Expansions, clean track record helping Divi's Labs tap new opportunities

The current margin pressure will also get mitigated by tax benefits and operational efficiencies

Divi’s Laboratories, which is trading near the all-time high it scaled last month-end, is up over 20 per cent from August lows. The Street’s confidence stems from the company’s clean regulatory track record, and strong business prospects. With intensified competition and pricing pressure in the US markets, drug manufacturing majors are increasingly looking for outsourcing options to control costs. This offers huge opportunity for companies like Divi’s, which provide contract research and manufacturing services (CRAMS), a business that currently contributing about 40 per cent to the company’s topline. In the generics business too, Divi’s manufactures and supplies niche ingredients, which do not see much competition thereby helping it maintain leadership. Moreover, the company has also entered the high-margin nutraceutical (carotenoids) business, which is seeing good growth now.

Divi’s Unit-1 in Telangana, which had been inspected by the US FDA in November, has not seen any observations from the drug regulator indicating that there are no regulatory hurdles for the company. Meanwhile, the company’s business continues growing at a healthy pace, as was evident from September quarter’s 12 per cent year-on-year growth (24 per cent sequential growth) in revenues. Not only did the CRAMS and generics business clocked 10 per cent year-on-year growth, but there was a sharp pick-up in the new carotenoids segment, which saw revenues growing 40 per cent year-on-year. Divi’s has maintained the 10 per cent growth guidance for FY20 in constant currency terms.

The Street, however, will remain watchful on the margins profile, looking at some contraction during past two quarters due to rising costs of raw materials imported from China. While analysts have also tweaked their FY21 margin estimates in light of the margin decline in first half of FY20, they believe that with expansions under way the same will get mitigated. Analysts at Emkay Global say that they are not perturbed with the lower margins and believe it will recover in FY21/22, driven by the recently commissioned new intermediate capacity which should start contributing on a full-fledged basis from March quarter. Also, strong growth in FY21/22 will yield operating leverage benefits.

The company has continued spending on expanding and debottlenecking its existing capacities, at a time when its new project at Kakinada has been delayed. The aggressive capex of Rs 1,700 crore will help tap larger opportunities arising out of CRAMS and also to capitalise on the ones arising due to supply disruptions from China. Analysts say, these expansions underpin the long-term growth outlook for Divi’s.