Cadila inches closer to net profit upgrades

Higher competitive intensity in US base business impacted Q3 and will keep the stock under pressure

That the US Food and Drug Administration (FDA) did not make fresh observations after inspecting Cadila Healthcare's Moraiya plant in Gujarat could be a turning point for the company. This plant was responsible for more than 60% of the company's US exports and was impacted ever since issues cropped in 2014. Regulatory issues aggravated after the company received a warning letter which forced it to implement remediation measures. The measures seem to have served the purpose, as the company did not receive any negative comments after the US regulator inspected the plant over the last two weeks. The company is on course to sort out various issues raised by the FDA in previous observations, including the warning letter. The latest development will help improve exports to the US, translating into visibility in earnings growth. How important the development is can be gauged by the 20% spike in the company's share price to Rs 429 on Thursday.

Given the importance of the plant, the decision is a major relief for the company, believes Sarabjit Kour Nangra at Angel Broking.

With the plant under FDA scanner, the company's growth was hamstrung in the December quarter. Initially it had to make do with revenues from generic versions (copies) of arthritis and anti-malarial drug Hydroxychloroquine. This product came under competitive pressure over the last year, crimping realisations from sale of each unit. Sales from the key US market at Rs 1,072 crore or 46% of overall revenues in December 2015 quarter were down to Rs 890 crore or 38% of revenues in the December 2016 quarter.

Even the launch of generic version of ulcerative colitis drug Asacol HD in July 2016 was not adequate to compensate for the decline in the US business. Operating profit margin fell 565 basis points from a year ago to 17.5% due to pricing pressures in the US. The shrinking of margin led analysts to cut their earnings estimates. Analysts at Religare Institutional Equities cut earnings estimates for FY17 and FY18 by 16 and 5%, respectively.

The reason for falling US revenues has been the declining trend of product approvals and lack of mega launches in the US. With competitive intensity increasing for existing products as well, the company's revenue triggers were missing. Regulatory issues had prevented the company from launching the Asacol HD generics with six months of exclusivity in July 2016 and instead it had to settle for an authorised launch with the innovator, which meant lower revenues. 

The clearance of Moraiya plant thereby is important for faster approval of key products. Of the more than 200 ANDAs (abbreviated new drug applications) pending approval, 74 are from the facility. Analysts at Religare had indicated that resolution of the Moraiya warning letter will be the turning point for key products hanging in the balance: Toprol (anti-hypertensive), Prevacid ( anti-ulcer), Sirolimus (anti-bacterial), Asacol HD (ANDA application), and Lialda (anti-inflammatory).

Nangra says it will take some time before the company receives approvals for ANDAs from this plant. Nevertheless, expect future earnings to get upgraded as the plant receives final clearance.