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Dr.Reddy's: US is the way forward - Views on News from Equitymaster

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Dr.Reddy's: US is the way forward
Sep 3, 2010

We recently had a research meeting with the management of Dr.Reddy's in Hyderabad post the declaration of 1QFY11 results to understand the future growth prospects of the company. Here are the key extracts.

Generics over R&D: Although Dr.Reddy's is still conducting R&D on new molecules, its aim is to become a strong generics company over the next five years. Most of the major Indian pharma companies have been investing in R&D of new molecules. But given that it is a costly and time consuming affair, most of them have started focusing more on strengthening their generics business. What is more, innovator companies, with years of R&D experience behind them, have begun dabbling in generics in recent times. This is because of their research pipelines drying up and the US FDA becoming stricter with respect to approvals. Also, with drugs worth billions of dollars losing patents till 2013, generics has once again emerged as a lucrative option.

It's in the US: Dr.Reddy's expects the US to be a major growth driver going forward. The company has a slew of product launches to be made over the next three years. Many of these products are niche, difficult to manufacture products with limited competition. And therefore the potential to generate higher revenues and profits. Also, there are certain products for which it could get the exclusivity window depending on how the court verdicts pan out. Overall, the company expects revenues from the US to reach the US$ 1 bn mark by FY13. This is keeping in mind the possibility of some unfavourable court verdicts as well. Larger chunk of the revenues are likely to accrue in FY13, since the number of drugs losing patents in that year are huge.

Making Betapharm profitable: Dr.Reddy's acquired Betapharm at a time when the German generics market was branded and the visibility in terms of strong revenues and profits was good. But since then the market dynamics there have changed rapidly. Dr.Reddy's since then has been trying to adapt to the changed environment. In Germany, the market has moved from a branded one to a tender based one and hence there has been immense pressure on prices to come down. Although only 25% of Betapharm's portfolio is from tenders awarded by insurance companies, the balance 75% comprises of OTC and hospital products among others. These products too are priced low, although not as depressed as the tender based products. And so the company has faced pressure both on the topline and the bottomline front.

That said, Dr.Reddy's has taken some measures to shore up Betapharm's profitability. For instance, the field force there has been reduced from 280 people to 80. Advertising and marketing costs have also come down. Plus, the manufacturing of some products has shifted to India (around 40%). Thus, profitability of Betapharm is likely to pick up going forward although the medium term outlook in Germany remains hazy.

Long term goals: Dr.Reddy's in the past has entered various markets and also made certain acquisitions namely Betapharm in Germany, Roche in Mexico and the like. Now the focus of the management is to achieve long term sustainable and profitable growth. This includes optimizing SG&A (selling, general and administrative) expenses and concentrating on 7-8 key markets to drive growth. Plans on the anvil also include calibrating investments in R&D. The goal of the management is to reach the US$ 3 bn mark in revenues by FY13 and achieve ROCE of 25% by that time.

What to expect? At the current price of Rs 1,389, the stock is trading at a price to earnings multiple of 13.2 times our estimated FY13 earnings. We maintain our view on the stock.

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