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Domestic driven

The Q3FY22 earnings were a mix bag for the sector. The earnings trajectory has allowed us to remain attune to the best play in our preferred order, SUNP, DRRD and Abbott. The domestic focus companies have continued to deliver better than our estimates. The companies like SUNP and DRRD has delivered a stable performance in US generic business as well driven by new launches and better pipeline or led by specialty basket. Overall, most of the companies expect the US pricing scenario to be bottoming out to normalize mid-single digit trend from Q1FY23 and gradually improving. The domestic market and RoW markets are expected to be delivering better performance amid the ongoing wave of pandemic. The input pressure also expected to be stabilizing from Q1FY23 as some higher cost inventory may still reflect in Q4. Logistic costs and scenario expected to be soothing over FY23E. The EBITDA margins were hit largely by input pressure and logistical costs along with US pricing scenario not in favor for most of the companies, Lupin and ARBP reported the highest margin hit than our estimates along with granules. APIs segment have seen some recovery in revenues largely driven by price increase and minor demand recovery.

Indian domestic pharma market MAT growth at 14.9% in Dec 2021

IPM posted 5.7% YoY growth in Q3FY22. The quarter saw a low covid related sales, leading to a muted performance of covid and covid allied drugs basket. This along with demand recovery drove coverage growth of 11%YoY. The domestic market has seen strong recovery in many therapies like anti-infective, respiratory and GI. We expect this fiscal’s MAT growth for the industry at 14-15%. The key winners in Q3FY22 were SUNP, DRRD and GLAXO which posted growth ahead of IPM. Laggards were SANL, CIPLA and PFIZ. The third wave in Q4 has resulted in 20% growth in Jan22 and we expect the demand to be strong in Q4.

US revenue growth was flat in Q3FY22 on weak demand

The US region reported 1%YoY growth for our Pharma coverage driven by inventory correction and higher price erosion. From our coverage SUNP, DRRD, Lupin and Cipla delivered YoY growth in Q3. ARBP ex- natrol was flat. FDC continues to be under pressure while QoQ recovery was seen in revenues. The weak quarter was supported by key products like gAlbuterol and gVascepa while flu season continued to be weak amid pandemic. SUNP’s delivered robust growth amid gaining traction in speciality drugs. Oral solid sales in ARBP were hit almost by USD33mn QoQ amid steep price erosion and weaker launches. Biocon started reporting improving biosimilar sales gradually – earnings should improve beyond Q4FY22. We look forward to normalized US business post Q1, driven by higher hospital sales and demand recovery beyond omicron variant wave.

EBITDA grew 36% YoY, with EBITDA margin stable at 22%

The covered universe posted adjusted EBITDA margin of 22%. Gross margins continue to support the input cost pressure. The high material cost and rise in other expenses led to the rise in costs. The key leaders in large caps have been DRRD, BIOS, GLAXO and BOOT; on a sequential basis. The laggards for the quarter were LPC, ARTD, FDC and ARBP.

Exceptional items

In Q3FY22, LPC had one-off cost of Rs1.9bn relating to Metformin and Oseltamivir stock adjustment of and tax reversal. Granules took a one off of Rs6omn. The diagnostic heavy weights of DLPL and METROHL reported one time acquisitions costs, ESOPs and digitalisation cost impacting the margins.

Our view

We expect the Pharma sector to continue its strong growth trajectory on a disrupted base of FY22. The IPM is expected to report ~14-15% growth in FY22, and we expect recent weakness in US business to normalize starting FY23E, with recovery in wave three followed by improvement in inventories. We remain positively biased towards the ROW markets as well, given that the pandemic is most likely to increase the disease burdens across the globe, driving higher medicine demand. Also, newer variants and vaccine opportunity would continue to drive the Covid-related drugs portfolio. We maintain our top picks in the large caps as SUNP and DRRD, followed by our MNC pecking order of BOOT, PFIZ and GLXO/SANL. In the API segment, we are optimistic on ARTD. Among domestic plays, we prefer FDCLT close watch on the domestic base and US recovery.

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