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Novartis: Generics eat away margins - Views on News from Equitymaster

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Novartis: Generics eat away margins
Nov 19, 2011

Novartis Healthcare has announced its second quarter results for 2011-2012 (2QFY12). The company has reported 9.7% YoY and 6.5% YoY growth in sales and net profits respectively. Here is our analysis of the results.

Performance summary
  • Net Sales grow by 9.7% YoY led by the generics and the animal health businesses.
  • Operating (EBDITA) margins decrease by 70 bps (0.7%) to 22.1% due to rise in employee cost
  • PAT grows by 6.5% YoY growth led by a decrease in operating margins and higher taxes

Financial performance: A snapshot
(Rs m) 2QFY11 2QFY12 Change 6mFY11 6mFY12 Change
Net sales 1,960 2,151 9.7% 3,732 4,129 10.6%
Expenditure 1,514 1,675 10.6% 2,927 3,256 11.2%
Operating profit (EBIDTA) 446 476 6.7% 806 873 8.4%
EBDITA margin (%) 22.8% 22.1%   21.6% 21.1%  
Other income 156 183 17.6% 276 350 26.8%
Depreciation 5 7 35.8% 10 12 15.0%
Interest 1 2 200.0% 1 3 116.7%
Profit before tax 596 650 9.1% 1,071 1,209 12.9%
Tax 190 218 14.7% 350 402 14.9%
Exceptional Gain / (Loss) - -   - -  
Forex Gain / (Loss) - -   - -  
Minority Interest - -   - -  
Profit after tax/(loss) 406 432 6.5% 721 808 12.0%
Net profit margin (%) 21% 20%   19% 20%  
No. of shares (m) 32 32   32 32  
Diluted earnings per share (Rs) 13 14   23 25  
Price to earnings ratio (x)*   17.0        
* On a trailing 12 months basis

What has driven performance in 2QFY12?
  • Net sales for the quarter grew by 9.7% YoY with thrust coming from small segments like OTC (Over-the-counter) and Animal Health business. The OTC business and the Animal health business grew by 22.5% YoY and 16.8% YoY respectively. However, the pharmaceuticals business, which accounts for ~67% revenues, grew by 8.6% YoY.

  • The parent company Novartis has planned to launch the branded generics drugs through the listed entity Novartis India. However, some proprietary products of the parent company are being sold from its unlisted entity. This, if more such products are launched through the unlisted subsidiary, then it can be quite negative for minority shareholders of Novartis India.

    Revenue break-up
    (Rs m) 2QFY11 2QFY12 Change 6mFY11 6mFY12 Change
    Pharmaceutical 1,290 1,401 8.6% 2,512 2,746 9.3%
    Generics 114 132 15.8% 226 261 15.8%
    OTC 265 324 22.5% 464 533 14.9%
    Animal Health 181 211 16.8% 330 407 23.4%
    Total Sales 1,849 2,068 11.8% 3,532 3,948 11.8%

  • Novartis' operating margins decreased by 70 bps (0.7%) to 22.1% during the quarter due to a rise in employee costs. To offset the same, the company reduced its sales and marketing efforts.

  • The margins in the pharmaceutical business were maintained; however, the generics business had to take huge hit on margins due to competition seen in the current quarter.

  • Net profits grew by 6.5% YoY and were lower than the sales growth, primarily due to the fall in margins and slightly higher tax outgo.

What to expect?
At the current price of Rs 875 the stock is trading at a price to earnings multiple of 14.2 times our estimated FY14 earnings. Going forward, the pharmaceutical business is expected to be a steady growth driver with possible surprises coming from the Generics and the Animal Health businesses. In the pharma business, the company has chalked a strategy of driving growth through new product launches across all segments and in-licensing opportunities. However, the OTC and generics market is facing stiff competition. At the current market price the stock does not leave much on the table for investors.

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