Healthy mix

POUND WISE

Sun Pharma's strong pipeline of generic drugs, acquisition strategy and consistent growth translates into global opportunities.

After Ranbaxy's $4.6 billion acquisition by Daiichi Sankyo, Aventis Sanofi is preparing to take control of Czech company Zentiva for $2 billion.

Innovator pharmaceutical companies and larger generic players have been employing the acquisitions route to snap up smaller generic rivals to take advantage of the generics opportunity, grow faster and expand aggressively.

India's fourth largest company by sales, Sun Pharmaceutical Industries too, has been hunting for players that can add to its portfolio and improve its distribution network. Sun's success in completing the long pending acquisition of Israel-based Taro is crucial and will significantly strengthen the company's US presence and product portfolio.

Notably, the market expects the various issues surrounding this acquisition to be resolved in the next few months, and hopes that Sun will soon close the deal in its favour.

The M&A route
Over the last decade and a half, Sun has acquired over 13 companies and brands which has not only given it access to new markets and products but also expanded its manufacturing base to 10 formulation units and 7 API units spread over India, US and Hungary.

The process of acquiring Taro, the company's latest acquisition target, gains importance as up to 90 per cent of Taro's sales of about $250-300 million come from the US market, which has been critical to Sun recording higher sales and margins over the last few years.

More importantly, Taro's product basket, which includes a presence in dermatology and paediatrics, would give Sun an entry into these areas and complement its products in Taro's cardiovascular, neuropsychiatric and anti-inflammatory products.

Taro also has 100 abbreviated new drug application (ANDA) approvals and is awaiting a nod for a new drug application (NDA) in addition to 26 ANDAs. These will help Sun penetrate deeper into the US and Canadian markets and increase its product offerings for this geography.

While the deal is important for Sun, it has run into trouble as the Taro board terminated the May 2007 merger agreement signed between Taro founders and Sun Pharmaceutical saying that the price was too low.

With a 34 per cent stake in Taro and the possibility of increasing it to 65 per cent post September 2, 2008 when its tender offer to shareholders ends, the Sun management is confident of gaining control of Taro.

If the deal falls through (quite unlikely) and Sun does not complete the acquisition or sells its stake in Taro, it could still end up making a profit from the higher price for its stake but would then have to look at other options to improve its reach in the US market.

Generic opportunity
International operations are playing a key role in boosting Sun Pharmaceutical's revenues and margins. From 43 per cent in FY07, the share of exports has moved up to 55 per cent of sales in FY08.

While exports to the US have registered an annual growth of 70 per cent over the last three years and sales to the rest of the world have grown 39 per cent, domestic branded sales have grown 29 per cent annually over the same period.

The company's launch of two key generics in the US""Trileptal (oxcarbazepine) for the prevention of seizures with brand sales of $640 million and Protonix (pantoprazole) for treating ulcers which had notched up sales of $2.3 billion, boosted its numbers for FY08 by about an estimated Rs 500 crore. Thanks to the shared 180-day exclusivity period on the two drugs, FY08 sales were up 58 per cent and operating margins moved to 47 per cent from 32 per cent in FY07.

For FY09, the company is pinning its hopes on increased sales of Ethyol (Amifostine), a drug used in treating cancer with branded sales of $80 million and pantoprazole.

The company is also eyeing the launch of Effexor (venlafaxine), a $2.6 billion anti-depressant in the tablet form and is awaiting FDA approval for launch.

Sun Pharmaceuticals also has a pipeline of 89 ANDAs for which it is awaiting approval and is planning to file ANDAs for 30 products this fiscal. While the generic launches of Protonix, Ethyol and Trileptal this year and Exelon last year should bring in robust revenues in FY09 and FY10, its ANDA pipeline should ensure steady sales from the US market.

Domestic operations
The share of the domestic market has dropped below the half way mark in FY08 but its annual growth rate at 29 per cent is still reasonably healthy.

The company believes that its focus on higher margin chronic therapy areas (60 per cent of domestic sales comes from medicines that treat cardiac, diabetic and neuro psychiatric conditions) will help it to grow faster than the domestic market growth of about 12 per cent.

The company has a 3.4 per cent share of the fragmented formulations segment. Its Top 3 brands are Glucored, an anti-diabetic with sales of Rs 35 crore, Susten a Rs 32 crore brand which is used in treating hormone deficiency and Pantocid which limits acid production that brings in Rs 30 crore annually.

Valuations
To counter the higher import costs of inputs due to rupee depreciation, the company is using a combination of passing on the cost to customers, hedging and value adding by increasing vertical integration.

The conversion of the $300 million FCCBs into equity shares in the March FY08 quarter means that there will be no forex impact due to rupee depreciation. 
 

HIGH GROWTH
Rs crore	FY08	FY09E	FY10E
Sales	3,290.00	3,882.20	4,581.00
Operating profit	1,551.00	1,572.29	1,740.78
Net profit	1,486.00	1,514.06	1,694.97
EPS (Rs)	71.80	73.11	81.84
P/E (x)	18.13	17.81	15.90
E: Estimates

In addition to the higher margins on FY08 generic launches, part of the reason for a jump in net profits by 89.6 per cent over the previous fiscal is due to the investment income from the cash pile of over Rs 2,500 crore.

Even after paying for Taro's acquisition, Sun will still have about Rs 1,500 crore, which it may use for further acquisitions. The stock at Rs 1,301 is trading at about 18 times its FY09 earnings estimates of Rs 73, which is at the lower level of its historic (last five years) 1 year forward P/E band of 18-27x. Investors can expect returns of about 20 per cent over the next 15 months.