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In-line quarter; valuation still high

Divi’s Laboratories (DIVI IN) reported Q3FY25 in line with our estimates. Revenue grew 25% YoY and EBITDA margin 540bps YoY, continuing the string of strong numbers that started in Q4FY24. This likely came from a step-jump in the custom synthesis part of the business. This higher revenue run-rate has assimilated into the base for Q4FY25, and could present a challenge to growth in Q4. Management commentary suggests that major margin expansion from current levels is unlikely. Meanwhile, narratives around China + 1 and GLP-1 have kept the stock extremely expensive. We raise our FY25E-27E core EPS estimates by 5-6%. Retain Sell with a higher TP of INR 4,098.

Strong growth in Q3; challenge in Q4:

Q3FY25 revenue grew 25% YoY. Topline has been broadly flat for the past four quarters although reported YoY growth came in the range of 18-25%. This was supported by a low base of comparison before the step-jump in revenue from the custom synthesis business in Q4FY24. With higher revenue run-rate coming into the base, we expect growth rates to normalize, starting from Q4FY25. Longterm revenue growth has been at 13% in INR terms and 9% in USD terms.

Margin recovery is not a given:

EBITDA margin came off from 35-38% in FY12-19 to 28% in FY24 and has improved to ~31% in 9MFY25. Management commentary suggests that major margin expansion from the current levels is unlikely – various factors including regulatory compliance requirements have added significantly to the costs in the past decade. While there is no visibility of any jump in margin, we continue to build in an EBITDA margin of 33.3% in FY26E and 35.2% in FY27E. Despite that, valuation remains expensive.

Price chart

Source: Bloomberg

Capex intensity does not suggest major pick-up in growth:

FY25 capex guidance at INR 16-17bn is higher than the usual run-rate of INR 7-10bn. The management has attributed this to setting up of a greenfield project at Kakinada. We do not see this spike in capex being indicative of any major pick-up in growth.

Several narratives built into the stock price:

The valuation has built in narratives that are unlikely to materialize at the pace of investor expectations. The stock has run ahead of what the company can achieve in terms of growth in its existing business plus the potential growth from GLP-1 agonists and the US Biosecure Act, in our opinion.

Retain Sell with a higher TP at INR 4,098:

We raise our core EPS estimates by 5-6% for FY25E-27E. The stock trades at 64.9x FY26E core P/E. We raise our TP from INR 3,890 to INR 4,098, based on 37x FY27E core P/E plus cash per share. However, we reiterate Sell as the stock is expensive.

Any large product opportunity in the custom synthesis business is a key upside risk to our call and estimates.

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