Torrent Pharma executed the domestic branding activities well and replicated the same in the Brazilian market. But the problem over the past two years has been the generic side of the business operating in the US and German markets with a 24% contribution to revenue. Efforts to expand into these markets have been unsuccessful over the past two years. While the triggers to change the status quo on the generic lead line may not be immediately available, the margin improvement plans established by the company are promising. This led to the post-earnings rise in the share price of 10% on Thursday.
After two years of generic erosion, further decline should be limited. Investors can stock up on each correction from here on improving margins and sustained growth in the Brazilian and Indian markets is expected from the first quarter of FY23. Investors should note, however, that the The company’s expected US FDA inspection poses a critical risk to the stock price, even though the contribution of US companies to valuations is currently minimal.
Sectors and business
Torrent has a prominent presence in the Cardiovascular, CNS, Anti-Diabetes and Gastro-Intestinal markets in India (50% revenue contribution in FY22). It acquired and successfully integrated brands from Elder Pharma (₹2,000 crore in 2013-14), Unichem (₹3,600 crore in 2017-18) and most recently Dr. Reddy’s (four brands). Also in Brazil (9% of sales), Torrent is the market leader in branded generics for its essentially chronic portfolio. A portfolio of similarly branded generics is also being built in the Philippines and other developing markets, which now account for an additional 10%. That makes Torrent a 70% branded generics maker with a largely chronic portfolio, which bodes well from a pricing perspective. On the generics side, while price erosion is common across all companies, Torrent reports strong double-digit erosion in the US as a lack of new launches limits growth. US FDA factory inspection and clearance for Indrad and Dahej is crucial for new launches.
Mark : Torrent had optimized its product and people in India after the acquisition of Unichem and recorded 15% revenue growth in FY22 (after two years of mid-single-digit growth) along with the best efficiency industry sales force (nearly ₹10 lakh per month per staff). Now, Torrent intends to boost new product launches in India, supported by a 13% increase in sales force to be completed by H1FY23 to increase geographic coverage and a broader basket. Four brands acquired from Dr. Redddy’s could add an additional 1-2% growth in FY23, supporting 13-15% growth in India for at least the next two years.
Brazil also added 5 products in the CNS division in Q4FY22, which represents more than half of the 32% YoY growth in Q4FY22 and is also expected to increase further over the next three quarters. In the long term, Torrent can keep up with the mid-single-digit market growth in Brazil; complemented by the cross-selling of its portfolio from India, Torrent is expected to generate above-market growth in Brazil.
Generics: The American generic sector has accumulated 50 to 55 ANDA (Abbreviated New Drug Application) of which 27 products would only await authorization from the factory. Torrent also launched a new derma product (Dapsone) with limited competition at T4FY22. But lacking rapid launch capability until factories are cleared by the US FDA, severe erosion of the existing base can only lead to flat to negative growth for the segment, even with the recent new launch. The high value Revlimid launch is not tied to factory clearance and may be a significant opportunity even at a late stage launch (which may be), and the only silver liner currently in the generic industry in the United States. Likewise, the German bidding market is also facing strong competition which is taking away Torrent pricing capacity, which could also be the case in the new bidding round starting at H2FY23, which suggests stable sales growth.
Torrent’s weak revenue growth in the reorganization phase (4% CAGR in FY20-22) may not be fully offset by the 12% CAGR forecast for FY22-24 (combined CAGR of 8% in FY20-24). Despite growing branded segments, US and German markets are holding back revenue.
Torrent has now announced a set of measures aimed at improving margins to complement revenue growth. It closed its US cash facility after a cost-benefit analysis. After impairment expenses in Q4FY22, operating costs of ₹135 crore per annum can be saved according to management, adding to the EBITDA margin line (by around 100-120 bps). Torrent is also in the process of optimizing production and reducing costs, which should add another 80 to 100 basis points to the margin, even if freight, raw material and energy costs remain high. Price increases in branded markets will be another addition. Torrent is expected to return to 29-30% EBITDA margin with these metrics after slipping to 26% in H2FY22. Restarting US launches will add to margin growth instead of the downward pressure of the past two years, but that depends on factory clearance.
The brand’s business prospects are strong
Margins should return to higher levels
Preserved pricing power of bundled activities.
Finances and valuation
Torrent posted 6.3% year-on-year growth in FY22 revenue to ₹8,500 crore with EBITDA margins down 240bps to 28.6%, mainly due to the erosion and operating costs in the United States (MR and freight). Net Debt to EBITDA stands at 1.3x (₹3,400 crore net debt) which the company hopes to wipe out over the next two years when Torrent’s acquisition game focused on the Indian market could pick up.
Torrent trades at 26 times FY24 earnings and the premium is attributable to the presence of the company’s brand (23 times adjusted for amortization of acquired assets). This corresponds to its average valuation of the last 5 years and a discount of 15% compared to the valuation range of the last 6 months. Investors can check the US FDA plant status and near-term margin growth pattern and accumulate Torrent shares at every available valuation drop.
May 28, 2022