Dr Reddy’s Beats Forecast

Pharma major, Dr Reddy’s Laboratories (DRL) surpassed market expectations and came out with a fairly good set of numbers for the 2QE September, 2012. Its consolidated revenue went up by 27% on a YoY basis to Rs 2880 crore while the net profit at Rs 407 crore was up 32% from the year ago period.

DRLs business is primarily divided into two segments; Global generics and Pharmaceutical Services and Active Ingredients (PSAI). The Global generics business of the company is the largest segment contributing to over 70% of its topline. Revenue from this segment at Rs 2010 crore was up 25% on a YoY basis. The PSAI segment on the other hand, which contributes to about 30% of its total revenue reported a 33% rise to touch Rs 790 crore.

During the quarter the cost of raw material as a percentage of total sales came down by 49 basis points to 33.32%. The company is witnessing an improvement in its operating leverage which is reflected in its Selling, General and Administration Expenses (SG&A) coming down as a percentage of sales to 28% against 32% that it was during the same period last year. This was despite they having gong up by 11% in absolute terms. As a result of all this, its EBITDA margins showed a marked improvement having gone up by 400 basis points to 27%.

DRL reported a net forex gain of Rs 18.70 crore during the quarter under review, having reversed a forex loss that it had booked during the June quarter translating into a profit of Rs 34 core and booking a forex loss of Rs 100 crore in the sales as its cash flow hedges matured in the quarter. The company now has hedged USD 600 million of cash flows at the rate of Rs 53.45 to Rs 55.78 per dollar. This we believe is a fairly comfortable position as we do not see the dollar moving beyond the 56 mark in at least the near future.

Business Update

• The US generics market which is a very important revenue contributor saw a growth of 38% on the back of limited competition products that DRL launched during the quarter.
• Revenues in Russia grew at a slightly lower rate, having gone up by 14% due to the lower off take in Russia on account of winter. This however is a seasonal impact.
• Sales in the domestic market grew at 12%, which is below the overall growth rate of the market but in line with management expectations.
• Its European revenue declined by 16%. The company is now looking to defocus on the tender-based business. It however admitted that Europe remains a very tough market at the moment.
• The Rest of the world (ROW) market grew at a robust rate of 50% during the quarter.

Regulatory filings

The company launched 18 new generic products and filed 11 new products for approval including 4 ANDAs. It now has 63 ANDAs pending approval from the USFDA. These include, 33 Para IV (limited competition products) and 7 First-to-File drugs. The management is said to be now focusing on complex generic products and we hence there is a possibility that its ANDA pipeline to show some decline in future.

The company has not provided any guidance on its business for the next fiscal. However, according to the management, the next fiscal will be a very tough one. DRL has a couple of big ticket niche product launches lined up in the remainder of this fiscal and the exclusivity of these products will run through the first few months of the next fiscal as well. After the exclusivity expires, other generic players will eat into the market share of these products and there will also be significant price decline. The generic version of Lipitor, has seen a 99% price erosion which is indicative of this fact. We expect H2FY13 and H1FY14 to be better after which its revenues may show flat to moderate growth.

Conclusion

After the robust Q2 numbers that it reported, its shares have witnessed a good amount of buying. The stock has appreciated by about 4% over the last two days after having underperforming in 2012 till date. We would advice that you hold on the shares at their current levels and book profits between Rs 1800 – Rs 1850. Investors should not take any fresh exposure to the stock at the CMP.