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Dr Reddy's: Bogged by poor performance - Views on News from Equitymaster
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Dr Reddy's: Bogged by poor performance
May 13, 2014 | Updated on May 15, 2014

Dr Reddy's has announced its 4QFY14 results. The company has reported 4% YoY growth in sales and a decline of 16% YoY growth in net profits. Here is our analysis of the results.

Performance summary
  • Topline grows by a mere 4% YoY during the quarter. The growth was impacted by lower sales in the PSAI segment.
  • Operating margins remained flat for the quarter at 21.8%. Operating expenditure was up by 4.3% largely on account of the sharp increase in R&D expenses.
  • Bottomline declined by 16% YoY, due to decrease in other income and increase in taxes and depreciation.

Financial Performance : A snapshot
(Rs m) 4QFY13 4QFY14 Change FY13 FY14 Change
Net sales 33,399 34,809 4.2% 116,266 132,170 13.7%
Expenditure 26,108 27,223 4.3% 91,394 100,956 10.5%
Operating profit (EBDITA) 7,292 7,586 4.0% 24,872 31,214 25.5%
EBDITA margin (%) 21.8% 21.8%   21.4% 23.6%  
Other income 1,631 226 -86.1% 2,479 1,416 -42.9%
Interest (net) (397) (163)   (460) (400)  
Depreciation 1,495 1,956 30.8% 6,237 6,598 5.8%
Profit before tax 7,825 6,019 -23.1% 21,574 26,432 22.5%
Minority interest 26 48 84.6% 104 174 67.3%
Tax 2,142 1,252 -41.5% 4,900 5,094 4.0%
Profit after tax/(loss) 5,709 4,815 -15.7% 16,778 21,512 28.2%
Net profit margin (%) 17.1% 13.8%   14.4% 16.3%  
No. of shares (m)         169.4  
Diluted earnings per share (Rs)         126.0  
Price to earnings ratio (x)*         20.8  
*based on trailing 12 months earnings

What has driven performance in 4QFY13?
  • Dr Reddy's revenues grew at a lower rate of 4% YoY for the quarter. This was primarily due to poor performance of its PSAI segment. For the full year FY14, the sales growth stood at 13.7% YoY.

    Consolidated Business snapshot
    (Rs m) 4QFY13 4QFY14 Change FY13 FY14 Change
    Global Generics 22,566 27,318 21.1% 82,563 105,164 27.4%
    Pharma services and Active Ingredient (PSAI) 10,173 6,641 -34.7% 30,702 23,974 -21.9%
    Proprietary products and others 661 851 28.7% 3,001 3,032 1.0%
    Total 33,401 34,810 4.2% 116,267 132,170 13.7%

  • The global generics segment, witnessed good growth of 21% YoY during the quarter. The growth in this segment was largely attributable to North America (growth of 31% YoY) and India (growth of 18% YoY). In constant currency terms, the US grew by 14% YoY for the quarter. In the US, the company had launched generic versions of Lunesta (under 180-days exclusivity), Sumatriptan and Caduet during the quarter. The growth in the US segment was also attributable to ramp up in the sales of launched generics drugs viz., complex injectables - Dacogen, Vidaza, Aricept (23 mg) and Depakote. The company is also witnessing good traction in Toprol XL. Going forward, the growth in US is expected to be good, however uncertainty over certain niche generic launches (Rapamune, Aciphex, Copaxone) and emerging competition in Dacogen (Sun has received approval under 505 b (2) route) remain a concern.

  • The other geographies viz., Russia and Europe witnessed muted growth. The Russia business reported a flat growth (up 4% YoY in constant currency) due to currency devaluation. OTC contributed 37% of the total Russia sales. Management expects to launch 5-6 products in FY15 in different therapies. Dr.Reddy's is also looking to launch Rituximab in Russia, the approval for which is still awaited.

  • India formulations grew by a healthy 18% YoY for the quarter. The company witnessed good growth in the NLEM portfolio. Growth was fueled by good sales of chronic segment and new product launches. For FY15, company expects better growth on back of new launches and low base of FY14. The total sales growth in India for FY14 was 8% YoY.

  • The PSAI segment displayed poor performance. The sales declined by 35% YoY for the quarter. This was largely attributed to high base in 4QFY13 and lack of new launches during the quarter. However, going forward, the sales in this segment are expected to witness better growth.

  • The core operating margins of the company remained flat for the quarter. Including operating income, the margins were down by 640 bps (6.4%). This was largely due to one time income the company had received in Q4FY13. During the quarter, the company's R&D expenses spiked up to 11% of sales vs 7% in 4QFY13. This sharp increase in R&D expenses had impacted the company's margins and overall performance.

  • Net profits declined by 16% YoY for the quarter. Increase in R&D expenses and depreciation coupled with lower operating income impacted the bottomline.
What to expect?
At the current price of Rs 2,618, the stock is trading at a price to earnings multiple of 17.6 times our estimated FY16 earnings. Going forward, Dr.Reddy's growth will be led by the US as well as the emerging markets such as Russia, South Africa, Venezuela and various CIS regions. For the US market, Dr Reddy's is aiming to keep up the pace of niche product launches, which will drive topline growth and help the company earn better margins. However, concerns with respect to receiving timely approvals for product filings remain. During the quarter, R&D expenses considerably increased, and the company will continue to spend higher for the upcoming year also. This is likely to put some near term pressure on margins. The revenues from the PSAI segment are highly dependent on the number of new products launched. Thus, whenever the company fails to make new launches especially high technology products, it will see impact on growth, as was the case during the current quarter.

However, as we have said earlier, the company has received approvals for various niche drugs. By nature these drugs have higher entry barriers and offer better margins. Therefore with the company's long term prospects remaining intact, we recommend investors to Hold on to the stock with FY16 target price of Rs 3,030.

We would like to gently remind you that your allocation to equities should be decided upon after keeping aside some safe cash. Also within your overall exposure to equities please ensure that you broadly follow suggested asset allocation and that no single stock comprises 5% of your portfolio.

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