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A dose of Cipla

Mar 17, 2004

Cipla is one of the largest bulk drug and formulations manufacturer in the country. Ranked second in India by ORG in terms of retail pharmaceutical sales, the company has manufacturing facilities at Kurkumbh, Bangalore, Patalganga, Vikhroli (Mumbai) and Verna (Goa). All the bulk drug manufacturing facilities of the company have been approved by the US FDA and the formulation facilities have been approved by the Medicine Control Agency - UK, the Medicine Control Council - South Africa, the Therapeutic Goods Administration - Australia and other international agencies.Cipla has a very wide product range in domestic market, which includes antibiotics, anti-bacterial, anti-asthmatics, anti-inflammatory, antiretrovirals, anthelminites, anti-cancer and cardiovascular. In domestic formulation market, antibiotics are the mainstays. Some of the leading brands from the company are Ciplox (Ciprofloxacin), Novamox (Amoxycilin) and Norflox (Norfloxacin). Cipla also has in its product portfolio Zidovir (zidovudine - anti-AIDS drug). Cipla was one of the first among the Indian pharmaceutical companies to introduce ampicillin and norfloxacin two of the most effective anti-infective drugs. The company dominates the anti-asthma segment and has introduced innovative products such as non-CFC based inhalers, which is the first such development outside Americas and Europe. It also concentrates on developing specialty bulk drugs for export markets.

Cipla had limited exposure in the international market until a few years back. However off late, increased focus on the exports market has resulted in the company exporting drug formulations to over 140 countries. Exports of the company have doubled in the last one year.

Strategic tie-ups for bulk supply
Cipla's strategy for its generics business is to enter into bulk drug supply arrangements with companies well entrenched in the generic markets. Cipla has tied up with some of the top US generic companies (like Watson and Ivax) for around 50 products. These arrangements are typically to supply specialty bulk drugs. The company thus intends to enter specialty segments with low risk return approach ensuring relatively stable earnings flow.

Increasing export presence
Cipla is driving growth through increasing exports focus. Exports have grown at a CAGR of 57% in last three years. Apart from developing markets, Cipla is also focusing on regulated markets for growth. The therapeutic segments that led this performance included anti-hypertensives, anti-AIDS, anti-asthma and anti-ulcerants. Cipla made a mark in anti–AIDS treatment by offering the combination of AIDS medicines at one-tenth of costs of the other MNC brands. The contribution of exports is likely to go up to 40% in FY04E from 19% in FY98. At present the company focuses mainly on exporting bulk drugs. However, formulations also form substantial portion of the company's export revenue. Going forward, it intends to export formulations in a big way thus improving margins.

Leader in anti-asthma segment
Cipla enjoys a near dominant position in the Indian asthma segment, offering a large range of asthma treatment products. These account for roughly 18% of the company's turnover. Cipla is one of the few companies in the world who have the technology to manufacture CFC-free inhalers. With CFC (Chlorofluorocarbons) inhalers to be compulsorily phased out by 2010, this segment is expected to see growth in the future. Cipla is targeting to market its CFC free inhalers in Europe, which is the biggest market for inhaler drugs. In India, the anti-asthma market is estimated to be in excess of Rs 4 bn and is recording a double-digit annual growth. The supply of CFC free inhalers is going to contribute a substantial portion of the export revenue of the company.

Financial profile
Historically, Cipla has been one of the more under-leveraged companies, as its long term debt has never crossed more than 5% of the total capital in the last 6 years. The company's return on net worth (RONW) has always been in the range of average 25% and return on assets (ROA) around 20% over the last 5 year period. (ROA in FY03 was at 14.5% owing to the huge increase in inventories as a result of the VAT fiasco). The operating and net profit margins of the company have been around 22%-26% and 15%-18% range respectively over the last five years. Increased thrust on formulation exports will help this margin to get better going forward.

Growth
Cipla's growth in revenue and profit terms has been impressive in the last few years. The following chart depicts the picture. Most of the growth in revenue has been driven by the export performance of the company in the last five years.


*Expected

R&D
It is a well known fact that Cipla is one of the most proactive pioneers of reverse engineering for drug manufacturing in the country. Historically, it has always been the first to reverse engineer a patented drug and introduce it in the domestic market at competitive prices. Of course, India's patent laws made this possible. Its research is focused on basically improving the process and reverse engineering. It spends very conservatively on R&D activities compared to its peers in the Indian pharma industry. The average spend in the R&D activities has been around 3.5% of the sales revenue, as compared to 7%-8% spending by other Indian pharma companies and 15% by global pharma majors.

R&D ExpensesFY 99FY 00FY 01FY 02FY 03
Capital Expenditure9.712.663.1100.396.3
Recurring Expenditure230.4287.6346.1367.3420.9
Total Expendiiture240.2300.2409.2467.6517.2
Total R&D expenditure
as percentage of net sales(%)
3.9%4.0%3.9%3.4%3.3%

To sum up, Cipla is one of the oldest drug companies in India, which still has a formidable presence in certain key therapeutic segments in the industry. The business model adopted by the company is very conservative and going forward it is not likely to change drastically. The company is likely to remain focused on exporting bulk drugs, thus focusing on increasing manufacturing efficiency. Though, the opportunity is huge in this area considering the low costs involved in producing bulk drugs in India, it will remain a very competitive area and the competition will be cut throat, which will show effect on the company's margins.

At current market price of Rs 1,205 the Cipla stock is trading at a P/E of 24x on FY04E earnings, which seems to be a fair valuation. Though we believe that the long-term prospects of the company are good and are encouraged by continuing export growth, pressure on operating margins in future cannot be ruled out.

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