significant measure through its investments, employment, taxes, R&D and export activity, the firm told the BBJ in a brief answer, similar to that received from sector peer Teva.

But while the official communication of the major drug companies comes down to little more than hopes and wishes, the fact that a top executive of a leading Hungarian drug company not wishing to be named refused to comment on their prospects, alluding to their investors, suggests that not all market players are optimistic.

However, negative expectations are not obviously reflected in the share prices of drug firms listed on the Budapest Stock Exchange. Since a fall in the share price suffered on April 11, when the government’s plan to increase the 12% on revenues from reimbursed drugs to 18% was leaked, both Egis and Richter have been able to climb back to the level they were at before the news broke. Nonetheless, their share price is still well below what it was in February, prior to the introduction of the Széll Kálmán Plan.

Innovative drugs firms

The pharmaceuticals industry, or at least some of its players, do have a good basis for negotiations. Richter and Egis, which mostly make generic drugs but also have original molecules, are the country’s top R&D spenders and other market players such as sanofi-aventis are also considering funneling more innovation to Hungary. In 2009, about HUF 120 billion was spent on innovation by drug companies.

This is a huge amount when it is taken into consideration that R&D investment in the whole of Hungary only added up to HUF 300 billion, less than half of which was financed by companies.

Increasing R&D expenditure beyond the barely 1% of GDP that it has fluctuated around in the past several years has been a goal for several governments in a row, but it has not really budged.

Pharmaceutical companies’ R&D capacities are doubly important because the “problem” with investments into innovation in Hungary, as analysts and politicians often point out, is not that the state does not spend enough on it, but that the private sector does not. Thus keeping the drug firms happy could be key to government plans to increase expenditure from the current 1.15% to 1.8% by the end of the decade.

This article appeared in the BBJ's Law & Tax special report on May 6, 2011.