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On course to revive earnings growth

We recently met the management of IPCA lab to understand its business outlook in detail:

* The domestic formulation (DF) segment continues on its robust growth path, led by market share gain, favorable price hikes, addition of medical representatives (MRs), and its increased presence particularly in the cardiology segment.

* The exports opportunity is expected to improve with increased product launches in the UK, new launches and market share gain in Russia, and industry outperformance in Africa branded generics market.

* After 18% YoY decline in earnings in FY22, we expect 11% earnings CAGR over FY22- 24, led by 13%/8%/8% sales CAGR in DF, exports formulations, and API, respectively. We reduce the 12M forward PE multiple to 22x from 24x to factor in extended period to revive exports formulation and API business. Thereby, we arrive at a price target of INR1,030 on 12M forward basis.

* Further, considering a 30% correction in market price over the past nine months and the stock now trading at 23x FY23E EPS of INR37 and 19x (vs 3-year average of 23x) FY24E EPS of INR45, we reiterate our Buy rating on the stock.

DF on robust growth path despite high base

* Anti-Malartials/Anti-Infectives therapies sales have moderated as the spread of covid infections subsided in Apr/May’22 and we expect the sales to decline in FY23 from its high base in FY22. The growth in FY23 is expected to be driven by the chronic therapies including Derma/Pain/Gastro/Cardiac, which have exhibited 55%/22%/17%/15% growth over the three months ended May’22.

* While the National List of Essential Medicines (NLEM) portfolio (30% of DF sales) will benefit from 10% price increases, the benefits may flow from June/July as the inventory build-up takes time. The NLEM portfolio has exhibited a CAGR of 12% over FY18-22, driven by Pain/Anti-Neoplastics. Considering the softening of volumes after price increase, we expect the NLEM portfolio to grow 6-7% YoY in FY23.

* IPCA has launched Vildagliptin, which has garnered annual sales of INR250m and the company further intends to expand its cardiovascular franchise with the launch of Sitagliptin. With about 400 MRs, the company has launched two divisions for cardiovascular therapy and it has added ~1200 MRs in total to expand its geographic as well as therapeutic coverage. The newly added MRs, expected to add ~INR700m to the employee costs, are expected to reach corporate level productivity in 18-24 months.

* DF business growth will be driven by price increase of 7-8%, volumes growth of 2- 3%, and new launches at 1-1.5%, accumulating to 10-12% YoY growth in FY23.

API business on gradual recovery mode

* Post re-validating of the manufacturing process ensuring azido impurities are within permissible limits, IPCA is back on track to supply Losartan to its customers. However, refilling of dossiers by major customers and subsequent approvals would take a couple of months. Accordingly, meaningful off-take would happen over near to medium term,

* IPCA is having stable sales from other key APIs, including HCQs (INR1b), Metoprolol (INR1b), and Atonelol (~INR1b) on annualized basis.

* The API business is expected to revive post 2QFY23, given the outlook on Losartan and the overall confidence on order visibility. Overall growth for FY23 is expected to be ~5% for the API business.

Product approvals/launches underway in the UK market

* IPCA has progressed well with 15-16 products approved and 4-5 products launched till date in the UK market under its own label. The reduced sales through distributors and the prolonged periods required for product approvals affected the UK business in FY22, down 44% YoY to INR850m. Further, the distributor-led sales was IR650m in FY22.

* However, a) increased pace of product launches, b) geographic expansions, and c) new approvals would enable IPCA to improve business prospects in the UK region going forward.

* IPCA expects 10 new approvals over the near term for the UK market. ? Considering these factors, UK revenues are expected to improve FY24 onwards.

* As the UK business stabilizes for IPCA, it targets to have its own front end in other markets of the EU region as well.

New registrations/market share gain to drive Russia business outlook

* The Russia/CIS business has been doing well despite the ongoing war.

* In fact, the business prospects have improved in Russia with reduced competition from US/EU companies.

* Additionally, IPCA is increasing the pace of product registration to enhance the business opportunities in the Russian market. With only 7-8 products registered in Russia, IPCA has garnered about INR1.3b sales from the Russia market.

* IPCA expects robust 25-30% YoY growth in the Russian market in FY23.

* While the Ukraine region remains adversely impacted by the ongoing war, the sales of IPCA is minimal at INR150m annually.

IPCA on path to optimize performance of its subsidiaries

* IPCA’s subsidiary Ramdev Chemical is on track to achieve break-even in FY23 and improve profitability FY24 onwards.

* IPCA’s another subsidiary Onyx is increasing its capacity to enhance its product development, process chemistry, and custom synthesis prospects. IPCA registered EBITDA of INR250m for FY22 in this subsidiary

* Byshore also had a higher distribution business, driving overall revenue at the subsidiary level for IPCA.

* IPCA is under process to improve profitability of Pisgah by transferring 2-3 products to Pisgah’s site. ? IPCA has invested ~INR1.8b in Lyka Labs through a combination of equity (INR650m) and loan (remaining).

Valuation and view

* We expect revival of API business and robust growth in DF business to be offset by the higher employee costs in FY23, leading to flat EPS. We expect 11% earnings CAGR over FY22-24, led by a 13%/8%/8% sales CAGR in DF/export formulations/API markets and 100bps EBITDA margin expansion.

* We value IPCA at 22x 12M forward earnings to arrive at a price target of INR1,030. While the near-term outlook may be subdued on account of cost pressures, we remain positive on IPCA on the back of strengthening franchise in the DF segment through price increase, market share gain, and increasing field force, capacity addition/revival in the API segment and the launching of products under its own label in the UK. We reiterate our Buy rating on the stock.

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