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Biocon: ‘Statins’ pressure continues - Views on News from Equitymaster

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Biocon: ‘Statins’ pressure continues

Oct 19, 2005

Performance summary
Biocon has announced its results for the second quarter and first half ended September 2005. Price erosion in the European markets has hurt the company’s statins business, consequently leading to a slower 4% YoY topline growth in the first half. This coupled with lower other income, higher tax outgo and depreciation charges have added to the bottomline woes.

Financial performance: A snapshot
(Rs m) 2QFY05 2QFY06 Change 1HFY05 1HFY06 Change
Net sales 1,860 2,020 8.6% 3,600 3,750 4.2%
Expenditure 1,240 1,420 14.5% 2,450 2,650 8.2%
Operating profit (EBIDTA) 620 600 -3.2% 1,150 1,100 -4.3%
Operating profit margin (%) 33.3% 29.7%   31.9% 29.3%  
Other income 30 10 -66.7% 70 20 -71.4%
Depreciation 40 80 100.0% 90 150 66.7%
Interest - -   10 -  
Profit before tax 610 530 -13.1% 1,120 970 -13.4%
Tax 40 90 125.0% 80 160 100.0%
Minority interest - -   10 10  
Profit after tax/ (loss) 570 440 -22.8% 1,050 820 -21.9%
Net profit margin (%) 30.6% 21.8%   29.2% 21.9%  
No. of shares (m) 100 100   100.0 100.0  
Diluted earnings per share (Rs)* 22.8 17.6   21.0 16.4  
P/E ratio (x)         29.6  
(* annualised)            

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 11% to the total consolidated revenues of the company (as per 1HFY06 numbers).

What has driven performance in 1HFY06?
Topline woes continue: Biocon’s biopharmaceuticals business continued to be under pressure in 1HFY06 as is evident from the staid 1% YoY growth. However, keeping in mind the fact that revenues from this business had declined by 4% YoY in the first quarter, the recovery in performance in the second quarter helped improve matters in the first half. The slower growth was on account of poor performance of the statins business, which continued to witness increased competition and price erosion in the European markets. However, a strong growth in insulin helped in contributing to the biopharma segment.

The slower revenue growth was further compounded by the enzymes business, which registered a 5% YoY decline in revenues. This was on account of a global slowdown in the enzymes business, consequently affecting Biocon as well. The only silver lining was the robust 45% YoY growth from its contract research services from Syngene and Clinigene.

In biopharmaceuticals, ‘Biomab’, an anti EGFR antibody (for the treatment of head and neck cancers) is in the final stages of Phase 2 clinical trials and the company expects to file for fast track approval in India by the end of this year. This means that the company is looking to launch this product in the next fiscal.

On the custom research side, new contracts signed by Syngene in this quarter and Clinigene’s strategic partnership with SCIREX, a US-based contract research organisation, is expected to provide a fillip to growth in the forthcoming quarters.

Business mix
  1HFY05 1HFY06 Change
Biopharmaceutical 2,870 2,910 1.4%
(% of consolidated revenues) 79.7% 77.6%  
Enzymes 440 420 -4.5%
(% of consolidated revenues) 12.2% 11.2%  
Custom research 290 420 44.8%
(% of consolidated revenues) 8.1% 11.2%  

Profitability under cloud: As far as operating margins are concerned, they fell from 32% in 1HFY05 to 29% in 1HFY06 chiefly on account of the pricing pressure faced in the European markets. Also, Biocon has been undertaking several expansion initiatives to gear up for the statins potential when two major statins, ‘Simvastatin’ and ‘Pravastatin’ go off patent in 2006 in the US markets. This resulted in a 67% YoY rise in depreciation charges in 1HFY06. This factor, along with a significant reduction in other income and higher tax outgo resulted in a 22% YoY decline in the bottomline in the first half of this fiscal.

Over the last few quarters: Revenues have been subdued due to pricing pressure on the statins front, the effect of which has been more pronounced in the last 3 quarters. Operating margins have, however, ranged between 28% and 33%, which is an encouraging sign.

Quarterly trend
  1QFY05 2QFY05 3QFY05 4QFY05 1QFY06 2QFY06
Net sales growth 62.2% 24.0% 28.1% 20.7% 0.0% 8.6%
Operating profit margin 30.8% 33.3% 33.7% 28.0% 28.7% 29.7%
Net profit growth 112.2% 54.1% 45.7% 0.0% -20.4% -22.8%

What to expect?
At the current price of Rs 485, the stock is trading at a price to earnings multiple of 29.6 times its annualised 1HFY06 earnings. With ‘Simvastatin’ and ‘Pravastatin’ going off patent in the US markets in 2006, the statins markets provide tremendous potential and Biocon intends to capitalize on the same. However, considering the fact that statins have been witnessing pricing pressure and severe competition, the company is planning to reduce its dependence on statins by focusing on human insulin, immunosuppressants and branded formulations, which are expected to be the new growth drivers. The company’s clear strategy of using statins and other generic products as short-term cash-flow generators and investment in proprietary technology augurs well for investors who can remain invested for the long-term.

Having said that, the pricing pressure on the statins front in the European markets will continue to adversely affect the topline of the company this fiscal. Moreover, Biocon plans to significantly increase R&D investments to support a discovery led research strategy, which, though expected to reap benefits in the long-term, is likely to keep margins under pressure.

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