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Novartis: Not much to cheer about - Views on News from Equitymaster
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Novartis: Not much to cheer about
Jan 31, 2008

Performance summary
  • Revenues fall by 8% YoY for 3QFY08 attributed to poor performance of all its four business segments. For 9mFY08, revenues rise by a mere 1% YoY.
  • EBDITA margins contract by 140 basis points (1.4%) largely led by inventory related adjustments and higher other expenses (as percentage of sales).

  • Net profits grow by 7% YoY despite the 16% YoY fall in operating profits due to higher other income and the impact of the extraordinary item. Excluding this impact, net profits exhibit a 13% YoY fall.

Financial performance: A snapshot
(Rs m) 3QFY07 3QFY08 Change 9mFY07 9mFY08 Change
Net sales 1,487 1,362 -8.4% 4,184 4,229 1.1%
Expenditure 1,249 1,162 -7.0% 3,454 3,452 0.0%
Operating profit (EBDITA) 239 200 -16.1% 730 777 6.4%
EBDITA margin (%) 16.1% 14.7% 17.4% 18.4%
Other income 98 121 23.7% 301 403 34.1%
Interest (net) 2 2 60.0% 4 5 20.9%
Depreciation 7 7 12.3% 20 21 5.5%
Profit before tax 329 312 -5.1% 1,006 1,153 14.6%
Tax 118 130 10.3% 359 439 22.3%
Extraordinary item - 43 - 43
Profit after tax/(loss) 211 225 6.6% 647 757 17.0%
Net profit margin (%) 14.2% 16.5% 15.5% 17.9%
No. of shares (m) 32.0 32.0 32.0 32.0
Diluted earnings per share (Rs)* 31.1
Price to earnings ratio (x)* 10.6
(* on a trailing 12-months basis)

What has driven performance in 3QFY08?
  • Novartisí performance during 9mFY08 was dismal with revenues growing by a staid 1% YoY. The picture was even bleaker during 3QFY08 with revenues registering an 8% YoY decline. Revenues from the pharmaceutical division (69% of sales) recorded a staid 1% YoY growth in tandem with overall sales. The company attributed this to the continuing adverse impact of the current pharmaceutical policy on price control. While generics and animal health divisions logged in growth rates of 12% and 14% respectively, revenues from the OTC business slumped by 10% YoY and was hampered by the competitive pressure in the market.

    Segmental performance
    (Rs m) 3QFY07 3QFY08 Change 9mFY07 9mFY08 Change
    Pharmaceuticals 975 903 -7.3% 2,875 2,903 1.0%
    PBIT margin (%) 18.6% 17.8% 20.6% 25.3%
    Generics 120 113 -5.9% 341 382 12.0%
    PBIT margin (%) 33.2% 33.6% 32.9% 27.1%
    OTC 270 220 -18.4% 670 607 -9.5%
    PBIT margin (%) 23.4% 20.7% 20.0% 16.6%
    Animal health 123 126 2.1% 298 338 13.6%
    PBIT margin (%) 20.9% 15.1% 13.4% 13.2%
    Total revenues 1,487 1,362 -8.4% 4,184 4,229 1.1%
    Total PBIT margin (%) 20.8% 19.3% 21.0% 23.2%

  • Novartisí operating margins shrunk by 140 basis points (1.4%) during the quarter, which has largely been due to stock-related adjustments. Besides this, higher staff costs and other expenses were also responsible in denting margins. Going forward, we expect margins to improve backed by an improved product mix in both its pharmaceuticals and OTC businesses. To put things into perspective, the PBIT margins of the pharmaceutical segment improved from 20.6% in 9mFY07 to 25.3% in 9mFY08.

  • Extraordinary income to the tune of Rs 43 m (profit on sale of residential premises) helped in propping up the bottomline (up 7%) YoY despite the 16% YoY drop in operating profits. Excluding the impact of the extraordinary income, net profits dropped by 13% YoY. This decline was still lower than the reduction in operating profits due to higher other income.

What to expect?
At the current price of Rs 330, the stock is trading at a price to earnings multiple of 9.6 times our estimated FY10 earnings. Going forward, the pharmaceutical and OTC businesses are expected to be the key growth drivers, which will largely be driven by new product launches. In the pharma business, the company has chalked a strategy of driving growth through life cycle management of existing products and in-licensing opportunities. In the OTC segment, consolidation of existing brands and launch of new products in various categories is expected to augur well for this business. Besides this, the managementís plans of launching patented products in India from 2008 onwards can be construed as a positive step. Thus, we maintain our positive view on the stock from a long-term perspective.

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