Natco Pharma: Health begins at home

Strength in the domestic market has held the company in good stead

Many Indian pharmaceutical companies have been on the back foot over the last couple of years — caught in regulatory tangles and squeezed by pricing pressure in the key markets.

Companies focussing on the US market have been hit hard and their earnings have declined. These factors kept investors away from such stocks, resulting in a significant fall in their share prices.

While the near-term outlook for the US-focused companies seem gloomy, companies which have a strong domestic presence, apart from a growing US business, with a focus on high-margin, complex generics, are likely to do well, going forward.

Natco Pharma is one such company. A strong domestic presence, a growing US pipeline —especially in complex generics, which have a high entry barrier — and strong position in the oncology segment are positives.

Outlook

The stock now trades at ₹799, down 25 per cent from its June 2017 high. Concerns about near-term visibility due to loss of exclusivity in Tamiflu generic sales in the US, delay in the Copaxone generic launch (used in treatment of multiple sclerosis) and weak market sentiment towards pharma stocks, seem to have taken a toll. The stock now trades at 26 times trailing 12-month earnings, at an almost 48 per cent discount to its three-year average of 55 times.

Over the long term, the prospects of the company look robust, given its launches in complex therapies, increasing presence in Hepatitis-C combinations, geographical expansion in emerging markets and foray into the fast-growing cardio-diabetology division in the domestic market.

Investors with a long-term perspective can consider buying the stock. Natco Pharma is a mid-sized company with diversified businesses across India, US and Rest of the World.

The domestic formulation business accounted for 42 per cent of the company’s revenue, while international formulation contributed 40 per cent, and APIaround 9 per cent.

Business strategy

The company focuses on products that are difficult to formulate and manufacture, and are facing complex legal and regulatory challenges.

The strategy of partnering with global generics players such as Mylan, Breckenridge, Actavis and Lupin for international formulations has helped it expand in the US market and de-risk the regulatory challenges. The company has tie-ups at various levels including in different stages of a potential ANDA (Abbreviated New Drug Application) filing, de-risking litigation and regulatory process to secure the ANDA approval, and for profit sharing.

Growing domestic portfolio

Natco Pharma has a leadership position in the domestic oncology and gastro-hepatology segments. The company has registered very strong growth over the last three years in domestic formulation sales; 67 per cent compounded annualised growth rate (CAGR) to ₹881 crore in FY 2017 from ₹198 crore seen in FY 2014.

The oncology portfolio, used in the treatment of various cancers, contributes one-third to Natco’s top line. The company has a strong presence in the oncology segment with the portfolio of 28 products covering a fourth of the domestic market. While the domestic oncology market grew by 13-14 per cent in the last three years, Natco’s oncology business grew by 27 per cent CAGR, aided by strong legacy brands and effective distribution channels. The growth prospect in this segment looks robust, given the company’s growing presence and limited competition.

Natco entered into the Hepatitis C segment in early 2015 after obtaining royalty based non-exclusive licensing agreement from Gilead Sciences to manufacture and market Hepatitis C medicines (Sofosbuvir and combination drug Sofosbuvir+Ledipasvir, and Daclatasvir) in India and other 100 developing countries.

In the last two years, the company has become a market leader by acquiring significant share in the domestic Hepatitis C market. As per the current WHO guidelines, sofosbuvir and sofosbuvir/ledipasvir compounds are the preferred regimens for the treatment of Hepatitis C; these drugs account for almost three-fourths of the domestic market. Natco enjoys currently 40-60 per cent domestic market share in these key compounds.

With a high prevalence of Hepatitis C cases in developing regions, the company stands to benefit by selling Gilead’s products in the licensed 101 countries. As of August 2017, Natco has filed for registration in 23 countries and received import permits in nine countries.

Besides, eyeing high-value sub-therapies with large market size, the company has launched its cardiology and diabetology division in early 2017 to expand its domestic business. The company plans to create 4-5 major brands in this segment which will likely aid revenue a few years down the line.

The US market presents significant opportunity for the company with a pipeline in niche, high-potential complex generics.

As of August 2017, the company holds 43 niche ANDA filings including 20 of Para-IV filings, of which 22 have been approved.

Strong US pipeline

Partnering with Alvogen, the company launched Tamiflu generic (used in treatment of flu) with 75 days exclusivity in the US in December 2017.

This contributed around one-third of the revenue in FY 2017. With the expiration of Tamiflu’s final patents in February 2017, the company is likely to witness erosion in the drug price, going forward.

However, the upcoming launches in complex generics such as Copaxone 20mg and 40mg (used in treatment of multiple sclerosis), Tracleer (hypertension), Revlimid (multiple myeloma), and Vidaza (myelodysplastic syndrome) should aid the company’s growth in the near term. However, timely approval for these drugs is important .

Compared with peers, Natco’s US portfolio is likely to face relatively lower price risk, given the complexity of its product portfolio and limited competition.

Currently, unlike several peers, none of the company’s facilities is under the regulatory scanner; this is a key positive.

Financials

The company’s consolidated revenue has grown at 40 per cent CAGRover the last three years to ₹2,079 crore in FY 2017.

Its consolidated net profit grew faster at about 68 per cent CAGR during this period to ₹486 crore. In the first quarter of 2017-18, revenue grew by 30 per cent, while profit expanded 97 per cent year-on-year aided by Tamiflu sales.

Operating margin was 34 per cent in FY 2017, improving substantially from 25 per cent seen in FY 2016. Operating margin for the first quarter 2017-18 came in at 30.7 per cent, higher by 800 basis points year-on-year.

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