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DF, Germany, controlled cost drive earnings US remains a drag

* Torrent Pharma (TRP)’s 3QFY21 performance was below estimates. Recovery in the Domestic Formulation (DF) / Germany business was offset by decline in the US and currency headwinds in Brazil. Reduced opex kept profitability at elevated levels.

* We reduce our EPS estimates for FY21/FY22/FY23 by 4%/8%/6%, factoring in a) an increase in operational expenses with the resumption of promotional activity by MRs in the DF segment and b) the lack of new approvals due to USFDA-imposed regulatory issues at Dahej/Indrad. We continue to value TRP at 25x 12M forward earnings and roll our TP to INR2,520. While the outlook for its key geographies is expected to improve over the medium term, the current valuation largely captures the upside. Hence, we maintain a Neutral stance on the stock.

YoY growth in sales/EBITDA/PAT on downtrend for three quarters now

* TRP’s 3QFY21 sales grew marginally by 1.5% YoY to INR20b (our estimate: INR21.3b). Growth in DF/Germany was offset by the US / Brazil.

* DF sales grew 7% YoY to INR9.3b (47% of sales), Germany sales were up 21% YoY to INR2.7b (13% of sales), and Contract Manufacturing sales grew 32% YoY to INR1.5b (7% of sales).

* ROW sales were down 2% YoY to INR1.9b (9% of sales) and Brazil sales were down 8% YoY to INR1.7b (up 16% YoY in CC terms; 9% of sales). US sales were down 23% YoY to INR2.9b (USD39m; 15% of sales).

* The gross margin (GM) contracted 60bp YoY to 71.8% on a change in the product mix. However, the EBITDA margin expanded 290bp YoY to 30.4% (our estimate: 31.3%), driven by lower other expenses (-380bp YoY as a percentage of sales).

* EBITDA grew 12% YoY to INR6.1b (est.: INR6.7b).

* PAT grew at a higher rate of 16% YoY to INR3b (our estimate: PAT of INR3.3b), led by better EBITDA margins, lower interest outgo, and a lower tax rate of 16.8% (v/s 21.3% in 3QFY20).

* For 9MFY21, sales/EBITDA/PAT grew 1%/18%/32% to INR60.7b/INR19.2b/INR9.4b.

Highlights from management commentary

* US sales declined YoY on (a) the temporary discontinuation of Sartans, (b) the lack of new launches, and c) ongoing price erosion in the base business.

* The commercialization of approved ANDAs from the Levittown facility is expected from 1QFY22. It intends to achieve annual sales of USD10–15m from this facility over the next 1–2 years.

* TRP expects high-single-digit YoY growth in Germany going forward.

* TRP expects debt repayment of INR10b in FY21 (INR8.3b in 9MFY21).

* ETR is expected to be 21–22% in FY22.

Valuation and view

* We reduce our EPS estimates for FY21/FY22/FY23 by 4%/8%/6%, factoring in: a) an increase in opex for the DF segment with the easing of the COVID-led lockdown, b) the adverse effect of price erosion in the base business, and c) a delay in new approvals at the Indrad/Dahej facilities. We continue to value TRP at 25x 12M forward earnings and roll our TP to INR2,520.

* We expect a 21% earnings CAGR, led by a 10% CAGR in DF sales, 300bp margin expansion, and reduced interest cost on account of debt reduction. However, we maintain Neutral as the current valuation adequately factors in the improving outlook in DF/Germany/Brazil.

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