As our US Healthcare analysts believe, a Trump victory and a clean sweep by Republicans (GOP) in Legislative houses is a positive scenario for the US Pharma sector as there is likely to be lower focus on drug pricing. Although Trump has on occasion suggested support for some price control measures, they have not appeared in his formal healthcare plan. As a result, we think there are now likely to be limited legislative actions that affect pricing. While Trump has expressed an intention to repeal the Affordable Care Act (Obamacare) and replace it with an alternative, we would view this as broadly neutral for Pharma. With major election overhang out of the way, we believe investors should now shift focus back to fundamentals.
Structural issues will likely continue to impact pricing
However, in our view structural issues such as channel consolidation in the US and faster pace of FDA approvals will likely continue affecting generic pricing. As a result, from an earlier expectation of mid-single-digit price erosion, we now believe most Indian Pharma companies are likely to see early double-digit price erosion in their base businesses along with some volume gains (i.e. net impact of 7-8%).
Market not factoring full gains from regulatory resolution
While the market seems to be building all the potential downside from pricing pressure in the US, in our view, the potential upside from the slew of approvals post the resolution of regulatory concerns at key manufacturing facilities is yet to be factored in by the market. We believe resolution of Lupin’s Goa plant, Sun Pharma’s Halol/Mohali plants, Dr Reddy’s Srikakulam plant and Cadila’s Moraiya plant could trigger stronger growth in profits on the back of a ramp-up in new launches in the US market.
Upgrade Sun Pharma to Buy on compelling valuations
We upgrade Sun Pharma (SUNP) from Neutral to Buy as we believe stock’s current valuations are over-exaggerating the likely downside from US generic price deflation and potential DoJ penalty on alleged collusion. The stock has corrected 21% over the past three months and 12% in the last one month, largely on the back of adverse news flow in the US. As per our forecast, the stock is currently trading at 20x one year forward P/E multiple which is nearly 0.6 SD below the 5-yr historical average. We cut our estimates by 2% each over FY18-19e to factor higher price erosion in the US base business. We also lower our triangulated PO based on revised estimates as well as marginally lower assigned P/E multiple of 21x (vs. 22x earlier) to R790.
Upgrade Glenmark to Buy as risk-reward now looks favourable
We upgrade Glenmark (GNP) to Buy as we believe company’s strong growth prospects (23% core EPS CAGR) along with likely improvement in balance sheet (leverage declining to 0.3x in FY19E vs. 1.2x in H1FY17) do not warrant the current 10% discount in comparison to historical average. We also highlight that given its smaller base in the US ($350 mn) GNP is in a relatively better position to more than compensate for the base price erosion through newer launches than larger peers. We expect the stock to rerate on the back of improvement in balance sheet, and accordingly raise our triangulated PO to R1,060 now based on higher assigned P/E of 20x (vs. 19x earlier), in line with sector.