Aurobindo has high earnings visibility with 25+ product launches (next six months), low product concentration and high approval rate. Superior R&D and manufacturing execution provide confidence in its ability to transition to complex products in the medium term – a necessity for large cap pharma. We expect valuation (16x FY18e PE) discount to the sector to narrow on 21% EPS CAGR over FY16-19E. We initiate at Buy (top large cap pharma pick) and PT of R1,150.
Best placed in near term
We believe Aurobindo is the best placed to overcome the challenges faced by the sector in both the near and medium term. The company has been the most successful under the new FDA rules. It does not face any near-term risks faced by the sector, given (i) low product concentration, (ii) growing injectable portfolio, (iii) clean facility status and, most importantly, (iv) best-in-class quality in filings, leading to high and timely approval rate (c9% of overall ANDA approvals over the past 18 months). Aurobindo is well placed, in our view, to develop a profitable complex portfolio —a necessity for large cap pharma. Its R&D strengths and the ability to generate superior margins despite being a late filer in oral and injectable allays concerns on returns on new investments (complex therapies), unlike peers.
Strong earnings growth and visibility
Over the past three years, Aurobindo has shown superior execution on all key business. This has driven strong earnings growth, allayed concerns on R&D, leverage, profitability and inorganic strategy and reaffirmed its competitive advantage. We expect this trend to continue and the company to report 21% EPS CAGR over FY16-19e, led by US business (23% growth). We expect RoCEs and leverage ratios to improve. Earnings visibility is high with 25-plus launches expected over the next six months (all approved by FDA) and with both the largest ANDA pipeline and timely and highest approval rate among peers.
Aurobindo is trading at 15.6x FY18E P/E (30% discount to the sector). The valuation gap has narrowed over the past three years, led by better earnings growth, improved balance sheet and execution. We expect the discount to narrow further as the company delivers further on its strategy and delivers strong growth and RoCEs along with reducing leverage. We initiate at buy. Our PT of R1,150 values the company at 21.5x FY18e P/E, in line with the sector. Risks: delay in approvals and slower improvement in EU business.Expect 21% EPS CAGR over FY16-19e
We expect Aurobindo to report 21% EPS CAGR over FY16-19e, led by 15% top-line growth and margin improvement of 240bps. We expect its US business to grow at 23% CAGR and remain the key growth driver. We expect injectable revenues to triple over FY16-19, led by new launches and market share gains in recent ones. We expect the other business growth to be moderate at mid to high, single-digit levels. We expect margin improvement to be largely driven by improvement in mix and better EU margins, partly offset by higher R&D spend. We expect the leverage ratio to improve post FY17 as capex reduces to c$100 million annually post FY17. We expect RoCEs to improve to 30%, from 22% currently.