J.P. Morgan - Glenmark Pharmaceuticals Ltd

Glenmark Pharmaceuticals Ltd. (GNP IN) Medium term growth drivers in place; Improvement in US revenue growth key near term catalyst		Overweight Price: Rs579.85 13 Jun 2014 Price Target: Rs715.00 PT End Date: 31 Mar 2015

We remain positive on Glenmark’s medium term growth outlook post our meeting with management. We believe GNP’s FY15 performance will highlight the strength of its emerging market franchise with strong growth outlook for key markets like India, LatAm and RoW-SRM. While GNP is investing in building the long term growth pipeline in the US, FY15 growth would depend on the pick-up in ANDA approvals. The pending litigation claim and continued investment in US business could push large net debt reduction to FY16. We see further potential upside from current levels as the key catalysts unfold over the medium term.

· Near-term US growth to pick up with approvals, in our view: GNP’s tepid US performance over the last few quarters has been impacted by fewer ANDA approvals (7 approvals in FY14). Management pointed that US growth is likely to improve through FY15 (guidance 12-15% vs. 9% in FY14 on USD basis). While so far approvals have been slow (one approval in 1Q so far), in our view, improvement in approval trends and launches should help increase US revenue trend (~10 approvals expected in FY15). In line with our view, management pointed out that any potential pricing impact from US channel consolidation will be visible over the next few quarters. (Please see our note on “US channel consolidation - Diminishing the US opportunity for Indian generic players? No, in our view” published on 22 April 2014).

Figure 1: Fewer approvals but filing pace picking up Source: Company reports.

Figure 2: US revenue growth to improve post a muted FY14-15 Source: Company reports and J.P. Morgan.

· R&D investment for LT growth opportunities: GNP has some key products in FY16-18, which should improve growth to ~20% levels from FY15 levels (gFinacea, gOrtho Tri- Cyclen Lo, gZetia). GNP indicated that it would like to file ANDAs in at least one new niche therapy area every year. GNP announced filings in complex injectables, immunosuppressant from Indore facility with R&D expense increase 48% YoY in FY14. Therefore, the higher R&D spend guidance (9.5-10% vs. 9% in FY14) would be towards generic for the US market and also focus on pipeline to support growth opportunities post FY18. While R&D expense will continue to increase (28% CAGR over FY14-16), we expect R&D/Sales to remain in the 9.5-10% range over the medium term.

Figure 3: GNP ANDA filings trend Source: Company reports.

Figure 4: R&D spend as % of Sales to remain at 9.5-10% Source: Company reports and J.P. Morgan estimates.

· Ex-US growth on a strong footing. We have highlighted that the base of the EM is getting bigger but remains a key driver for GNP’s earnings and profitability over the next two years. Management remains focused on organic growth in its existing EM markets and reiterated growth guidance 18-20% for SRM-Row and 25-30% for LatAm (primarily due to Mexico, Venezuela, Argentina). While Europe achieved breakeven in FY14 (improve further in FY15), GNP expects Latam to follow suit this fiscal.

Figure 5: GNP's RoW-SRM Growth… Source: Company reports and J.P. Morgan estimates.

Figure 6: … and LatAm Growth to improve Source: Company reports and J.P. Morgan estimates.

· GNP’s India growth not a concern due to changing regulations: GNP remains confident on 18+% growth in India with high single digit to low teens growth for the domestic industry. Management pointed that any big change in growth momentum would depend on the regulation set by the new government. However, it indicated that the recent guidelines by NPPA are not applicable to all non-scheduled products but looking at addressing certain discrepancies in the market. (Please see our note on “Indian Pharmaceuticals: NPPA's new guidelines for non-scheduled formulation in domestic market” published on 9 June 2014).

· Potential Tarka liability to push debt reduction into FY16: We would view the improving operating performance (US growth improvement, EM performance, NCE/NBE monetization) as key drivers for outperformance in the near term and expect decline in net debt levels to flow through as FCF generation picks up from FY16 onwards. While we expect FCF generation of Rs3.4bn in FY15, potential payment related to Tarka litigation (liability of $26-27Mn, in our view) is likely to limit large net debt reduction. Management has pointed that any large milestone payment from its innovative R&D pipeline could likely be utilized toward debt repayment.

Figure 7: Net Debt Reduction Likely in FY16, in our view

Source: Company reports and J.P. Morgan estimates.

Table 2: GNP key opportunities in the US

Generic	Brand	Date	US Sales ($Mn)	Comment
Eszopiclone	Lunesta	May-14	780	Settled. Shared FTF
Telmisartan	Micardis	Jul-14	274	Patent expiry in Jan-14. Watson, Roxane (AG), Alembic and Glenmark are likely players
Fluocinonide	Vanos	Jul-14	30	Case settled with Medicis Pharma. Perrigo, Nycomed, Glenmark and Taro are settled for 15 Dec 2013 launch
Trandolapril+ Verapamil	Tarka	Feb-15	70	Under litigation. Patent expires in Feb-15 but GNP launched at risk launch (was withdrawn later)
Colesevelam hydrochloride	Welchol	Apr-15	174	Case settled with Daiichi Sankyo and Genyzme
Norgestimate and Ethinyl Estradiol	Ortho Tri-Cyclen Lo	Dec-15	450	Case settled.
Dronedarone	Multaq	Jul-16	320	GNP and Actavis has 180 day exclusivity
Rosuvastatin	Crestor	Jul-16	3600	District court ruled in favour of Innovator and upheld patent (expires in Jan-16). ARBP has FTF. Glenmark, Teva, Mylan, Watson, Sun, Sandoz have filed ANDA
Ezetimibe	Zetia	Dec-16	1700	Case settled. GNP has FTF. Till now, Mylan and Teva have filed, more expected to file.
Atomoxetine hydrochloride	Strattera	May-17	384	GNP has TA on all strengths. Lilly recently won appeals case, patent was upheld. DRRD, Teva, Sandoz, Zydus, Aurobindo have also tentative approvals.
Azelaic Acid, Gel 15% Topical	Finacea	Nov-18	95	Under litigation-GNP may be FTF applicant and may be entiled to 180 day generic exclusivity. 30 month stay completes in Dep-15
Lacosamide	Vimpat	Mar-22	353	Multiple ANDA filers. Glenmark has FTF
Bendamustine HCL	Treanda	-	680	Shared exclusivity

Source: Company reports, J.P. Morgan estimates.

Investment Thesis

We believe that GNP’s generic business growth, aided by a pick-up in US and emerging markets growth momentum, EBITDA margin expansion and a reduction in leverage through sustained increases in cash flow generation, should help narrow the valuation gap to its domestic peers. Further, GNP’s innovation R&D pipeline provides scope for upside surprise with new out-licensing opportunities

Valuation

Our Mar-15 price target of Rs715 is based on sum-of-the-parts with a base business P/E of 18x, at a 10% discount to its Indian peer group. We attribute an NPV of Rs37 from pipeline opportunities and Rs46 from its (NCE)/ (NBE) research pipeline to the target price.

Table 7: GNP SOTP Summary

	Rs/share
Base EPS Sep-15	35.1
Target Multiple	18	10% discount to domestic peers
Base Target price	632
FTF Opportunities	37
NCE/NBE Research Pipeline	46	Crofelemer RoW sales and GBR - 500
GNP Target price (Rs/share)	715

Source: J.P. Morgan estimates

Risks to Rating and Price Target

Key risks to our view include potential regulatory issues (especially related to the USFDA), an inability to monetize the NCE pipeline, further deterioration in working capital and an inability to expand its product basket

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