In frontier markets, corporate governance can be tricky to get right. But for Mekong Capital, a pragmatic approach to compensation, personnel and board structure at Vietnamese pharmaceutical business Traphaco yielded impressive results.
When Mekong acquired a 24.99 percent stake in Traphaco in 2007, the company was ranked among the top 20 pharmaceutical businesses in Vietnam, with revenue and net profit of $33.4 million and $2.4 million, respectively. The firm’s ownership of Traphaco would come to be a tale in three acts: building a foundation for growth, breakthroughs in performance and pre-exit shaping.
While the company enjoyed a modest 10 percent CAGR in the two years after Mekong’s investment, it was not until 2009, when the firm introduced a new staff remuneration system and performance-based bonus scheme linked to net profit growth, that its financials really took off. Its annual net profit more than doubled from $2.9 million in 2009 to $6.1 million in 2012.
This early period of growth was also compounded by a radical change to the value chain. At the time of Mekong’s initial investment, traditional medicine accounted for 80 percent of Traphaco’s total revenue and was manufactured by its subsidiary, CNC. In 2011, Traphaco increased its stake in CNC to 51 percent, providing better control on production quality and efficiency, with higher profit margins.
It was in the second act that Mekong utilised governance to maximise Traphaco’s growth. In 2013, the firm introduced Phan Quoc Cong – founder of ICP, one of the largest personal care product companies in Vietnam and a former Nestlé manager – to Traphaco’s board. Cong overhauled the distribution network by refocusing its sales policy to go direct-to-pharmacy, rather than via wholesalers, and implemented a system to track regional sales.
Mekong also introduced Paul Lagewag, a member of Mekong’s value optimisation board and former general manager of Unilever Vietnam, who identified a lack of successful products at Traphaco. Lageweg prompted the company’s management team to shift its focus to launching new products and utilise market data to better understand consumer preferences and behaviours.
More governance improvements came in 2016 as Mekong prepped the company for exit. Mekong transformed the company’s leadership model by creating an independent and non-executive board of directors and prompting them to set up human resources, strategy and audit committees. The board also redesigned the salary and bonus system, while boosting alignment of interest by ensuring management owned an unusually high 10 percent of share capital.
The proof is in the pudding. Net revenue climbed to $83 million at exit in November 2017, while net profit rose at a 16.9 percent CAGR to $11 million. Under Mekong’s ownership, the company had become the second largest pharmaceutical company in Vietnam by net revenue.
The firm ultimately divested its holding for $64.5 million, realising a 27.7 percent gross IRR and 6.3x gross return multiple.