Healthy pill

PENNY WISE

Granules India's move up the value chain should lead to better margins.

Pharmaceutical outsourcing player, Granules India is moving up the value chain from being a predominantly bulk drug player to a formulation player.

The company, which makes pain management medications such as ibuprofen, paracetamol and the anti-diabetic metformin, is expected to start commercial production of its formulations unit in February 2008.

This will not only turn it into an integrated player with a presence in all the pharma value chain but improve margins as well.

Integrating operations
Granules has installed capacities of 13,550 tonnes for APIs and 8,400 tonnes of PFIs.

To improve its margins and move higher up in the value chain, the company will shortly start production at its tablet facility with capacity of 6 billion units per year at Hyderabad.

In line with its goal of bringing in scale economies, it plans to triple the capacity to 18 billion units by 2011. The company expects that by FY09 finished dosage forms will contribute 50 per cent of its turnover from negligible now.

With capacities in place, the company is now going about tying up supply issues. Volatility in prices and erratic raw material supply has forced it to either set up its own facility or tie up with manufacturers. It has entered into a 50:50 joint venture with Biocause Heilen Pharmaceutical of China, to manufacture and sell Ibuprofen APIs, some of which will be used as an input at its facilities.

Commissioning of the Chinese operations, which was delayed by three months due to regulatory issues, is expected to contribute Rs 80 crore to Granules topline in 2008.

Says C Krishna Prasad, managing director, Granules India, "At a time of price volatility and shortages it was important to have consistency and security of supply."

To tackle supply issues in the future the company plans to enter into joint ventures with API manufacturers to ensure regular supplies rather than invest in facilities on its own.

Valuation
The results in September quarter have been a dampener with sales growing just 10 per cent y-o-y and operating margins dropping 140 bps over the same period.

The company took a hit of about Rs 3 crore due to appreciation of the rupee and there was a delay in commencement of its China JV.

Granules is hedging receivables with forward contracts and is entering into 3-month supply arrangements to tackle exchange rate volatility. 
 

UP THE VALUE CHAIN
Rs cr	FY05	FY06	FY07	FY08E	FY09E
Sales	134	175	185	300	450
Operating Profit	20.38	26.79	33.69	46.50	72.00
OPM (%)	15.21	15.31	18.21	15.50	16.00
Net Profit	6.67	9.20	10.12	16.80	36.00
NPM (%)	4.98	5.26	5.47	5.60	8.00
Shares (cr)	1.23	1.24	2.00	2.00	2.00
EPS (Rs)	5.41	7.44	5.05	8.38	17.96
P/E (x)				13.00	6.07

Analysts say that the foundation for growth is laid and the company is poised to leverage its manufacturing strength in the respective product areas. At Rs 103, the company is available at 19.9 times its trailing twelve months earnings.

With product mix tilting towards prescription formulations, estimates indicate that earnings per share could more than double from Rs 5 to about Rs 12.5 by year ending June 2009 (FY09).

The key risks: further delay in production and scaling up of new capacities (own as well as the China JV) and a sharp spike in the value of rupee vis-a-vis the dollar.

At the current price of Rs 103, the stock is available at just 8 times its FY09 numbers. Considering that the stock has traded at a historic forward earnings P/E band of 19-23, there is room for appreciation.