Pharmaceutical companies under our coverage on a cumulative basis are expected to report a 12.3% increase in revenues for Q1FY2010, which suggests revival in demand. The expected revenue growth in Q1FY2010 is higher than that in the previous quarter due to ramp-up in the domestic market (the domestic market growth accelerated to ~12-14% in Q4FY2009 as compared to ~10-11% in the preceding quarter). The domestic growth rate is healthy and is likely to be maintained in FY2010 on the back of introduction of new products, line extensions, increase in consumption of lifestyle drugs and in-licensing deals. Emerging markets (Russia and Latin America) are likely to be the key revenue drivers leading the growth story for Indian pharmaceutical industry. We expect increased scrutiny (Sun Pharmaceutical Industries [Sun Pharma] and Lupin) and business erosion (due to waning of exclusivities for Sun Pharma and Glenmark Pharmaceuticals [Glenmark]) in the US markets to put pressure on the earnings of these companies.
The operating profit margin (OPM) of the companies under our coverage continue to moderate year on year (yoy). Interestingly the same is however expected to pick up over the quarter, revealing signs of easing cost and macro pressures. The OPM is expected to shrink by 529 basis points, largely driven by reduction in the margin of Sun Pharma (which had recorded very high margin due to Oxcarbazepine, Pantoprazole and Ethyol exclusivities), Glenmark (due to increased R&D costs and declining other income along with increasing pricing pressures of Oxcarbazepine) and Orchid Chemicals & Pharmaceuticals (Orchid Chemicals; due to absence of significant product launches). Rising staff cost, higher raw material prices and other expenditure would cause margin pressure on Lupin and Torrent Pharmaceuticals. On the other hand, we expect companies like Piramal Healthcare (Piramal; cost savings from the closure of Huddersfield facility) and Cadila Healthcare ( Cadila; due to reduced other expenditure) to witness a healthy margin expansion in Q1FY2010.
With revival in revenue growth and moderating operating performance, the reported net profit of the companies under our coverage would decline by 7.5%. This would be on account of pressure on the operating performance and ~5.3% appreciation in the Indian Rupee against the US Dollar. The sequential appreciation in the rupee would positively impact the translation gains on foreign liabilities (for companies like Orchid Chemicals, Piramal, Cadila and Ipca Laboratories [Ipca], which have outstanding forex liabilities) but would negatively impact the foreign receivables position for most companies. Further, with the adoption of AS-11 accounting norms companies like Piramal, Orchid and Cadila will now record their marked to market (MTM) forex losses or gains as their long-term liabilities in their balance sheet. Higher interest and depreciation costs (due to acquisitions and/or expansion of capacities) would also affect the reported profit in the case of Glenmark, Orchid, Ipca and Opto. Business erosion (due to waning of exclusivities in case of Sun Pharma and pricing pressure of Oxcarbazepine on Glenmark) would also limit the net profit growth of these companies. On excluding the forex impact, we believe the adjusted net profit of the companies under our coverage to decline by ~16.5% in the quarter.
The mid-term growth prospects of Indian pharmaceutical companies are intact, following the increase in exports of generic products, a healthy growth rate of around 13% in the domestic market and the scale-up of contract research and manufacturing services (CRAMS) by the Indian companies. Moreover, the opening of generic market in Japan is likely to benefit Indian pharmaceutical companies. However the increased US FDA scrutiny would continue to weigh the performance down. Our top picks include Lupin and Opto, which are expected to deliver a strong top line and bottom line growth.
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