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Reduced ARV business impacts earnings in 2QFY23

Superior execution witnessed in CDMO/Non-ARV API segments

* Laurus Lab (LAURUS) reported a miss on earnings for 2QFY23, led by lowerthan-expected ARV formulation (FDF) sales. However, the Synthesis and Non-ARV API segment remained on robust growth track offsetting the weakness in ARV sales to some extent.

* We have cut our EPS estimates by 8%/9% for FY23/FY24 to factor in: a) steep price erosion in ARV products, b) lesser tender wins in ARV formulation, and c) increased overall operational cost. We continue to value the stock at 23x 12M forward earnings to arrive at our TP of INR610.

* While the performance was subdued for the quarter, LAURUS remains on track to: a) leverage its integrated capability in Synthesis segment and extend relationship with clients, b) have differentiated product pipeline in Non-ARV formulation aided by in-house API strength and c) enhance fermentation capacity and augment biologics CDMO growth prospects. Maintain BUY.

Price erosion in ARV offsets CDMO segment benefit to some extent

* LAURUS’ 2QFY23 revenue was up 31% YoY to INR15.8b (our est. INR16.4b). Synthesis business (46% of sales) surged ~4x YoY to INR7.2b driven by accelerated demand from new and existing clients. API sales (42% of sales) grew 29% YoY to INR6.8b fueled by new launches in Other API segment, whose sales almost doubled YoY to INR2.2b due to new contract supplies. ARV API sales grew 21% YoY to INR4.1b for the quarter. Onco API sales declined 35% YoY to INR476m due to less off-take of one key product. FDF sales declined 70% YoY to INR1.5b (10% of sales), mainly dragged by lower ARV business. Bio division sales (2% of sales) grew 4% YoY to INR270m in 2QFY23.

* Gross Margin (GM) contracted 60bp YoY to 55.1% (est. 57%) during 2QFY23.

* EBITDA margin contracted 20bp YoY to 28.5% (est. 30.2%) on account of lower GM, offset by lower R&D cost (down 40bp YoY as % of sales) and lower other opex (down 40bp YoY as % of sales).

* EBITDA grew 30% YoY to INR4.5b (est. INR4.9b).

* PAT grew at a slower rate of 14.4% YoY to INR2.3b (est: INR2.9b) due to higher depreciation and tax rate (28.7% in 2QFY23 v/s 22.3% YoY).

* In 1HFY23, Revenue/EBITDA/PAT grew 25%/22%/9% YoY to INR31b/INR9b/ INR5b, respectively

Highlights from the management commentary

* Guidance for FY23 reduced to 90% of earlier guidance at USD1b revenue target (with USDINR @ 72). This was largely due to revenue moderation on account of the potential adverse impact from ARV formulation business owing to prolonged higher channel inventory, ongoing price erosion, delay in new launches and continued macroeconomic uncertainties.

* LAURUS expects stable EBITDA margin of 30% for FY23.

* While the ARV formulation sales stood much lower in 2QFY23 (INR500m v/s INR2.5b YoY), winning of newer tenders would improve the prospects of ARV formulation business in 2HFY23E.

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