Friday, February 20, 2009

Sector Review Pharma - Macquarie Research

We present key takeaways from our marketing trip to the US and Europe where we met over 45 investors.
Most investors were overweight the pharmaceutical space and are likely to remain so given the defensive characteristics of the space in the midst of the global macro uncertainties.
Sun Pharma: A clear focus among investors is for leading names run by quality management. Given Sun’s robust business model, execution track record, strong balance sheet (~$550 million in cash) and earnings momentum, the interest level seemed to be highest on this name.
The Caraco warning letter and Taro legal quagmire were sighted as issues, but general consensus is that at current valuations it is priced in and the outlook looks bright for the company.
Dr Reddy’s Laboratories: German market uncertainties and possible intangible amortization due to implementation of AOK tenders in Germany are the risks that investors are concerned about.
At current levels, we view DRL to be attractively priced especially if you look at the earnings power of the company excluding amortization of acquired Betapharm intangibles. Also Imitrex’s exclusivity should substantially add to near-term earnings momentum for DRL.
Ranbaxy: Investors are adopting a wait and watch strategy on the company. We see concerns over execution post partnering with Daiichi Sankyo, FDA import alert and uncertainty on DoJ investigations weighing on the investors’ sentiments.
There is recognition that valuations are relatively inexpensive if FTF opportunities are included.
However, we believe serious interest in the stock is likely to build up only once some clarity on FDA issues evolves, which we expect is unlikely before 2H09.
Cipla: Many investors saw Cipla benefiting the most from rupee depreciation among Indian players due to the least dollar-denominated costs. However, an existing valuation premium was acknowledged to be a concern.
We view Cipla’s premium to the sector as unjustified given the risk its partnership-based model poses to margins going forward due to increasing consolidation in the industry.
One of the major concerns among investors was the rise in regulatory risk given the increase in warning letters issued by the FDA.
The opening of an FDA office in India is being viewed positively as it underscores the importance of India as a manufacturing hub and will also have a positive impact on approval timelines.
Company-specific issues continue to dominate the investor outlook. We believe the key focus areas – FDA import alert for Ranbaxy; German business uncertainties for DRL, Caraco warning letter for Sun and muted guidance by Glenmark management – will keep the stocks volatile over the near term.
Sun remains our favourite play in the Indian Pharma space with lower earnings risk backed by a superior business model.
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