Dr Reddy's may underperform over concerns about launch of complex products

For rerating, it needs sustained growth in India, recovery in US

In a weak market, the stock of pharma major Dr Reddy’s Laboratories was up a tad on approval by US Food and Drug Administration for VeraRing. The product is the generic version of Merck’s female contraceptive, NuvaRing. The approval is considered a positive as it has come after considerable delay. The overall market size for NuvaRing in the US, according to ICICI Securities is $800 million and offers a substantial peak sales opportunity for Dr Reddy’s. The company is the fourth generic entrant for the product in the US market, its single largest accounting for about 40 per cent of the company’s sales.

While the innovator and authorised generics have a 45 per cent market share, Saion Mukherjee and Prateek Mandhana of Nomura Research estimate the market size at current generic pricing to be $300 million.  Assuming a further 20 per cent price erosion and 10-15 per cent market share, Nomura estimates Dr Reddy’s to record annual sales of $25-35 million.

While the approval may not have a large impact on the earnings per share of company (up to 2.5 per cent on FY23 earnings), Mukherjee and Mandhana of Nomura believe that these complex approvals allow the company to meet its objective of growing the US business in a highly competitive environment. Also, it improves investor confidence in the company’s execution capabilities, they add.

One of the reasons investor sentiment was hit was on account of the uncertainty related to launches of its complex products in the US. This led to the stock shedding 8.4 per cent over the past one year as compared to the BSE Healthcare index gain of 19 per cent. While the company has secured the approval for NuvaRing generic after a six-year wait, the street will keep an eye out for launch timelines for pulmonary hypertension drug Remodulin, iron sucrose, generic version of multiple sclerosis drug Copaxone among others.

Another negative for the stock is the lack of US FDA approval for multiple manufacturing sites which is leading to launch delays and higher compliance costs. Recently the US drug regulator issued a Form 83 with eight observations for the company’s Duvvada plant in Visakhapatnam, Andhra Pradesh.

While there were no data integrity issues, analysts at Edelweiss Research say escalation of the situation to an official action initiated (higher compliance requirements) remains a possibility. As it is a sterile injectables facility, the brokerage believes that microbial contamination is the single biggest risk. Clearance for its formulation and active pharmaceutical ingredient plants will be a key trigger even as the pace of US FDA’s inspections have come down substantially due to the pandemic.

While higher pricing pressures, delay in US launches and compliance issues at its manufacturing facilities are a drag, the company’s current focus is to sustain high growth rates in India and emerging markets. It is looking at increasing its presence, improving sales productivity, new launches and over the counter drugs to maintain growth.

The Street, according to Nomura Research, is not yet convinced about the company’s ability to sustain high growth in India and emerging markets as well as any upsides from biosimilar investments. Successful execution could change the narrative for the company and lead to rerating of the stock, they add.

Given multiple moving parts, investors should await consistent improvement in performance in India and the US markets before considering the stock.