Credit Suisse: Glenmark- Margin recovery and balance sheet improvement critical for rerating

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Glenmark------------------------------------------------------------------------ Maintain OUTPERFORM
Margin recovery and balance sheet improvement critical for rerating


● 3Q11 was a mixed bag. Sales and product mix were better than
expected, but higher fixed costs resulted in EBITDA miss of 3%.
Adjusted for forex gain, net profit was in line.
● We liked the strong growth in semi-regulated markets (CIS, Africa,
South East Asia, etc.) and India (Figure 1). Management guided
that 25% growth in India is sustainable in FY12. This is
encouraging, as these markets have higher profitability. The
impact was visible in gross margin, which improved 90 bp QoQ.
● However, pick-up in US base business is still weak. US revenue
fell 6% QoQ, as Nitroglycerine did not contribute in 3Q11.
Management reiterated its US base business guidance of 20-25%
growth in FY12 and guided that 4Q11 base business will be better
than 3Q11.
● Balance sheet status largely remained similar to 2Q11. There was
no material improvements in working capital and net debt rose
3%. Glenmark remains an exciting story due to strong growth
expected in FY12 and improvement in multiple as its balance
sheet shows further signs of improvement.

In-line quarter: margin miss offset by higher sales
Overall 3Q11 was a mixed bag. Sales were higher than expected
(Figure 2), but EBITDA missed our estimates, as margins were weak.
Adjusted for Rs190 mn forex gain included in other income, net
income beat our estimates by 2%.


Better product mix resulted in higher gross margin…
The product mix was better than expected. Glenmark makes the
highest margin in semi-regulated markets (CIS, Africa, South East
Asia, etc.) followed by the US and India. Sales across both SRM and
India were strong (Figure 1). Management guided that 25% growth in
India is sustainable in FY12 (targeting 20% volume growth and 5%
contribution from new product launches). This is encouraging, as
these markets have higher profitability. The impact was visible in
gross margin, which improved 90 bp QoQ.
… though higher fixed costs depressed EBITDA margin
However, personnel costs increased 8% QoQ and other expenses to
sales ratio rose 162 bp QoQ. The increase in fixed costs offset better
gross margin and EBITDA margin contracted 130 bp QoQ.
Management mentioned fixed costs do not include any one-offs.
Growth in US base business is still due
Ramp-up in US base business is still weak. US revenue fell 6% QoQ,
as Nitroglycerine did not contribute in 3Q11. Management reiterated
its US base business guidance of 20-25% growth in FY12 and guided
that 4Q11 base business will be better than 3Q11. Glenmark has
launched Oxycodone and is working with the FDA on unapproved
products, which are currently present in the market.
Balance sheet health remained largely unchanged
Balance sheet status remained largely similar to 2Q11. There was no
material improvements in working capital and net debt rose 3%.
Glenmark remains an exciting story due to strong growth expected in
FY12 and improvement expected in multiple, as its balance sheet
shows further signs of improvement. We maintain an OUTPERFORM.