Dr Reddy’s Laboratories Ltd

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About the Company

Dr. Reddy’s Laboratories Limited operates as an integrated pharmaceutical company worldwide. It operates through three segments: Global Generics, Pharmaceutical Services and Active Ingredients (PSAI), and Proprietary Products. Dr. Reddy’s Laboratories Limited operates as an integrated pharmaceutical company worldwide. It operates through three segments: Global Generics, Pharmaceutical Services and Active Ingredients (PSAI), and Proprietary Products. The company also engages in developing therapies in the fields of oncology and inflammation.

Q2 FY21 Updates

Financial Results & Highlight

*Includes tax benefit of Rs 320 Cr

**Includes tax benefit of Rs 128 Cr

Detailed Results

1. Consolidated revenues were up a modest 2% YoY while profit saw a fall of 30% YoY in Q2 mainly due to large PAT in Q2FY20 due to the above-mentioned tax benefit.
2. EBITDA was up 9% YoY with EBITDA margins were at 25.9% vs 29.9% a year ago.
3. Revenue growth was muted due to large Proprietary products out-licensing income of 723 Cr in Q2 FY20. Revenue from sales growth was at 20%.
4. Gross margins declined to 53.9% in Q2FY21 vs 57.5% last year.
5. R&D expenses increased 19% YoY to Rs 436 Cr which is 8.9% of sales in Q2.
6. North America saw revenue growth of 28% YoY with 9 new product launches (Ciprofloxacin & Dexamethasone, OTC Nicotine Lozenge, Penicillamine Caps, Methylphenidate ER, Dexmedetomidine, Fulvestrant Inj, OTC Diclofenac, OTC Olopatadine, and Dimethyl Fumarate) and accounts for 37% of sales. The growth was due to an increase in base product volumes & new products while favourable forex partially offset by price erosion.
7. The company filed 2 new ANDAs in Q2 and has around 92 ANDAs and 2 NDAs pending approval.
8. India saw revenue growth of 21% YoY on account of full quarter sales from portfolio acquired from Wockhardt and new product launches of COVID-19 products like Avigan (Favipiravir) and Remdesivir.
9. The company grew 4% YoY in other markets. Russia declined 3% YoY due to the weakening of the ruble while CISR grew 19% YoY due to new product launches. The Rest of the World saw growth of 7% YoY due to good growth in China.
10. EU saw growth of 36% YoY to Rs 375 Cr with growth driven by new product launches and favourable forex movement across all markets.
11. Global Generics segment revenue grew 21% YoY to Rs 3984 Cr.
12. PSAI segment saw growth of 20% YoY due to:
    1. Growth in the services business
    2. New product sales
    3. Favourable forex movement
13. The company filed 39 global DMFs and 1 US DMF in Q2.
14. The proprietary products segment declined 92% YoY to Rs 62 Cr due to the absence of the Neurology franchise products which were sold off last year.
15. The Capex done in Q1 was at Rs 150 Cr. Net debt to equity was at 0.02 as of 30^th June 2020.
16. The company has cash and cash equivalents of Rs 2607 Cr as of 30^th Sep 2020.

Investor Conference Call Highlights

1. The gross margin for the Global Generics and PSAI was at 59.4% and 26.8% for the quarter.
2. SG&A spending for Q2 was down 1% YoY and it now accounts for 26.8% of sales, an improvement of 80 bps YoY.
3. The effective tax rate for the quarter is at 11.6%. The overall tax rate for FY21 is expected to be 25%.
4. The free cash generated during this quarter was Rs 606 Cr. Net debt to equity was at 0.01.
5. The company recorded its highest-ever quarterly sales of Rs 4897 Cr.
6. The company has entered into a deal with RDIF Russia for Sputnik V vaccines to conduct clinical trials and distribution in India. It will be starting combined Phase II and III clinical trials for the vaccine in the near future.
7. The company expects to launch more than 30 new products in FY21.
8. The company is looking to expand its capacity for Remdesivir to meet demand from India and other emerging markets.
9. The company is also conducting clinical trials for Favipiravir in Kuwait and UAE and additional trials in the USA, Canada, and India.
10. The company faced a recent cyberattack and is now isolating the impacted IT service part and taking the help of international experts in cybersecurity to contain and restore from its backup systematically in a cautious and controlled manner.
11. The management has stated that the company is going to use more digital marketing going forward. This should help keep overall SG&A spend under control and make it more productive.
12. In the clinical trials for the Sputnik vaccine, the company is taking in 100 patients for Phase II. The company expects these trials to be over by March ’21.
13. The company expects to have its Sputnik capacity ready by the time the vaccine is ready to go commercial. The company will then be looking to scale up capacity to 100 million doses.
14. The Wockhardt deal gives the company synergies on both top line and bottom line, enabling it to sell more at less cost.
15. The company has a sales force of close to 6500 people in India.
16. The increase in intangible assets in the balance sheet is from Wockhardt.
17. The company is gearing up for the launch of Vascepa in the near future.
18. The most significant contributors to domestic QoQ growth was the end of the lockdown, Wockhardt product portfolio, and COVID products.
19. The company is seeking emergency use authorization in the United States for Favipiravir.
20. The global generics business has seen gross margins fall 200 bps QoQ due to lower export incentives, lower forex rates, and product mix.
21. The company is optimistic about the prospects in China and is looking to introduce more of its global portfolio in China going forward.

Analyst’s View

Dr. Reddy’s Labs has been one of the biggest Indian pharma companies on the global stage. The company is doing well in maintaining its strength in developed markets like the USA and EU and in expanding into emerging markets. It had a steady performance in Q2 with good domestic growth of 21% YoY and 46% QoQ. The API business is expected to continue its growth momentum. The company has also done well to acquire marketing rights to the Sputnik V vaccine for COVID-19 in India. It remains to be seen how the company will be able to sustain the high gross margins seen in H1.  It also remains to be seen how will the clinical trials for the Sputnik V vaccine go. Nonetheless, given the company’s history of excellent performance and its standing in the global pharma industry, Dr. Reddy’s Laboratories is a pivotal pharma stock in India.

Q1 FY21 Updates

Financial Results & Highlights

Detailed Results

1. 1. Consolidated revenues were up a modest 5% YoY while profit saw a fall of 12% YoY in Q1.
   2. EBITDA was flat with only 2% YoY growth. EBITDA margins were at 26.3%.
   3. Revenue growth was mainly on the back of good performance in the PSAI and European markets.
   4. PAT decline was mainly due to discontinuation of weighted deduction on R&D and completion of tax holiday for one of the company’s plants.
   5. Q1 also saw a settlement of Rs 346 Cr. Adjusting for it EBITDA would be up 47% YoY and PBT up 74% YoY.
   6. Gross margins improved to 56% in Q1FY21 vs 51.7% last year.
   7. R&D expenses increased 10% YoY to Rs 398 Cr which is 9% of sales in Q1.
   8. North America saw revenue growth of 6% YoY with 6 new product launches (Fenofibrate Tablets, Nitroglycerin Patch, Amphetamine Sulfate Tablets, Desmopressin Acetate Ampules, Colchicine Tablets, and Abiraterone Acetate Tablets).
   9. The company filed 5 new ANDAs in Q1 and has around 99 ANDAs and 2 NDAs pending for approval.
   10. India saw a revenue decline of 10% YoY on account of lower sales volume owing to lower prescriptions and fall in patient footfall in pharmacies/clinics due to COVID-19.
   11. The company completed the acquisition of select business from Wockhardt including the manufacturing plant located in Baddi.
   12. The company launched 4 new products in India in Q1.
   13. The company grew 9% YoY in other markets. Russia declined 17% YoY due to lower volumes due to COVID-19 while CISR grew 15% YoY due to higher volumes and new product launches. The Rest of the World saw growth of 56% YoY due to the introduction of new products in new markets.
   14. EU saw growth of 48% YoY to Rs 355 Cr with growth driven by new product launches and increased volumes across all markets.
   15. Global Generics segment revenue grew 6% YoY to Rs 3510 Cr
   16. PSAI segment saw growth of 88% YoY due to:
       1. Good order book position leading to an increase in volumes
       2. New product sales
       3. Favourable forex movement
   17. The proprietary products segment declined 80% YoY to Rs 5.6 Cr due to the absence of the Neurology franchise products which were sold off last year.
   18. The company has filed 16 global DMFs and 1 US DMF under the PSAI segment.
   19. The capex done in Q1 was at Rs 150 Cr. Net debt to equity was at 0.02 as of 30^th June 2020.
   20. The company has cash and cash equivalents of Rs 2822 Cr as of 30^th June 2020.
   21. The company’s top priority remains to launch COVID-19 drugs Avigan and Remdesivir in Key markets.

Investor Conference Call Highlights

1. The company had a free cash flow generation of Rs 925 Cr before the pay-out for business acquisition from Wockhardt.
2. ROCE for Q1FY21 was at 23.6%
3. SG&A spend for the quarter increased 6% YoY mainly due to higher freight due to a shortage of carriers for export.
4. The effective tax rate for the quarter was 34.1%.
5. Net debt for the company was at Rs 336 Cr as of 30^th June 2020.
6. In the proprietary products business, the company secured the approval of its first NCE under 505(b)(1) pathway post the approval of oral liquid celecoxib formulation NDA, ELYXYB.
7. In the biologics front, the Phase III trial for rituximab is progressing well.
8. The management has stated that the move towards localization f making products in the USA shouldn’t affect the company too much and innovator companies will be affected most by such a move.
9. The company saw favourable move in product mix in APIs which translated into higher gross margins. The company will keep selling APIs as long as gross margins are above 50%.
10. The management doesn’t see any increasing trends in API procurement and has stated that gross margins between 51-54% is sustainable for the company.
11. Copaxone has done well for the company in Q1. The management sees the injectable portfolio rising in the near future.
12. There do not appear to be any trends in generic pricing increasing in the USA and current prices are expected to remain stable.
13. The management has stated that markets that are more related to, let’s say, the hospital demand or government tenders, did better than those markets that were impacted by patient-doctor demands like India or Russia.
14. The increase in freight charges is expected to normalize going forward.
15. The increase in PSAI business was attributable to the tendency of customers to ensure adequate inventory of API in uncertain times and companies that are looking for additional reliable sources. The management also attributes this rise to the decision made 2 years ago to focus on API and on the Russian market.
16. The company has submitted a CRL for Copaxone and is yet to submit one for NuvaRing.
17. The management has stated that the incentive schemes by Govt of India in pharma are mainly in antibiotics and the company does not have a presence in this field.
18. The company is gearing R&D to enable somewhere between 10 to 25 products per year per geography. Most of these launches will be leveraged meaning the company will be using the same product for different markets.
19. The company didn’t lose any output due to COVID-19 and was able to make relevant output undisrupted in Q1. The advent of COVID-19 has not brought much material change in the product mix.
20. The management believes that the main opportunities from the acquisition of the API business from Wockhardt lie in the fact that the brands were not fully utilized due to financial constraints. It believes that once adequate branding is done, there can be significant gains from this acquired portfolio.
21. The management does not exactly how the addressable market for APIs will increase from customers seeking additional sources but they believe that it will provide a significant contribution in the future.
22. The company expects to register Avigan in the USA by November if the results of the Kuwait trials come back by October as expected.
23. At the current stage, the company is not making any products for Japan. If the products made by Fuji who the company supplies to pick up well then the company will become the global producer for it.
24. The company’s investments in PSAI are primarily in R&D. At the current stage, it has no plans to add capacity or newlines.
25. The management has stated that CDMO is a growing business for them in the API space.
26. In both India & Russia, the countries are opening up after a significant lockdown and thus the company is seeing positive traction MoM here. But certain segments in both countries remain under lockdown and thus it may take some time for things to normalize.
27. The company will be looking at M&A opportunities like the Wockhardt deal primarily in emerging countries, especially within India. It will be looking for a deal where it can integrate the products and assets relatively fast into the business.
28. The management acknowledges that the main lever for future growth will be R&D and leveraging the global portfolio in multiple markets. At the same time, the company has enough cash for any inorganic opportunities. There is still quite some productivity and ROI that the company can get out of investing into digital capabilities.

Analyst’s View

Dr Reddy’s Labs has been one of the biggest Indian pharma companies at the global stage. The company is doing well in maintaining its strength in developed markets like the USA and EU and in expanding into emerging markets. It had a phenomenal performance in Q1 with 47% EBITDA growth and 74% PBT growth barring the settlement of Rs 346 Cr. The bulk of this performance can be attributed to the rise in the API business which rose 88% YoY. It remains to be seen how the company will be able to sustain the high gross margins seen in Q1 with the API business and how long will it take for the domestic business to normalize. Nonetheless, given the company’s history of excellent performance and its standing in the global pharma industry, Dr. Reddy’s Laboratories remain a pivotal pharma stock in India.

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