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Investment Guru India 2020-06-29 02:50:43

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Ipca Labs – Takeaways from Conversation with Jt. MD

IPCA Laboratories (IPCA) has witnessed strong revival with 875bp margin expansion and 49% earnings CAGR over FY16-20. This was led by outperformance in the domestic formulation (DF) business, superior execution in branded-exports/API and improved cost efficiency. To get a detailed update on the company’s growth outlook over the next 15-18 months, we interacted with Mr. AK Jain, Joint MD of IPCA. Key insights from the discussion highlighted below:


Branded formulations/API and better operating leverage to boost growth and margins

* IPCA has not only garnered record high earnings but has also built multiple drivers to sustain growth momentum over the next 4-5 years. This, according to Mr. Jain, was possible due to IPCA’s strategy of (a) MR led branded formulations in India/emerging markets, (b) increasing product offerings, (c) integrating the manufacturing value chain for focus products, and (d) gaining considerable market share based on economy of scale.

* For FY21, IPCA has guided for 14-17% YoY growth led by (a) 11% YoY growth in DF (40% of sales), (b) 19%+ YoY growth in API (25% of sales) and recovery in the institutional business (4% of sales), and (c) better-than-industry growth in promotional market sales (9% of sales). However, Mr. Jain expects some drag on overall growth due to the gradual introduction of own labeled products in the UK.

* Nevertheless, management is confident of achieving ~150bp EBITDA margin expansion in FY21 on account of (a) softening raw material prices, (b) lower promotional activity spends, (c) faster growth of the higher-margin formulations business, and (d) nil remediation expenses.


DF biz to grow ~11-12% in FY21; HCQS supply to GOI a key growth trigger

* In FY20, IPCA’s DF business registered 15% YoY growth (~500bp better than industry), driven by superior execution in Pain management, Cardio-Vascular/AntiDiabetes and Anti-Malaria therapies.

* In the recent past, some slowdown was seen in Dermatology (~5% of DF sales) and Anti-Bacterials (6% of DF sales) due to the COVID-19 led disruption.

* Product-wise, Zerodol and HCQS have been recording healthy growth.

* Considering the adverse impact of COVID-19, IPCA expects the DF business to grow 11% in FY21. This should be led by (a) 2% growth from government orders for HCQS (to be supplied in 1QFY21), and (b) ~3-3.5%/~6% from pricing/volumes within branded DFs.

* Currently, IPCA has deferred new launches. According to Mr. Jain, the company is waiting for the lockdown to ease and the situation to turn favorable (in terms of better patient-doctor connect) before contemplating new launches.


Outlook promising for branded exports business

* According to IPCA’s branded exports’ business model, manufacturing and promotion of products is done by the company while distribution is outsourced to a local partner. Thus, IPCA relies on its MRs to build relationships (IPCA’s forte) and drive business in the branded exports segment.

* In FY20, IPCA saw strong traction in CIS/West Africa for branded exports; however, overall growth was subdued (at 6% YoY) due to delay in shipments and weak performance in Latin America/South East Asia.

* IPCA remains confident of achieving 12% YoY growth in branded exports for FY21 due to sustained outperformance in West Africa, improving business scenario in Latin America, and better off-take of HCQS. The YoY growth also includes sales of INR260m, which got deferred to FY21 on account of the lockdown.

* Notably, branded exports is IPCA’s highest margin segment


Generic exports’ growth to remain muted due to disruptions in the UK

* While generic exports’ growth was robust at 27% YoY in FY20 to INR6b, Mr. Jain expects its pace to slow down in FY21 to 2-3% YoY.

* The change in strategy of replacing distributor’s label with IPCA’s own and subsequent launches (14-15 in FY21) would impact the UK business in the near term. While this move is positive for margin expansion opportunities in the long run, Mr. Jain expects start-up costs and migration of business from the distributor to lead to shortterm disruptions, which in turn would result in the UK business declining YoY in FY21.

* The Europe business (Excl. the UK) is on track and should sustain growth momentum in FY21 as well (42% YoY growth in FY20 to INR1.7b). This will be led by increased product offerings and better traction in existing products. IPCA has multiple distributors in other countries within Europe, and thus, is not likely to face the disruptions seen in the UK.

* Growth will also be supported by superior performance in countries like Canada, Australia and New Zealand on the back of elevated demand for HCQS (as prophylaxis/treatment in initial stages of COVID-19), new launches, increased market share and better reach.


New molecule addition and higher off-take of existing molecules to strengthen API business in FY21 as well

* API business (25% of sales) registered growth of 33% YoY in FY20; export/domestic APIs grew 35%/24% YoY. IPCA is the global leader in Losartan APIs. The company is in the process of building Valsartan API supply, which would be one of the contributors to FY21 growth.

* IPCA is continuously trying to reduce production cost of APIs (including Valsartan). Thus, it remains in good stead to gain market share, thereby driving growth in the API segment, believes Mr. Jain.

* To meet future demand, IPCA is in the process of de-bottlenecking to increase API production capacities where plants are running at full capacities. It is also expanding its API capacity at Devas. Based on this, IPCA is expected to deliver 19%+ YoY growth in the API segment for FY21.


Remediation related cost to minimize going forward

* IPCA has completed plant remediation measures related to issues highlighted by the USFDA. The company is awaiting the next course of action to get the ‘Import Alert’ lifted.

* Recently, the USFDA indicated that HCQS is no more under the shortage list. Following this, the USFDA removed the exemption clause for IPCA to supply HCQS to the US market.


Confident of clocking 25% revenue growth in Institutional Anti-Malaria business

* While one of the company’s major customers (contributing 35-40% of the Institutional Anti-Malaria business) reduced intake in FY20, the order-book still looks robust for FY21. In fact, according to Mr. Jain, registration for injectable dosages is also in place and the business should grow 25% YoY to INR2.4b in FY21.


Valuation and view

* We remain positive on IPCA and raise P/E multiple to 23x (from 22x earlier) on the back of (a) 22% earnings CAGR, supported by 22% sales CAGR in international generics and 16% sales CAGR in the API segment over FY20-22E, (b) healthy outperformance in DF, and (c) improved profitability on better capacity utilization.

* Additionally, faster growth of the branded exports’ market will also strengthen margins going forward. Some of the top line growth should be offset by disruptions in the UK business in the near term. IPCA’s structurally sound business performance will be supplemented by one-time/short-term opportunities like HCQS in the near future. We expect return ratios to sustain in high teens over the next 2-3 years.

* Accordingly, we revise our price target to INR1,955 and re-iterate Buy.


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