Buy Orchid Chemicals Target Rs. 332 – 3QFY2011 Update :: Angel Broking

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Orchid Chemicals – 3QFY2011 Result Update

Angel Broking recommends a Buy on Orchid Chemicals with a Target Price of Rs. 332.

Orchid Chemicals (Orchid) reported strong set of numbers for 3QFY2011. For

FY2011, the company has maintained its guidance of top-line growth of 23% to

`1,600cr, EBITDA margins at 22% and EPS of `20. The company plans to incur

`200cr capex in FY2011. We have revised our estimates upwards and

recommend Buy on the stock.

Good set of numbers: For the quarter, on a consolidated level, Orchid reported

net sales of `462cr (`337cr), up 37.3% yoy. The global API business grew by

strong 203% to `339.3cr (`111.8cr), led by supply arrangements with Hospira

and other major customers. However, there was a dip of 46% in the global

formulations division (inclusive of India) to `91.9cr (`198.9cr). Interest cost and

depreciation cost declined during the quarter to `27.1cr (`53.8cr) and `32.2cr

(`39.2cr), respectively, and were the key factors that boosted the company’s

bottom line. Net profit stood at `56.6cr v/s loss of `18.9cr in 3QFY2010.

Outlook and valuation: Considering the encouraging performance and growth

visibility going forward, we have revised our estimates upwards. We expect

Orchid to post net sales of `1,558cr, with EBITDA margin of 21.9% in FY2011.

The stock is currently trading at 13.3x FY2011E and 10.3x FY2012E earnings.

We recommend Buy on the stock with a Target Price of `332.

Strong growth in revenue, up 37%: Orchid reported net sales of `462cr (`337cr),

up 37.3% yoy, driven by the Hospira contract and commencement of penems to

other suppliers also. During 3QFY2011, the Hospira contract contributed around

25% to net sales. The company has commenced Meropenem API supplies to other

players also. Further, on the API front (ex-Hospira), the company is witnessing

strong growth in emerging markets. In terms of segmental performance, the global

API business grew by 203% to `339.3cr (`111.8cr), whereas the formulations

segment declined to `91.9cr as against `198.9cr in 3QFY2010.

On the regulatory front, the cumulative filings of US DMFs stood at 81, of which

28 are in the Cephalosporin space, 40 in the NPNC space, 2 in the Betalactam

segment and 11 in the Carbapenems segment.

In the FDF segment, cumulative ANDA filings for the US market stand at 39,

including the recently filed one for Aripiprazole ODT, including 8 Para IV FTF

(First-To-File) filings. Out of this, the company has already settled with the

innovator companies for four products. The break-up of the total ANDA filings is

13 in the Cephalosporins space and 26 in the NPNC (non-penicillin, noncephalosporin)

space. The final approved ANDAs count stands at 21. During

3QFY2011, Orchid also received 1 tentative ANDA approval for Rivastigmine

Capsules, the final ANDA approval of which is expected in due course on patent

expiration. The total final ANDA approval count comprises 11 in the

Cephalosporin space and 10 in the NPNC space.

Growth in OPM led by lower other expenses: During the quarter, gross margins

came in lower at 51.6% (60.5%) on the back of higher contribution of API sales in

the overall sales mix, which during 3QFY2011 stood at 73% vis-à-vis 33% during

the last corresponding period. However, OPM increased to 24% (14.4%), aided by

a 28.4% drop in other expenses to `87cr.

Net profit driven by other operating income: Orchid reported net profit of `56.6cr

as compared to loss of `18.9cr in 3QFY2010, driven by sales growth and drop in

interest and depreciation costs to `27.1cr (`53.8cr) and `32.2cr (`39.2cr),

respectively. Tax charges for the quarter came in at 26% of PBT, expected to be on

similar lines for the following quarter as well; and the management has guided

25% for FY2012.

Concall takeaways

􀂄 Orchid has maintained its top-line guidance of `1,600cr, with EBITDA

margins (including other operating income) of 22% for FY2011. The company

expects to incur capex of `200cr during FY2011.

􀂄 The company targets 50:50 of API and formulations sales mix over the next

two years.

Recommendation rationale

Supply agreements to drive growth: Growth for Orchid would be majorly led by its

supply agreements with various players, with Hospira being the key contributor. In

FY2010, Hospira took over the injectable business from Orchid. Subsequently,

Orchid has entered into a 10-year exclusive agreement, wherein it would supply

the active pharmaceutical ingredients for the acquired generic injectable

pharmaceuticals business to Hospira. Hospira is expected to contribute around

30% to total sales (FY2011), with the majority accruing through the limited

competition for products such as penems.

Besides Hospira, Orchid has entered into various supply agreements with other

players in the regulated as well as non-regulated markets. The company has

started supplying API to a leading Japanese company under a contract for the next

five years. Orchid has also entered into an agreement with another company for

the supply of API (Carbopenem). These supply agreements are expected to boost

the company’s overall growth. We expect net sales to increase by 20% to `1,558cr

in FY2011. While the contribution of API:Formulations has been around 42:58 in

FY2010, management expects the contribution to be 50:50 by FY2013E.

Balance sheet in a healthy shape: Orchid faced debt pressure with interest cost

rising to `242cr and losses on the operating front in FY2010. The repayment of

debt through the proceeds received from Hospira led to net debt/equity drop from

4.7x FY2009 to almost 1.4x in FY2010. Post the repayment, the interest cost is

expected to decline by `95cr (`242 in FY2010) by FY2012. Even after factoring in

the FCCB repayment, the debt-equity ratio for the company would remain

comfortable at 1.6x FY2012E.

Return ratios on an uptrend: Even though the API business in general is a low

margin contributor, for Orchid, as it is a supplier of API for injectable generics, it

would be able garner higher EBITDA margins going forward. We expect the

EBITDA margin to be around 22% in FY2012. Overall improvement on the

operating front is expected to boost the bottom line going forward, enhancing the

return ratios, which were suppressed on the back of lower sweating of assets and

lower margins. We expect RoCE and RoE to expand to 10.7% and 19.1% by

FY2012.

Outlook and valuation

Considering the encouraging performance and growth visibility going forward, we

have revised our estimates upwards. We expect the company to post net sales of

`1,558cr, with EBITDA margin of 21.9% in FY2011.

The stock is currently trading at 13.3x FY2011E and 10.3x FY2012E earnings. We

recommend Buy on the stock with a Target Price of `332.