Cadila Healthcare - Near-term pain but maintain long-term confidence - Avendus

With added weight across expense lines, CDH's 3Q core margin at 13% was a significant miss on estimates. While we believe a part of the added costs above the EBITDA are non-recurring, our adjusted margin remains disappointing. Heavy capex, which is likely to result only in back-ended growth, adds to the strain on the B/S. While we brace for the near-term pain, we stay confident on the company's long-term delivery. From early FY14f we expect signs of stability to creep in, led by an improved traction in the US. The pricing policy in India, worsening B/S and inability to ramp up margins are key risks. We cut our Dec13 TP to INR874, but maintain our rating at Add.

In line revenues, but weak quarter across expense heads

CDH's 15% Dec12 quarter revenue growth slightly beat estimates, but the core margin at 13% was very disappointing. While GMs fell c150-bp y-o-y/q-o-q, the rise in other expenses dealt a more material blow (cINR615mn q-o-q), led by higher R&D, GUDUFA fees, discretionary and one-off expenses (donations). In our estimate, c40%–50% of incremental costs could be non-recurring, or soothe out in the coming quarters, adjusted for which core margin improves c170-bp at c14.7%, but stays weak. Higher interest and tax provisioning weakened earnings; PAT at INR1.03bn was materially below estimates.

What needs to work? Delivery in US is crucial

The immediate term for CDH (mainly the Mar13 quarter) is likely to stay challenging. The pain may ease from 1HFY14f, as stability creeps in, led by the ramp up in US sales (22 launches in 2013, 1–2 launches at Nesher) and an improvement in Brazil. In the US, from cUSD280mn in FY13f revenues, we estimate a 35% CAGR through FY15f. India's revenue forecast stays relatively unchanged with a 13%–13.5% annual growth. The pricing policy is a key risk.

What can go wrong? Margin expansion falls short, B/S weakens

The core margin weakness in the Dec12 quarter is abrupt and shaking. We have cut our core margin forecasts by up to 110-bp for FY14f–FY15f. While the pace (and quantum; INR6.5bn each year for FY13f–FY14f) of capex is worrisome, we expect back-ended growth from these capacities. In the interim, the B/S treads on thin ice with gross/net debt at INR28bn/INR24bn; net debt rising cINR3bn from Sep12. Worsening of the B/S is a risk to earnings and valuation.

Brace for near-term pain but maintain long-term confidencev
Lower assumption on margins, higher interest and tax rate assumptions lead us to 13%/11%/7% cut on the FY13f/FY14f/FY15f PAT. The immediate term is likely to stay challenging, which could cumulate into pressure on the stock. We cut our Dec13 TP to INR874, but maintain our Add rating on the stock.

Source : Equity Bulls

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