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Strong show led by specialty portfolio

Sun Pharmaceutical’s (Sun) reported Q1FY22 performance was above our estimates led by growth in specialty sales despite generic competition in Absorica and strong growth in India. Consolidated revenue grew 28.1% YoY to Rs97.2bn (I-Sec: Rs87.6bn) and adj. PAT was up 72.7% to Rs19.8bn. EBITDA margin improved 470bps YoY to 29.0% (I-sec: 23.0%) led by scale-up in specialty, strong India growth and lower S,G&A expenses.

Specialty portfolio grew 6.5% QoQ to US$148mn, despite entry of generic Absorica, led by ramp-up in Ilumya and Cequa. We remain positive on long-term outlook considering strong India business, scale-up in specialty sales and focus on margin expansion through superior revenue mix and operational efficiency. Upgrade to BUY.

* India strong, US scales-up further:

US revenues were up 2.7% sequentially at US$380mn led by ramp-up in specialty portfolio and steady generic business. Global specialty revenue stood at US$148mn in Q1FY22, a growth of 6.5% led by ramp-up in Ilumya and Cequa which we expect to continue. The impact of generic entry in Absorica has been well absorbed. We expect overall US revenues to CAGR at 9.3% over the next two years to US$1.6bn despite decline in Absorica revenue.

India business grew strong 38.5% YoY led by recovery in industry growth and upside from COVID related portfolio. We expect the company to continue its outperformance vs the industry growth supported by its strong chronic portfolio. ROW and EMs grew 31.1% and 21.9% respectively during the quarter.

* Improved revenue mix and lower costs pushed margin higher:

EBITDA margin at 29.0% was 600bps higher than our estimate led by high specialty and India sales and lower S,G&A expenses. We believe margin would come down in coming quarters as expenses increase. However, margin expansion trajectory on annual basis would continue led by operational efficiency and improving revenue mix. Hence, we expect EBITDA margin to improve 170bps over FY21-FY23E to 27.0% despite drop in gross margin and slight increase in R&D spend.

* Outlook:

We expect India business to outperform and gradual ramp-up in specialty sales to continue. Overall, we expect 11.3% revenue and 16.1% adj. PAT CAGRs over FY21-FY23E on high PAT base of FY21. Focus on cost control and free cash flow generation has augured well. We expect specialty portfolio to grow at 18.8% CAGR to US$727mn in FY23E which would help in better profitability.

* Valuations and risks:

We raise FY22E-FY23E earning estimate by 11-13% to factor in faster scale-up in specialty portfolio, higher India growth and better margins. We raise target P/E(x) to 27x from 25x to factor in improving revenue mix led by ramp up in specialty sales and also upgrade to BUY from Add with a revised target of Rs900/share based on 27xFY23E EPS (earlier: Rs752/share based on 25xFY23E). Key downside risks: Higher than expected pricing pressures in the US, and regulatory hurdles.

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