Global play

Domestic pharma majors may continue to be on an overseas shopping spree even next yr

The pharma industry saw several big-ticket overseas acquisitions in CY06, which helped in reviving the performance of large generic Indian players, given the well documented pricing pressure in the American market.

For instance, in early CY06, Dr Reddy's acquired Germany-based Betapharm for ¤480 million , while Ranbaxy bought 96.7 per cent stake in Romania-based Terapia for $324 million (Rs 1,440 crore).

Apart from gaining a larger market share in the booming European generics market, Indian players also benefited from getting access to a wider product segment from these deals.

While overseas acquisitions of this magnitude need not necessarily materialise in CY07, analysts are emphatic that Indian generic players will not lose their appetite for buying overseas companies.

Also, the maturity and global scalability of the Indian pharmaceuticals industry was demonstrated when US-based Mylan Laboratories acquired a majority stake in Matrix Laboratories.

While it is too premature to speculate if other Indian promoters may follow suit in CY07, it does indicate that a low-cost manufacturing base is also becoming a crucial criterion in the global pharma business. The low-cost manufacturing base also helped Indian players grow their contract manufacturing business aggressively in CY06.

For instance, Nicholas Piramal had acquired the manufacturing facility of Pfizer, located at Northumberland, UK. This deal would allow Nicholas to leverage its global manufacturing expertise in countries such as India and the UK, in a bid to meet Pfizer's global manufacturing needs.

Meanwhile, Dr Reddy's had also grown its contract manufacturing business through its purchase of Mexico-based Falcon. Despite, these steps, the BSE's Healthcare index has under-performed in CY06 till date "� this sectoral index has grown 20 per cent compared with 43 per cent rise in the Sensex.

In the domestic market too, sales growth of pharma products was strong in CY06 and this trend is expected to continue in the new year too. MNC players, who focus largely on the domestic market, did benefit substantially from this trend.

Also, MNC pharma players are expected to increase the number of product launches from their parent's portfolio in the domestic market during CY07.

Nevertheless, pharma stocks are expensive "� for instance, Ranbaxy trades at 20.5 times estimated CY07 earnings, while Glaxo at 23 times estimated CY07 earnings. Other generic players such as Dr Reddy's trade at 20 times estimated FY08 earnings.

Tech Mahindra: Dependence on BT no worry

Software deals are getting larger if Tech Mahindra's latest deal ($1 billion plus of revenues over five years) with British Telecom is anything to go by.

Even considering that the relationship between the two companies is over two decades old and the fact that BT owns nearly a third of the company, this deal size is big.

Tech Mahindra had 69 per cent of its total revenues of Rs 1,242.7 crore coming from BT in FY06. Since this deal is over and above the existing business, Tech Mahindra's dependence on BT as a client will increase further, but that does not seem to worry investors.

After the deal was announced, the Tech Mahindra stock appreciated 33 per cent in two days. Investors are possibly relieved that there is nothing to worry about for the next five years, and by then the company can broaden its customer base easily.

A telecom vertical major, Tech Mahindra has made further in-roads at AT&T in the recent past and Alcatel is also among its clients. With consolidation a reality in the telecom sector, investors will have to accept the high dependence on a few clients.

At present, Tech Mahindra provides services to BT's internal systems and processes. Under the new deal, it will enhance its services to BT, which will support BT's planned growth of managed services to its customers worldwide.

BT's global services business had revenues of £8.6 billion, so the scope for this business is quite huge. In H1 FY07, its EBITDA margin went up nearly 500 basis points to 23.1 per cent, which is lower than top rung IT players.

Such large deals are likely to earn slightly lower margins, but the size of the business will take care of that. The new business will take off in April 2007, and may put pressure on Tech Mahindra's costs and margins for a couple of quarters till it stabilises.

The Tech Mahindra stock is up over 350 per cent from its IPO price of Rs 365 in August 2006, and is one of the top performing issues of 2006.

The recent price rise has made the stock rather expensive "� it trades at about 37 times estimated FY07 earnings and about 26 times FY08 earnings, without consideringthe current deal.