Prescription for growth: Acquisitions

While Sun Pharma has delivered robust growth so far, effective utilisation of its $1 billion cash for acquisitions can help propel growth.

Sun Pharmaceutical Industries continues enjoying rich valuations on the bourses, thanks to its ability to consistently deliver good growth. The September quarter results were no different. The strong top line growth of 42 per cent came on the back of 16 per cent rise in domestic sales and 77 per cent jump in the US sales that together contributed four-fifths of sales.

While near-term prospects remain good, there are challenges in the medium to long-term, which may keep a tab on its stock valuations and its outperformance, a trend seen so far. While various estimates peg the top line and profit growth between 12-17 per cent levels in FY13 (lower than estimates for FY12), analysts also see limited Para IV opportunities (generic product launches of drugs going off patent) in the US beyond FY14.
 

GROWTH WORRIES
In Rs Crore	Q2’FY12	FY12E	FY13E
Net sales	1,895	7,448	8,432
Y-o-Y chg (%)	42	30	13
Ebitda	784	2,605	2,863
Ebitda (%)	41	35	34
Profits	598	2,318	2,443
Y-o-Y chg (%)	19	28	5
EPS (Rs)	6	22	24
PE (x)	--

22 23 Source- Capitaline plus, Bloomberg, Analyst reports 

The other potential threat comes from the proposed pharmaceutical policy. An October 31 Nomura report sees 42 per cent of Sun Pharma’s domestic portfolio coming under price control under the new pharmaceutical pricing policy proposed by the government. If implemented in toto, it could impact Sun’s profitability. Although Sun is launching new products in the domestic markets, as well as filing for new product launches in the US, analysts see a need for this cash-rich company to look at inorganic opportunities to sustain high growth rates. The success with Taro is a strong reason for looking at more acquisitions, with huge cash in hand. Any good acquisition will help improve return ratios as well. At Rs 491, the stock trades at 22 times earnings and is fairly priced.

HEALTHY GLOBAL SALES...
Though not strictly comparable, Sun Pharma’s stellar growth during the September quarter was mainly led by US business growth of 77 per cent to $175 million (Rs 799.08 crore). In the year-ago quarter, only 10 days of Taro’s (acquired in 2010) sales were included. However, the September 2010 quarter got a boost from one-off sales of the generic version of Eloxatin (an anti-cancer product). While the September quarter did not see any one-offs, Taro’s consolidation filled the void. According to Sushant Dalmia at PINC Research, “US base business (ex-Eloxatin) should have grown by around 15 per cent sequentially.” The September quarter saw Taro’s sales rising 34 per cent year-on-year to $138 million (Rs 630 crore), on the back of growing market share due to limited competition for its products in the US. The profitability, got further boost from foreign exchange gains. Taro’s profits at $59 million (Rs 269 crore) grew 218 per cent and contributed 40 per cent to Sun Pharma’s consolidated profits of nearly Rs 598 crore.

...AND DOMESTIC AS WELL
Sun Pharma, which enjoys good share in the chronic segment of the domestic market, did not feel the heat as much as peers with larger exposure to the anti-infective segment. Domestic sales, which stood at Rs 704.6 crore or 37 per cent of overall revenue, grew 15.4 per cent year-on-year, much ahead of the single-digit growth seen by most peers. In fact, excluding the discontinued third-party manufacturing business, the growth was stronger at 18 per cent year-on-year. The quarter saw 10 product launches taking the total to 17 launches in the first half of the current financial year; put together, these should help sustain growth in the current financial year.

OUTLOOK
Apart from new launches in the domestic market, Sun filed abbreviated new drug applications for five products in the US market, including one by Taro. The total number of patent applications till now stands at 551, while 254 patents have been granted so far. Sarabjit Kaur Nangra at Angel Broking observed that domestic performance in the quarter was good, with Sun performing better than peers, adding that Taro’s business should pan out better. However, she feels that the stock remains fairly priced as of now.

JP Morgan’s report (dated September 20) titled ‘Solid business at rich valuations’ indicates a similar view. Analysts at the research house had estimated a compounded annual growth (CAGR) of 26.4 per cent in revenues from the Rest of the World (excluding India and US) led by the Taro acquisition and a joint venture with Merck for marketing products in Europe and developing markets.

The US revenue growth was estimated to increase 31 per cent CAGR during FY11-14, led by Taro and Para IV opportunities. However, they also indicated that with Para-IV opportunities tapering beyond FY14, an opportune acquisition can fill the gap and provide trigger for the stock. However, a majority of analysts are not very optimistic on this front, citing the company’s conservativeness in the past. During the earnings call this week, Dilip Shanghvi, chairman and managing director, said, “We continue to look at opportunities which meet our business objective”. And, observed that investment will be driven towards markets that the company understands better as is the case with the US.

Among other triggers for the stock can be a resolution of FDA issues related to its US subsidiary, Caraco. Downside risk includes the Protonix litigation ending in a penalty for Sun Pharma, which had launched the generic and earned revenues of around $300 million before withdrawing after objection by Pfizer.