Sun Pharmaceutical Industries Ltd’s Q4FY15 results underwhelmed, sharply missing estimates across the board as US, India and EMs (emerging markets) dragged revenues down 11% quarter-on-quarter. Ex-Taro, the company reported an Ebitda loss in Q4FY15, reflecting in part acquisition-related costs in the quarter. We expect margins to gradually return to pro-forma levels, but see challenges to revenue growth with the Halol facility remediation remaining key for US revival. We cut our FY16/17 estimates by 15.4 and 1.8% and maintain Sell.
Multiple pressure points emerge: Q4FY15 represented the first quarterly earnings release for Sun Pharma after the completion of its Ranbaxy acquisition. Unfortunately, not all was smooth as the company delivered a massive miss, with sales declining 11% q-o-q as US declined by $65m despite strong performance by Taro. This suggests significant erosion in Sun’s base portfolio, which the management attributed to a disruption in supplies due to Halol remediation as well as pricing pressure on key products.
Domestic business unexpectedly delivered a 10% q-o-q dip due to channel adjustments, while EMs contracted by 24% q-o-q, driven in part by cross currency exposure (Russia/CIS, Euro) and by lumpy tenders business in Africa. Against an expected pro-forma Ebitda margin of 32-34%, Sun’s Ebitda (earnings before interest, taxes, depreciation and amortisation) margins slipped to 14.5% and 29.4% for Q4FY15 and FY15 respectively, and ex-Taro, Sun posted an Ebitda loss for Q4FY15. The management had guided for 10% and 2% Ebitda margin impact for Q4FY15 and FY15, respectively, from acquisition-related costs as well as charges associated with the Halol remediation. A tax credit of R6 bn helped to salvage R4.3/share EPS (earnings per share), sharply lower than our standalone EPS estimate of R7.2/share.
Halol remediation critical: According to the management, a bulk of the sharp q-o-q erosion in US revenues is due to disruptions emerging from remediation of Halol facility, which was also possibly the reason for delays in the Abilify approval. We do not expect full clearance before H2FY15, thereby resulting in substantial loss of market share and launch opportunities in FY16. Given the evident competitive pressures on various key products such as Doxil, Cardizem CD and Sumatriptan auto-inj., the new approval pipeline is now critical for revival of US sales, and we find little to comfort us given our assessment of a weak US pipeline for Sun Pharma for FY16.
Slowing organic growth profile: Our estimates suggest a marked slowdown in Sun’s revenue growth profile, which we see as critical for share price performance. Sun Pharma trades at 27x FY17e P/E (price-to-earnings multiple), at a 20% premium to the sector. However, ex-Taro, Sun Pharma trades at 28xFY17e P/E, which is stretched, given the Gleevec contribution in FY16/17 and a slowing organic growth profile.
J&J Doxil volumes return to >50% of pre-shortage levels: J&J has been consistently releasing limited quantities of Doxil in the market on a batch-by-batch approval basis from the FDA. Since the start of H2CY14, J&J has been increasing supplies of Doxil, which accelerated in Q4CY14, particularly in December 2014, when volumes crossed 70% of pre-shortage levels, implying that the company is back in the market. Since then, J&J’s Doxil volumes have remained at 50-55% of its pre-shortage levels.
Sun still has five months of Doxil inventories in the US, pointing to stiff competition. This may be a blip, given the disproportionate contribution of Doxil to Sun Pharma’s profitability ($180m sales in FY14), but if the trend persists, it will pressure on Sun’s FY16/17 US growth and margins.
New launch pipeline is critical for US growth: Sun’s ex-Taro pipeline has witnessed a marked slowdown and given its increasing base, new approvals are critical for driving growth. We do not see major product surprises from Sun’s pipeline for the next 12 months.