Please Share:: 
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Initiate coverage with Neutral rating and PT of Rs1600, valuing the base
business at Rs1534/share (20xFY13E P/E) and one-off opportunities at NAV of
Rs66/share. Following strong re-rating over the past two years, DRRD trades at
24.2x base FY12E P/E. Further multiple-expansion looks unlikely to us as: 1) bigticket
opportunities in the US over FY12-14 appear priced in and visibility beyond
FY14 is low, 2) branded generics in India and Russia face competitive/
legislative headwinds, and 3) the growth in Europe and PSAI business remains
tepid. While the stock offers defensive characteristics in a weak market (8.5%
outperformance vs. Sensex YTD), we would be more constructive near Rs1300
levels.
Strong growth in US likely to taper off beyond FY14E…. Para IV opportunities
and complex limited competition products in the US are likely to drive revenue
CAGR of 26% in the US over FY11-14E. However, growth outlook beyond FY14E
seems challenging on a high base and low visibility of big-ticket product
opportunities beyond FY14E.
…while potential headwinds emerge in India/Russia... Growth in India (16% of
FY11 revenues) is slowing and channel checks suggest pricing pressures. Recent
legislative changes in Russia (12% of FY11 revenues) raise questions about the
sustainability of pricing and current growth rates over the long term. In addition, the
growth outlook for European generics (11% of revenues) and PSAI businesses (26%
of revenues) is muted.
…..even as DRRD seeks new growth drivers: Distribution alliance with GSK and
biosimilars offer good growth opportunities, but will take 5-10 years to scale up, in
our view. We foresee GSK distribution contributing only ~3% to overall revenues by
FY14, while biosimilars will take 7-10 years to scale up, given long development
lead time and still evolving global regulation.
Earnings and key risks: We forecast base EPS CAGR of 10.5% over FY11-FY13,
driven by 12% base revenue growth and steady margins. Earnings growth and
payout of bonus debentures are likely to drive improvement on ROCE from 15.4%
in FY11 to 20.1% by FY14. Key upside risks to our thesis include new big-ticket
product approvals in the US, pick-up in domestic market growth and steep ramp-up
of GSK alliance. Key downside risks include potential regulatory issues (USFDA
related/Russia), delays in product launches in the US, and a protracted slowdown in
growth in India.
Investment summary
We initiate coverage on Dr. Reddy’s Laboratories (DRRD) with a Neutral rating and
price target of Rs1600. DRRD is a vertically integrated generic pharmaceuticals
player with a presence in India, the US, Europe, CIS, Venezuela, South Africa, New
Zealand, Brazil, Jamaica, Sri Lanka and Vietnam. DRRD’s stock has re-rated over
the past two years, as positive news flow on product approvals / para IV settlements
and niche products in the US have gathered momentum, and now trades at a 24.2x
FY12E P/E and 19.7xFY13E P/E, which is at a 19%-20% premium to its domestic
peer group. We would be more constructive on the stock near the Rs1,300 price
level, where valuations will be more reasonable, and at which our PT would imply ~
23% upside.
We believe that a further re-rating for DRRD’s stock is unlikely on account of our
view that 1) big-ticket opportunities in the US over FY12E-14E are largely priced
into the stock and visibility beyond FY14E is limited, 2) branded generics businesses
in India and Russia (28% to FY11 revenues) face competitive/legislative headwinds,
and 3) the growth outlook for Europe and for PSAI business (which account for 38%
of FY11 revenues) remains tepid. While DRRD is investing in new growth
opportunities (biosimilars, marketing alliance for emerging markets with GSK), we
see these as longer-term drivers that will take over 5-10 years to bear fruit.
We expect the US generics business to be the key growth driver for DRRD over the
next three years and forecast revenue CAGR of 26% in the US over FY11-FY14.
DRRD has a strong pipeline of big-ticket products (para IV related and complex,
limited competition products) that are likely to be launched in the US over the next
three years. However, we believe that growth will be challenged beyond FY14 on
account of a high base and declining number of blockbuster drugs going off-patent
post 2012, which will reduce the potential opportunity size. We also map DRRD's
DMFs to drugs going off patent – we see an opportunity for drugs worth US$28.5B
going off-patent in FY12E, tapering off to US$6.8B in FY13E and to US$1B by
FY16E. We acknowledge that this analysis is not exhaustive, but believe that is
provides good directional indications.
DRRD has strong branded generics business in India and Russia, which cumulatively
account for 28% of total revenues (FY11). Over the last five years, revenues in India
have registered a CAGR of 16%, while sales in Russia have grown at CAGR of 28%.
DRRD is facing competitive headwinds in the Indian market, with its revenues
growing slower than overall market growth. In Russia, we believe that recent
changes to legislation that entail promotion of local manufacturers and price
restrictions on 'essential' drugs raise questions over sustainability of pricing and
growth for foreign players over the next few years. We forecast revenue CAGR of
13% and 21% over FY11-FY14 in India and Russia respectively.
European generics and PSAI businesses, which collectively account for 38% of
revenues (FY11), are facing pricing pressure and the growth outlook is weak.
DRRD’s European business, which largely comprises Betapharm in Germany, has
been declining over FY10 and FY11 owing to a shift towards highly competitive
tender-based business. PSAI growth remains sluggish on account of pricing pressure,
and faces more potential headwinds on account of the recent USFDA warning letter
issued to the API facility in Mexico. We forecast PSAI business to demonstrate
revenue CAGR of 5% over FY11-FY14.
DRRD has been making investments in new growth drivers. It has stepped up R&D
investments in Biosimilars and has recently entered into an alliance with GSK for
distribution of drugs in global emerging markets (ex-India). We view these as
promising initiatives – however we do not expect these initiatives to scale up
materially in the near term. While DRRD has made a promising start with
biosimilars, with four products selling in the Indian market, we believe that the big
opportunity lies in developed markets. It will take at least 7-10 years for DRRD to be
able to break into developed markets, in our view, given the lead time to comply with
data requirements amid still evolving global regulation. Similarly, the GSK alliance
is also unlikely to contribute materially in the near term – we estimate ~3%
contribution to revenues by FY14E.
We forecast base earnings CAGR of 10.5% over FY11-FY14 driven by base
business revenue growth of 12.4% over FY11-FY14. We expect EBITDA margins
for the base business to remain steady over FY11-14. Cash flow generation should
pick up on account of steady improvement in base business and high margin one-off
product opportunities in the US. We estimate DRRD to generate cumulative free
cash flow of Rs29.5B over FY12-FY14. As a result, we expect net gearing to decline
from 0.4x in FY11 to near zero by FY14E. We note that big chunk of debt repayment
is scheduled in FY14, when the bonus debentures issued by DRRD to shareholders
would mature. We forecast ROCE to improve from 15.4% in FY11 to 20.1% by
FY14.
We set a Mar-12 price target of Rs1,600 for DRRD, valuing the base business at
Rs1534 per share, and the one-off opportunities in the US (para IV, limited
competition products) at Rs66 per share. Our value for the base business at Rs1534
per share is based on adjusted 20xFY13E P/E (EPS adjusted for para IV, limited
competition product related profits and interest on bonus debentures). We value the
one-off opportunities on an NPV basis (using a 12.75% discounting factor)
Key upside risks
Announcement of new big ticket products in the US market
DRRD has a strong product pipeline for the US market over the next 3 years
entailing para IV related and limited competition product opportunities. We believe
that most of these opportunities are priced into the stock valuations. However, any
further announcements / approvals for big-ticket products could drive earnings
upside and further re-rating of the stock price.
Faster-than-expected ramp-up of GSK alliance
DRRD has tied up with GSK to develop and market select products across emerging
markets outside India. DRRD would manufacture the products and will license and
supply to GSK for markets in Latin America, Africa, the Middle East and Asia
Pacific, excluding India. We expect revenues from this alliance to ramp up to
US$80MM by FY14. Faster-than-expected ramp up is likely to drive upside to our
earnings estimates.
Reversal of market share losses in the domestic market
DRRD's revenue growth in India has been under pressure over the past few quarters.
The company has ramped up its sales force last year by aggressively adding
headcount – pick up in revenue growth and reversal of market share losses could be a
potential re-rating trigger for the stock.
Pick up in PSAI business growth
DRRD’s API business has been facing pricing pressure and growth rates have been
tepid over last few years. DRRD have a total of 476 API filings worldwide, which is
the largest amongst India pharmaceutical companies. Upcoming patent expiries
present a significant opportunity for DRRD’s API business. While we expect growth
to remain muted on account of pricing pressure, any pick up in growth is likely to be
viewed positively and could have a positive impact on valuations.
Key downside risks
Delays in product launches / ramp up in the US
DRRD has a steady product launch pipeline in the US over the next three years. Any
potential delays in product launches could potentially be an overhang on valuations.
A case in point is the recent delay in USFDA approval of fondaparinux (generic
Arixtra). Similarly, lower-than-expected ramp up for expected big-ticket products
launches could also create a valuation overhang. Recent switch from prescription to
OTC for Allegra D-24 has reduced potential market share gains for DRRD’s generic
version.
Litigation-related risks
DRRD is involved in litigations related to its filings in the regulated markets. In the
US, it follows an aggressive para IV strategy. We believe that going forward any
potential adverse outcome from litigations can have bearings on growth for the
business as well as result in potential financial liabilities for DRRD.
Regulatory risks
Pharmaceutical industry is highly regulated across the globe and given DRRD’s
presence in multiple markets; it has to deal with multiple regulatory authorities. The
regulations tend to be more stringent in regulated markets like US and EU. There
have been instances of USFDA issuing warning letters or banning imports into US
from plants that have not adhered to USFDA guidelines. While DRRD has not been
involved in any regulatory issues (except for a recent warning letter issued to its API
plant in Mexico), we believe that there could be a material risk to its developed
markets’ business in the event it fails to adhere to the manufacturing guidelines set
by regulatory authorities. Specifically, recent regulatory changes in Russia could
have adversely impact market share and margins. While it is still early to gauge the
full impact of the legislative changes in Russia, which aim to replace 50% imports
with domestically manufactured drugs by 2017, we see potential risks for DRRD.
Protracted slowdown in growth in India
DRRD’s revenue growth in India has lagged the domestic revenue growth, given that
a large part of its product portfolio is focused on acute therapies, which are growing
at a slower pace than the market. In addition there are indications of some slowdown
in the market growth rate, a situation that does not bode well for DRRD. The
company has ramped up its sales force in FY11, but this has yet to bear fruit. If
DRRD fails to arrest the growth slowdown in the domestic market, it could have an
adverse impact on our earnings estimates as well as result in a valuation de-rating.
Valuation and share price analysis
DRRD is currently trading at 24.2x FY12E adjusted P/E and 19.7x FY13E adjusted
P/E, which is at the high end of its past five-year trading band. The stock de-rated
after FY07 as Germany moved to tender business resulting in significant margin
erosion and a decline in US revenues as one-off opportunities in FY06 tapered off.
However, over the past two years, the stock has seen a significant re-rating, driven by
strong growth in generics in North America, Russia and other emerging markets. The
strong pipeline of products in the US with a mix of exclusive and complex
generics/limited competition as well as stable growth in Russia and other emerging
markets (driven by JB Chemical acquisition/GSK alliance) should help sustain
current valuations, although we believe a further re-rating from here will be difficult.
Price target of Rs1,600
Our Mar-12 price target of Rs1,600 values the base business at Rs1,534 per share,
180 exclusivity opportunities at Rs16.5 per share, settlements at Rs18 per share and
complex generics/limited competition products at Rs31.5 per share. Our base
business valuation of Rs1,534 per share is based on 20x FY13E P/E, in line with the
domestic peer group average.
We value the exclusivity, settlement and complex generics/limited competition
opportunities in US on an NPV basis using a 12.75% discounting factor. Our
valuation estimate of Rs16.5 per share for 180 exclusivity opportunities include
Olanzapine, Rosiglitazone (declared by DRRD) and Ziprasidone (deduced from their
FTF/settlement newsflow). Our valuation of Rs18 per share for settlement
opportunities includes only those settlements that are indicated by DRRD as
significant opportunities despite intense competition. Our valuation of Rs31.5 per
share for complex generics/limited competition products includes drug compounds
announced by DRRD.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Initiate coverage with Neutral rating and PT of Rs1600, valuing the base
business at Rs1534/share (20xFY13E P/E) and one-off opportunities at NAV of
Rs66/share. Following strong re-rating over the past two years, DRRD trades at
24.2x base FY12E P/E. Further multiple-expansion looks unlikely to us as: 1) bigticket
opportunities in the US over FY12-14 appear priced in and visibility beyond
FY14 is low, 2) branded generics in India and Russia face competitive/
legislative headwinds, and 3) the growth in Europe and PSAI business remains
tepid. While the stock offers defensive characteristics in a weak market (8.5%
outperformance vs. Sensex YTD), we would be more constructive near Rs1300
levels.
Strong growth in US likely to taper off beyond FY14E…. Para IV opportunities
and complex limited competition products in the US are likely to drive revenue
CAGR of 26% in the US over FY11-14E. However, growth outlook beyond FY14E
seems challenging on a high base and low visibility of big-ticket product
opportunities beyond FY14E.
…while potential headwinds emerge in India/Russia... Growth in India (16% of
FY11 revenues) is slowing and channel checks suggest pricing pressures. Recent
legislative changes in Russia (12% of FY11 revenues) raise questions about the
sustainability of pricing and current growth rates over the long term. In addition, the
growth outlook for European generics (11% of revenues) and PSAI businesses (26%
of revenues) is muted.
…..even as DRRD seeks new growth drivers: Distribution alliance with GSK and
biosimilars offer good growth opportunities, but will take 5-10 years to scale up, in
our view. We foresee GSK distribution contributing only ~3% to overall revenues by
FY14, while biosimilars will take 7-10 years to scale up, given long development
lead time and still evolving global regulation.
Earnings and key risks: We forecast base EPS CAGR of 10.5% over FY11-FY13,
driven by 12% base revenue growth and steady margins. Earnings growth and
payout of bonus debentures are likely to drive improvement on ROCE from 15.4%
in FY11 to 20.1% by FY14. Key upside risks to our thesis include new big-ticket
product approvals in the US, pick-up in domestic market growth and steep ramp-up
of GSK alliance. Key downside risks include potential regulatory issues (USFDA
related/Russia), delays in product launches in the US, and a protracted slowdown in
growth in India.
Investment summary
We initiate coverage on Dr. Reddy’s Laboratories (DRRD) with a Neutral rating and
price target of Rs1600. DRRD is a vertically integrated generic pharmaceuticals
player with a presence in India, the US, Europe, CIS, Venezuela, South Africa, New
Zealand, Brazil, Jamaica, Sri Lanka and Vietnam. DRRD’s stock has re-rated over
the past two years, as positive news flow on product approvals / para IV settlements
and niche products in the US have gathered momentum, and now trades at a 24.2x
FY12E P/E and 19.7xFY13E P/E, which is at a 19%-20% premium to its domestic
peer group. We would be more constructive on the stock near the Rs1,300 price
level, where valuations will be more reasonable, and at which our PT would imply ~
23% upside.
We believe that a further re-rating for DRRD’s stock is unlikely on account of our
view that 1) big-ticket opportunities in the US over FY12E-14E are largely priced
into the stock and visibility beyond FY14E is limited, 2) branded generics businesses
in India and Russia (28% to FY11 revenues) face competitive/legislative headwinds,
and 3) the growth outlook for Europe and for PSAI business (which account for 38%
of FY11 revenues) remains tepid. While DRRD is investing in new growth
opportunities (biosimilars, marketing alliance for emerging markets with GSK), we
see these as longer-term drivers that will take over 5-10 years to bear fruit.
We expect the US generics business to be the key growth driver for DRRD over the
next three years and forecast revenue CAGR of 26% in the US over FY11-FY14.
DRRD has a strong pipeline of big-ticket products (para IV related and complex,
limited competition products) that are likely to be launched in the US over the next
three years. However, we believe that growth will be challenged beyond FY14 on
account of a high base and declining number of blockbuster drugs going off-patent
post 2012, which will reduce the potential opportunity size. We also map DRRD's
DMFs to drugs going off patent – we see an opportunity for drugs worth US$28.5B
going off-patent in FY12E, tapering off to US$6.8B in FY13E and to US$1B by
FY16E. We acknowledge that this analysis is not exhaustive, but believe that is
provides good directional indications.
DRRD has strong branded generics business in India and Russia, which cumulatively
account for 28% of total revenues (FY11). Over the last five years, revenues in India
have registered a CAGR of 16%, while sales in Russia have grown at CAGR of 28%.
DRRD is facing competitive headwinds in the Indian market, with its revenues
growing slower than overall market growth. In Russia, we believe that recent
changes to legislation that entail promotion of local manufacturers and price
restrictions on 'essential' drugs raise questions over sustainability of pricing and
growth for foreign players over the next few years. We forecast revenue CAGR of
13% and 21% over FY11-FY14 in India and Russia respectively.
European generics and PSAI businesses, which collectively account for 38% of
revenues (FY11), are facing pricing pressure and the growth outlook is weak.
DRRD’s European business, which largely comprises Betapharm in Germany, has
been declining over FY10 and FY11 owing to a shift towards highly competitive
tender-based business. PSAI growth remains sluggish on account of pricing pressure,
and faces more potential headwinds on account of the recent USFDA warning letter
issued to the API facility in Mexico. We forecast PSAI business to demonstrate
revenue CAGR of 5% over FY11-FY14.
DRRD has been making investments in new growth drivers. It has stepped up R&D
investments in Biosimilars and has recently entered into an alliance with GSK for
distribution of drugs in global emerging markets (ex-India). We view these as
promising initiatives – however we do not expect these initiatives to scale up
materially in the near term. While DRRD has made a promising start with
biosimilars, with four products selling in the Indian market, we believe that the big
opportunity lies in developed markets. It will take at least 7-10 years for DRRD to be
able to break into developed markets, in our view, given the lead time to comply with
data requirements amid still evolving global regulation. Similarly, the GSK alliance
is also unlikely to contribute materially in the near term – we estimate ~3%
contribution to revenues by FY14E.
We forecast base earnings CAGR of 10.5% over FY11-FY14 driven by base
business revenue growth of 12.4% over FY11-FY14. We expect EBITDA margins
for the base business to remain steady over FY11-14. Cash flow generation should
pick up on account of steady improvement in base business and high margin one-off
product opportunities in the US. We estimate DRRD to generate cumulative free
cash flow of Rs29.5B over FY12-FY14. As a result, we expect net gearing to decline
from 0.4x in FY11 to near zero by FY14E. We note that big chunk of debt repayment
is scheduled in FY14, when the bonus debentures issued by DRRD to shareholders
would mature. We forecast ROCE to improve from 15.4% in FY11 to 20.1% by
FY14.
We set a Mar-12 price target of Rs1,600 for DRRD, valuing the base business at
Rs1534 per share, and the one-off opportunities in the US (para IV, limited
competition products) at Rs66 per share. Our value for the base business at Rs1534
per share is based on adjusted 20xFY13E P/E (EPS adjusted for para IV, limited
competition product related profits and interest on bonus debentures). We value the
one-off opportunities on an NPV basis (using a 12.75% discounting factor)
Key upside risks
Announcement of new big ticket products in the US market
DRRD has a strong product pipeline for the US market over the next 3 years
entailing para IV related and limited competition product opportunities. We believe
that most of these opportunities are priced into the stock valuations. However, any
further announcements / approvals for big-ticket products could drive earnings
upside and further re-rating of the stock price.
Faster-than-expected ramp-up of GSK alliance
DRRD has tied up with GSK to develop and market select products across emerging
markets outside India. DRRD would manufacture the products and will license and
supply to GSK for markets in Latin America, Africa, the Middle East and Asia
Pacific, excluding India. We expect revenues from this alliance to ramp up to
US$80MM by FY14. Faster-than-expected ramp up is likely to drive upside to our
earnings estimates.
Reversal of market share losses in the domestic market
DRRD's revenue growth in India has been under pressure over the past few quarters.
The company has ramped up its sales force last year by aggressively adding
headcount – pick up in revenue growth and reversal of market share losses could be a
potential re-rating trigger for the stock.
Pick up in PSAI business growth
DRRD’s API business has been facing pricing pressure and growth rates have been
tepid over last few years. DRRD have a total of 476 API filings worldwide, which is
the largest amongst India pharmaceutical companies. Upcoming patent expiries
present a significant opportunity for DRRD’s API business. While we expect growth
to remain muted on account of pricing pressure, any pick up in growth is likely to be
viewed positively and could have a positive impact on valuations.
Key downside risks
Delays in product launches / ramp up in the US
DRRD has a steady product launch pipeline in the US over the next three years. Any
potential delays in product launches could potentially be an overhang on valuations.
A case in point is the recent delay in USFDA approval of fondaparinux (generic
Arixtra). Similarly, lower-than-expected ramp up for expected big-ticket products
launches could also create a valuation overhang. Recent switch from prescription to
OTC for Allegra D-24 has reduced potential market share gains for DRRD’s generic
version.
Litigation-related risks
DRRD is involved in litigations related to its filings in the regulated markets. In the
US, it follows an aggressive para IV strategy. We believe that going forward any
potential adverse outcome from litigations can have bearings on growth for the
business as well as result in potential financial liabilities for DRRD.
Regulatory risks
Pharmaceutical industry is highly regulated across the globe and given DRRD’s
presence in multiple markets; it has to deal with multiple regulatory authorities. The
regulations tend to be more stringent in regulated markets like US and EU. There
have been instances of USFDA issuing warning letters or banning imports into US
from plants that have not adhered to USFDA guidelines. While DRRD has not been
involved in any regulatory issues (except for a recent warning letter issued to its API
plant in Mexico), we believe that there could be a material risk to its developed
markets’ business in the event it fails to adhere to the manufacturing guidelines set
by regulatory authorities. Specifically, recent regulatory changes in Russia could
have adversely impact market share and margins. While it is still early to gauge the
full impact of the legislative changes in Russia, which aim to replace 50% imports
with domestically manufactured drugs by 2017, we see potential risks for DRRD.
Protracted slowdown in growth in India
DRRD’s revenue growth in India has lagged the domestic revenue growth, given that
a large part of its product portfolio is focused on acute therapies, which are growing
at a slower pace than the market. In addition there are indications of some slowdown
in the market growth rate, a situation that does not bode well for DRRD. The
company has ramped up its sales force in FY11, but this has yet to bear fruit. If
DRRD fails to arrest the growth slowdown in the domestic market, it could have an
adverse impact on our earnings estimates as well as result in a valuation de-rating.
Valuation and share price analysis
DRRD is currently trading at 24.2x FY12E adjusted P/E and 19.7x FY13E adjusted
P/E, which is at the high end of its past five-year trading band. The stock de-rated
after FY07 as Germany moved to tender business resulting in significant margin
erosion and a decline in US revenues as one-off opportunities in FY06 tapered off.
However, over the past two years, the stock has seen a significant re-rating, driven by
strong growth in generics in North America, Russia and other emerging markets. The
strong pipeline of products in the US with a mix of exclusive and complex
generics/limited competition as well as stable growth in Russia and other emerging
markets (driven by JB Chemical acquisition/GSK alliance) should help sustain
current valuations, although we believe a further re-rating from here will be difficult.
Price target of Rs1,600
Our Mar-12 price target of Rs1,600 values the base business at Rs1,534 per share,
180 exclusivity opportunities at Rs16.5 per share, settlements at Rs18 per share and
complex generics/limited competition products at Rs31.5 per share. Our base
business valuation of Rs1,534 per share is based on 20x FY13E P/E, in line with the
domestic peer group average.
We value the exclusivity, settlement and complex generics/limited competition
opportunities in US on an NPV basis using a 12.75% discounting factor. Our
valuation estimate of Rs16.5 per share for 180 exclusivity opportunities include
Olanzapine, Rosiglitazone (declared by DRRD) and Ziprasidone (deduced from their
FTF/settlement newsflow). Our valuation of Rs18 per share for settlement
opportunities includes only those settlements that are indicated by DRRD as
significant opportunities despite intense competition. Our valuation of Rs31.5 per
share for complex generics/limited competition products includes drug compounds
announced by DRRD.
No comments:
Post a Comment