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Torrent Pharma’s acquisition of Elder Pharma’s branded domestic formulation business in India and Nepal has not gone down too well with the Street. For the debt-laden Elder, though the deal should have been considered as positive, the stock lost more than 8 per cent to close at Rs 298.30 on Friday. Torrent, too, lost 4.14 per cent to close at Rs 479.
For Elder, the major part of inflow, that is, Rs 2,000 crore in lieu of sale of its branded formulation business, would be utilised to it prune its debt of Rs 1,148 crore (long-term debt) and about Rs 500 crore of current liabilities as on June 2013. Further, the company will be left with just 40 per cent of the business that comprises of low margin anti-infective segment and the contract manufacturing business.
For Torrent, too, though the acquired brands will enhance the company's portfolio, increase in its debt has raised some concerns while its ability to scale up the business is a key parameter that the Street will keep an eye on. The Rs 2,000 crore deal will increase Torrent’s current debt of Rs 913 crore and debt to equity at 0.4 as of September 2013, even as it plans to fund the acquisition through a mix of internal accruals (it has cash to the tune of Rs 800 crore) and debt. This coupled with the relatively lower margins for Elder’s product portfolio (versus Torrent's margins) and higher employee costs could pull down the profitability of Torrent Pharma (the manufacturing assets are not a part of the deal). While Torrent earns margins of 22-23 per cent, Elder’s margins at the operating level are around 16 per cent. Not surprisingly, the two stocks fell post announcement of the deal.
Analysts are divided on deal valuations too. Though some say that Torrent could have bargained harder, Ranjit Kapadia of Centrum Broking believes that Torrent seems to have bargained adequately considering that the buzz about the deal size was in the region of Rs 2,600-Rs 2,800 crore. Analysts at Sharekhan however believe that the value of Rs 2,004 crore implies 3.9 times sales and 17.5 times earnings before interest, depreciation, tax and amorisation (EBIDTA), which is on the higher side as it does not include the transfer of manufacturing assets. They add that while the deal is at an expensive valuation for Torrent it is non EPS accretive too.
However, other analysts believe that Torrent will be able to ramp up the key acquired brands better than what Elder could have been able to and hence benefits from the deal will start flowing over a period of time. The fact that a majority of the acquired brands do not fall under the ambit of price control also gives Torrent the flexibility to adjust prices without fear of price erosion, which is a key positive, they add. The deal will also help Torrent fill the gaps in its portfolio such as women’s health.
For Elder, the positive side is that it will continue manufacturing and supplying drugs for the brand portfolio (sold by Elder to Torrent) for next three years. Thus, revenue flow will continue as employee costs too will decrease for the company.
