A few bright spots for Dr Reddy's; stock is back on investors' radar

Stability in American business, new launches key as firm targets to double US portfolio in five years

After being a major underperformer over the last couple of years, Dr Reddy’s is back on investors’ radar with the stock hitting its 52-week high earlier this week. The pharmaceutical major has gained almost 25 per cent since its July lows, outperforming the Sensex and BSE Healthcare index in the process. 

The favourable market reaction is due to multiple factors, including regulatory progress at some of its affected plants. The company secured a go-ahead from the US FDA for its active pharma ingredient facility at Srikakulam in Andhra Pradesh, marking the end of inspections in August. The facility had been under regulatory scanner for some time and had been issued a warning letter, along with two other facilities.

With one facility clear and launch approvals for a few products, the company has indicated that it could double the size of its US product portfolio over the next five years. The company is renewing its focus on expanding its US business under newly appointed Chief Operating Officer Erez Israeli. The US contributes over 40 per cent to the company’s sales and is the single largest contributor to revenues.

As the company targets to double its US product portfolio, it is also looking to improve the complex generics pipeline while expanding its reach to other global markets as well. Analysts at Antique Stock Broking say the focus will remain on oral solids and injectables. Further, Dr Reddy’s wants to capitalise on the first-mover advantage in China, increase pace of filings, and break into the top 10 companies in the domestic market. The company is also looking to enhance compliance processes at its plants by introducing global best practices.

Given the stated goals and prospects, the financial performance could see an improvement here on. The company’s US business growth has depended on complex generics and injectables that are niche products and enjoy limited competition. 

In addition to the base business, its investments and focus on making biosimilars and proprietary products self-sustainable could be achieved by out-licensing or partnering with other players, say analysts. Given Dr Reddy's unrelenting focus on complex generics and a legacy of unique product launches, the company is well-positioned to maintain its leadership in this space, according to analysts at Antique. They also say that tangible improvements of the firm’s sharpening focus on various growth areas will be visible in 12-18 months.

In the near term, the focus will remain on clearance of the two remaining plants. This may also happen as one plant has already received clearance by the US FDA. The company’s US business has seen some stability over the last few quarters, with impact of price erosion reducing. The June quarter results, too, highlighted stability in the base business in the US, as revenues remained in the range of $225-250 million over the past nine quarters. 

Analysts are anticipating a better second half for the company in the current fiscal year.  Analysts at Nomura, after Q1 results, indicated that price erosion in high-value products is in the last leg and the North America base business should stabilise at above $200 million per quarter. With 15-20 new launches, including some high value launches, US revenues should improve in H2FY19F (forecast), they add.

Drug approvals for generic launches of Suboxone, Nuvaring and Copaxone are being looked at with interest. Though the firm had launched opioid treatment drug Subaxone during the June quarter, it had ceased selling the same following restraining orders by the court.  Analysts at Macquarie expect the hearing of Dr Reddy’s appeal to start next month, and most analysts expect the company to commercialise Subaxone generics in the third quarter. Meanwhile, approval for the contraceptive Nuvaring generics is also expected to come by the end of FY19.

Analysts expect these approvals and major launches to lift sentiment for the stock gradually. The company is expected to launch 12-15 new products a year to drive growth. While analysts at Nomura had given a price target of Rs 2,704, Antique after its management interaction has given a target price of Rs 2,950. The stock is currently trading at Rs 2,529 levels.