Dr. Reddy's Laboratories: Performance Highlights

2QFY2012 Result Update | Pharmaceutical
October 28, 2011
Dr. Reddys Laboratories

Performance Highlights
Y/E March (` cr) Net sales Gross profit EBIT Net profit 2QFY2012 2,268 1,221 353 307 1QFY2012 1,978 1,056 274 262 % chg (qoq) 14.6 15.6 29.0 17.1 2QFY2011 1,870 999 301 286 % chg (yoy) 21.3 22.2 17.4 7.3
BUY
CMP Target Price
Investment Period
Stock Info Sector Market Cap (` cr) Beta 52 Week High / Low Avg. Daily Volume Face Value (`) BSE Sensex Nifty Reuters Code Bloomberg Code Pharmaceutical 25,930 0.6 1,855/1,387 28,155 5 17,805 5,361 REDY.BO DRRD@IN
`1,652 `1,920
12 months
Source: Company, Angel Research
Dr. Reddys Laboratories (DRL) reported higher-than-expected 2QFY2012 results. Net sales increased by 21.3% yoy, led by 18.0% yoy and 28.0% yoy growth across the global generics and proprietary products businesses, respectively. However, the companys net profit came in-line with our estimates, registering growth of 7.3% yoy to `307cr (`286cr), on account of lower-than-expected tax provision. Management has reinforced its FY2013 guidance of US$2.7bn, with RoCE expected to come in at 25%. We maintain our Buy rating on the stock. Results mostly in-line with expectations: DRL reported net sales of `2,267.9cr (`1,870.4cr) for 2QFY2012, registering 21.3% yoy growth, which was higher than our estimate of `2,012.5cr. The US market reported strong growth of 42.0% yoy, led by new product launches and higher market share in its key markets. Sales from Russia grew by 23.0% yoy during the quarter. The domestic market reported single-digit growth of 9.0% yoy. Outlook and valuation: DRL has reinforced its earlier revenue guidance of US$2.7bn by FY2013E with RoCE of 25%. We expect net sales to report a 13.3% CAGR to `9,584cr and adjusted EPS to record a 22.7% CAGR to `96.0 over FY2011-13E. We maintain our Buy recommendation on the stock with a revised target price of `1,920.
Shareholding Pattern (%) Promoters MF / Banks / Indian Fls FII / NRIs / OCBs Indian Public / Others 25.6 20.4 45.6 8.4
Abs. (%) Sensex Dr Reddy
3m (2.2) 3.2
1yr (10.7)
3yr 97.7
0.4 291.1
Key financials (IFRS Consolidated)

Y/E March (`cr) Net sales % chg Net profit % chg Adj net profit % chg Adj. EPS (`) EBITDA margin (%) P/E (x) RoE (%) RoCE (%) P/BV (x) EV/Sales (x) EV/EBITDA (x)
FY2010 7,028 1.2 107 921 4.1 54.6 20.2 30.3 21.7 16.2 6.5 4.1 20.2
FY2011 7,469 6.3 1,104 933.6 1,076 16.8 63.8 21.0 25.9 24.2 17.7 6.1 4.0 18.9
FY2012E 8,721 16.8 1,484 34.5 1,484 37.9 87.9 25.2 18.8 28.6 23.2 4.8 3.4 13.3
FY2013E 9,584 9.9 1,620 9.2 1,620 9.2 96.0 25.1 17.2 25.2 22.0 3.9 3.0 11.8
Sarabjit Kour Nangra

+91 2 39357600 Ext: 6806 sarabjit@angelbroking.com
Please refer to important disclosures at the end of this report
Dr. Reddys Laboratories | 2QFY2012 Result Update
Exhibit 1: 2QFY2012 performance (IFRS, consolidated)

Y/E March (` cr) Net sales Other income Total income Gross profit Gross margin (%) SG&A expenses R&D expenses EBIT EBIT (%) Interest PBT Tax Net profit Share of profit/ (loss) in associates Reported net profit Exceptional items Adjusted PAT EPS (`)
2QFY2012 2,268 22 2,289 1,221 53.8 722 146 353 15.6 5 370 63 306 0.3 307 307 18.2
1QFY2012 1,978 19 1,997 1,056 53.4 662 120 274 13.8 5 288 12 276 13.6 262 262 15.6
% chg (qoq) 14.6 16 14.7 15.6 0.8 9.0 21.6 29.0 28.5 425.8 11.2 17.1 17.2
2QFY2011 1,870 22 1,892 999 53.4 571 127 301 16.1 4 319 33 286 0.3 286 286 16.9
% chg (yoy) 21.3 21.0 22.2 0.8 26.4 14.9 17.4 42.9 15.9 93.0 7.1 7.3 7.3 -
1HFY2012 4,246 40 4,286 2,276 53.6 1,397 266 613 14.4 10 644 75 569 1.7 570 570 33.8
1HFY2011 % chg 3,554 40 3,594 1,890 53.2 1,119 226 545 15.3 21.2 564 68 495 0.8 496 496 29.2 14.9 14.9 19.5 19.3 20.4 0.8 24.9 17.5 12.6 9.8 14.8
Exhibit 2: Actual vs. Estimates

(` cr) Net sales Other income Operating profit Interest Tax Net profit
Actual 2,268 22 353 5 63 307
Estimates 2,013 19 281 5 12 295
Variation (%) 12.7 13.2 25.5 0.0 425.8 4.1
Better-than-expected revenue growth: DRL reported net sales of `2,267.9cr (`1,870.4cr) for 2QFY2012, registering 21.3% yoy growth, which was higher than our estimate of `2,012.5cr. The global generics market registered growth of 18.0% yoy, led by growth across the US and Russian markets. In terms of market performance, the US market reported strong growth of 42.0% yoy with sales of `628.7cr (`441.6cr), led by market share improvement in key products and new product launches including limited competition products such as fondaparinux and fexofenadine pseudoephedrine D24 OTC. Russia registered 23.0% yoy growth. The domestic market reported single-digit growth of 9.0% yoy. Sales from Europe declined by 10% yoy during the quarter, as Betapharm business continued to reel under pricing pressure. During the quarter, sales from Germany declined by 27% to `1,200cr. During the quarter, four ANDAs were filed. Cumulative ANDA filings as of September 30, 2011, stood at 177. The company has 76 ANDAs pending for approval with the USFDA, of which 40 are Para IVs and 11 are FTFs.
October 28, 2011
During the quarter, DRL launched three products in the domestic market, which grew modestly by 9% yoy. The biosimilar market reported growth of 22% yoy, representing 6% of the companys sales.
Exhibit 3: Global generic trend

1600 1400 1200 1000 275 213 261 211 353 255 278 194 390 316 237 442 301 212 477 288 268 275 201 249 294 169 227 316 155
(` cr)
800 600 400 200 0
592
675
653
4Q FY2010 1QFY2011 2QFY2011 3QFY2011 4QFY2011 1QFY2012 2QFY2012 Others Russia & CIS India Europe North America
The PSAI segment registered 28% yoy growth, majorly led by 48.0% yoy growth in the European market. North America posted 31% yoy growth. India, on the other hand, grew by 15.0% yoy during the quarter.
Exhibit 4: PSAI trend

600 500 400 197 78 200 137 100 0 81 84 81 77 75 84 81 147 63 156 160 65 155 176 62 183 201 164 71 66 169 160 65 155
(` cr)
300
208
4Q FY2010 1QFY2011 2QFY2011 3QFY2011 4QFY2011 1QFY2012 2QFY2012 Others India Europe North America
October 28, 2011
EBIT margin higher than expected: DRL reported gross margin of 53.8% (53.3%) during the quarter. The companys EBIT margin came in at 15.6% (16.0%), higher than our estimate. The key expenditure areas R&D and S&GA grew by 14.9% and 26.4%, respectively. S&GA expenditure grew on account of GSKs penicillin facility during 2QFY2011.
Exhibit 5: EBIT margin trend

20.0 16.0 16.0 12.0 11.4 14.5 14.4 13.8 16.5 15.6
(%)
8.0 4.0 0.0 4Q FY2010 1QFY2011 2QFY2011 3QFY2011 4QFY2011 1QFY2012 2QFY2012
Net profit grew by 7.3% yoy during the quarter: DRL reported net profit of `307cr (`286cr), registering an increase of 7.3% yoy, lower than our estimate of `295cr. This was on account of higher tax outgo, which affected the companys net profit growth. Tax as a percentage of PBT stood at 17% vis--vis our expectation of 4.0%.
Exhibit 6: Adjusted net profit trend

350 300 250 195 210 286 273 263 307 287
(` cr)
200 150 100 50 0 4Q FY2010 1QFY2011 2QFY2011 3QFY2011 4QFY2011 1QFY2012 2QFY2012
October 28, 2011
Concall takeaways
Management reinforced its FY2013 revenue guidance of US$2.7bn, with RoCE of 25%. Tax rate for FY2012 is expected to be 17% of PBT in the coming quarters on account of DRLs Baddi facility completing its five-year tax exemption. Management believes that business will be strong in 2HFY2012. On its USFDA import alert for its Mexico facility, management stated that USFDA is reviewing the case and expects USFDA to re-inspect in the near to medium term. Management stated that its JV with GSK in the emerging markets is still in the initial stages, and the company expects to ramp-up in FY2014 post the registration in key markets. For its biosimilar foray, management plans to collaborate with a global company.
October 28, 2011
Investment arguments
Robust growth in the US ahead: After attaining a critical mass (US$426mn with 11 new product launches in FY2011), DRL aims to scale up its business to the next orbit in the US market on the back of a strong product pipeline (75 ANDAs are pending approval, of which 36 are Para IVs and 11 are FTFs). Management has guided for one limited competition opportunity every year for the next few years. The US market is expected to be one of the key growth drivers, with strong revenue expected to come in from fexofenadine OTC, Olanzapine and Arixtra. Worst is left behind in the German market: Post the Betapharm acquisition, the German market has become a tender-based market, leading to significant price erosions. In order to remain competitive, DRL has managed to reduce its workforce by 200 to 80 employees currently, and 60% of its products at Betapharm are now vertically integrated. The company is taking several conscious efforts such as reducing work force and bidding for high-margin tenders to improve its profitability. Domestic back in focus: After a below-industry average growth on the domestic formulation front since the last three years, DRL reported modest 15.1% growth in FY2011. Management expects the companys performance to rebound and targets to achieve 18-20% growth going ahead, driven by a) field force expansion (field force stands at 3,800MRs as of FY2011) and improvement in productivity, b) new product launches (including biosimilars) and c) focus on brand building. Strategic alliances to provide long-term growth: In order to tap the emerging market opportunities, DRL entered into an alliance with GSK in FY2011 to develop and market branded formulations across emerging markets. On the biogeneric front, the company has developed nine products (four products launched in India) on mammalian cell culture with global brand sales of US$30bn. The company has also entered into a marketing agreement with Valent Pharma to market Cloderm cream in the US market. This deal is expected to provide an impetus to the proprietary products business going forward. Valuation: DRL has revised its earlier revenue guidance of US$3bn to US$2.7bn by FY2013E with RoCE of 25%. Growth would be driven by the US business, uptick in the domestic formulation and Russian markets and increased contribution from GSKs alliance. We expect the companys net sales to post a 13.3% CAGR to `9,584cr and adjusted EPS to record a 22.7% CAGR to `96.0 over FY2011-13E. At the CMP, the stock is trading at 17.8x FY2012E and 16.3x FY2013E earnings, we maintain our Buy view on the stock with a target price of `1,920.
October 28, 2011
Exhibit 7: Key assumptions

FY2012E PSAI segment growth (%) Generics segment growth (%) Operating margin (%) Capex (` cr)
FY2013E 3.6 12.0 25.1 306
4.0 21.5 25.2 700
Exhibit 8: One-year forward PE chart

3,000 2,500 2,000 1,500 1,000 500 0
Exhibit 9: Recommendation summary

Company Reco CMP Tgt. price Upside (`) Alembic Pharmaceuticals Buy Aurobindo Pharma Aventis* Cadila Healthcare Cipla Dr Reddy's Dishman Pharma GSK Pharma* Indoco Remedies Ipca labs Lupin Orchid Chemicals Ranbaxy* Sun Pharma Buy Sell Buy Buy Buy Buy Neutral Buy Buy Buy Buy Accumulate Neutral 45 128 2,322 774 299 1,652 53 2,122 373 239 474 162 513 509 (`) 77 217 1,937 1,053 369 1,920 85 658 358 593 270 578 518
#
(16.6) 36.0 23.6 16.2 60.0 76.6 50.0 25.1 66.5 12.7 1.8
Source: Company, Angel Research; Note: *December year ending; Calculations based on recurring EPS
October 28, 2011
Apr-05 Jul-05 Oct-05 Jan-06 Apr-06 Jul-06 Oct-06 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08 Oct-08 Jan-09 Apr-09 Jul-09 Oct-09 Jan-10 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11 Jul-11 Oct-11
Price 5x 10x 15x 20x
FY2013E EV/EBITDA (x) 2.9 5.5 21.4 11.9 13.9 11.8 6.1 15.7 4.4 6.2 13.3 5.3 6.7 17.3 5.9 6.7 25.8 15.1 16.2 17.2 4.5 24.4 5.7 8.7 16.0 4.4 9.7 21.6 0.4 1.0 3.3 2.4 2.9 3.0 1.1 5.6 0.8 1.3 2.6 1.2 1.6 5.4
FY11-13E 30.6 29.5 15.6 21.6 23.8 22.7 8.6 14.6 25.8 14.8 24.0 29.6 43.1 15.8
FY2013E RoE (%) 37.0 19.0 17.1 35.2 18.2 25.2 9.2 30.7 19.3 24.9 30.8 23.4 25.9 20.4 26.6 13.8 15.8 28.3 17.0 17.7 7.4 41.0 17.6 23.3 23.9 11.7 26.8 20.2
% PE (x) EV/Sales (x) 70.2 68.9
CAGR in EPS (%) RoCE (%)
Profit & loss statement (IFRS Consolidated)

Y/E March (`cr) Net sales Other operating income Total operating income % chg Total expenditure Cost of revenues SG&A expenses R&D expenses EBITDA % chg (% of Net Sales) Depreciation & amortisation EBIT % chg (% of Net Sales) Interest & other charges Other Income (% of PBT) Share in profit of associates Recurring PBT % chg Extraordinary expense/(Inc.) PBT (reported) Tax (% of PBT) PAT (reported) Exceptional items PAT after MI (reported) ADJ. PAT % chg (% of Net Sales) Basic EPS (`) Fully Diluted EPS (`) % chg (7.4) 52.6 52.6 FY2009 6,944 (25.4) 6,919 5,418 2,913 2,102 403.7 1,526 22.0 381.4 1,144 16.5 166.8 48.2 4.8 2.4 1,003 1,402.3 (399.6) 117.2 (29.3) (516.8) (516.8) 885.5 FY2010 7,028 56.9 7,085 2.4 5,608 2,978 2,251 379.3 1,420 (6.9) 20.2 416.0 1,004 (12.2) 14.3 37.2 36.9 3.5 4.8 1,066 6.3 860.3 205.3 98.5 48.0 106.8 815 106.8 921.4 4.1 1.5 54.6 54.6 3.8 FY2011 7,469 75.0 7,544 6.5 5,903 3,028 2,369 506.0 1,566 10.3 21.0 414.7 1,151 14.6 15.4 28.3 9.4 0.8 0.3 1,208 13.3 (37) 1,244.2 140.3 11.3 1,104 9 1,104 1,076 16.8 14.8 63.8 63.8 16.8 FY2012E 8,721 75.0 8,796 16.6 6,522 3,138 2,791 593.0 2,199 40.4 25.2 481.3 1,718 49.2 19.7 35.8 9.4 0.5 0.3 1,767 46.3 1,766.9 282.7 16.0 1,484.3 1,484.3 1,484.3 37.9 17.0 87.9 87.9 37.9 FY2013E 9,584 75.0 9,659 9.8 7,174 3,455 3,067 651.7 2,410 9.6 25.1 522.0 1,888 9.9 19.7 43.8 9.4 0.5 0.3 1,929 9.2 1,928.9 308.6 16.0 1,620.3 1,620.3 1,620.3 9.2 16.9 96.0 96.0 9.2
October 28, 2011
Balance sheet (IFRS Consolidated)

Y/E March (` cr) SOURCES OF FUNDS Equity share capital Reserves & surplus Shareholders funds Total loans Deferred tax liability Total liabilities APPLICATION OF FUNDS Net fixed assets Goodwill /other intangibles Capital Work-in-Progress Investments Current Assets Cash Loans & Advances Other Current liabilities Net Current Assets Mis. Exp. not written off Total Assets 1,660 2,238 427.9 26.2 3,901 559.6 416.6 2,925 1,759 2,142 6,494 1,759 1,422 486.7 31.0 4,206 658.4 421.7 3,126 2,004 2,202 5,901 2,478 1,549 486.7 31.0 4,832 572.9 448.2 3,811 2,276 2,556 7,100 3,016 1,183 491.6 31.0 5,477 318.8 523.3 4,635 2,475 3,002 7,725 3,164 1,183 496.5 31.0 7,228 1,557.8 575.0 5,095 2,681 4,547 9,423 84.2 4,120 4,205 1,948.3 341.1 6,494 84.4 4,207 4,292 1,465.6 143.8 5,901 84.4 4,515 4,599 2,357.2 143.8 7,100 84.4 5,702 5,787 1,793.7 143.8 7,725 84.4 6,998 7,084 2,195.5 143.8 9,423 FY2009 FY2010 FY2011 FY2012E FY2013E
Cash flow statement (IFRS Consolidated)

Y/E March (`cr) Profit before tax Depreciation (Inc)/Dec in Working Capital Less: Other income Direct taxes paid Cash Flow from Operations (Inc.)/Dec. in Fixed Assets (Inc.)/Dec. in Investments Other income Cash Flow from Investing Issue of Equity Inc./(Dec.) in loans Dividend Paid (Incl. Tax) Others Cash Flow from Financing Inc./(Dec.) in Cash Opening Cash balances Closing Cash balances FY2009 1,002.7 381.4 (826.7) 36.8 117.2 403.4 (450.7) 437.7 36.8 23.8 (66.2) 73.8 (573.8) (566.2) (139.0) 698.6 559.6 FY2010 1,065.6 416.0 (38.0) 36.9 98.5 1,308.2 (157.7) 4.8 36.9 (116.0) 0.2 (482.7) 123.3 (734.2) (1,093.4) 98.8 559.6 658.4 FY2011 1,207.7 414.7 439.0 9.4 140.3 1,911.8 (718.3) 9.4 (708.9) 891.6 221.1 (1,958.8) (1,288.3) (85.5) 658.4 572.9 FY2012E 1,766.9 481.3 700.1 9.4 282.7 2,656.3 (543.6) 9.4 (534.2) (563.5) 296.8 (1,515.9) (2,376.2) (254.1) 572.9 318.8 FY2013E 1,928.9 522.0 305.8 9.4 308.6 2,438.7 (152.9) 9.4 (143.5) 401.7 324.0 (1,134.0) (1,056.2) 1,239.0 318.8 1,557.8
October 28, 2011
Key ratios
Y/E March Valuation Ratio (x) P/E (on FDEPS) P/CEPS P/BV Dividend yield (%) EV/Sales EV/EBITDA EV / Total Assets Per Share Data (`) EPS (Basic) EPS (fully diluted) Cash EPS DPS Book Value DuPont Analysis EBIT margin Tax retention ratio Asset turnover (x) ROIC (Post-tax) Cost of Debt (Post Tax) Leverage (x) Operating ROE Returns (%) RoCE (Pre-tax) Angel RoIC (Pre-tax) RoE Turnover ratios (x) Asset Turnover (Gross Block) Inventory / Sales (days) Receivables (days) Payables (days) WC cycle (ex-cash) (days) Solvency ratios (x) Net debt to equity Net debt to EBITDA Interest Coverage (EBIT / Interest) 0.3 0.9 6.9 0.2 0.6 27.0 0.4 1.1 40.7 0.3 0.7 48.0 0.1 0.3 43.1 4.2 70 77 40 83 4.1 69 68 50 81 3.6 71 72 55 85 3.2 72 79 52 97 3.1 74 82 53 107 17.6 35.0 21.1 16.2 30.4 21.7 17.7 29.4 24.2 23.2 33.6 28.6 22.0 31.7 25.2 16.5 0.0 1.0 0.0 0.0 0.3 0.0 14.3 52.0 1.3 9.4 1.1 0.3 11.6 15.4 88.7 1.3 17.5 1.3 0.3 22.2 19.7 84.0 1.3 20.9 1.5 0.3 27.1 19.7 84.0 1.3 20.9 1.8 0.2 24.2 52.6 52.6 5.0 249.7 54.6 54.6 31.0 5.0 254.2 63.8 63.8 90.0 5.0 272.5 87.9 87.9 116.4 5.0 342.8 96.0 96.0 126.9 5.0 419.7 31.4 6.6 0.3 4.2 19.1 4.5 30.3 53.3 6.5 0.3 4.1 20.2 4.9 25.9 18.4 6.1 0.3 4.0 18.9 4.2 18.8 14.2 4.8 0.3 3.4 13.3 3.8 17.2 13.0 3.9 0.3 3.0 11.8 3.0 FY2009 FY2010 FY2011 FY2012E FY2013E
October 28, 2011
10
Research Team Tel: 022 - 39357800
E-mail: research@angelbroking.com
Website: www.angelbroking.com
DISCLAIMER
This document is solely for the personal information of the recipient, and must not be singularly used as the basis of any investment decision. Nothing in this document should be construed as investment or financial advice. Each recipient of this document should make such investigations as they deem necessary to arrive at an independent evaluation of an investment in the securities of the companies referred to in this document (including the merits and risks involved), and should consult their own advisors to determine the merits and risks of such an investment. Angel Broking Limited, its affiliates, directors, its proprietary trading and investment businesses may, from time to time, make investment decisions that are inconsistent with or contradictory to the recommendations expressed herein. The views contained in this document are those of the analyst, and the company may or may not subscribe to all the views expressed within. Reports based on technical and derivative analysis center on studying charts of a stock's price movement, outstanding positions and trading volume, as opposed to focusing on a company's fundamentals and, as such, may not match with a report on a company's fundamentals. The information in this document has been printed on the basis of publicly available information, internal data and other reliable sources believed to be true, but we do not represent that it is accurate or complete and it should not be relied on as such, as this document is for general guidance only. Angel Broking Limited or any of its affiliates/ group companies shall not be in any way responsible for any loss or damage that may arise to any person from any inadvertent error in the information contained in this report. Angel Broking Limited has not independently verified all the information contained within this document. Accordingly, we cannot testify, nor make any representation or warranty, express or implied, to the accuracy, contents or data contained within this document. While Angel Broking Limited endeavours to update on a reasonable basis the information discussed in this material, there may be regulatory, compliance, or other reasons that prevent us from doing so. This document is being supplied to you solely for your information, and its contents, information or data may not be reproduced, redistributed or passed on, directly or indirectly. Angel Broking Limited and its affiliates may seek to provide or have engaged in providing corporate finance, investment banking or other advisory services in a merger or specific transaction to the companies referred to in this report, as on the date of this report or in the past. Neither Angel Broking Limited, nor its directors, employees or affiliates shall be liable for any loss or damage that may arise from or in connection with the use of this information. Note: Please refer to the important `Stock Holding Disclosure' report on the Angel website (Research Section). Also, please refer to the latest update on respective stocks for the disclosure status in respect of those stocks. Angel Broking Limited and its affiliates may have investment positions in the stocks recommended in this report.
Disclosure of Interest Statement 1. Analyst ownership of the stock 2. Angel and its Group companies ownership of the stock 3. Angel and its Group companies' Directors ownership of the stock 4. Broking relationship with company covered
Dr. Reddys Laboratories No No No No
Note: We have not considered any Exposure below ` 1 lakh for Angel, its Group companies and Directors
Ratings (Returns):
Buy (> 15%) Reduce (-5% to 15%)
Accumulate (5% to 15%) Sell (< -15%)
Neutral (-5 to 5%)
October 28, 2011
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2QFY2012 Result Update | Pharmaceutical

October 28, 2011