Its presence in key markets of the US, Germany and CIS is helping Dr Reddy’s to ramp up revenues and profits.
While FY2008 was a forgettable year for Dr Reddy’s Laboratories, the current fiscal should see its revenues and profits grow at a robust rate on the back of product launches and expansions in key markets of US, Germany and CIS.
To add to a good second quarter performance across its business segments of APIs, formulations, generics and pharma services, the company has recently won a part of the euro 2.3 billion tender for 64 products from Germany’s largest public health insurer, AOK.
AOK win
Through its German subsidiary, Betapharm, Dr Reddy’s will be the sole supplier of 8 products (out of 47 for which it bid) to different regions in Germany. While it is difficult to quantify the gains for the company, since neither the molecules nor the size of contract is known, analysts estimate that there would be a 90 per cent (Rs 720 crore) revenue upside from current Betapharm revenues of Rs 800 crore.
It is estimated that aggressive bidding would lead to a price erosion (of up to 30 per cent) from current prices and might crimp gross margins to around 25 per cent. While the company might not have been very successful vis-à-vis generic players like Teva, Dr Reddy’s has a low cost base that will help to keep a tight control on costs.
The transfer of a major part of Betapharm’s requirement to facilities in India (about 70 per cent of requirements have been transferred) will help Betapharm be cost competitive vis-à-vis other generic players. While some integration issues might still need to be sorted out, a low cost base, registration of new products for launch in the German market and volume growth will help Betapharm improve on its 3 per cent share of the German generics market.
It is on the back of above mentioned strengths that the German company could register a 68 per cent increase in revenues to Rs 280 crore in the second quarter of 2009. While the AOK deal will significantly enhance its share in Dr Reddy’s consolidated revenues, which currently stands at about 16 per cent, there is however a risk of litigation by other parties (with regards the AOK deal). A clarity on this issue would emerge over the next three months.
Gains in the US market
North America is a key market for Dr Reddy’s APIs and generic products and accounts for about 23 per cent of its consolidated revenues. Last month, the company launched the authorised generic version of GlaxoSmithKline’s Imitrex, a medication to treat migraine with US sales of $1.29 billion in CY2007. Analysts believe that the launch will add about $60 million to Dr Reddy’s revenues in FY09.
The revenue flow from US operations is, however, erratic. For example, while in FY07, North America accounted for 71 per cent of the generic revenues due to the authorised and exclusive launches of Zocor, Proscar, Zofran and Allegra, FY08 accounted for just 45 per cent as there were no new products.
| GENERIC GAINS | |||
| in Rs crore | FY 2008 | FY 2009 (E) | FY 2010 (E) |
| Net sales | 5,000.0 | 6,250.0 | 7,813.0 |
| Operating profit | 336.0 | 750.0 | 938.0 |
| Net profit | 468.0 | 531.0 | 664.0 |
| P/E (x) | 15.9 | 14.0 | 11.3 |
| E: Estimates | |||
In addition to launching generics, the company has been focussing on the $2 billion US dermatological market. It has set up a subsidiary, Promius Pharma, to launch three branded dermatological products in the current fiscal. The company faces less competition vis-à-vis other therapeutic categories as the market is small and these products require dedicated facilities.
CIS business
Dr Reddy’s is the largest Indian generic player in CIS and this geography contributes about 11 per cent (Rs 552 crore) to the company’s consolidated sales. Brands such as Nise, Ketorol (both for pain management) and Cetrine (anti-allergic) are among the top selling drugs in their respective categories and have helped push up revenues by 36 per cent and 63 per cent y-o-y in Russia and CIS, respectively in the second quarter.
Russia and CIS countries are important for Dr Reddy’s as formulations have grown the fastest in the last fiscal across segments and the geography contributes about 37 per cent of its total formulation sales. Unlike the severe competition in generics, which hamper margins (gross profit of 47 per cent), formulation sales (both in the CIS and India) have much higher margins (gross profit of 73 per cent). The concern for the company in these markets could be delays in receivables due to liquidity problems at the distributor or supplier levels.
Investment rationale
Unlike the 23 per cent decline in revenues in FY08 due to the lack of generic launches in the US market, the company is on course to achieve 25 per cent revenue growth in FY09. On the back of new generic launches in the US (sales growth 53 per cent) and the launch of seasonal in-license vaccines in Germany through Betapharm helped Dr Reddy’s improve sales by 26.5 per cent in the second quarter of FY09.
The problem area for the company has been domestic (India) business, which has grown in single digits due to API supply issues from China and matured products. While the company experienced forex (translation) losses of about Rs 30 crore in Q2, FY09, a weakening rupee (against dollar/euro) should add to its bottomline in the current fiscal.
With the AOK tender likely to boost revenues in FY10 and FY11, an investment with 1-2 year view at the current rate of Rs 444 (FY10 PE at an attractive 11.3 times) should fetch about 19 per cent returns over the next one year.
