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Biocon: Back in the business! - Views on News from Equitymaster
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Biocon: Back in the business!
Jan 18, 2007

Performance summary
Biocon has announced strong results for the third quarter and nine months ended December 2006. Topline during both the periods has grown at a healthy double-digit pace led by its biopharmaceuticals and contract research businesses. While operating margins have improved during the quarter, the same has come under pressure for 9mFY07. Strong performances, both at the topline and operating levels, combined with a considerably lower tax outgo have contributed to the healthy 27% YoY bottomline growth during the quarter despite the surge in depreciation charges.

Financial performance: A snapshot
(Rs m) 3QFY06 3QFY07 Change 9mFY06 9mFY07 Change
Net sales 2,010 2,470 22.9% 5,750 7,080 23.1%
Expenditure 1,400 1,690 20.7% 4,050 5,100 25.9%
Operating profit (EBIDTA) 610 780 27.9% 1,700 1,980 16.5%
Operating profit margin (%) 30.3% 31.6%   29.6% 28.0%  
Other income - -   30 20 -33.3%
Depreciation 70 180 157.1% 220 470 113.6%
Interest 10 20   10 60 500.0%
Profit before tax 530 580 9.4% 1,500 1,470 -2.0%
Tax 90 40 -55.6% 250 100 -60.0%
Minority interest - 20   10 30 200.0%
Profit after tax/ (loss) 440 560 27.3% 1,260 1,400 11.1%
Net profit margin (%) 21.9% 22.7%   21.9% 19.8%  
No. of shares (m) 100.0 100.0   100.0 100.0  
Diluted earnings per share (Rs)*         18.8  
P/E ratio (x)*         23.4  
(* on a trailing 12-months basis)            

What is the company’s business?
Biocon is India's largest biotechnology company with presence in biopharmaceuticals, enzymes, custom research and clinical research. It started as an enzymes (organic chemicals used in fermentation process) manufacturer and leveraged its expertise in fermentation to evolve into an integrated bio-pharmaceutical company with strengths in microbial techniques, manufacturing and marketing. The company has two subsidiaries – Syngene and Clinigene – which are involved in custom research and clinical research respectively. These subsidiaries contribute over 16% to the total consolidated revenues of the company (as per 9mFY07 numbers).

What has driven performance in 3QFY07?
Biopharma, research boosts topline: Biocon’s topline clocked an impressive 23% YoY growth during the quarter chiefly led by its biopharmaceutical and contract research businesses. The biopharmaceutical business reported a strong 16% YoY growth in sales. This was attributed to the commencement of ‘Pravastatin’ and ‘Simvastatin’ supplies to the US. It must be noted that for these drugs, Teva Pharma (Israel) had been granted the 180-day exclusivity, which expired in October and December respectively, thus ushering in other players including Biocon in the US market. For ‘Simvastatin’, the company has secured 4 customers (2 more in the pipeline) and has garnered around 20% market share. The company’s product ‘BIOMAb EGFR’ for the treatment of head and neck cancers, which was launched in the domestic market in 2QFY07 and its insulin brand ‘Insugen’ were the other contributors to the overall growth in the biopharmaceutical business.

As far as alliances are concerned, Biocon has granted an exclusive license to Ferozsons Laboratories for marketing ‘BIOMAb EGFR’ in Pakistan. With the Pakistan oncology market valued at around US$ 70 m and more than 25,000 new cases of head and neck cancer reported every year in that country, Biocon is looking to tap the potential of this market to propel its topline going forward. Besides this, the company has also signed a MoU to establish a JV with Neopharma, Abu Dhabi for the purpose of marketing a range of biopharmaceuticals in the Gulf region.

The contract research business grew at a scorching pace (68% YoY growth), which could be attributed to revenue generation from new contracts signed by the company during previous quarters. Enzymes segment also registered a decent 11% YoY growth during 3QFY07, which could be attributed to the easing of the capacity constraints that this segment faced in FY06.

Business mix
  3QFY06 3QFY07 Change 9mFY06 9mFY07 Change
Biopharmaceutical 1,550 1,800 16.1% 4,450 5,240 17.8%
(% of consolidated revenues) 77.1% 72.9%   77.4% 74.0%  
Enzymes 180 200 11.1% 600 680 13.3%
(% of consolidated revenues) 9.0% 8.1%   10.4% 9.6%  
Contract research 280 470 67.9% 700 1,160 65.7%
(% of consolidated revenues) 13.9% 19.0%   12.2% 16.4%  
Total 2,010 2,470 22.9% 5,750 7,080 23.1%

Margin expansion visible: Operating margins expanded by 220 basis points during the quarter largely due to a decline in raw material costs (as percentage of sales). With the manufacturing facilities in Biocon Park turning operational, the company was able to conduct the entire manufacturing process on its own without having to import intermediates from other parties. This translated into cost savings for the company. R&D expenditure, however, doubled during the quarter and is expected to be at a level of 8% to 10% of sales going forward, as Biocon continues to invest in its discovery led biotherapeutics programmes.

Cost break-up
(% of sales) 3QFY06 3QFY07 9mFY06 9mFY07
Raw material costs 51.2% 49.0% 54.1% 52.7%
Staff costs 8.0% 10.1% 8.2% 9.3%
Other expenses 10.4% 9.3% 8.2% 10.0%

Robust bottomline growth: Biocon’s growth at the bottomline level (up 27% YoY) has been healthy largely due to strong performances both at the topline and operating level despite the rise in depreciation charges. It must be noted that the company had undertaken a major capex programme and the new facilities have begun to come on stream, leading to the sharp 157% YoY rise in depreciation charges.

Over the last few quarters: Revenues in the last four quarters have been commendable, backed by stable statin prices in the European region, commencement of statin supplies to the US market from 3QFY07 and increased contribution from insulin, immunosuppressants and branded formulations. That said, margins are likely to remain under pressure going forward, as the company continues to make investments in R&D.

Quarterly trend
  2QFY06 3QFY06 4QFY06 1QFY07 2QFY07 3QFY07
Net sales growth 8.6% 11.8% 22.3% 21.8% 24.5% 22.9%
Operating profit margin 29.7% 29.6% 28.0% 25.5% 26.5% 31.6%
Net profit growth -22.8% -12.0% 14.3% 0.0% 4.7% 27.3%

What to expect?
At the current price of Rs 440, the stock is trading at a price to earnings multiple of 18.5 times our estimated FY09 earnings. While ‘Pravastatin’ supplies have commenced to the US markets from this quarter, revenues from ‘Simvastatin’ supplies will pick up scale from 4QFY07. These two statins are expected to drive the topline in the coming few quarters. That said, just as in the European markets, we expect price erosion to be severe in the US markets as well from FY08 onwards. In this context, Biocon’s strategy to increasingly focus on insulin, immunosuppressants, branded formulations and monoclonal antibodies in a bid to reduce its dependence on statins will stand it in good stead in the future. However, it must be noted that these new segments will take some time to significantly scale up. Also, we expect the contract research business to grow at a healthy pace going forward. While the stain supplies to the US are expected to propel topline growth going forward, higher depreciation charges and increased R&D spend are expected to pressurise the profitability of the company in the medium term.

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