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Outlook hinges on niche approvals/cost minimization

The US portfolio rationalization drags profitability for the quarter

* Lupin (LPC) delivered lower-than-expected 1QFY23 performance, led by a decline in the US sales and reduced operating leverage. EBITDA margin was below its previous lows and stood at 4.4%

* We cut our EPS by 35%/3% for FY23E/FY24E factoring in: a) inventory writedown and shelf stock adjustment in the US generics, b) ongoing price erosion in the US base business and c) gradual reduction in operational cost. We value LPC at 22x 12M forward earnings to arrive at our TP of INR610. We are yet to see signs of revival in the business in its key markets and hence maintain our Neutral rating on the stock .

Inferior product mix and higher opex hurt margins on a YoY basis.

???????* LPC’s 1QFY23 revenue declined 3.9% YoY to INR37b (our est. INR39.9b).

* The US sales decreased 24.2% YoY/33% QoQ to INR10b (down 30% in CC to USD121m; 28% of sales). This was largely due to inventory write-down and shelf stock adjustments in addition to price erosion in the base business.

* Domestic formulation (DF) sales declined 9% YoY to INR14.9b (41% of sales). API sales grew 4% YoY to INR2.6b (7% of sales); Growth market sales rose 27.3% YoY to INR4.2b (12% of sales) and EMEA sales increased 27.6% YoY to INR3.3b (9% of sales).

*  Gross Margin (GM) contracted 380bp YoY to 57% on change in product mix.

* ? Adjusting for forex gain, EBITDA margin contracted at a higher rate of 980bp YoY to 4.4% (our est. at 8%), largely due to reduced operating leverage (other expenses climbed 570bp YoY as a % of sales).

*  As a result, EBITDA declined 70.4% YoY to INR1.6b (our est. INR3.2b).

*  Adjusted for forex gain of INR684m, LPC incurred a loss of INR1.6b due to higher tax outgo.

Highlights from the management commentary

* LPC had an adverse impact of USD50m on the US sales in 1QFY23 due to exits in about 15 products that have become economically unviable along with shelf stock adjustments for certain other products. LPC expects recovery of the US quarterly sales run-rate to USD150-160m in the coming quarters

* Upside from launches such as g-Suprep, g-Spiriva, etc. would also drive the US sales

* LPC launched one ANDA in the US generics segment. It has a target to launch 10 products in FY23E.

* While the quarterly performance was weak, management guided for 18% EBITDA margin from 4QFY23 onwards fueled by new launches in the US and better-than-industry growth in the DF/EMEA markets.

* The company responded to all the queries related to g-Spiriva and is confident to launch it in 4QFY23E post successful approval. The target action date remains 17th Aug’22.

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