Sun Pharma: Taro provides some respite

Key triggers are in improvement in ex-Taro performance, resolution of US FDA issues

The performance of Taro, Sun Pharma’s US subsidiary, for the quarter ending September 2017 (Q2), while indicating that pricing pressure continues in the US market, has some positives. The numbers show compared to the sharp fall in sales, gross margins fell at a slower pace. Taro also saw volumes grow by one per cent for Q2 and four per cent during the first half of FY18. The company clocked some market share gains as well. While these are positives, from an investors’ perspective, it may not be enough to significantly move the needle for Sun Pharma’s stock.

The pricing pressure on Taro’s key products continues and the company indicated price erosion in such products was at about 20-25 per cent. Net sales, thus, declined 26 per cent year-on-year (y-o-y). The positive is that gross profit margins (gross profit as percentage of sales) declined at a slower rate from 77.5 per cent in the year-ago quarter to 73.6 per cent in Q2. In fact, on a sequential basis, gross profit margins expanded 140 basis points. Analysts such as Surajit Pal of Prabhudas Lilladher, however, said this may imply one-off sales in Q2FY18. While subsequent quarterly results will provide further indication, given Taro’s operating performance and if it could sustain the trend, it could rub off well the Street’s sentiment.

Notably, Taro continues to invest heavily in research and development (R&D), important to drive future growth. R&D spends were up sixfold to $18 million in Q2FY18, but meant 37 per cent y-o-y decline in operating profits, as margins declined from 61.9 per cent in Q2FY17 to 52.3 per cent now.

Sarabjit Kour Nangra of Angel Broking said despite challenges, Taro’s operating performance was a positive sign. The pricing and regulatory environment has led to a continuous decline in Sun’s stock price (down from peak levels of Rs 1,168 in April 2015 to Rs 535 now). But, for long-term investors, this is an opportunity to buy such stocks, she said, adding the stock will rebound over time. Also, from here on, the pricing pressure in the US may not be that intense, analysts said. Last month, Credit Suisse had said they prefer Sun, as it has low price-erosion risk from here on, and monetisation of the specialty pipeline implies a compounded annual growth in profit of 20 per cent over FY19-22.

In the near term, the Street will be watching Sun’s ex-Taro performance and progress on resolution of US FDA issues, which would help analyse if there is a reversal in the present trend of declining profits. Sun Pharma’s results are scheduled for next week and the management’s commentary on turnaround of Ranbaxy’s business and an update on resolution of the US FDA warning letter and 483 observations on Halol plant will be keenly watched.