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Margin pressure from US leads a D/G to ADD

Result Synopsis

Alembic Pharma reported an extremely weak set of numbers with US revenues down 34% QoQ and flat YoY. Even taking out Aleor write off Rs1.15bn, margin at ~10% was much below expectation. Importantly, company refused to provide some direction on gross margin, an indication of the volatility in US business (corroborated by Lupin’s US sales & others reporting so far) with price erosion being persistent in double digit in 1Q; expectation of no let up in price erosion translates in to sharply lower margin and not much rebound from ~10% posted in 1Q. Interestingly, Alembic current margin is even lower than pre-Sartan run rate when India business was at a lower scale; this implies US business gross margin has significantly deteriorated over last 1-2 years barring any exceptional contribution. Assessing true US business base margin (last 6-7 quartersrevenue range of Rs5.5-3.6bn) given the volatility leads us to cut FY23/24 margin as we cut gross margin estimate on top of revenues which leads to rather sharp cut to FY23/24 EPS. We now expect margin of 12-17% in FY23-24 from earlier 19- 23% translating in to 60% and 35% cut to FY23/24 earnings. Our earlier bullishness emanated from optimism on US capex monetization; a material erosion in US margin between now and FY24 builds a case to temper our BUY thesis; albeit, US price erosion is at an extreme currently which has prompted response with larger companies already taking steps to rationalize oral solids portfolio. This can translate into better profitability of US without necessarily accompanied by a larger jump in revenues. Downgrade to ADD based on 25x FY24 EPS as believe FY23/24 would experience margin at the lower end compared to historical run rate; hence no cut to PE multiple on somewhat underwhelming earnings. Our revised TP is Rs830 (earlier Rs1,250) in line with cut in earnings with expectation of weak rebound in US being a key overhang.

Result Highlights

* US weakness resurfaced (indication of one time opportunity being still present in 4Q commentary) as US sales reverted to Rs3.67bn from Rs5.5bn in 4Q

* India business surprisingly matches 1Q last year despite generous Azithromycin in the base; underlying ex-Covid growth at 20% YoY

* Aleor R&D written off (as guided in 4Q for FY23) to the tune of Rs1.15bn – most of it in other expenses

* Margin at 1% on weak US showing; even adjusted for Aleor write off, margin at 10% and at multi quarter low

* Disappointing US, Aleor write off lead to a loss Rs650mn

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