Kotak rates Dr Reddy’s Laboratories as ‘Sell’, says US FDA’s Vizag report comes as a jolt

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New Delhi | Updated: March 27, 2017 3:54:40 AM

Our preliminary analysis of the Vizag SEZ 483 indicates that the observations can be viewed as ‘moderate to severe’ in criticality, although we are surprised with multiple repeat observations and continued documentation and datacontrol issues.

there is a reasonable probability of complete resolution of the three facilities slipping to FY2019.

Our preliminary analysis of the Vizag SEZ 483 indicates that the observations can be viewed as ‘moderate to severe’ in criticality, although we are surprised with multiple repeat observations and continued documentation and data control issues. While we see Vizag clearance slipping to FY2019 with the FDA identifying gaps in the global CAPA pertaining to retrospective review for data integrity, we believe there is also a reasonable probability of complete resolution of the three facilities too slipping to FY2019.

How to read the 483?: The FDA has released the contents of the 483 issued to DRRD for its Duvvada, Vizag facility. We do see the observations as moderate to severe in criticality with several observations getting classified as REPEAT by the FDA, one observation pointing to deficiencies in global CAPA implementation and a couple of observations pointing to data integrity and documentation-control issues. Based on our reading, we believe that there is still quite a bit of remediation work that will be required at the facility and one cannot rule out further escalation, although we view it as a low-probability event. With the FDA identifying gaps in the global CAPA pertaining to retrospective review for data-integrity issues, we believe there is a reasonable probability of complete resolution of the three facilities slipping to FY2019.

Disconnect between management commentary and 483: The management has spent a lot of time on the remediation of the three facilities. However, the presence of several repeat observations, as well as potential data integrity-related observations is somewhat disconnected with the management’s confidence on the remediation plan going into the inspection, and not only exposes its bandwidth but will also shift the focus to the capex programme initiated over the past few years that has resulted in cumulative $1 billion capex from FY2011-17e. Following the Vizag inspection, focus is now on Srikakulam inspection. While Srikakulam facility is key for clearance of critical APIs such as Copaxone and Xelgyze, a higher hurdle for DRRD’s Copaxone ANDA is establishing similarity and we do not see an approval likely in CY2017.

Hopes of near-term FDA clearance diminishing—Sell: The Vizag facility is only a marginal contributor to DRRD’s earnings, as most of its key injectable products are manufactured through partner sites such as Cipla or Gland. In the near term, the only critical products that will likely get held up due to potential delays to Vizag are Gleevec, Nitropress and melphalan, apart from smaller products. We cut our FY2018 estimates by ~9% to take into account delays to product launches from Vizag. At current valuations, DRRD trades at 19X FY2019e P/E, in line with frontline peers despite its business model being the closest to a pure-play generic. Sell.

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Details of the 483

Inadequate investigations: The FDA inspectors identified several instances where injectable products were producing out of specification (OOS) results, primarily due to leakage issues in the filling line. However, the FDA was not satisfied with the corrective plan and root-cause analysis implemented to avoid repeat instances. Similarly, despite the implementation of training practices for analysts, the FDA inspectors noted continued multiple OSS results attributable to analyst errors. Several errors were found in batch manufacturing records, and despite the company implementing a practice of collecting trending data for documentation errors, the FDA noted over 1,000 errors across 95 batch manufacturing records over a period of six months.

Visual inspections: Lack of updated visual inspection kits to detect black particles resulted in 18 batches with at least one reject for black particles.

Lack of thorough implementation of global CAPA: As a part of the global corrective action plan, the company was supposed to implement audit trails and also perform retrospective analysis of chromotograms across the three facilities, and while the company has implemented audit trails for chromatograms at the facility, there was not retrospective analysis performed.

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