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Dr Reddy's: Net profits decline - Views on News from Equitymaster

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Dr Reddy's: Net profits decline

Oct 30, 2014

Dr Reddy's has announced its 2QFY15 results. The company has reported 7% YoY growth in sales and a decline of 16.8% YoY growth in net profits. Here is our analysis of the results.

Performance summary
  • Topline grows by 7% YoY during the quarter, led by growth in India and RoW markets.
  • Operating margins decline by 2.4% to 22.7% during the quarter. Consequently, the operating profits are down by 3.5% YoY.
  • Due to poor performance at the operating level and higher taxes, the net profits decline by 16.8% YoY.

(Rs m) 2QFY14 2QFY15 Change 1HFY14 1HFY15 Change
Net sales 33,575 35,878 6.9% 62,024 71,053 14.6%
Expenditure 25,119 27,721 10.4% 48,159 54,734 13.7%
Operating profit (EBDITA) 8,456 8,157 -3.5% 13,864 16,319 17.7%
EBDITA margin (%) 25.2% 22.7% -9.7% 0 0  
Other income 637 266 -58.3% 1,013 450 -55.5%
Interest (net) (291) (421)   (221) (955)  
Depreciation 1,733 1,957 12.9% 3,346 3,829 14.4%
Profit before tax 7,651 6,887 -10.0% 11,752 13,895 18.2%
Tax 792 1,196 51.0% 1,320 2,701 104.7%
Share of Profit to equity affiliates 44 51 15.9% 80 51 -35.8%
Profit after tax/(loss) 6,903 5,742 -16.8% 10,512 11,245 7.0%
Net profit margin (%) 20.6% 16.0%   16.9% 15.8%  
No. of shares (m)         169.4  
Diluted earnings per share (Rs)         137.1  
Price to earnings ratio (x)*         22.5  
*based on trailing 12 months earnings

What has driven performance in 2QFY15?
  • The September quarter witnessed modest growth of 7% YoY in the topline. This was largely attributable to lower sales in its US and Russia market.

    Consolidated Business snapshot
    (Rs m) 2QFY14 2QFY15 Change 1HFY14 1HFY15 Change
    Global Generics 26,548 28,868 8.7% 48,451 57,871 19.4%
    Pharma services and Active Ingredient (PSAI) 6,392 6,403 0.2% 12,260 11,941 -2.6%
    Proprietary products and others 618 624 1.0% 1297 1,258 -3.0%
    Total 33,558 35,895 7.0% 62,008 71,070 14.6%

  • The growth in global generics was largely due to better growth in its Indian formulations and RoW markets. Among the RoW markets, Venezuela has become an import driver now. Large part of growth in the RoW market, which grew by 94.8% YoY, was driven by Venezuela. On the other hand, geopolitical risks had impacted the sales from Russia and Ukraine. Sales from Russia declined by 13% YoY for the quarter. Even the US sales witnessed lower growth on back of no launches during the quarter and launch of generic Diacogen by another generic company. One should note, Dr Reddy’s had good share in this product. Other than this, even PSAI sales were flat for the quarter.

  • The operating margins declined by 2.4% for the quarter. The margins were impacted by currency, lack of launches in the US and increase in employee costs.

  • The bottom line of the company fell by 16.8% YoY on the back of a surge in taxes and fall in other income. One should note, the company had received one time litigation income of US$ 6.5 m in 2QFY14. This was not there for the current quarter. Excluding this onetime income, the profits were still down by 11.8% YoY for the quarter.
What to expect?

At the current price of Rs 3,089, the stock is trading at a price to earnings multiple of 19.1 times our estimated FY17 earnings. Going forward, Dr.Reddy's growth will be led by the US as well as the emerging markets. The growth in domestic market will be driven by new launches and volume growth.

For the US market, Dr Reddy's is aiming to keep up the pace of niche product launches, which will drive topline growth and help the company earn better margins. Out of the total ANDAs filed approx 60% are complex generics. While this quarter’s performance was lukewarm, growth is expected to be robust for 2HFY15 on the back of niche launches. The company has already received approval for Sirolimus. This is a high entry barrier product and Dr Reddy’s is the only generic company to get approval. The other products like Xopenox and Nexium too will be important drivers for the company going forward. Copaxone is another medium term opportunity. Hence the US pipeline is shaping up to be quite interesting for the company.

The revenues from the PSAI segment are highly dependent on the number of new products launched. Thus, whenever the company fails to make new launches especially high technology products, it will see impact on growth, as was the case during the current quarter.

However, the company’s overall filings will be important growth drivers. One should further note that the company has decent revenues coming from the Russian market. Thus, any further negative development in this geography can impact the company’s performance.

Overall, the long term prospects of the company remain intact and thus we recommend that investors Hold on to the stock.

We would like to gently remind you that your allocation to equities should be decided upon after keeping aside some safe cash. Also within your overall exposure to equities please ensure that you broadly follow suggested asset allocation and that no single stock comprises 5% of your portfolio.

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