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Sun Pharma: Tarnished by Caraco issues - Views on News from Equitymaster

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Sun Pharma: Tarnished by Caraco issues

Jul 29, 2009

Performance summary
  • Revenues fall by 24% YoY during 1QFY10 due to the decline in domestic and export formulation sales.
  • Operating margins tank to 16.3% YoY during the quarter owing to a substantial rise in all costs (as percentage of sales).
  • Decline in operating profits trickle down to the bottomline, which registers a sharp fall of 67% YoY .


Consolidated snapshot
(Rs m) 1QFY09 1QFY10 Change
Net sales 10,418 7,876 -24.4%
Expenditure 5,038 6,590 30.8%
Operating profit(EBIDTA) 5,379 1,286 -76.1%
Operating profit margin (%) 51.6% 16.3%  
Other income 472 603 27.9%
Depreciation 277 376 35.8%
Profit before tax 5,574 1,513 -72.9%
Tax 299 31  
Minority interest 261 (156) -159.9%
Profit after tax/ (loss) 5,015 1,638 -67.3%
Net profit margin (%) 48.1% 20.8%  
No. of shares (m) 207.1 207.1  
Diluted earnings per share (Rs)   71.5  
P/E ratio (x)   16.7  

What has driven performance in 1QFY10?
  • Sun Pharma's topline fell by 24% YoY during 1QFY10, owing to the decline in revenues from the domestic formulations (down 27%) and export formulations (down 36%) businesses. As far as the domestic business is concerned, the fall in sales was attributed to certain one-time sales that were recorded in 1QFY09 and were not there during this quarter.

  • Reveneus from the export formulations business declined by 36% YoY. This was largely due to two factors. The first was that Sun Pharma had recorded substantial revenues and profits from the products 'Protonix' and 'Ethyol' for which it had 180-day exclusivity in 1QFY09, the magnitude of which was not replicated in this quarter.

    Secondly, Sun Pharma's subsidiary Caraco had issues with the US FDA wherein the former had to recall many products from the US market in 4QFY09 since its manufacturing facility at Detroit had received warning letters from the US FDA. The issue has not yet been resolved and is taking longer than what Sun Pharma had anticipated. Infact, Caraco’s sales dropped by 56% YoY during the quarter, thereby impacting Sun Pharma’s exports business as well. Having said that, export formulations (excluding Caraco) clocked an impressive growth of 33% YoY, which is a positive sign.

  • In the US, between Sun Pharma and all its subsidiaries, ANDAs (abbreviated new drug application) for 73 products have now been approved. During the quarter, a total of 8 ANDAs were filed, which were all from Sun Pharma. With this, ANDAs representing 111 products await USFDA approval, including 10 tentative approvals.

    Revenue break-up
    (Rs m) 1QFY09 1QFY10 Change
    Domestic      
    Formulations 4,296 3,129 -27.2%
    Bulk 245 279 13.8%
    Others 4 4 2.7%
    Total (A) 4,545 3,411 -24.9%
    Exports      
    Formulations 5,310 3,404 -35.9%
    Bulk 780 1,190 52.4%
    Others 9 9 7.1%
    Total (B) 6,099 4,603 -24.5%
    Grand Total ((A)+(B)) 10,643 8,014 -24.7%

  • Operating margins plunged to 16.3% during 1QFY10, due to the rise in all costs (as percentage of sales). Other expenses considerably increased from 21% of sales in 1QFY09 to 34.8% in 1QFY10 largely due to costs incurred on the recall of products mainly in the US, write-offs, increase in R&D and forex losses. The impact of the 76% YoY fall in operating profits percolated down to the bottomline which also plummeted by 67% YoY .

What to expect?
At the current price of Rs 1,195, the stock is trading at a multiple of 10.7 times our estimated FY12 earnings. Sun Pharma's management has stated that it will be working closely with Caraco to resolve the issue with US FDA as soon as possible. But the timeline regarding the resolution of this matter remains uncertain, as the Ranbaxy issue has amply demonstrated. The management, however, is confident that while performance will be impacted in the short term, in the medium and long term, the business will continue to do well.

Further, the management in its conference call post the FY09 results had given a guidance of a 13-15% growth in topline in FY10, which it will now be revising downwards. The capex plans of the company will, however, not be impacted. Going forward, we have not assumed any new product approvals from Caraco in FY10, as a result of which we expect revenues from Caraco’s business to decline by around 50% in FY10 and subsequently grow marginally in FY11. Sales should however pick up in FY12 on the assumption that the issue gets resolved by then and keeping in mind the fact that the number of drugs going off patent in that year is considerable.

Thus, we expect Sun Pharma's consolidated (including Caraco) sales to decline by 3% YoY in FY10. We have also assumed a further reduction in operating margins as its costs to address the issue increase. Therefore, even after factoring in all of this, we maintain our positive view on the stock from a long term perspective.

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