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Biocon: Mixed start to the year! - Views on News from Equitymaster
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Biocon: Mixed start to the year!
Jul 19, 2006

Performance summary
Biocon has announced mixed results for the first quarter ended June 2006. Topline has grown at a healthy double-digit pace led by its biopharmaceuticals and contract research businesses. However, operating margins have contracted sharply due to continued pricing pressure in the European statins market and a rise in R&D expenditure. While depreciation charges and interest costs have increased for the quarter, the same has been offset by a lower tax outgo, consequently resulting bottomline remaining at the same level as in 1QFY06.

Financial performance: A snapshot
(Rs m) 1QFY06 1QFY07 Change
Net sales 1,740 2,120 21.8%
Expenditure 1,240 1,580 27.4%
Operating profit (EBIDTA) 500 540 8.0%
Operating profit margin (%) 28.7% 25.5%  
Other income 20 10 -50.0%
Depreciation 70 110 57.1%
Interest - 20  
Profit before tax 450 420 -6.7%
Tax 70 40 -42.9%
Minority interest 10 10  
Profit after tax/ (loss) 390 390 0.0%
Net profit margin (%) 22.4% 18.4%  
No. of shares (m) 100.0 100.0  
Diluted earnings per share (Rs)*   17.5  
P/E ratio (x)*   19.3  
(* on a trailing 12-months basis)      

What is the company’s business?
Biocon is India's largest biotechnology company with presence in biopharmaceuticals, enzymes, custom research and clinical research. It started as an enzymes (organic chemicals used in fermentation process) manufacturer and leveraged its expertise in fermentation to evolve into an integrated bio-pharmaceutical company with strengths in microbial techniques, manufacturing and marketing. The company has two subsidiaries – Syngene and Clinigene – which are involved in custom research and clinical research respectively. These subsidiaries contribute over 13% to the total consolidated revenues of the company (as per FY06 numbers).

What has driven performance in 1QFY07?
Strong topline growth: Biocon clocked an impressive 22% YoY topline growth during the quarter, which was driven by its biopharmaceuticals and contract research businesses. Biopharmaceuticals grew by 19% YoY despite the fact that the launch of ‘Pravastatin’ and ‘Simvastatin’ has been delayed in t he US markets on the back of the 180-day exclusivity granted to Teva (for Pravastatin and Simvastatin) and Ranbaxy (Simvastatin 80 mg). The US market opportunity for these two statins will now materialise for Biocon in 4QFY07. Looking ahead, Biocon has received Indian regulatory approval for marketing its first biotech molecule – BIOMAb EGFR – for the treatment of cancer and will launch the product in 2QFY07.

The contract research business grew at a scorching pace (53% YoY growth), which could be attributed to revenue generation from new contracts signed by the company during previous quarters. Enzymes segment also registered a decent 10% YoY growth during the quarter, which could be attributed to the easing of the capacity constraints that this segment faced in FY06.

Business mix
  1QFY06 1QFY07 Change
Biopharmaceutical 1,350 1,610 19.3%
(% of consolidated revenues) 77.6% 75.9%  
Enzymes 200 220 10.0%
(% of consolidated revenues) 11.5% 10.4%  
Contract research 190 290 52.6%
(% of consolidated revenues) 10.9% 13.7%  
Total 1,740 2,120 21.8%

Margins under pressure: Operating margins fell sharply from 28.7% in 1QFY06 to 25.5% in 1QFY07. This was due to lower statin prices in the European markets during 1QFY07 as compared to 1QFY06. That said, the statin prices have stabilised in the region in the last few quarters. A 50% YoY rise in R&D expenditure was the other factor that impacted margins. Biocon’s R&D expenditure has risen due to the fact that the company is scaling up its discovery led programmes in biotherapeutics.

Cost break-up
(% of sales) 1QFY06 1QFY07
Raw material costs 55.7% 56.1%
Staff costs 8.6% 8.5%
Other expenses 6.9% 9.9%

Uninspiring bottomline picture: Biocon’s growth at the bottomline level has been flat largely due to the operating margins shrinkage and a considerable rise in depreciation charges. The company had undertaken a major capex programme and the new facilities have begun to come on stream, leading to the sharp 57% YoY rise in depreciation charges.

Over the last few quarters: Revenues in the last two quarters have been commendable, as statin prices seem to have stabilised in the European region and also due to increased contribution from insulin, immunosuppressants and branded formulations. That said, margins are likely to remain under pressure going forward, as the company continues to make investments in R&D.

Quarterly trend
  4QFY05 1QFY06 2QFY06 3QFY06 4QFY06 1QFY07
Net sales growth 20.7% 0.0% 8.6% 11.8% 22.3% 21.8%
Operating profit margin 28.0% 28.7% 29.7% 29.6% 28.0% 25.5%
Net profit growth 0.0% -20.4% -22.8% -12.0% 14.3% 0.0%

What to expect?
At the current price of Rs 338, the stock is trading at a price to earnings multiple of 19.3 times its trailing twelve months earnings. Going forward, statin supplies to the US markets are expected to commence from 4QFY07, which will provide a boost to the topline. That said, just as in the European markets, we expect price erosion to be severe in the US markets as well. In this context, Biocon’s strategy to increasingly focus on insulin, immunosuppressants, branded formulations and monoclonal antibodies in a bid to reduce its dependence on statins will stand it in good stead in the future. Also, we expect the contract research business to grow at a healthy pace going forward. However, the new segments in the biopharma business will take some time to significantly scale up. Also higher depreciation charges and increased R&D spend are expected to impact the performance of the company in the medium term. We shall soon update our research report on the company.

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