Compass: Concerns overdone on Aurobindo Pharma

FDA observations, lawsuit impact to be negligible while earnings momentum is expected to continue

Aurobindo Pharma has shed 10 per cent since the start of the month on regulatory issues both on pricing in the US and manufacturing at its Indian facilities. The latest action, which has dampened Street sentiment, is news that the company’s Hyderabad active pharmaceutical ingredient (API) unit has received Form 483 or observations issued after plant inspection by the United States Food and Drug Administration (FDA). The 3.79 per cent fall to Rs 673 on Tuesday is attributed to this FDA action. 

Investors are worried the latest observations might escalate to more serious actions such as ‘warning letter’ or ‘import alert’ impacting revenues. However, the management is unfazed. Santhanam Subramaniam, chief financial officer, says the FDA observation is procedural in nature and that the company has already responded. 

Analysts also agree that the observation is not serious and concerns are overdone. According to Sarabjit Kour Nangra at Angel Broking, APIs can be sourced externally in case of internal issues and is not a serious issue. 

The company has also been in the news on drug-pricing collusion-related investigations. The US Congress is in the process of completing its enquiry and is expected to levy charges against pharma majors soon. Separately, the US Department of Justice last week filed the first charges on generic drug pricing. This is related to an anti-bacterial doxycycline and anti-diabetic glyburide tablets. 

Aurobindo had been named as it was marketing the generics of glyburide. However, experts say it might be an uphill task for the Department of Justice to prove that companies have colluded in taking price hikes and the case may take years to reach any conclusion. Further, the sale of the referred product by its subsidiary is not material ($1.1 million in FY16). Since the contribution of product is negligible – 0.1 per cent of US sales and less than 0.05 per cent of total sales – no major impact will be felt by the company. The triggers going ahead are new product approvals and the pace of the launches. What helps Aurobindo is that it does not depend on any single product unlike peers and, hence, is best placed against pricing pressures, say analysts. 

Analysts at Motilal Oswal add that Aurobindo trades at 16 times FY17 and 14 times FY18 earnings estimates, which is at a 25 per cent discount to peers. Valuation gap is expected to narrow given the company’s improving profitability, earnings growth trajectory (19 per cent annual growth till FY19) and free cash flow. Thus, corrections are a good opportunity to enter the stock for long-term investors.