Natco's bet on oncology pays off

Focus on high-margin oncology segment has paid good dividends and pipeline holds promise, too

Over the past five years, Hyderabad-based Natco Pharma has grown its market capitalisation by an astounding 48 per cent annually compared with the more sedate pace of eight per cent delivered by the Sensex. The gains have come on the back of its success in the oncology (study and treatment of tumours in the body) segment, which has helped drive earnings. Analysts say earnings growth will remain healthy on the back of existing business and product pipeline.

The company shot into limelight in December 2011 when Sun Pharma's managing director Dilip Shanghvi acquired around three per cent stake in the company. The share price has doubled since, taking its market capitalisation to Rs 1,500 crore. It was not the first time Shanghvi was involved with this company. In 1998, Sun Pharma had bought the entire product range of Natco, which gave it mileage while Natco started afresh.

Oncology: Niche focus
After launching a new range of branded generics in the late 1990s, the company directed its attention to developing own niche basket of oncology drugs. Investing in process research for difficult-to-manufacture oncology products, the company has had quite a bit of success since its first launch in 2001. Today, the range contributes 80 per cent to its entire formulation revenues (Rs 234 crore in FY13, of the total revenues of Rs 621 crore). The company has been launching two-three oncology products a year. Spokesperson and Company Secretary M Adinarayana says the 'run rate' is likely to continue in FY14.

In March 2013, the company got major success as it managed to get compulsory licence to produce cost-effective version of Nexavar, a patented medicine used to treat liver and kidney cancers. While the cost of treatment with the Bayer brand was Rs 2.80 lakh a month, Natco offers this at Rs 8,800 a month. However, Natco will have to pay a seven per cent royalty to Bayer. The product is likely to contribute Rs 4-5 crore to revenues in FY14.

The manufacture of oncology products requires a high degree of specialisation and process. There are only a few major companies in the space (Cipla, Intas, Strides Arcolabs and Fresinius Kabi's Indian subsidiary) in the country. Competition being low, margins remain strong. While the Rs 3,000-crore oncology market in India is dominated by multinationals with 80 per cent share, Natco is the leader among Indian peers with a market share of five per cent. It derives 80 per cent of its formulation revenues from this segment.

Exiting non-oncology
In the domestic arena, the company has decided to cut its non-oncology range. The domestic revenues from this segment had seen a decline of 35 per cent during FY13 due to intense competition. Margins, too, were low.

Outlook
While the company has a good product pipeline for the US, all eyes are on the US Food and Drug Administration nod for generic version of Teva's immunity disorder drug, Copaxone. US partner for the product Mylan will launch it once the courts give go-ahead. Manoj Garg at Edelweiss had said if it got six-12 months' window before September 2015, it could still make $30-50 million profit from this. However, after that, Copaxone can contribute $15-20 million recurring profit. The launch of swine flu drug Tamiflu's generic version is also being watched carefully. Natco has partnered Lupin, contesting the patents in US courts.

While Natco has delivered 15-16 per cent annual rise in earnings in the last two years, analysts expect its earnings to grow 17 per cent in FY14 and 19 per cent in FY15. However, delay in launching products will influence earnings and stretch the waiting period for investors.

Sriram Rathi, analyst at Anand Rathi Shares, maintains a 'Buy' call, with a price target of Rs 540, based on 12 times the September 2014 base business earnings and Rs 147 a share for its para-IV pipeline in the US. The stock is also among the top picks of ICICI Securities in the pharma space.