Concerns remain for Dr Reddy's Labs

With plants under scanner, it might take time for issues to be resolved

Dr Reddy’s Lab (DRL)’s revenue growth of three per cent and profit growth of one per cent for the December quarter were unimpressive. The stock lost 3.6 per cent to close at Rs 2,960 on Tuesday. The weak revenue growth was due to fall in sales in Russia and CIS markets, which contributed 17 per cent to sales, while the pharmaceutical services and active ingredients (PSAI) segment (15 per cent of revenues), too, fell. PSAI sales decline seven per cent, while sales in emerging markets at Rs 6,617 crore fell 22 per cent year-on-year (y-o-y) even as Russia sales in constant currency terms were up five per cent. Rest of the world (3.7 per cent of revenue) sales also declined 10 per cent y-o-y.

However, the US sales continued to see healthy growth despite DRL’s plants facing US Food and Drug Authority (FDA) ire. US generic sales at Rs 1,941 crore grew 18 per cent. Although currency depreciation helped a bit, DRL’s niche product range continues providing traction. However, the Street’s concerns remain on new launches in the US with FDA issues pertaining to its Srikakulam and other plants still unresolved. The clearances will be crucial for boosting growth and analysts don’t see any major traction in the next few quarters given that it typically takes 12-18 months for the FDA clearances to come.

Domestic sales (a sixth of revenue) also grew at a robust pace of 34 per cent y-o-y. US and India sales compensated for the decline in other geographies helping DRL’s revenues at Rs 3,968 crore come closer to the Bloomberg consensus estimate of Rs 4,006 crore. Ebitda at Rs 1,011 crore was in line with expectations of Rs 1,006 crore. Net profit at Rs 579 crore, however, was lower than the expected Rs 653 crore. Analysts believe remediation costs for resolving compliance issues have increased substantially as there were some forex losses, too, and other income came lower. Some of it was partly offset by a payment received from Merck Serono that’s reflecting in lower R&D expenses.

The road ahead for DRL is difficult, given the challenges in emerging markets and pending FDA clearances. Although the stock has already corrected by a third from its peak in October 2015 and the Bloomberg consensus target price at Rs 3,439 indicates upside, only patient investors may consider on dips given the long-term growth potential.