A contract to win

PENNY WISE

Shasun Chemicals has gained size with the acquisition of Rhodia Pharma and nearly half of its revenues will come from contract manufacturing.

Shasun Chemicals, the world's largest maker of ibuprofen, is moving away from being an active pharmaceutical ingredient (API) player into the lucrative and high margin contract research and manufacturing services (Crams) business.

This will help the company de-risk its business model, improve its margins and grow at a faster pace.

Crams support
It was the acquisition of UK operations of Rhodia Pharma Solutions, which derives 90 per cent of its revenues from CRAMS, that propelled Shasun into a higher orbit.

The focus on outsourcing business has helped it to quadruple the contribution of Crams to its revenues from 11 per cent in FY06 to 44 per cent in FY07.

The business is expected to contribute about 51 per cent in the current fiscal (FY08 turnover at about Rs 1000 crore) with a lion's share coming from its UK subsidiary.

Besides, Rhodia is expected to break even in the current fiscal and post revenues of Rs 451 crore. The acquisition of the UK assets added 13 commercial products and 23 molecules in phase-II and phase-III of clinical development.

Says Shasun Chemicals' director S Vimal Kumar, "Shasun is poised to post 85 per cent growth in the Crams business, coming mainly from custom synthesis projects and the ongoing contract of an intermediate to a big pharma company since March 2007."

The move into Crams will not only improve margins but also help the company move away from its dependence on APIs which has hitherto accounted for a chunk of its revenues.

Moving away from APIs
Before the acquisition of Rhodia, more than 85 per cent of the company's revenues came from the three key bread-and-butter products"�ibuprofen, nizatidine and ranitidine. This has come down to 45 per cent in the last fiscal.

Does the focus on formulations and Crams mean lower growth for APIs? Adds Kumar, "We do see growth in ibuprofen. Sales would grow by 5 per cent (about Rs 243 crore) this fiscal in value terms over FY07."

The company says that the sales realisation in the case of ibuprofen would be lower this year mainly due to the rupee appreciation in spite of price increases in both rupee and dollar terms. Two-thirds of ibuprofen sales come from the US and European markets.

Despite the fact that the supply of ranitidine to Glaxo would come to an end this fiscal as the UK-based MNC looks at other bestsellers for growth, Kumar believes that ranitidine would grow by 100 per cent in terms of value (about Rs 40 crore) this year.

The company's other main API, nizatidine has run into rough weather with the expiry of the five-year contract with Eli Lily. Shasun has indicated that sales would be in the range of Rs 30 crore in FY08 compared to Rs 77 crore in FY07.

"In the case of nizatidine, there would be lower realisations this year coupled with lower volume sales," says Kumar.

While sales from these three were around Rs 308 crore in the last fiscal, they are likely to be down 12 per cent to about Rs 273 crore in FY08. The company is banking on APIs such as gabapentin (used in curing central nervous system disorders), which has a market size of $2.8 billion.

Shasun supplies gabapentin to two US players and hopes to make up for the dip in nizatindine sales. The revenues from gabapentin are expected to double to around Rs 40 crore this fiscal.

In addition to Crams and APIs, the company has been looking at formulations and collaborations to boost its top line as well.

Collaborations
Shasun has entered into partnerships with US-based Actavis and Glenmark Pharmaceuticals to manufacture 22 formulations. The 10 products under the Actavis alliance will cater to a market size of $20 billion while the 12 products being supplied to Glenmark have a US market size of $8 billion.

In addition to these two partnerships, the company has also entered into a non-exclusive licensing agreement with Danish company H Lundbeck, which will use of Shasun's cross-coupling technology to manufacture and commercialise APIs.

Valuations
The stock price of Shasun had moved up after impressive results in the March 2007 quarter results and reached a high of Rs 155 on June 28 from a low of Rs 100 on May 31. But Shasun could not repeat a similar performance in Q1 FY08 results. 
 

ERRATIC GROWTH
Rs in crore	Q4FY07	Q1FY08	FY08E
Sales	114.00	205.00	1031.34
Operating profit	20.10	16.60	110.58
OPM (%)	17.63	8.10	10.72
Net profit	14.00	4.80	62.00
NPM (%)	12.28	2.34	6.01
EPS in Rs	2.97	1.01	12.92
No of shares (cr)	4.80	4.80	4.80
P/E (x)			7.20

After disappointing results, the stock has declined to a low of Rs 86 on June 24 and has recovered partially to Rs 93 now.

Despite higher consolidated revenues in the Q1 FY08 quarter, operating profit was down 17 per cent due to high raw material costs and lower sales of nizatidine while net profit plunged to Rs 5 crore from Rs 14 crore due to a doubling of interest costs on new loans taken last year.

Kumar expects raw material cost to be higher for this fiscal as well but says that the company is looking at improving productivity by cutting down costs and raise the selling price wherever it can.

At the current price of Rs 93.10, the stock is available at just 7.2 times its estimated FY08 earnings and trades at a discount to the largest Indian Crams player, Nicholas Piramal (Rs 270, FY08 P/E 20.7) and the most fancied Crams scrip, Divi's Laboratories (Rs 1174, FY08 P/E 30).