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Weak US and subdued margins continue to weigh

Lupin’s Q1FY22 performance was below expectations due to dip in US sales and lower gross margin. Consolidated revenues grew 10.5% to Rs39bn (I-Sec: Rs41.7bn) with EBITDA margin dropping 380bps QoQ to 15.2% (I-Sec: 19.0%) which resulted in adj. PAT coming at Rs2.7bn vs estimate of Rs4.1bn. US revenue dropped 11.8% QoQ to US$172mn due to price erosion and competition in famotidine.

Gross margin also dropped due to lower US sales despite strong India growth. We believe US sales would remain under pressure and multiple ongoing USFDA issues would weigh on new approvals. The near term outlook remains uncertain and we expect EBITDA margin to remain below 20% despite focus on cost control initiatives. Retain REDUCE.

* India growth strong but US declines substantially: Lupin’s US revenues dropped 11.8% QoQ to US$172mn (I-Sec: US$200mn) due to intensified pricing pressure in US generics market, competitive pressures in famotidine & levothyroxine and certain supply issues. We expect US business to gradually improve in the coming quarters with growing contribution from Albuterol, and new launches (12-15 each year). India business grew 27.3% YoY during the quarter with recovery in industry growth across chronic and acute segments. We expect the company to report healthy growth in India business in coming quarters, driven by chronic therapies (~60% of revenues). The EMEA businesses grew 4.5% YoY while Growth markets (LATAM+APAC) grew 23.3% YoY. However, APIs witnessed a decline of 39.9%.

* EBITDA margin reverts to ~15%: Company’s gross margin dropped 190/260bps YoY/QoQ due to drop in US sales and price erosion. This along with higher personnel costs led to 380bps drop in EBITDA margin to 15.2% vs estimate of 19%. We expect gross margin to gradually improve in coming quarters which along with focus on cost control would drive EBITDA margin back to ~18%. However, this would remain below earlier targeted 20% level.

* Outlook: We believe continuous healthy India growth and gradual ramp-up in US sales would help revenue growth and margins improvement that also benefits from cost control. However, USFDA 0OAI/WL on four plants could deter growth in near term. Overall, we expect revenue and PAT CAGR of 8.5% and 23.2%, over FY21- FY23E on a low earnings base. Return ratios will continue to remain weak with RoE and RoCE being 11.2% and 9.6% respectively in FY23E.

* Valuation and risks: We lower earnings estimates by 14-18% to factor in weak US sales and lower gross margin. We believe near term outlook remains weak and resolution of USFDA issues would be critical. Maintain REDUCE on the stock with a revised target price of Rs962/share based on 24xFY23E earnings and an additional Rs26/share for Spiriva opportunity (earlier: Rs1,135/share). Key upside risks: early resolution of USFDA issues and high value launches in US.

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