Alembic Pharmaceuticals Ltd.

(APL)
Stock Update
Scrip Code
ALEPHAEQNR

(CMP: Rs.142.20)
October 04, 2013

Industry
Pharmaceuticals

CMP
Rs.142.20

Recommendation
Buy at CMP and add on dips to Rs.124-Rs.136

Target
Rs.167

Time Horizon
1-2 quarters

July August domestic sales show deceleration in anti infectives (-7.3%) but pick up in respiratory (+26.7%) and Gastro (+11.5%) segments:
The Indian pharma market witnessed lowest growth in a long time during August, at 1.1 per cent. However Alembic Pharma beat the industry with growth of 2.3%. APL has reported lower growth in Aug 2013 at 2.3%YoY compared to 2M growth of 9.8%YoY and 5M growth of 10.2%YoY. Brands which have shown higher than 10% growth in 2M include Gesofit (+71.3%), Wikoryl (+17.1%), Zeet (+32.1%), Rekool L (+76.2%) and Rekool D (+19.9%).

Better than expected Q1FY14 numbers

APL also reported better-than-expected Q1FY14 results led by strong performance in export market. Given below are some of the key highlights, which we came across while reviewing the results.

Key Quarterly highlights: Quarter Financials Consolidated:

(Rs. in Cr)

Particulars Net Sales Other operating income Total Operating Income Expenditure Raw Materials Decrease/(increase) in stock-intrade & W-I-P Purchase of traded goods Employees Cost R&D Expense Excise Duty Other Expenditure Total Opex Operating Profit OPM % Other Income Interest Expenses Depreciation Profit after interest and dep before exceptional items PBTM %

Q1FY14 426.6 0.6 427.2

Q1FY13 366.1 0.6 366.7

% Chg 16.5% 1.8% 16.5%

Q4FY13 376.6 1.5 378.1

% Chg 13.3% -62.0% 13.0%

Remarks Despite weak domestic performance, sales rise was led by exports, which grew by 41.5% y-o-y, contributing around 43% of overall sales

136.0 -13.0 49.5 56.4 22.4 0.8 103.7 355.7 71.5 16.8% 0.0 1.5 9.5 60.5 14.2%

111.6 -1.4 64.2 45.0 13.9 1.1 80.0 314.3 52.4 14.3% 0.2 5.7 8.7 38.2 10.4%

21.8% 817.6% -22.9% 25.4% 61.3% -30.7% 29.7% 13.2% 36.5% -90.5% -74.4% 10.0% 58.4%

108.1 25.5 33.5 51.0 22.0 1.7 70.9 312.7 65.4 17.4% 0.1 1.8 8.6 55.0 14.6%

25.8% -151.1% 47.8% 10.6% 1.9% -53.8% 46.2% 13.8% 9.3%

Decrease in raw material cost as a percentage of sales due to higher component of chronic in domestic formulations and improving product mix

Better product mix led to lower costs, which resulted in expansion in OPM YoY. -71.4% -19.7% 10.3% 10.0%

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Tax Effective Tax Rate % Net Profit NPM % Equity Capital Face Value EPS Breakup of Revenues:

13.9 22.9% 46.7 10.9% 37.7 2.0 2.5

7.3 19.1% 30.9 8.4% 37.7 2.0 1.6

89.6% 51.0% 0.0% 0.0% 51.0%

11.5 21.0% 43.5 11.5% 37.7 2.0 2.3

20.2% 7.3% 0.0% 0.0% 7.3%

(Source: Company, HDFC sec)

Control in costs and lower tax outflow led to rise in net profit

(Rs. in Cr) Particulars Formulations - Branded Domestic - Generic & NSA - Branded International International Division - International Generics API Domestic API Export Export Incentive Total Sales Q1FY14 233.4 195.8 25.4 12.2 192.5 85.5 20.2 86.8 2.9 428.8 Q1FY13 204.8 170.3 27.0 7.5 160.0 46.0 30.5 83.5 3.3 368.1 % Chg 14.0% 15.0% -5.9% 62.7% 20.3% 85.9% -33.8% 4.0% -12.1% 16.5% Q4FY13 220.3 179.6 27.9 12.8 156.3 77.6 25.0 53.7 1.7 378.3 % Chg 5.9% 9.0% -9.0% -4.7% 23.2% 10.2% -19.2% 61.6% 70.6% 13.3% Remarks

Growth in the domestic market was impacted by a dip in API sales by 33.8% y-o-y

Domestic sales fell during the quarter. But higher exports led to rise in overall sales
(Source: Company, HDFC sec Research)

In Domestic business, Specialty segment has seen improvement in its share to 50% in Q1FY14 from 44% in Q1FY13. It has witnessed growth of 26% y-o-y. Therapy wise,

Ophthalmology (42% y-o-y), Anti Diabetic (39% y-o-y), Cardio (38% y-o-y), Nephrology/Urology (37% y-o-y) have seen good growth in Q1FY14. Anti-infectives share in domestic business has gone down to 38% in Q1FY14 from 43% year before on the back of lower growth of 1% y-o-y.
APL has partially commissioned its new Formulation facility at Panelav. The full plant is expected to be operational by end of H1FY14, which will augment its capacity from ~3 bn

tablets /capsules to 5 bn. This could help the company drive its business in International Generics.
R&D expenses were at Rs.220 mn in Q1FY14. Going forward, the management expects 5-6% of revenues will be spent on R&D. APL received 2 ANDA approvals during Q1FY14. Till now, it has filed for 57 ANDAs and has received 26 approvals. It had filed 13 ANDAs last year. 1 DMF was also filed in

Q1FY14. Filings for FY14 are expected to be around 9-10. It expects to launch 7-9 product launches for FY14E and FY15E.
Capex for the quarter was Rs.120 mn while it is expected to be at around Rs.500600 mn for FY14. Debt is reduced by Rs.500 mn in Q1FY14. Going forward, the management

expects margins improvement of 100150 bps every year. Revenues are expected to rise to ~Rs.20 bn by FY15E. Other Highlights: APL has filed certain complex DMFs in the last six months, including Febuxostat (Uloric of Takeda used for the treatment of chronic gout) Deferasirox (Exjade of Novartis used to treat chronic iron overload in blood) & Dronedarone (Multaq of Sanofi-Aventis used to treat cardiac arrhythmias). Additionally, it has few more complex products in the development stage. It has long term plans to enter in to topical & derma products development to cater to niche profile in US market. Apart from this, APL has also filed cumulative 8 filings in Brazilian market, ~17 in Europe, 1 in Canada. It is investing in R&D judicially and benefits are likely to accrue in the upcoming years.

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 Domestic market is a key driver for the growth of company; it grew 13.2% y-o-y in FY13 & contributed ~58% of total revenue. Management expects this business to surpass the

industry average growth of 14-15% y-o-y for next few years. In the last 2-3 years, company has focused on the chronic therapies including Cardio, Diabetology, Gynaec and Ophthalmic. This has resulted in healthy growth of more than 25-30% growth in chronic portfolio, which currently contributes almost 50% of domestic formulation business.
APL has field force of ~3400 (including ~600 managers) and its strategy is to invest in new therapies continuously in domestic market. However, New Pricing Policy is likely to

have negative impact of Rs.200-Rs.250 mn (2-2.5% of domestic formulations) on FY14E domestic formulations.
The management expects annual growth of 15-18% in branded formulations and CAGR growth of 30% in international generics.

Concerns
APL has been a late entrant in tapping the opportunities in the Regulated markets. Hence, intense competitive pressures could impact its performance. Dependency on top 5 brands still high: Over the past 3-4 years the top 5 brands have contributed ~40% to the total sales. So degrowth in any of these brands could adversely impact its financials and profitability. Forex fluctuations: ~43% of APLs sales comes through exports and any adverse foreign currency fluctuations could affect its earnings. New pricing policy: In the domestic market, there is talk of introducing a new pricing policy - NLEP. If this policy comes into effect, it would bring APLs largest drug, Azithral (Rs. 100 crs brand,) into its pricing purview, which could affect growth projections going forward. Currently, only around 30% of the total sales (mainly acute therapy) come from products under price control. The management indicated that with the coverage of new products in the acute therapy segment, the percentage of products under the DPCO could increase to 35% and this in turn could hurt its financials. Falling API sales: APLs API sales has been falling continuously over the last few quarters due to competition from China and other sources. This has impacted the API exports, which is also showing de-growth. However APL is making conscious efforts of exiting low margin API sales and instead concentrating on captive consumption (to increase to 50% over 3-5 years from current 30%) and/or tying up with ANDA & DMF holders for improving the margin profile of its API business.

Conclusion & Recommendation

APL is a leader in a Macrolide segment, has a strong footing in its domestic formulation business and shifting focus from API to formulation; these developments could spur growth for APL. APL, a decade old pharmaceutical company, is a leader in several sub-segments of the Anti-Infective Therapeutic segment. APL, over the last two to three years, has invested heavily to build a huge pipeline of products for the regulated markets and increase its revenue share in total consolidated revenues. Furthermore, now with greater focus on the chronic segments of the domestic market APL is expected to expand its operating margins by changing its product mix. APL is expected to generate strong operating cash flows, and with no major capex planned, it could reduce its leverage and in turn improve its profitability, which makes it a good value play. It has recently launched Dermatology portfolio and expects to launch overall 25-30 products every year in the domestic segment. It also plans to add some new products to its respiratory segment. APL has a pipeline of ANDA. The company has already built infrastructure conforming to the International standards. This is expected to aid the company tap opportunities in the CRAMS segment. 30% of its API capacity is currently used for captive formulations and APL plans to take only high margin API orders. APL also has lined up capacity expansion at Panelav. This expansion will increase the capacity from ~3 bn tabs/caps to 5 bn tabs/caps and could drive significant growth in the International Generics business. It has been partially commissioned. The full plant is expected to have been operational by H1FY14. With the capacity expansion, sales may not jump in proportion as it would largely replace the outsourced sales. However, margins could show improvement.

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To ramp up revenues, the company is banking on expansion of its manufacturing capacities which cater to the international business and its generic version of Pfizer's drug Pristiq to gain traction in the US though the drug has recently lost market share. At the CMP of Rs.142.2, the stock is trading at 14x FY14E EPS of Rs.10.1 and 11.5x FY15E EPS of Rs.12.4. We feel investors could buy the stock at the CMP and add on dips between Rs.124 Rs.136 (10-11x FY15E EPS) for a target of Rs.167 (13.5x FY15E EPS) over the next 1-2 quarters.

Financial Estimates:
Particulars (Rs in Crs) Net Sales EBIDTA EBIDTA Margin % PAT (Adjusted) APAT Margin % EPS PE
* - Quick Estimates , EPS calculated on ex-bonus equity cap of Rs.18.09 cr

FY11 1202.1 160.3 13.3 85.4 7.1 4.5 31.4

FY12 1466.4 220.4 15.0 130.1 8.9 6.9 20.6

FY13 1517.3 252.0 16.6 165.3 10.9 8.8 16.2

FY14 (E)* 1737.3 295.3 17.0 191.1 11.0 10.1 14.0

FY15 (E)* 1980.5 352.5 17.8 233.7 11.8 12.4 11.5

(Source: Annual Report, HDFC sec Estimates)

Analyst: Sneha Venkatraman - Automobiles, Cement, Pharmaceuticals & Midcaps RETAIL RESEARCH Fax: (022) 30753435 Corporate Office

Email ID: sneha.venkatraman@hdfcsec.com

HDFC securities Limited, I Think Techno Campus, Building - B, "Alpha", Office Floor 8, Near Kanjurmarg Station, Opp. Crompton Greaves, Kanjurmarg (East), Mumbai 400 042 Fax: (022) 30753435 Website: www.hdfcsec.com Email: hdfcsecretailresearch@hdfcsec.com Disclaimer: This document has been prepared by HDFC securities Limited and is meant for sole use by the recipient and not for circulation. This document is not to be reported or copied or made available to others. It should not be considered to be taken as an offer to sell or a solicitation to buy any security. The information contained herein is from sources believed reliable. We do not represent that it is accurate or complete and it should not be relied upon as such. We may have from time to time positions or options on, and buy and sell securities referred to herein. We may from time to time solicit from, or perform investment banking, or other services for, any company mentioned in this document. This report is intended for non-Institutional Clients

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