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US drags 3QFY22 earnings; inspections key to a revival

Well-placed to sustain outperformance in the Indian market

* TRP’s 3QFY22 performance missed our estimate. The US Generics business remains the major drag on overall performance, with a lack of new approvals and a steep price erosion in the base business. Domestic Formulation (DF) remains in good stead, with healthy better-than-industry performance. The management intends to add medical representatives (MRs) to further strengthen the growth outlook in the DF segment.

* We reduce our FY22E/FY23E/FY24E EPS estimate by ~13%/7.5%/3.5% to factor in: a) a sharp reduction in the price realization of certain products (Nebivolol/Sartans) in the US, b) prolonged delays in new approvals due to regulatory issues at Indrad/Dahej, and c) increased competition in the German business. We value TRP at 26x 12-month forward earnings to arrive at our TP to INR2,880. We maintain our Neutral rating as current valuations adequately capture the earnings upside over FY22-24E.

Product mix/lower operating leverage impacts profitability

* Revenue grew 6% YoY to INR21.1b (est. INR21.5b) in 3QFY22. Sales from the RoW grew 19% YoY to INR2.3b (11% of sales). India sales grew 15% YoY to INR10.7b (51% of sales). Contract manufacturing sales grew 7% YoY to INR1.6b (7% of sales). Sales from Brazil rose 5% YoY to INR1.8b (9% of sales; up 8% YoY in CC terms).

* Sales from Germany fell 10% YoY to INR2.4b (EUR28m; 11% of sales). Sales from the US fell 20% YoY to INR2.4b (USD31m; 11% of sales).

* Gross margin contracted by 210bp YoY to 69.7% due to changes in the product mix.

* EBITDA margin contracted at a higher rate (490bp YoY) to 25.5% (est. 31.3%) due to lower gross margin and higher staff expense (+260bp as a percentage of sales). EBITDA fell 11.4% YoY to IN5.4b (est. INR6.7b).

* PAT declined at a higher rate of 16% YoY to INR2.5b (est. INR3.2b) due to higher tax expense.

* Revenue grew 5% to INR64b, whereas EBITDA/PAT declined by 2%/5% to INR19b/INR9b in 9MFY22.

Highlights from the management commentary

* The steep price erosion in certain products in the US market, provision related to failure to supply to the US market, and higher overheads led to a sharp fall in gross/EBITDA margin. Overall, the drag on margin was to the tune of 3%.

* The management expects the impact to the tune of 2-2.3% of sales to normalize over the medium term.

* TRP witnessed a steep price erosion in Nebivolol and Sartans, dragging US sales to USD31m in 3Q v/s USD38m in 2QFY22.

* g-Dapsone remains an interesting opportunity over the near term for TRP, with a target action date of 18th Feb’22.

Valuation and view

* We reduce our FY22E/FY23E/FY24E EPS estimate by ~13%/7.5%/3.5% to factor in: a) a lack of new ANDA approvals from Indrad/Dahej, b) severe price erosion in the US base business, c) weak demand at the industry level, d) higher competition delays in Germany, and e) greater logistic cost.

* We expect 26% earnings CAGR over FY22-24E, led by a 13%/12%/10%/9% sales CAGR in DF/Europe/US/LatAm segment and a 290bp margin expansion over FY22-24E.

* We value TRP at 26x 12-months forward earnings and roll our TP to INR2,880.

* After two years of strong YoY earnings growth, TRP may exhibit a YoY earnings decline in FY22. While TRP may deliver sustained industry outperformance in the DF market, the prolonged delays in USFDA inspections continue to act as a headwind in the US business and is impacting its overall performance. The earnings upside over the next two years is adequately priced in the current valuation and hence maintain our Neutral rating.

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