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Dr. Reddy's: 'Extraordinary' impact - Views on News from Equitymaster

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Dr. Reddy's: 'Extraordinary' impact
Jan 20, 2010

Performance summary
  • Revenues decline by 6% YoY in 3QFY10 largely due to the 55% fall in revenues from North America.
  • A sharp fall in raw material costs and other expenses (as percentage of sales) leads to the 3.3% improvement in operating margins during the quarter.
  • Profit before tax grows by an impressive 33% YoY due to a considerable reduction in interest costs.
  • There is a loss at the net level to the tune of Rs 2.3 bn on account of impairment of intangible assets and goodwill related to Betapharm. On excluding the same, net profits grow by 42% YoY.

Consolidated numbers
(Rs m) 3QFY09 3QFY10 Change 9mFY09 9mFY10 Change
Net sales 18,050 17,036 -5.6% 48,622 52,828 8.7%
License fees and service income 413 543 31.4% 1,149 1,637 42.5%
Expenditure 14,999 13,749 -8.3% 41,364 42,601 3.0%
Operating profit (EBDITA) 3,465 3,829 10.5% 8,407 11,865 41.1%
EBDITA margin (%) 19.2% 22.5%   17.3% 22.5%  
Other income 90 91 1.9% 326 471 44.3%
Interest (net) 276 82 -70.2% 765 273 -64.3%
Depreciation 1,234 1,118 -9.4% 3,642 3,143 -13.7%
Profit before tax 2,044 2,721 33.1% 4,326 8,919 106.2%
Exceptional items - 4,583   - 4,583  
Tax 452 469 3.7% 949 1,880 98.2%
Profit after tax/(loss) 1,592 (2,331)   3,378 2,457 -27.3%
Net profit margin (%) 8.8% -13.7%   6.9% 4.7%  
No. of shares (m)       168.4 168.8  
Diluted earnings per share (Rs)*         54.1  
Price to earnings ratio (x)         21.9  
* excluding extraordinary items

What has driven performance in 3QFY10?
  • Dr. Reddy’s revenues in 3QFY10 declined by 6% YoY due to the 14% YoY fall in the global generics business. The poor performance of the generics business was largely due to the 55% drop in revenues from North America. It must be noted that in 3QFY09, Dr.Reddy’s enjoyed benefits of the 180-day exclusivity for the blockbuster drug ‘Imitrex’. There being no such exclusivity during 3QFY10, revenues from this region took a hit. On excluding ‘Imitrex’, sales growth from North America was flat. This was attributed to delay in product launches as well as the impact of certain batches of 4 products having to be recalled from the US market. Sales of the global generics business (excluding ‘Imitrex’) stood at 16% YoY led by the markets of India and Russia. As far as the US business is concerned, the company now has a total of 62 ANDAs pending US-FDA approval of which 35 are Para IVs and 13 are FTFs (first-to-file). Sales from Europe grew by a tepid 3% YoY during the quarter. While Betapharm registered a 2% YoY growth in sales, revenues from the rest of Europe grew by 6% YoY.

    Consolidated business snapshot
    (Rs m) 3QFY09 3QFY10 Change 9mFY09 9mFY10 Change
    Global generics 13,683 11,724 -14.3% 23,970 24,744 3.2%
    - North America 6,651 2,974 -55.3% 9,459 9,000 -4.9%
    - Europe 2,506 2,579 2.9% 5,500 4,688 -14.8%
    - India 1,967 2,632 33.8% 4,169 5,025 20.5%
    - Russia and other CIS 2,006 2,769 38.0% 3,934 4,640 17.9%
    - Others 553 770 39.2% 908 1,391 53.2%
    Pharma Services & Active ingredie 4,458 5,237 17.5% 9,071 10,107 11.4%
    Proprietary products & Others 260 336 29.2% 398 636 59.8%
    Total 18,401 17,297 -6.0% 33,439 35,487 6.1%

  • Revenues from Russia and the other CIS markets grew by 38% YoY. Revenues from Russia grew strongly by 45% YoY while revenues from the other CIS markets grew by 13% YoY. Revenues from India grew by a robust 34% YoY growth led by key brands of Omez, Nise, Stamlo Beta, Reditux and Stamlo. 18 new products were also launched during the quarter, while 56 new products were launched in the nine month period which accounted for 4% of 9mFY10 sales. Revenues from the Pharmaceutical Services and Active Ingredients (PSAI) business grew by 18% YoY during the quarter driven by the regions of India and Rest of the World (ROW).

  • Dr.Reddy’s operating margins improved by 3.3% during the quarter largely on account of lower raw material costs, R&D and other expenses (as percentage of sales). The other expenses were lower this quarter, as in 3QFY09 these included provision for damages on account of the German court upholding the validity of the ‘Olanzapine’ patent in Germany which was not present this quarter. Also, forex loss for the quarter was considerably lesser at Rs 44 m as against Rs 493 m in 3QFY09.

  • Dr.Reddy’s reported a loss at the net level to the tune of Rs 2.3 bn. But this was largely due to extraordinary item of Rs 4.5 bn which was recorded due to the writedown of intangible assets, the ‘beta’ brand and goodwill. Significant deterioration in drug prices from the previous year’s levels and the change in the dynamics of the German generics market from a branded to a tender based one is what prompted this move. On excluding this, bottomline reported a robust 42% YoY growth mainly due to a significant reduction in interest costs and improvement in operating margins. Interest costs reduced as Dr.Reddy’s had repaid a significant part of the Euro loan that they had taken to fund the acquisition of Betapharm.

What to expect?
At the current price of Rs 1,185, the stock is trading at a multiple of 17.2 times our estimated FY12 earnings. Going forward, Dr. Reddy’s focus on a stronger product flow in the US, custom manufacturing business and other core businesses will be the key long-term drivers. The company is focusing on building a strong pipeline in the US market with the aim of launching around 15 products in this market every year. It is also aiming to garner the exclusivity window for atleast one product every year for the next five years.

Betapharm continues to operate under clouds of uncertainty in the German market. With Germany becoming more of a tender based market than a branded one, margins will be on the lower side. Therefore, volume growth and cost cutting will be the key. While we are positive on the growth prospects of the company from a long term perspective, valuations at the current levels appear on the higher side.

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