Glenmark Pharmaceuticals: A healthy bet

Indian pharma companies, caught in regulatory tangles and squeezed by pricing pressure in key markets, have been facing tough times of late. In particular, companies focussing on the US market have been hit hard. Such concerns have turned investors away from pharma stocks. But the steep correction in stock prices offers a good buying opportunity for investors with a long two to three-year time horizon in pharma companies with good growth prospects.

The stock of Glenmark Pharmaceuticals has corrected 33 per cent in the past one year and is currently attractively valued for investors wanting to take a long-term bet on the sector. At the current price of ₹592, the stock trades at 17 times its trailing 12-month earnings — a discount of around 54 per cent to its three-year historical price-to-earnings average of 36 times.

While near-term risks to earnings persist, the company’s growth prospects over the long run look sound given its prudent geographical mix, focus towards low-risk complex generics and speciality products, and possible pay-offs from its R&D efforts.

The stock of Glenmark Pharma took a beating in the past year, due to lower-than-expected sales from the generic drug Zetia and pricing pressure in the US. In December 2016, Glenmark had commenced sale of the generic version of cholesterol lowering drug Zetia with 180-days exclusivity marketing rights in the US. However, the sales volume from Zetia was below expectation.

Glenmark’s US business, which accounts for about 44 per cent of the company’s revenue (as on September 2017), has been contracting in the past few quarters due to price erosion in its base business caused by channel consolidation and increased competition. The company has reported a sharp sequential decline of 19 and 30 per cent in the June and September quarters, respectively, in its US business.

Glenmark’s US formulations business is likely to remain under pressure in the near term due to tough pricing environment and lack of meaningful high-value launches. Price erosion in the past few quarters was around 15 per cent. The management expects overall price erosion in its base business to be 10-15 per cent for FY18.

While near-term pressure exist, over the medium term, the company’s US formulations business is expected to grow on the back of new launches, including first-to-file (FTF) opportunities. As on September 2017, the company’s US portfolio consists of 126 generic products. It has 61 applications pending in various stages of the approval process with the US FDA, of which 28 are Paragraph IV applications (exclusivity) in key therapies — dermatology, oncology and respiratory. The company expects to introduce 10-15 products in FY18, including two to three niche derma launches. The company plans to file newer products in complex oral solids, oncology and injectables, which should provide a leg-up to the company’s revenue from FY19 onwards.

R&D efforts of the company in new molecule discovery, failed to pay off in the past (during 2008-10). This led to piling up of huge debt in its balance sheet. Subsequently, the company moved its focus also towards the generics business, especially in the US and Europe. This helped the company improve its performance. The company has been following a strategy of out-licensing research-staged molecules to MNCs. It has so far signed seven out-licensing deals and booked around $200 million as upfront payment. However, none of them have yet been monetised.

Glenmark is a leading player in the discovery of new molecules, both NCEs (new chemical entities) and NBEs (new biological entities). The company has several molecules in various stages of clinical development and is primarily focused on inflammation (asthma/COPD, rheumatoid arthritis, etc), pain (neuropathic pain and inflammatory pain) and metabolic disorders (diabetes, obesity, etc).

Glenmark is one among the three (other than Biocon and Sun Pharma) players developing novel biologics in the Indian market. Glenmark’s GBR-830, a novel biologic for atorpic dermatitis, with an estimated market size of $8-9 billion, completed Phase 2a trials, and is now looking for an out-licensing opportunity with a global partner. Any out-licensing deal will be positive for the company, which would help in paring its debt.

The management has guided the R&D expenses to remain in the levels of 12 per cent in the total revenue in FY18 (₹1,089 crore or 12 per cent of total sales in FY 17) and in the 11-13 per cent range in FY19 and FY20.

Glenmark has piled up huge debt given its R&D driven business model. The company’s total debt rose from ₹2,244 crore in FY 12 to ₹4,724 crore in FY 17. The company’s net debt stood at ₹3,667 crore in March 2017, translating into net debt to equity of over 0.7 times. The company expects debt level to come down as cash flows improve on the back of more launches and out-licensing opportunities.

The company’s domestic formulation sales (accounts for 26 per cent of sales) grew 10 per cent y-o-y for the six months ended September 2017 and is expected to sustain healthy double-digit growth. In the last five years, Glenmark’s domestic revenue grew at an annualised rate of over 20 per cent. Among therapies, it ranks first in dermatology, fifth in respiratory and seventh in cardiology.

The company is also gradually gaining scale in emerging markets such as Brazil, Mexico, Russia and Eastern European countries. The company is looking to launch differentiated products with limited competition in these markets.

The company reported a consolidated revenue of ₹9,186 crore and consolidated net profit of about ₹1,108 crore in 2016-17, recording growth of 20 per cent and 60 per cent y-o-y, respectively.

During the September quarter ended 2017-18, the consolidated net sales grew by a muted 1.5 per cent y-o-y to ₹2,257 crore, while the consolidated adjusted net profit dropped by 4 per cent to ₹214 crore. Lower-than-expected sales of Zetia and pricing pressure in key drugs in the US hurt the company’s performance in the September quarter. Operating margin narrowed to 17 per cent during the quarter, from 20 per cent in the same quarter last year.

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