Pharma: At the crossroads?

The steep correction in May and June 2006 had seen the Sensex reach its lowest ebb since the start of the year. Since then, while the BSE-Sensex has considerably recovered to reach the magical 13,000 mark, what is interesting to note is that many stocks have not reached the levels that they had before the correction. In this rally, banking and IT stocks have been the 'apple of investors' eye'. In comparison, pharma stocks have not really set the pulse racing. Here, we shall find out, which of the pharma stocks under our coverage have garnered investor interest and the reasons for the same.

Company	Price on Oct 31, 2006 (Rs)	Price on June 14, 2006 (Rs)	% Change
BSE Sensex	12,962	8,929	45.2%
Nicholas Piramal	237	158	50.3%
Cipla	262	192	36.5%
Sun Pharma	905	687	31.7%
Dr.Reddy's	748	582	28.5%
Pfizer	854	687	24.3%
GSK Pharma	1,149	945	21.7%
Wockhardt	390	336	16.3%
Ranbaxy	400	348	15.0%
Novartis	431	390	10.4%
Aventis	1,542	1,430	7.8%
Biocon	365	341	6.9%

Nicholas Piramal: Nicholas Piramal has been the highest gainer in the pharma universe under our coverage having notched gains of around 50% since its low on June 14 2006. The optimism with regards to the stock can be attributed to increasing contribution from its custom manufacturing business (with global innovator companies) to total revenues. Nicholas' strategy involves partnering with global pharma majors to drive its custom pharma sales rather than focus on generics. The company has been active on the acquisition front too. Besides the Avecia acquisition in December 2005, Nicholas Piramal acquired Pfizer's Morpeth facility in the UK to further bolster its custom manufacturing revenues.

Cipla: In the generics space, Cipla has been a rewarding story for investors due to its low risk strategy of supplying bulk drugs to global generic companies. Of late, this business model has assumed importance given the highly competitive nature of the generics markets in the US and Europe. The icing on the cake for Cipla was the 180-day exclusivity granted to Teva for the two drugs 'Proscar' and 'Zoloft'. Since Cipla is the supplier to the Teva/Ivax combine, the company was able to capitalise on this opportunity to augment its revenues. Besides this, the company has been delivering consistent results over the last few quarters, which has also aided the buoyancy in the stock.

Sun Pharma: Despite directly competing in the highly competitive US generics market (through its subsidiary Caraco), Sun Pharma has still been able to report robust performances quarter over quarters, probably explaining why the stock has gained around 32% since reaching its lowest level during the year. The company has been relatively conservative in charting its growth path in comparison to its more aggressive peers Ranbaxy and Dr. Reddy's and this strategy seems to have reaped benefits. The company's focus on speciality and niche product segments have entrenched its hold over the domestic market and is expected to stand the company in good stead in the regulated markets as well.

Pfizer: Pfizer has been the top gainer amongst the MNC pharma stocks, having notched returns of 24% since June. Amongst its MNC peers, the company was more aggressive this year in terms of product introductions, having introduced 3 new products from its parent's folio. Besides this, the company's restructuring efforts in terms of aligning the product portfolio in line with its parent and improving field force productivity has been reflected in its performance especially on the operating margin front. That said, given the fact that the global parent, Pfizer Inc., has divested its consumer healthcare business, the impact of the same on the Indian operations will be the key development to watch out for.

To sum up....
Looking ahead, while generics, contract research and manufacturing (CRAMS) are expected to be the way forward for domestic pharma companies, launch of patented products from the parents' product stable in the post patent era will be critical growth drivers for MNC pharma companies. However, the going may not be that easy. In the case of the former, competition and the consequent drop in prices, authorised generics and patent settlements have changed the dynamics of the global generics industry. As a result, only those players with scale, geographical reach, marketing and distribution network and a balanced product basket comprising of niche and plain vanilla generics will have the edge. For MNC pharma players, launch of patented products may not be that simple chiefly in terms of pricing of these products. Given the fact that the government intends to make medicines affordable to the public, prices of patented products are most likely to be subject to negotiations.

In such a scenario, while we are positive on the growth prospects of the pharma industry in the long-term (growth is visible amongst most of the pharma companies under our coverage), investors, nevertheless, need to give due consideration to valuations and adopt a stock specific strategy while investing in the sector.