Dr. Reddy's Laboratories Ltd (DRL) has one of the largest ANDA and patent challenger pipelines amongst companies operating in its space in India. A strong presence in India (and the US) has kept Dr. Reddy's ahead of the competition. Also, the company has one of the largest third party active pharmaceutical ingredients (API) businesses. Apart from its own initiatives, Dr. Reddy's also has in place a deal with GlaxoSmithKline Plc. according to which the latter would distribute Dr. Reddy's products in several emerging countries.
Opportunities and strengths
Strong momentum. Revenue growth for DRL in the last three years averaged 13 per cent. In FY12, DRL reported sales growth of 31 per cent (y-o-y). Revenues growth for the most recent quarter (Q1FY13), at 28 per cent (y-o-y) shows that the company's momentum intact. The US generics business was up 38 per cent (y-o-y) while Russia was up 41 per cent. From mediocre average returns on capital of 14 per cent seen in the last five years, the company has improved to an average of 23 per cent in the last three years and 24 per cent in FY12. Similarly, during the same period, net margins have inched up from 5 per cent (five year average) to 10 per cent (three year average) to 16 per cent in FY12.
Domestic formulations. Indian brings in 19 per cent of the global generics business. Domestic formulations saw a growth of 19 per cent in Q1FY13 backed by volume growth in key brands and a low base. Also what helped were 10 product launches during the quarter, volume growth in key products and sales force efficiencies. DRL is currently undergoing restructuring in its domestic business which the company hopes will help it post industry-level growth. According to analysts covering DRL, this division could post revenue growth of around 13 per cent in the next two years.
US opportunities. After the expiry of patents of Lipitor, Plavix and Seroquel, the next big trigger for US sales comes from new launches that include the FTF launch of Propecia Singulair, Toprol XL and a ramp up in the OTC, fondaparinux and Augmentin. But any material impact is only expected to show up by the second half of the current financial year. OTC sales accounted for 21 per cent of US sales in Q1FY13 and are expected to stay at this level for FY13.
Russian break. Sales in Russia, which brings in 20 per cent of the global generic business has been on a roll. Q1FY13 saw Russia sales grow 38 per cent (y-o-y) (30 per cent in roubles). Over-the-counter (OTC) portfolio saw strong growth as did volume expansion in key brands. OTC accounts for a third of Russia sales.
US pains. US is the biggest market for generics and accounts for 36 per cent of global generic sales for DRL. It also is the company's Achilles heel. Regulatory delays and intense competition with global majors has seen the company lagging behind. The most recent quarter saw US sales up 27 per cent (y-o-y) in dollar terms - lower than analyst expectations. The company blamed product approval delays and still-to-pick-up sales of newer products like ibandronate, atorvastatin and clopidogrel. DRL has 73 ANDAs pending US FDA approval - 36 are Para-IV and six are FTFs. Further delays in USFDA approvals on account of litigations could pose a serious threat to earnings of the company in FY13.
While the company is making all the right moves - whether related to the domestic market or key markets of US and Russia, the stock seems to have captured upside potential for the moment. The stock currently trades at 22 times its TTM earnings and an expensive 3.7 times its five year PEG ratio. Wait till valuations cool down before buying.