Will pharma stocks continue their dream rally in FY25?

PRESCRIPTION FOR CAUTION: Analysts sound alarm on valuations after past year's recovery

Stocks in the pharmaceutical (pharma) sector have had a dream run so far in 2023-24 (FY24), with the National Stock Exchange Nifty Pharma Index surging 58.2 per cent in this period against a dip of 11 per cent in 2022-23 (FY23), reveals Ace Equity data. The index has also outperformed the Nifty50, which grew by 28.7 per cent in the current financial year.

Among stocks, Orchid Pharma gave a handsome return of 210 per cent, followed by Lupin’s 157 per cent jump so far in 2023-24 (FY24).

Others like Suven Life Sciences, Venus Remedies, and Aurobindo Pharma saw 127 per cent, 111 per cent, and 110 per cent rise in their prices, respectively.

Jubilant Pharma, Alembic Pharma, and Glenmark Pharmaceuticals also moved up 103 per cent, 102 per cent, and 98 per cent, respectively.

The pharma industry is expected to clock a growth rate of 9-11 per cent in FY24, according to credit rating agency ICRA. The operating profit margin is also set to improve for ICRA’s sample set at 22-23 per cent in FY24 compared to 20.7 per cent in FY23.

Analysts attribute this growth to new product launches in complex generics and specialty drugs, drug shortages in key export markets like the US and the European Union, and softening of raw material prices.

“US accounts for 50 per cent of India’s drug exports; high-margin specialty drug launches such as Revlimid and Spiriva have led the gains in earnings for multiple pharma companies, boosting investor interest,” said Surya Patra, vice-president for health care and specialty chemical research at PhillipCapital.

Growth to continue

The drug shortage situation in the US will likely continue in the coming financial year too due to approval slowdowns and supply-chain disruptions, analysts said, which will keep the growth of Indian pharma players healthy ahead.

This will also translate into higher earnings and the expansion of gross margins, keeping the momentum in stocks going at the bourses, they added.

Param Desai, senior research analyst at Prabhudas Lilladher, meanwhile, suggests keeping a stock-specific approach and using any weakness in largecaps to accumulate.

“Some of the largecaps like Sun Pharmaceutical Industries have reasonably strong growth visibility in the coming years, so one should continue to hold and use any weakness in the counter as a buying opportunity,” says Desai.

Valuation vital signs

That said, analysts also flag valuation concerns in pharma counters after the sharp rally seen in the past year.

The Nifty Pharma Index is currently trading at a one-year trailing price-to-earnings multiple of 36.3 times, above the five-year average of 33.5 times, according to data.

Against this backdrop, Patra of PhillipCapital says current valuations have already factored in growth expectations for most stocks in this sector until 2025-26, and there remains limited visibility of incremental earnings beyond this period.

“The valuations are overstretched, similar to the levels seen in the pandemic years, and there is uncertainty over the ease in pricing pressures as to how long they will keep benefiting pharma companies. Further, the gains from specialty drugs could remain for a limited time and might dent the overall output going forward,” Patra said.