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Nicholas Piramal: Where to from here?

Jun 8, 2005

Domestic pharma major, Nicholas Piramal announced disappointing FY05 results due to VAT related concerns. In this article, we take a look at how the company has performed over the years and future prospects.

About the company
Nicholas Piramal is one of the leading Indian pharma companies with strong focus in the domestic market. It is the 4th largest company with 4.3% market share (FY05) in the domestic market with a large sales force covering 10 therapeutic segments of the pharma industry. The company has started focusing on the exports market too and the contribution of exports in total sales has increased to 12% from zero in the space of three years. It has gradually improved its product portfolio by increasing the share of lifestyle drugs and has also started focusing on R&D off late. The biggest contributor to company's revenue is respiratory and cardiovascular segment. The other major therapeutic segments in which the company operates are anti-infectives, nutritional, and gastro intestinal.

How the numbers stack up
(Rs m) FY02 FY03 Change FY04 Change FY05 Change
Net sales 8,039 9,642 20.0% 12,890 33.7% 12,583 -2.4%
Expenditure 6,754 7,887 16.8% 10,312 30.7% 10,847 5.2%
Operating profit (EBIDTA) 1,285 1,755 36.6% 2,578 46.9% 1,736 -32.6%
Operating profit margin (%) 16.0% 18.2%   20.0%   13.8%  
Other income 374 530 41.7% 45 -91.5% 178 295.6%
Interest (net) 313 206 -34.3% 164 -20.3% 175 6.7%
Depreciation 169 235 39.1% 411 75.0% 474 15.3%
Profit before tax 1,176 1,844 56.8% 2,048 11.0% 1,265 -38.2%
Exceptional items (449) (600) 33.6% (217) -63.8% 796  
Tax 245 63 -74.1% (52)   367  
Profit after tax 482 1,181 144.9% 1,883 59.4% 1,694 -10.0%
Net profit margin (%) 6.0% 12.2%   14.6%   13.5%  
No. of shares (m) 38 38   38   190  
Diluted earnings per share (Rs)* 2.5 6.2   9.9   8.9  
P/E ratio (x)           29.6  
(* annualised)              

The journey over the years...
FY03: Topline registered a 20% YoY growth largely driven by the formulations business. The company grew faster than the market in 7 of the 9 main therapeutic areas in which it has a presence. Due to its focus on the lifestyle segment, the exposure to the slowly growing anti-infectives segment was reduced. The company aggressively launched 21 new products during the year out of which 14 were in the lifestyle segment. Operating margins increased from 16% to 18% on the back of increased revenues aided by benefits arising from the integration of ICI India's pharma division with Nicholas and continuous cost cutting efforts.

Bottomline jumped 145% YoY aided by lower interest costs and tax outgo. Interest burden reduced due to substantial repayment of debt and substitution of high cost with low cost debt.

FY04: Topline during the year clocked a robust 33% YoY growth propelled by growth in the domestic branded formulations business and exports. Exports contributed about 8.5% of the total revenues in FY04, which was aided by a huge surge in API exports mostly to the US and European markets. However, it must be noted that some part of this growth came from the merger of Sarabhai Piramal Pharmaceuticals with itself. If one were to consider the organic growth (without considering the Sarabhai merger), the company grew by 17% YoY while the growth in formulations business was 13% against the overall growth of 7.3% of the domestic market for FY04.

The company outperformed the market in 9 out of 10 therapeutic areas in which it operates and the overall market for lifestyle drugs grew faster than other therapeutic segments in the domestic market. Operating margins improved from 18% to 20%. This was despite the 79% rise in R&D expenditure. Bottomline registered a 59% YoY growth on account of lower interest costs, higher operating efficiency and a tax write-back. During the year, the company launched 23 new products.

FY05: Nicholas witnessed a drop in revenues by 2% YoY, which was due to VAT-led de-stocking and retailers' industry-wide boycott relating to psychotropic and narcotic drugs. The company continued its focus on the high growth lifestyle segment, which constituted 27% of sales. Respiratory drugs continued to dominate the branded formulations segment (22% of sales). Despite savings in material cost, increased R&D spend aided the 5% YoY rise in expenditure. The R&D spend as a percentage of sales rose from 2% in FY04 to 4% in FY05. However, it must be noted that lower offtake also skewed this ratio. Operating margins dipped by 420 basis points chiefly on account of reduced sales.

During the year, the company snapped ties with Roche Diagnostics and received consideration to the tune of Rs 862 m. This provided a cushion to the bottomline which fell 10% YoY. But for this receipt, the fall in the bottomline would have been much sharper. Also, the company acquired the global Inhalation Anaesthetics (IA) business from Rhodia Organique Fine, which will give it access to the manufacturing technology and facilities as well as global sales and marketing rights for IA products. 35 new products were launched by the company in FY05.

What to expect?
At Rs 264, the stock is trading at a P/E of 26 times its estimated FY08 earnings. Contract manufacturing is going to be the growth driver for the company going forward. The company secured 2 agreements (one with a Fortune 500 company and the other with Allergan Inc. USA). Also, negotiations are underway to secure 2 more such contracts.

Now that India has begun to realise product patents, it remains to be seen how Nicholas will cope with the same in the long term, as majority of the company's revenues is derived from the domestic market. The company will find it difficult to introduce new products at the same rate like it had done in the past. Despite the increase in R&D spend, we believe that the company is unlikely to make any significant breakthrough on the R&D front in the next 3-4 years.

We had given a Sell recommendation on the stock on January 1, 2005. In view of the high valuations, investors are better off keeping away from the stock.


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