Sun Pharmaceutical Industries - USD550mn payout is a mild hurdle on the M&A path - Avendus

SUNP and TEVA have admitted to patent infringement on gProtonix. Of the windfall USD2.15bn payoff to PFE, the burden for SUNP falls at USD550mn, payable in 2013. The payout a) Is significantly higher than the cUSD105mn provision of 2QFY13; b) And cuts SUNP's consolidated net cash by c50%, the balance is held by TARO, to which SUNP has no direct access; c) It reduces SUNP's ability for an immediate big-ticket acquisition and even smaller, bolt-on deals; and d) Though smaller in impact, SUNP's INR-denominated cash reserves continues to take a hit from the weakening INR. Our Jun14 TP is lowered to INR950; maintain Hold. An immediate, knee-jerk reaction is likely, led by the expected impact on acquisition plans in the near future. However, with strong cash flows, SUNP's long term funding capabilities stay intact.

SUNP settles on gProtonix after admitting patent infringement

Cutting short a federal trial, which commenced on 03June, SUNP and TEVA have admitted to infringing the 4,758,579 patent on Protonix. The "at-risk" launch of Jan08 has now concluded with a settlement. PFE and its partner will receive USD2.15bn from TEVA and SUNP, USD550mn of which is SUNP's share. In 2QFY13, SUNP had made a part provision of INR5.8bn, which at the current USD/INR is cUSD100mn, cUSD450mn woefully short of the payout.

Cash balance takes an immediate hit...

At its investor call toward end of May13, SUNP referred to a cash balance of USD1.3bn. Consolidated net cash as per the Mar13 B/S is at INR62.2bn. At the year-end rate of the USD/INR, the net cash thus stands at cUSD1.2bn. Of this, TARO holds cUSD530mn, to which SUNP has no direct access. So that leaves SUNP with cUSD620mn, c90% of which (USD550mn) will now flow to PFE. As per the agreement, SUNP has to pay the settlement amount in 2013.

... which the slide in the INR aggravates

The arithmetic changes with the slide in the INR. At INR58/USD, SUNP's own cash (i.e. net of TARO) deteriorates further. We believe SUNP holds a significant portion of its cash in INR. Even if we assume 50% to be held in USD-terms, it shaves of cUSD20mn from SUNP's cash balance. In essence thus, the settlement would be just about covered from SUNP's accessible cash balance.

Immediate buyout ability faces a hurdle, tipping scales on leverage

As SUNP has maintained that tapping into TARO's cash requires the latter's approval, the company may land up taking on a higher leverage on its books to facilitate a medium-to-big-ticket acquisition. In the very near term, even for smaller, bolt-on acquisitions if any, SUNP may need to lean on leverage.

EPS cut on yield loss; strong cash flow unlikely to derail LT plans

We cut our FY14f-FY16f adjusted EPS by up to c3% on loss of interest income. Our Jun14 TP is revised to INR950; maintain Hold. We expect a knee-jerk reaction in the immediate term, driven more by the effect the payout could have on SUNP's ability to pursue an acquisition in the near future. SUNP's cash flow, however, stays strong and the payout is unlikely to derail the company's long term fund raising capabilities.

Source : Equity Bulls

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