Strides Arcolab: Multiple triggers, attractively valued

Merger with Shasun, tie-ups could mean higher profits

Shares of Strides Arcolab have spurted 48 per cent over the past month on upgrades by analysts on the back of niche US opportunities, integration benefits from the recent merger with Shasun Pharma and upsides from recent tie-ups. Given the larger product basket and vertical integration after the merger, as well as other revenue opportunities, the company, according to analysts at Macquarie, could triple its turnover to Rs 3,918 crore over three years. The research firm says the stock has the potential to double from recommended levels (to Rs 1,450) over this period. An analyst at a domestic brokerage indicated valuations at 10-12 times its FY16 estimates were not too demanding and the Street woke to that. The stock should  sustain current valuations of 15 times forward earnings, he added. The stock is among top pharma picks of some research houses.

The tie-up with Gilead to market blockbuster anti-hepatitis drug Sovaldi in developing markets could be a money spinner. The drug could generate $100 million for Strides over five years. Strides is expected to start marketing the drug in the first quarter of FY16 and, given higher margins, it is expected to add up over 15 per cent to the bottomline.

Analysts say the merger benefits could take time to materialise. The merger will help Strides be a vertically integrated player as it does not have an active pharmaceutical ingredient (API) business. APIs account for 60 per cent of Shasun's revenues. Apart from diversifying the revenue base, it will also improve margins. Strides has indicated there would be a reduction in operating costs 20 per cent. Analysts estimate the merged entity to generate operating profits upwards of Rs 550 crore in FY16 against the FY14 stand-alone of Rs 223 crore. Shasun's margins, lower than peers at eight per cent (for FY14) due to higher costs, were expected to move up to Strides margins of 21 per cent over two to three years.

The other benefit from the merger is the proportion of revenues from high-margin markets such as the US (pipeline of 160 products), that accounts for under 10 per cent of Strides’ revenues. The integration will help the company gain on the institutional business, 28 per cent of the Strides' revenues. Margins of Strides in this business (anti-retroviral) are lower than its peers, given the lack of dedicated API facilities.