Pharmaceutical Sector In Robust Health
Special Feature on PHARMA SECTOR
The pharmaceutical sector is very important for the Indian economy. Not only does it generate export revenues but it also gives India the distinct advantage of being a global leader in a field that serves humanity. This sector, since the advent of the current pandemic, has been continuously in the limelight. In fact, the sector has seen re-rating since March 2020 and the kind of wealth creation that has happened on the bourses in this sector is mindboggling. No wonder the sector has produced more multibaggers than most other industries thriving in India in the last one year. Shreya Chaware discusses at length the opportunities that lie ahead for the sector while also throwing light on some of the top performing pharmaceutical companies in India.
According to a report by India Ratings and Research, during May 2021 volumes in the sector grew 31.5 per cent YoY while price growth was seen of about 7 per cent and product launches increased by further 9.3 per cent, attributed to acute therapy products.
India is considered to be the largest provider of generic drugs globally. The Indian pharmaceutical sector supplies over 50 per cent of the global demand for various vaccines, 40 per cent of generic demand in the US and around 25 per cent of all medicine demand in the UK. Globally, India ranks 3rd in terms of pharmaceutical production by volume and 14th by value. The domestic pharmaceutical industry includes a network of 3,000 drug companies and around 10,500 manufacturing units. While the first wave of the corona virus surely brought the sector into the limelight, the second wave gave a further boost to the pharmaceutical sector. Additionally, vaccine rollouts have already been positive news for the sector.
According to a report by India Ratings and Research, during May 2021 volumes in the sector grew 31.5 per cent YoY while price growth was seen of about 7 per cent and product launches increased by further 9.3 per cent, attributed to acute therapy products. Further, the market is estimated to grow by around 8-10 per cent YoY in size during FY22. For May 2021, acute therapies such as anti-infective, analgesic and vitamins witnessed sales growth of 141.19 per cent YoY, 50.3 per cent YoY and 59.8 per cent YoY, respectively, while gastro grew 47.7 per cent YoY. It is believed that acute therapies, namely, anti-infective, analgesics and vitamins benefited significantly due to the second wave of the corona virus as these therapies have a direct or indirect role in the treatment of patients.
While businesses were affected by the pandemic, the pharmaceutical sector stood strong during such tough times. To ease any kind of burden on the sector, the Indian government has constantly been supporting the domestic pharmaceutical sector’s growth. The government has also previously approved a production-linked incentive (PLI) scheme for the pharmaceutical sector, entailing an outlay of Rs 15,000 crore. Besides, it has also approved a total of 33 applications with a committed investment of Rs 5,082.65 crore under a separate PLI scheme for active pharmaceutical ingredients (APIs).
Ample Catalysts to Sustain Luster
We see several growth catalysts across key markets and product categories (inhalers, biosimilars, complex injectables) playing out over the next 2-3 years for Indian pharma companies. The investments made over the last few years leave them well placed to capitalise on these opportunities. With cost bases pruned and operating leverage benefits, the sector is poised to grow at ~21% earnings CAGR and witness ROCE improvement of 430bps to 15% over FY20- 23e. This, coupled with strong balance sheets (near debt-free), should support valuations, in our view.
✓India biz remains attractive; chronic leads, vitamins strength could sustain: While chronic therapies continue to lead , we see Vitamins as a promising therapy that could sustain higher growth, led by Covid induced changes in nutrition awareness and habits. The recovery in acute therapies will further consolidate market share gains for companies with strong therapeutic presence and leading brands.
✓Progress on complex pipeline in US augurs well for growth and profitability: The share of injectables, specialty, biosimilars, and complex products in US revenues is expected to increase from ~22% in FY20 to ~33% in FY23e, for our covered universe. Improving quality of pipeline in the US will not only ensure that the growth rates hold up better but will also drive higher profitability.
✓API business sees the turn of fortunes, PLI benefits a few years away: The strong performance in 1HFY21 (21% YoY for the covered universe) was driven by factors such as customer stocking, pricing/currency benefits, which have largely normalised. However, the broader demand environment remains strong, driven by structural tailwinds (supply chain de-risk, PLI scheme), and is likely to drive healthy growth over the next few years. PLI scheme benefits are a few years away and will majorly benefit MSME players.
✓Covid vaccine monetisation offers upside potential, not factored in estimates: Vaccine monetisation can add material cash flows, although upsides will be for limited period and contingent on several variables (pricing, competition, capacity). We see three possible ways of monetising with varying degree of lucrativeness: a) develop/ manufacture own vaccine; b) undertake third party manufacturing; c) distribute vaccines.
✓Cost savings, moderating investments to drive return ratios higher: Investments in R&D/capex have peaked and are likely to be more targeted towards complex filings/capabilities going forward. With cost bases rationalised, operating leverage benefits will drive margin expansion of ~350bps over FY20- 23e. We expect sector RoCE to improve by 430bps to ~15% in the same period.
Digitalisation was a huge step in the pharmaceutical industry. Many companies had to digitalise several processes rapidly, considering the urgent requirement to scale up manufacturing capabilities, optimise the supply chain and ensure the rejection rate remains low. This exposed the sector to risks and vulnerabilities. The sector has been a victim of several cyber attacks at times. A report by IBM indicated that pharmaceutical and biotech companies were most exposed to breaches than any other companies. While the race to develop the vaccine for corona virus first began, several companies were attacked, thus identifying data and connectivity security as a key point in overall growth goals.
Hence, various pharmaceutical companies not only considered traditional skill-sets but also skills in IT, AI, cyber security and allied skills while recruiting. The boost in the sector also pushed for increase in recruitment during the calendar year 2020 as well as early 2021. Another big trend that rode high on the pandemic wave is e-pharmaceuticals. While many were forced to stay athomes, e-pharmacies became a hotspot. Increase in internet penetration and smart phone ownership, along with the ease of ordering medications through e-commerce platforms and an increase in chronic diseases are some of the key growth drivers for online pharmaceuticals. A large number of players in the industry seem to jumping into the digital space with even well-known names such as Apollo Pharmacy and Amazon diving in.
Some of the leading players in the e-pharmaceutical space include 1mg, Netmeds, Pharmeasy and Medlife while new entrants have constantly been knocking doors. E-pharmacies have been the best choice for the chronic medications’ market which is expected to further scale up in collaboration with local pharmacies as well. In all this excitement, shares of pharmaceutical companies have seen a strong rally. Many big and small players in the pharmaceutical space have enjoyed positive returns in the time period post corona virus as investors continue to remain optimistic about the sector.
Nifty Pharma at all-time highs!
Nifty Pharma Index inched up by 11.25 per cent on YTD basis while in one year the index was up by nearly 45 per cent. Cadila Healthcare carrying a weightage of 4.46 per cent in the Nifty Pharma Index was the top index gainer in 2021, recording gains of 39.32 per cent followed by Lupin which was up by 22.77 per cent and carrying an index weightage of 8.27 per cent. Sun Pharma was up by 14.25 per cent, Dr Reddy’s Lab gained 4.17 per cent and Divis’s Lab strengthened by nearly 13 per cent. These three stocks carry the maximum weightage in the Nifty Pharma Index. Biocon was the worst performing stock of 2021 from the Nifty Pharma Index constituent list. Biocon is down by nearly 11 per cent on YTD basis. Out of the 10 constituents of Nifty Pharma, almost 7 index constituents are either trading at fresh all-time highs or are at kissing distance of their fresh all-time highs. Dr Reddy's, Divis’ Lab, Cipla, Cadila Healthcare, Torrent Pharma and Alkem lab are the seven index constituents trading at or close to their all-time highs.
Going forward as well the pharmaceutical sector is expected to witness strong growth. As per data by Maersk, which is a container logistic company, among the refrigerated cargo, pharmaceuticals’ export out of India jumped sharply during 2020 with Q4 alone recording a jump of 47 per cent compared to the same period in 2019. One of the major focus points for domestic pharmaceutical companies is becoming self-reliant and self-sufficient in terms of APIs to reduce its dependency on China. While globally economies and companies are looking towards de-risking their exposure to the Chinese supply chain, the Indian pharmaceutical sector has a good opportunity to boost its market share since Indian companies offer a competitive advantage over others given their long history of supplying APIs and formulations, better quality and regulatory compliance along with better supply reliability.