Dr Reddys Labs - Target price revision - Innovative and affordable medicines - Centrum

Rating: Buy; Target Price: Rs3,840; CMP: Rs2,660; Upside: 44.4%

Innovative and affordable medicines

We maintain Buy rating for Dr. Reddy's Labs (DRL) with a revised target price of Rs3,840 (earlier Rs3,260) based on 23xDec'15 EPS of Rs166.8. DRL's results for Q3FY14 exceeded our expectations due to strong growth of 76%YoY in the US generic business. The company's global generics business grew by 41%YoY while PSAI revenues declined by 29% due to lower number of launch molecules for its customers. DRL is likely to benefit from strong product pipeline of 38 para IV and 8 FTF opportunities for the US market. Key risks to our assumptions include slowdown of the US generic market and regulatory risks for its manufacturing facilities catering to global markets.

Growth driven by US generics: DRL reported 23%YoY growth in revenues to Rs35.34bn from Rs28.65bn driven by the US generics business. The company's global generics business (83% of revenues) grew by 41%YoY to Rs29.40bn from Rs20.83bn. Sales in N. America grew by 76%YoY to Rs16.22bn from Rs9.24bn. RoW generics grew by 35%YoY to Rs2.10bn from Rs1.56bn. The company had a slower growth of 5%YoY to Rs3.91bn from Rs3.72bn in the domestic market. DRL's Pharma Services & Active Ingredients (PSAI) business revenues declined by 29%YoY to Rs5.06bn from Rs7.13bn due to the lower number of launch molecules.

EBIT margin improves 850bps: DRL's EBIT margin improved 730bps YoY to 23.1% from 15.8% due to sharp decline in cost of sales. The company's cost of sales declined by 850bpsYoY to 39.5% from 48.0% due to higher profitability in the US generic business. DRL's S,G & A cost declined by 30bps to 29.6% from 29.9%. The company's R & D spend went up by 130bps to 8.4% from 7.1% due to the thrust on R & D to support global generics and PSAI businesses.

Sharp rise in net profit: DRL's net profit before EO items grew by 57%YoY to Rs5.69bn from Rs3.63bn due to sharp improvement in EBIT margin and drop in interest cost. DRL reported interest income of Rs62mn against interest cost of Rs66mn. DRL's tax provision was up at 30.7% from 18.5% of PBT due to higher tax on US profits. Net profit after EO item grew by 70%YoY to Rs6.19bn from Rs3.63bn. EO item of Rs497mn was due to the reversal of impairment loss on intangibles in global generics.

Recommendation and key risks: At the CMP of Rs2,660 DRL trades at 19.6x FY14E EPS of Rs133.1 and 17.9x FY15E EPS of Rs148.3 and 15.4x FY16E EPS of Rs173.0. We maintain Buy rating on the scrip with a target price of Rs3,840 based on 23x Dec'15 EPS of Rs166.8 with an upside of 44.4% from CMP. Key risks to our assumptions include slowdown in the US generic market and regulatory risks for its manufacturing facilities catering to global markets.

Source : Equity Bulls

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