On course to benefit from patent expiries

Indian pharmaceutical companies are in for good times with very large generic opportunities awaiting them in regulated markets and a focus on low-cost healthcare globally.

Aurobindo Pharma, a leading player in the space, is expected to benefit from several products going off patent and its presence in niche segments across a multitude of geographies.

Business:
Aurobindo is a fully integrated pharmaceutical company with operations in India and abroad. It develops, manufactures and markets active pharmaceutical ingredients (API, or the drug itself that goes into a syrup or tablet), organic intermediates and generic formulations.

The company has marketing operations in about 100 countries with a strong portfolio of 300 products.

Aurobindo provides formulations under cardiovascular, central nervous system, antibiotics, gastro-enterologicals, anti-retrovirals (ARVs) and anti-allergic categories in tablets, syrups and injectables form.

The API space includes semi-synthetic penicillin (SSPs) and cephalosporins in sterile and oral form apart from ARVs and other high-value products.

The company generates revenues from its three specific segments of formulations (46%), dossier licensing & supply arrangement (10%) and API (44%).

It derives majority of its revenues from exports (around 66%) by selling generic formulations, while the rest comes from domestic sales of mostly APIs.

Aurobindo has 15 manufacturing facilities globally with 11 in India, 2 plants in the US and one each in China and Brazil. The company has 10% of the US Food and Drug Administration-approved manufacturing base in India.

Investment rationale:
Aurobindo has diversified presence across geographies. It has shown strong growth in US markets over last few years on account of new product approvals and growing market share.

The US markets now contribute to around 35% of its overall revenues. The number of products actively marketed in the US has gone up to 60 from around 16 three years ago. Aurobindo has filled for 165 products in US, of which 111 (including 28 tentative) have been approved. It is the largest generic player in ARVs with almost 80% of its revenues coming from US President’s Emergency Plan for AIDS Relief.

Aurobindo has a strong product pipeline across markets with around 913 formulation dossiers and more than 1,300 API drug master filings in key regulated markets including Europe. Revenues from these regions are set to grow significantly as these fillings get approval resulting in product launches.

It had entered into an in-licensing and supply agreement with Pfizer Inc last year to supply solid dosages and sterile products across several countries in Asia, Latin America, Africa and west Asia. This provides a long-term revenue stream.

Aurobindo had over the years engaged in massive expansion leading to significant spare capacities in formulation and sterile space (around 75%). It plans to utilise these idle capacities for contractual supply agreements with other multinationals apart from Pfizer to cater to regulated and semi-regulated markets. This would ensure a steady revenue stream.

The company intends to set up an alternative distribution channel for its products in regulated markets. Also, with drugs worth more than $100 billion going off patent in next 3-5 years, it is expected to benefit from the ramp up in generic product portfolio and distribution.

Aurobindo which is one of the world’s largest manufacturers of SSPs, is looking to increase its focus on higher margin sterile injectables in favour of low-margin oral space to boost its revenues and margins from API segment. The amount of leveraging is also expected to come down with debt to equity ratio reducing due to increased cash flows, favourable product mix and better utilisation of capacities.

Concerns:
The company has a significant amount of foreign currency convertible debentures outstanding, which are due for conversion in coming years and inability to refinance these in the event of non-conversion would lead to some amount of cash outflows. Any delay in ramp-up of contractual supplies to Pfizer or underutilisation of capacities will impact its revenues and margins. It also faces industry specific risks like delay or failure in getting approvals or in launching new products and currency fluctuations risk.

Valuations:
Aurobindo’s revenues would be driven by robust growth in generic formulation segment in regulated markets, strong pipeline of new products, increasing presence in developing markets and huge opportunities in licensing deals and supply arrangements with global multinational pharma giants. Margins could improve due to increased contribution from higher margin formulations and sterile products; and higher capacity utilisations.

Aurobindo’s revenues are expected to grow at CAGR of 19% over FY09-FY11E and net profit at CAGR of 251% over the same period. At CMP of Rs 960.45, the company stock trades at a P/E of 10.29x & 8.89x its FY10E & FY11E earnings respectively. Investors with long-term view can consider the stock as it does not offer exceptional gains in the short term.

Disclaimer: The writer does not hold any share in the company.