Results preview: Pharma margins likely to remain under pressure in Q1

Hospitals back to normalcy; tough road ahead for diagnostics

FY23 is a critical year for Indian pharma after two consecutive years of the pandemic. In the first quarter of the ongoing financial year, analysts expect a 5 per cent revenue growth, while the profit after tax (PAT) is expected to decline by 9-10 per cent year-on-year (YoY), as persistent cost pressures will keep the margin tepid.

On the other hand, hospitals are gradually returning to normalcy, and sector analysts expect Fortis Healthcare and HCG to post strong numbers. Diagnostics companies, however, have a tough road ahead. In the first quarter of FY23, they have battled a slower uptick in non-Covid-19 business at a time when competition from online players has increased.

The Indian pharmaceutical sector witnessed a mixed FY22 amid three overarching themes — contraction of Covid-led opportunities; industry-specific structural issues like US price erosion and significant inventory destocking; and adverse global macro deflators like higher input costs, freight costs and power costs. There were supply chain challenges, too, due to Covid-19 as well as the geopolitical tensions from the second half of FY22.

Analysts feel companies that have a diversified geographical presence in the branded space, select players in the US with complex portfolios (speciality drugs, biologics and injectables) have an advantage.

Edelweiss Securities said that the domestic core business is doing well, but cost pressures persist.

“A few trends are evident — heightened input costs to offset domestic price increase leading to gross margin pressure (expecting a 70 bp YoY decline) and cost headwinds such a rising freight, power and fuel to pinch the Ebitda margin (expect 300 bp YoY decline),” the brokerage said.

On a quarter-on-quarter (QoQ) basis, however, gross margins are likely to improve as a result of inventory write-offs in Q4FY22.

Domestic pharma companies had Covid-19 drug inventories that they wrote off in Q4FY22, and in Q1FY23 they have been taking the price hike of 10 per cent on essential drugs that come under price control.

Price erosion in the US generics market is expected to continue, but Prabhudas Lilladher (PL) analysts pointed out that the rupee depreciating against the US dollar (up 4.7 per cent YoY and 2.6 per cent QoQ) would benefit the export-oriented companies.

“We expect US sales to remain steady QoQ, with a continued challenging environment and lack of meaningful approvals,” PL analysts said. They added that Sun Pharma’s specialty sales are likely to see further increase in Q1FY23 as traction in specialty business continues. “Given a lack of meaningful approvals and continued price erosion in base business, we see YoY decline of 4 per cent and 6 per cent in US sales for Zydus and Glenmark, while we see YoY growth of 10 per cent and 12 per cent in US sales for Dr Reddy’s Laboratories and Cipla- aided by ramp up in new launches,” they added.

On a positive note, ICICI Direct analysts felt that prospects for the US market will get better from H2FY23 onwards due to moderation in oral solids doses pricing pressure on the back of exits due to product unviability; focus on more complex products; and decongestion of pending approvals pipeline as the USFDA and product inspection momentum, which can go back to pre-pandemic level.

As for the hospitals sector, ICICI Direct says that normalcy is likely to be restored after the Omicron wave. “Post the Omicron disturbances in Q4FY22, hospitals are structurally well placed with expectations of a normal Q1FHY23 to be driven by higher inpatient volume, and thus, higher in-patient conversion. One important lever could be the incremental elective surgeries, which were optically postponed in Q4 amid rapid spread of the Omicron wave,” the brokerage says.

International patient mix is expected to improve sequentially, analysts felt.

“We expect the hospital’s universe to maintain Q3FY22 momentum, if not surpass it. I-Direct hospitals universe is expected to report a sequential revenue growth of 4.4 per cent in this quarter,” it said.

Apollo Hospitals is likely to post a revenue growth of 10 per cent QoQ, while Shalby Hospitals is likely to post an 18 per cent QoQ revenue growth, the analysts pointed out.

Edelweiss said that while occupancy in April-May was sub-par, Apollo Hospital’s occupancy trend returned to 64 per cent in June, which is likely to sustain. Fortis too had 65 per cent occupancy, but Edelweiss expects SRL to perform poorly.

“In diagnostics, recovery prospects are dampening as volumes seem to show no pre-Covid-19 growth trends. Moreover, increased competition may put additional pressures on prices,” Edelweiss said.

For example, it says that ex-Suburban revenues of Dr Lal Pathlabs are expected to decline to 28 per cent YoY due to high Covid-19 base.

“Excluding Covid-19, it is expected to post modest growth of 7 per cent YoY due to limited testing,” the brokerage said.