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Focus remains on DF/US; valuations priced in

* ALKEM is one of the pharmaceutical companies with the highest proportion of (66% of total sales 9MFY24) sales from the domestic formulation (DF) segment.

* While it continues to outperform the industry in the DF segment, the outlook is dependent on the variability of season and acute infections as it derives 82% of DF sales from acute therapies.

* After muted performance in the US generics business (23% of sales) over FY18- 23, there has been some recovery in 9MFY24. The sound compliance trackrecord and a healthy product pipeline would enable 6% sales CAGR in CC terms to USD394m over FY24-26. ? Further, ALKEM is focusing on the biosimilar and CDMO business through Enzene biosciences and expects to reach breakeven in FY25.

* Over FY18-23, ALKEM has delivered 13%/10%/12% Revenue/EBITDA/PAT CAGR. However, ROE decreased from 15% in FY18 to 14% in FY23.

* Considering 9% earnings CAGR and return ratio stabilizing at ~18% over FY24- 26, we value ALKEM at 25x 12M (in line with its 10-yr average and 17% discount to sector average) forward earnings to arrive at a target price of INR5160. We believe the current valuation and ~65% stock appreciation over the past one year adequately factor the upside in earnings. We reiterate our Neutral stance on the stock.

DF: Slowdown in acute therapies affects DF sales growth

* Given the highest share of acute therapies in the domestic formulation segment (~82% of DF sales), the growth prospects continue to remain hinged on variability of season and acute infections.

* The company is emphasizing on strengthening its position in the Chronic therapies and biosimilars.

* ALKEM’s acute therapies (82% of DF sales) exhibited 15.5% CAGR and chronic therapies (18% of DF sales) exhibited 18.3% CAGR over MAT Dec’20-23. However, in 9MFY24, acute therapies showcased modest growth, while chronic therapies strong YoY growth.

* Additionally, ALKEM is focusing on improving MR productivity, which would boost the DF revenue and improve profitability.

* We expect a 13% sales CAGR in the DF segment over FY24-26

Exports: US business picks up; healthy growth momentum in Non-US business

* US sales has declined on compounded basis in CC terms by 3% over FY21- 23 due to intense price erosion in the base portfolio. However, in 9MFY24, US sales registered 6% YoY (CC terms) growth, partly due to reduced intensity of price erosion and partly due to low base of past year.

* We expect ALKEM to register a 7% CAGR over FY24-26 in CC terms on the back of the healthy approval pace, sound track record on compliance front, and focus on biosimilars.

* Non-US exports (9% of total exports) continue to exhibit healthy growth, driven by improved traction in existing products, successful new launches, and an expanding market reach (43% YoY growth in 9MFY24). We expect 21% sales CAGR in exports over FY24-26 to INR18b.

Enzene: the additional growth lever

* ALKEM has entered into developing/manufacturing biosimilar products and provides CDMO services through its subsidiary Enzene Biosciences.

* Seven biosimilars are commercialized in India and seven more products are under various stages of development (three biosimilars and four Synthetic peptide). Further to enhance CDMO offerings, the company plans to open a CDMO facility at Princeton, New Jersey, to reduce turnaround time.

* Additionally, the company plans to invest around ~INR600m in R&D to further support the future growth. Enzene is expected to reach breakeven by FY25, supported by new launches, improved CDMO services, and an expanded presence in emerging markets.

Valuation and view

* The positive factors for ALKEM include a) its position as a domestic player with a strong brand franchise, and b) a consistent record of compliance with USFDA regulations. However, factors that may impact the valuation multiple are a) a very high share of acute therapies in the DF segment, b) increased volatility in DF growth, led by seasonality and infection rates, and c) lower profitability in the US generics business. Accordingly, ALKEM’s long-term average valuation has been 24x, and it is currently trading at +1SD (30x 12M forward earnings).

* We value ALKEM at 25x 12M forward earnings to arrive at a price target of INR5,160. Considering 9% earnings CAGR over FY24-26, we believe the current valuation adequately factors the upside in earnings. We reiterate our Neutral stance on the stock.

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