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Clinical progress to drive R&D expense on specialty portfolio

* Sun Pharma (SUNP) delivered better-than-expected operating performance in 1QFY24. The steady traction in specialty sales, higher US generics sales and controlled opex led to 12% beat on EBITDA. The R&D expense is likely to pick-up over the coming quarter due to progress in major clinical programs.

* We raise our earnings estimates by 3.4%/5.0% for FY24/FY25 to factor in: a) better off-take in the US generics, and b) improved profitability. We value SUNP at 26x 12M forward earnings to arrive at our TP of INR1,310.

* We remain positive on SUNP backed by its: a) robust innovative products franchise targeted for global markets and b) superior execution in branded generics markets. Reiterate BUY.

Better product mix drives margin YoY/QoQ

* SUNP’s 1QFY24 sales rose 11% YoY to INR118b (in line).

* The US sales grew 12% YoY to USD471m (33% of sales). DF sales rose 5% YoY to INR35.6b (30% of sales). EM sales increased 6.5% YoY to USD261m (18% of sales). ROW sales grew 2.7% YoY to USD195m (14% of sales). Global specialty sales jumped 21.5% YoY to USD232m during the quarter.

* GM expanded 380bp YoY to 76.6%, due to better product mix.

* R&D cost was at INR6.8b, forming 5.8% as a % of sales.

* EBITDA margin expanded 230bp YoY to 26.9% (our estimate: 23.8%), fueled by better GM and lower other expenses (down 80bp YoY as a % of sales). However, some of this benefit was offset by higher staff cost (up 90bp YoY as a % of sales). R&D cost was up 140bp YoY as a % of sales.

* EBITDA rose 21% YoY to INR31.7b (our est.: INR28.4b) in 1QFY24.

* There was an exceptional item related to: a) impairment charge (INR1.5b), b) forex loss of INR1.2b and c) impact of planned relocation of Alchemee operation (INR507m) during the quarter.

* Adjusting for this, PAT was up 19% YoY to INR22.8b (our est: INR22b) due to higher tax rate of 16.7% (vs. 8.8% in 1QFY23).

Highlights from the management commentary

* Guidance maintained for R&D expense (as a % of sales) at 7-8% for FY24.

* SUNP has taken steps to accelerate phase III trials for Ilumya in terms of enrolments of patients.

* The seasonality related to levulan affected specialty sales adversely to some extent for the quarter.

* SUNP did not witness any adverse impact of Humira biosimilar on Ilumya.

* SUNP would be starting phase II trials for GL0034 shortly.

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