Growth challenges remain for Dr Reddy's

Acquisition of drug applications positive, but resolution of US regulatory issues holds key

Dr Reddy's Laboratories (DRL), after disappointing with March'16 quarter results and weak June quarter guidance, had been getting support on the bourses from the ongoing share buyback. However, some positive newsflow has also re-instilled street's confidence in last few days.

Firstly, DRL plans to acquire eight high-value ANDAs that Teva is divesting to close its own acquisition of generic portfolio of Allergan. The acquisition by DRL is positive looking at the uncertainties in US growth that remain a concern despite the company's strong product pipeline. The company's three plants in India, which have been under USFDA scanner since 2014, received warning letter in November 2015. This added to concerns and resolution timeline is difficult to predict.The approvals for product launches in the US filed from these facilities are thus getting delayed and site transfer is a time-taking process too. The complete resolution of USFDA observations hence is crucial.

Nevertheless, the product acquisitions from Teva will add to DRL only from next fnancial year. Being acquired for $350 million, the eight complex generic products are yet to be launched. The products being acquired strengthen the complex generics portfolio of DRL that have limited competition. While one is already approved generic and may be launched in FY18, the remaining are expected to be launched in FY19 and onwards, say analysts at Nomura who expects the portfolio to achieve more than $150 million peak sales in FY19. Thus, concerns on FY17 growth remain.

Analysts at Credit Suisse post acquisition of products said that there is more competition in the anti-viral (Valcyte) and oncology generics of injectable Vidaza (the two products are currently driving growth). Also, DRL still has high concentration in Decitabine (oncology) and anti-hypertensive Metoprolol (combined contribution to DRL's profit is 20%) where incremental competition could impact growth prospects over next two years, say the analysts.

The currency headwinds have been hurting DRL's growth in developing markets as Russia, CIS, Venezuela, etc and with Brexit the currency volatility is expected to continue in near term adding to challenges.

Positively, DRL's strong niche product portfolio of complex generics is keeping experts bullish on the stock. Last week, analysts at CLSA said that they expect the stock to re-rate as earnings growth recovers, DRL introduces niche products and USFDA issues get resolved. The leading foreign brokerage is positive on DRL and expects the stock to double in three years. It expects DRL's India growth to be above average and earnings to grow by 23% annually during FY16-18.

In this backdrop, patient investors with some appetite for risk may consider the stock.