2012-05-18 500124=in (indianivesh s) initiating coverage dr reddy's laboratories

7/29/2019 2012-05-18 500124=in (IndiaNivesh S) Initiating Coverage Dr Reddy's Laboratories

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60.0070.0080.0090.00

100.00110.00120.00

DrReddy Sensex

IndiaNivesh Research IndiaNivesh Securities Private Limited601 & 602, Sukh Sagar, N. S. Patkar Marg, Girgaum Chowpatty, Mumbai 400 007. Tel: (022) 66188800

Initiating CoverageMay 18, 2012

Dr Reddy's Laboratories Ltd.

CMP : Rs.1,660Reco : BUY

Target : Rs.1,983

STOCK INFO

BSE 500124

NSE DRREDDY

Bloomberg DRRD IN

Reuters REDY.BO

Sector Pharmaceutical

Face Value (Rs) 5

Equity Capital (Rs mn) 848Mkt Cap (Rs mn) 281,470

52w H/L (Rs) 1818/1387

Avg Daily Vol (BSE+NSE) 106,927

SHAREHOLDING PATTERN %

(as on 31st Mar. 2012)

Promoters 25.61

FIIs 27.42

DIIs 13.43

Public & Others 33.54

Source: Company, BSE

STOCK PERFORMANCE (%) 1m 3m 12m

DR REDDY -8.1 1.8 4.7SENSEX -8.2 -12.1 -11.1

DR REDDY v/s SENSEX

Source: Capitaline, IndiaNivesh Research


Monetizing off-patents well, to monetize on bio-similars going forward

IndiaNivesh Research is also available on Bloomberg INNS, Thomson First Call, Reuters and Factiva INDNIV.

Consolidated Financial StatementsRs. mn. Sales EBITDA EBITDA % PAT EPS (Rs) ROE % P/E(x) EV/EBITDA(x) P/BV(x) Div Yield %

FY11 74,233 14,796 19.9 9,989 59.0 29.3 21.1 18.5 3.9 3.2

FY12 96,737 23,502 24.3 14,379 71.9 35.9 23.1 12.6 3.2 1.0

FY13e 110,301 25,305 22.9 15,385 85.7 31.1 19.4 11.4 2.9 1.1FY14e 124,256 27,441 22.1 16,525 95.9 27.7 17.3 10.2 2.8 1.1

Source: Company Filings; IndiaNivesh Research

Daljeet S. Kohli

Head of Research

Mobile: +91 77383 93371, 99205 94087

Tel: +91 22 [email protected]

Bhagwan Singh Chaudhary

Research Associate

Mobile: +91 77383 93427Tel: +91 22 [email protected]

Dr Reddys Laboratories Ltd (DRL) is fully integrated pharmaceutical company. Established in1984, it manufactures & markets generic formulations and APIs to various countries worldwide,

including key regulated markets like North America, Germany, UK & Italy. It has leadershipposition in Russia, Venezuela & domestic markets. It operates under three segments a) Globalgenerics (~70%) b) PSAI (~28%) c) Proprietary business (2%).

Investment Rationale

Formidable position In North America would help in garnering the benefit of ongoing off patents:North American business contributed 37.4% of Dr Reddys Labs (DRL) total revenue and reportedrobust growth of 55.5% y-o-y to pos t revenue of Rs 36.16 billion in FY12. Of this, Global GenericBusiness reported revenue growth of ~68% y-o-y to post revenue of Rs 31.89 billion on the back ofmonetization of key FTFs (First to File) opportunities, new launches & increase in market share forexistence products. DRL has strong pipeline of 80 ANDAs awaiting approval from USFDA , of this41 are Para IV including 7 FTFs (First to File). Approximately $28 billion drugs are estimated to gooff patent in US alone in 2012, of which Dr Reddy addresses ~$ 17 billion market size.

Likely to catch up industry growth in monopolistic domestic market: We expect domestic business

to grow inline with industry growth rate of 15% CAGR over FY12-14E on the back of new launches,ramp up in bio-similars portfolio & improvement in productivity. During the year, companylaunched 23 new products in domestic market and expected to launch ~25 products in FY13E &FY14E also.

Bio-similars to be huge opportunity: DRL has portfolio of 4 bio-similar drugs, which contributed~$30 million in FY12. Of this, major contribution was from domestic market only. Company haslaunched 2 bio-similars (Filgrastim & Rituximab) in 6-7 emerging countries & 4 bio-similars indomestic market. Further, DRL is focusing to increase its bio-similars portfolio in emerging countriesparticularly in South Africa & Middle East regions and it has filed 4 products across the 16 emergingcountries. Management expects bio-similars to contribute ~$100 million annually from emergingmarkets by the end of FY15E from current level of $30 million in FY12; hence growth translates at48% CAGR over FY12-FY14E.

Russian market to remain key driver: Russian & CIS markets grew at 23% y-o-y and contributedsignificantly ~14% (Rs 1.10 billion) of DRLs total revenue in FY12 (of this, ~85% from Russia & ~15%CIS). We expect this business to grow at 19.5% CAGR over FY12-14E to report revenue of Rs 18.7

billion (~$380 million) by the end of FY14E. Revenue drivers are likely to be initiatives taken byRussian government to invest up to ~Euro 11 billion in public health and qualitative pharmaceuticaltreatment during 2011-14, increasing personal income, healthcare expenditure and lifestylediseases.

Increasing focus in African and other emerging markets: We expect ROW business to report 20%CAGR over FY12-FY14E on account of stabilization in VEB (Venezuela Currency) from here onwards,increase in penetration to other countries & new launches. Other than South Africa, DRL launchedfew products in Australian market and now focusing more towards other emerging marketsincluding New Zealand, Jamaica, Brazil & Sri Lanka. Company has a deal of out licensing up to 100products to GSK to supply in Africa, Middle East, Latin America & Asia Pacific regions excludingIndia. Currently this deal is contributing ~$ 10 million of total revenue to DRL.

Margins are expected to stabilize at same level: We are of the view that increases in contributionfrom North America & Russia, change in product mix including increasing share of bio-similars indomestic & emerging markets would improve the gross margins of core business. However,increasing R&D cost associated with research for complex generic products & bio-similars andincrease in SG&A charges linked with higher marketing & advertising charges in Russia may offsetbenefit at operating levels.

Valuations

At CMP of Rs 1,660, the stock is trading at PE 19.4x of FY13E & 17.3x of FY14E. Relative to averagetrading forward PE of 20x, currently the stock is available at 17.3x, which looks attractive. Weinitiate coverage on the stock and recommend BUY with the target price of Rs 1,983, valuing atSOTP basis, assigning 20x to FY14E earnings estimates (Rs 1,953) & Rs 30 to potential Para IVopportunities.


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IndiaNivesh Research May 18, 2012 | 2

Initiating Coverage | Dr Reddy's Laboratories Ltd. Monetizing off-patents well, to monetize on bio-similars going forward

27,630

6,635

12,414

9,341

-

5,000

10,000

15,000

20,000

25,000

30,000

2012 2013 2014 2015

in $ Mn

Investment Rationale

Formidable position in North America would help ingarnering the benefit of ongoing off patent:North American business contributed 37.4% of Dr Reddys Labs (DRL) total revenueand reported robust growth of 55.5% y-o-y to post revenue of Rs 36.16 billion inFY12. Of this, Global Generic Business reported revenue growth of ~68% y-o-y topost revenue of Rs 31.89 billion on the back of monetization of key FTFs (First to

File) opportunities, new launches & increase in market share for existence products.North American PSAI business also grew 34.8% y-o-y to Rs 4.27 billion. We expectDRLs North American Global generics business to report revenue CAGR of 18%over FY12-14E primarily on the back of strong products pipeline including Plavix,Singuliar, Lipitor & gain in market share for key products like Fondaparinux,Olanzapine & recently launched Ziprasidone & Quetiapine. DRL has strong pipeline

of 80 ANDAs awaiting approval from USFDA , of this 41 are Para IV including 7 FTFs(First to File).

Approximately $28 billion drugs are estimated to go off patent in US alone in 2012,

of which Dr Reddy addresses ~$ 17 billion market size.

Drugs value going off patent in US

Source: Medco; IndiaNivesh Research

Hence, assuming conservatively 7% effective price (after 93% price erosion) & 10%market share for DRL, these products are likely to generate incremental revenue of~Rs 6 billion in FY13. In the year 2013 pipeline of patent expiry is drying up

substantially, hence we believe growth momentum to slow down to 15-16% in FY14Eand incremental revenue will come from increase in market share of existingproducts. Also, management is confident to maintain the growth momentum in

FY14E and onwards on the back of launch of key complex molecules with lowcompetition similar to earlier launched Fondaparinux in Sep 2011.

DRLs key products pipeline:Drug Name Category Brand Company Market Size Parent

($ Mn) Expiry date Comment

1 Olanzapine Schizophrenia Zyprexa Eli-l illy 1300 23-Oct-11 Launched with Teva, by shareing exclusivity for 20 mg strength only in Oct 2011

2 Fenofibrate anti hypertensive Tri-cor Abbott 1350 May-14 Teva forgone exclusivity while Dr Reddy settled the product,

launch may be in FY15

3 Desloratadine Anti-al lergic Clarinex Schering-Plogh 249 Dec-14 Company has tentative approval on the product, cuurently in the process of

settling down the product, not significant due to multiple filers

4 Ziprasidone Schizophrenia Geodon Pfizer 873 Mar-12 Share exclusivity of Dr Reddy & Lupin, launched in early March 2012

5 Quetiapine Bipolar Disorder Seroquel Astra Zeneca 3117 Mar-12 Launched at the end of March 2012 along with 8 other generic players

6 Atorvastatin Anti-Cholesterol Lipitor Pfizer 5000 Nov-11 Ranbaxy is FTF and launched with AG Watson. Mylan and Teva are likey

to enter in by the end of May 2012, Dr Reddy settled it with Pfizer. Other filer are

Aurobindo, McLeods, Actavis & Kudco

7 Montelukast Anti-allergic Singuliar Merk 3200 Aug-12 Teva is FTF filler & likely l aunch after exclusivity, Teva lost in first round to Merc.

Expected launch in Feb 2013

Addressable market size for DRL is $17 bnout of $28 bn going off patents


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123

199

275301

417

560

728

85961.8%

38.2%

9.5%

38.5%34.3%

30.0%

18.0%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

0

100

200

300

400

500

600

700

800

900

1000

FY07 FY08 FY09 FY10 FY11 FY12 FY13E FY14E

$ Mn Y-o-Y

Source: Company Filings; Industy; IndiaNivesh Research

8 Clopidogrel Blood thiner Plavix Sanofi /BMS 4223 May-12 Apotex launched in 2006 at risk & recently paid penalty of USD 551 mn,ecxclusivity expires on 17th May 2012, Dr Reddy had FTF for 1 strength (out of75mg & 300mg only) & launchmay be in June, product would behave like normalgeneric launch. Sun has settled the product with Sanofi for Authorized generic

launch.9 Ibandronate Osteoporosis Boniva Roche Holdings 506 Sep-12 Received approval, along with Teva, Mylan & Apotex, launch is under litigation.

10 Pioglitazone Anti Diabetic Actos Takeda 3212 Feb-13 Ranbaxy, Mylan & Watsoon are FTF, Dr Reddy likely to enter after exclusivity.

11 Esomeprazole Osteoarth- Vimovo Astra Zeneca 50 Apr-13 Dr Reddy may be FTF, Lupin is other filler

+ Naproxen ritic pain

12 Valganciclovir Anti V iral Valcyte Roche Holdings 400 Aug-15 Also Roche sued Sandoz, Endo, Apotex for the same drug, Ranbaxy is FTF

for this product & has settled for Mar-13 launch.

13 Esomeprazole GERD Nexium Asta Zeneca 2700 Nov-14 Ranbaxy is FTF, Teva, Lupin sandoz are other filer known, Dr Reddy settled the

product & likely launch may be in May 2014

14 Memantine Alzheimers Namenda 600 Apr-15 settled, not a meaningful opportunity

Disease

15 Zoledronic Acid Osteoporosis Zometa Novartis Received tentative approval in Dec 2011

(post Menopausal)

Drug Name Category Brand Company Market Size Parent($ Mn) Expiry date Comment

Market status of key products in North America:Fondaparinux has garnered market share of ~22% by the end of FY12 V/s 10% in Q2

FY12. Increase in manufacturing efficiencies and launch in hospitals from Q1FY13onwards would further increase market share up to 35-40% by the end of FY13.DRL & Lupin launched Ziprasidone with shared exclusivity in the first week of March2012. We estimate Ziprasidone (Market Size ~$900 million) to contribute ~$ 40million to top line of each one during 180 days exclusivity. Also, DRL settled genericLiptior with Pfizer and awaiting approval from USFDA till date, however, we expect

launch to be in June 2012 after exclusivity period of Ranbaxy. Apart from this, DRLhas many more launches in 2012 & 2013 including limited competition launch ofFenofibrate, Clarinex & Boniva. (Details are given in the table above)

Revenue from North America core (Global Generics) business


During FY09-FY12, North American (Global Generic) core business has grown at

30% CAGR to post revenue of ~$560 million in FY12. However, including revenue of~$111 million from FTFs, total revenue was ~$671 million during the year.Companyskey products including Omeprazole, Tacrolimus has gained market share, while

Ciprofloxacin & Fexofenadine continue to do well and stabilizing their positions.

DRL launched Allegra D 24 (Fexofenadine) OTC in Q2 FY12 and is expected to launchLansoprazole OTC by Q2FY13 to increase its OTC portfolio size to ~$200 million in

FY13E from current level of $130 million in FY12. On the back of key launches &

Fonda is likely to increase market share to35-40% by the end of FY13E

North American OTC drug portfolio isexpected to increase to $200 million inFY13E from current level of $130 million inFY12

(RHS)


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Gastro

25%

CVS

19%

Pain Mgt

11%

Anti

infective

9%

Anti-Diabetic

6%

Respiratory

6%

Derma

6%

Gynae

1%

CNS

1%

Others

16%

high base in FY13E, we expect moderation in North American (Global Generics)revenue growth to 15.6% y-o-y in FY14E against expected revenue growth of 30%

y-o-y in FY13. However, strong ramp up in the products (expected to launch in FY13)in FY14 may surpass our expectations.

Apart from this, we estimate one off revenue of ~$40 million from 180 days exclusivelaunch of Geodon (Ziprasidone) in FY13E & $ 15 million from probable 180 days

exclusive launch of Vimovo (Naproxen+ Esomeprazole) in FY14E.

Likely to catch up industry growth in monopolistic domestic

market:We expect domestic business to grow inline with industry growth rate of 15% CAGRover FY12-14E on the back of new launches, ramp up in bio-similars portfolio &

improvement in productivity.

DRL markets more than 200 brands in domestic market and has leadership position

in Gastro, CVS & Pain management. Omez (Omeprazaole) & Razo (Rabeprazole)use for the treatment of GERD (Gastro Esophagus Reflux Disorder) are the leadingbrand of the company and contribute ~Rs 1.2 billion & ~Rs 350 million respectively

in FY12. Stamlo, Stamlo beta, Atocor & Mintop are other leading brands in CVSsegment, which together contribute ~Rs 1.60 billion of revenue. Nise (Nimesulide)is another leading brand of the company, which is used in pain management & has

market size of Rs 700 million. Gastro & CVS segments are growing at double digitsrate, while anti-diabetic, Respiratory & Derma segments have reported healthygrowth of 17%, 18% & 38% respectively in the current fiscal. We expect these

divisions to report healthy growth going forward on the back of new launches &increase in demand linked with structural changes. During the year, companylaunched 23 new products in domestic market and expected to launch ~25 products

in FY13E & FY14E also.

We expect DRLs domestic bio-similar portfolio to grow at 25% CAGR over FY12-FY14E on the back of continuous ramp up in the products & new launches. DRL has

4 bio-similars in domestic market namely, Grafeel (Filgrastin), Reditux (Rituximab),Cresp (Darbepoetin alfa), Peg-grafeel (Peg-filgrastin). Company launched first bio-

similar in 2001 i.e Grafeel, Reditux in 2007 and recently launched Cresp (in 2010) &Peg-grafeel (2011), which have reported growth of above 33% y-o-y in FY12 andcontributed ~7% of domestic revenue. Company has plan of launching 1 bio-similarin every coming year. Currently it has 7 more bio-similars in early development andpre-clinical stage, mostly from Onco therapeutic segment.

Domestic revenue contribution:

Source: Industry; IndiaNivesh Research

Generic Name Filgrastin 300 mg Rituximab Darbepoetin Peg-filgrastim

Uses Anti cancer, Anti-leukemia Anticancer drug To treat anemea Anti cancer, Anti-leukemiaAlso to treat Rheumetoid Arthritis

Launch (Year) 2001 2007 Aug-10 May-11


On the back of new launches, ramp up inbio-similars , increase in structural demand,

domestic market would catch up industrygrowth


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8,47810,158

11,69012,931

14,87117,101

19.8%

15.1%

10.6%

15.0% 15.0%

-

2,000

4,000

6,0008,000

10,000

12,000

14,000

16,000

18,000

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

FY09 FY10 FY11 FY12 FY13E FY14E

Domestic Revenue (Rs Mn) Y-o-Y (LHS)

7.8

7.1

4.9

3.6 3.6 3.63.2

2.4

0

1

2

3

4

5

6

7

8

9

Sun Pharma GSK Pharma Cadila Cipla Lupin Glenmark Dr Reddy's

Lab

Torrent

Due to some realignment in domestic market, companys field force productivitydeclined in recent past. However, management has taken appropriate actions to

correct it. Due to higher contribution from acute therapies in domestic market,companys productivity is on the lower side compared to its peers. However, we

expect that high margins, pricing power in bio-similiars would improve theproductivity going forward. Currently company has ~3500 field force and is likely to

maintain the same number for next 2-years.

Revenue per MR (Rs Mn):

Source: Industry; IndiaNivesh Research

Bio-similars to be huge opportunity:DRL has portfolio of 4 bio-similar drugs, which contributed ~$30 million in FY12. Of

this, major contribution was from domestic market only. Company has launched 2bio-similars (Filgrastim & Rituximab) in 6-7 emerging countries & 4 bio-similars indomestic market. Further, DRL is focusing to increase its bio-similars portfolio inemerging countries particularly in South Africa & Middle East regions and it has

filed 4 products across the 16 emerging countries. Management expects bio-similarsto contribute ~$100 million annually from emerging markets by the end of FY15Efrom current level of $30 million in FY12; hence growth translates at 48% CAGRover FY12-FY15E. We believe that increase in penetration in various regions, lowcompetition, favorable regulatory environment & cost containment measure fromvarious governments would help to achieve the expected growth.

Global bio-similars market is expected to reach at ~$4.8 billion by 2015. Key drivers

to fuel the growth would be patent expiry of key biological drugs, aging population,

austerity measures by governments to reduce healthcare cost and supportinglegislation. Recent establishment of regulatory guidelines for Bio-similars in US is

likely to further provide momentum to the growth of bio-similars market.

Domestic market revenue trend:


Productivity is expected to improve

Management expects bio-similars to

contribute $100 million annually by the endof FY15E


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112 130155

202232

26514

22

41

6587

115

24.8%

20.6%

28.9%

25.5%

20.0% 19.0%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

-

50

100

150

200

250

300

350

400


Rx Revenue (in $ Mn) OTC Revenue (in $ Mn) Total Revenue Y-o-Y (RHS)

Out of Pocket

68%

Compulsory Drug

Coverage

7%

High Cost drug

coverage sector

5%

Hospital Drug

Purchase Sector

20%

The already expired patent of biologics such as Epogen, Neupogen & Enbrel andnear term expiry of Humalog (2013), Lantus (2014), Rituxan (2014) & Herceptin

(2014) would help the global bio-similar market to expand further. Almost 30branded biologics of market size $50 billion are likely to go off patent by 2015. Dr

Reddy has strong pipeline of 7 more products in early development & pre clinicalstage. Company would be the biggest beneficiary from the patent expiry of Rituxan

(2014), which has market size of ~$ 6 billion.

Russian market to remain key driver:Russian & CIS markets grew at 23% y-o-y and contributed significantly ~14% (Rs

1.10 billion) of DRLs total revenue in FY12 (of this, ~85% from Russia & ~15% CIS).We expect this business to grow at 19.5% CAGR over FY12-14E to report revenue ofRs 18.7 billion (~$380 million) by the end of FY14E. Revenue drivers are likely to be

initiatives taken by Russian government to invest up to ~Euro 11 billion in publichealth and qualitative pharmaceutical treatment during 2011-14, increasing personalincome, healthcare expenditure and lifestyle diseases. Of total Russian & CIS business

of DRL, ~25% ($65 million) revenue contribution was from OTC (Over The Counter)in FY12, which we expect to increase to 30% of total revenue at 33% CAGR to ~$115

million by the end of FY14E. While Rx business is expected to grow at 15% CAGR to~$ 267 million over FY12-14E. During FY09-12, Russian business has grown at 20%CAGR to Rs 13.26 billion. Of this, OTC business grew at 57% CAGR to $65 million inFY12. Hence, Rx business grew at 14% CAGR to $200 million during the same period.

Management is betting high on OTC business to guard its business against major

regulatory changes in Russian market.

Revenue Trend from Russia:


Understanding Russian Pharma Market?Russia has pharmaceutical market size of ~$ 22.8 billion (including OTC drugs ~$ 4

billion) in 2011, which is expected to grow at 13% CAGR to reach at $37 billion by2015. On the consumers expenditure basis, it is divided in to 4 categories (see thepie chart given here). Out of Pocket is the major market and accounts 68% of total

Pharma market. To cater its demand for Pharma products, Russia imports ~ 74%pharmaceutical products (only 35% by volume) from other countries. This representsthat Russias domestic companies are restricted to old traditional medicines which

are low priced & high volume. In contrast, MNCs have penetrated the market withinnovative products & pricing power. In 2011, total market growth was ~14% y-o-ywhile volume growth was only 3% y-o-y. Hence, we infer that growth in Russianmarket was mainly on account of change in trend from low cost drugs to high costdrugs. Due to continuous increase in income level, shifting towards expensive

medicines & increase in lifestyle disease, we expect ongoing trend to continue forshort to medium term. However, high competition may moderate the pace in longterm.

Russian Pharma Market:

Source: Pharmexpert; IndiaNivesh Research

Russian OTC business is expected to growat 33% CAGR to $115 million & Rx businessat 14% CAGR to $265 million over FY12-FY14E


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Current changes & consequences in Russian Pharmamarket:In late 2010, Russia launched health reforms Pharma 2020 strategy to improveits local pharmaceutical industry and to reduce dependency on imports. The mostsignificant objective of plan is to cater at least 50% of the domestic demand withindigenous pharmaceutical products by 2020, of which 80% will be innovative drugs.Key objectives of new laws are: a) Medicine prices will be standardized and stabilizedb) Government to set a price cap on 500 vital drugs c) European production standards

must be met by 2014 d) New medicine must be registered within 210 days e)Registration of new medicines tariffs to be more than halved.

Hence, to abide with the law by 2020, many MNCs like Sanofi, Roche, Novartis GSKetc had invested in Russia to set up manufacturing facilities and to upgrade their

existing units. There are more than 400 Pharmaceutical manufacturers in Rusia,out of which only 4 have received European Union GMP (Good manufacturingPractice) compliance certificate by the end of 2011. However, Government of Russiaexpects that by 2014 all Pharma & Biotech facilities in the country must be incompliance with GMP. Dr Reddy is also planning to set up/acquire a unit in thecountry.

We sense that profitability of Pharma manufacturers is likely to dampen in Russianmarket going forward due to regulatory changes and increase in cost of production.

However, DRL may be relatively in better position compared to other MNCs owingto its backward integration in India and increase in contribution from OTC business.

Additionally, Russian pharma distribution market is shifting towards PL (Private Level,for details see the Annexure III at the end of this report) for all, which might help to

boost revenue of Pharma companies with stable order flows and also saving onpromotion of the products. Hence any unfavorable out come from regulatory bodieswould be offset by the benefit from increase in PL trend. We also believe that hugeexpenditure by Russian government to improve healthcare infrastructure &increasing the insurance coverage would bode well for industry in the long term.

DRL exports ~60% of total Indian pharma exports to Russia:Russian market is important exports destination for Indian Pharma companies. InFY10, India exported ~3% (i.e ~Rs 13 billion) of total Pharma export (i.e ~Rs 420billion) to Russia, of this (Rs 13 billion) ~60% was exported by DR Reddy, 25% by JB

Chemicals and rest 15% by other companies. In Russia, DRL ranks 16th in pharmamarket and caters ~1.72% (in value terms ) demand of total drugs. DRL markets

Top 10 Therapeutic segment in Out of Pocketsector of Russia

Segments Market Share (%)in 2011

Cough & cold Preparations 7.03

Anti infectives 3.85

Nasal Preparations 3.76Anti inflammatory & anti rheumatic 3.52

Anti hypertensive 3.51

Sex hormones & products 3.43

Urologicals 3.32

Analgesics 3.30

Liver tonics 3.18

Vitamins 3.04

Top 15 MNCs in Out of Pocket sector of Russia

Company Market Share (%)in 2011

Novartis 7.19

Sanofi Aventis 5.14

Pharmastandard 4.70Berlin-Chemie/Menarini 3.62

Bayer Healthcare 3.62

Gedeon Richter 3.23

Teva Pharma 2.77

Abbott 2.76

Servier 2.70

Nycomed 2.69

STADA CIS 2.60

Krka 1.97

Pfizer 1.96

Merck Sharp & Dohme 1.87

Boehringer Ingelheim 1.75

Top 15 Products in Out of Pocket sector of Russia

Product Market Share (%)in 2011

Arbidol 1.22

Essentiale forte N 0.91

Actovegin 0.86Viagra 0.83

Linex 0.71

Alflutop 0.60

Concor 0.56

Detralex 0.55

Oscillococcinum 0.54

Movalis 0.52

Nise 0.51

Mezym Forte 0.49

Mexidol 0.49

Theraflu 0.49

Exoderil 0.46

Source: Pharmexpert; IndiaNivesh Research

Russian market is in 20-20 situation:Regulatory development may dampen the

pr of itab ili ty of in du stry bu t hu geexpenditure by Russian government onhealth expenditure would bode well.


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10991

77 72 65

3549

48 5258

-2.8%

-10.7%

-0.4%

-1.4%

-12.0%

-10.0%

-8.0%

-6.0%

-4.0%

-2.0%

0.0%

0

20

40

60

80

100

120

140

160

FY10 FY11 FY12 FY13E FY14E

Germany (in Euro Mn) Re st of Eur ope (in Euro Mn) Total Revenue (Y-o-Y)

more than 40 products in Russian market mainly in anti infective, Cardio, Gastro,pain management & Dental segment. Its Leading brands are OMEZ (Omeprazole),

NISE (Nimesulide) KETOROL (Ketorolac) & CIPROLET (Ciprofloxacin). We believethat companys current portfolio is inclined towards traditional drug trend of Russia,

but DRLs bio-similar portfolio would provide substantial boost to revenue in theregion. DRL also has an agreement with Cipla to promote OTC & Rx drug in Russian

market, it has launched drugs in Russian market while next launch can be anticipatedin current year in Ukraine.

European markets to remain challenging for DRL:European markets constitute ~30% of Global Pharma market of $810 billion. Thedegree of generic penetration varies in European countries from 10% to 50% byvalue. However, on an average ~20 % drugs in these markets are generics. Patent

expiry of many blockbusters & increasing healthcare expenditure is likely to increasethe share of generic drugs going forward.

DRL has major presence in Germany UK, Italy & Romania in European markets.Europe contributed ~17.7% (~Rs 17 billion) of DRLs total revenue in FY12, of which

~ 50% (~ Rs8.42 billion) was from APIs, & remaining 50% (~Rs 8.26 billion) fromgeneric formulations. Also marginal contribution (~Rs 500 million) was fromproprietary products. Out of the generic formulation revenue of Rs 8.26 billion fromEurope in FY12, Germany contributed ~60% and remaining 40% by Rest of Europe.Due to ongoing structural changes in German market, DRLs revenue has declined15% y-o-y to ~Euro 77 million in FY12, owing to pricing erosion linked with tender

business of Betapharm (a German Subsidiary of DRL). However, its revenue fromRest of Europe stood almost flat of ~Euro 48 million in FY12. We expect companysrevenue from European market to remain stable at ~Euro 124 million for FY13E &

FY14E. Decline in revenue from German market would be offset by growth fromRest of European markets.

Revenue from European markets:


Understanding German Market:In revenue terms, Germany is the worlds 3 rd largest pharmaceutical marketcomprises of more than 250 companies, has market size of ~Euro 37 billion in 2011.

Of this generic market contributes 30% in value terms. Almost 85% of Germanstotal population of ~84 million relies on countrys SHI (Statutory Health Insurance)for their healthcare needs. Remaining population receives cover from private healthinsurers. Germany introduced new health care reforms (Statutory Health Insurance Competition Strengthening Act or Wettbewerbsstarkungsgesetz (GKV-WSG)),an act to strengthen the competition in public health insurance, in April 2007. The

act increased power of insurance companies and statutory health insurance funds(SHI Funds) to influence dispensing of medicines. Under the law, pharmaceuticalproducts covered in the rebate contracts with insurance companies have to be

Revenue from European markets expectedto remain stable; decline from Germanywould be offset by Rest of Europe

(RHS)


9/19



prescribed by physicians & dispensed by pharmacies. As a result, Germanys marketturned to a tender based supply model (where SHIs ask quotation for the products

and finally lowest bidder gets awarded for the supply of particular drug) fromprevious Rx (prescription) based model.

Further, in FY11 German government introduced a new law entitled Act on thereorganization of pharmaceutical market in the health insurance (AMNOG) to do

a cost benefit analysis of the novel drugs and to determine the price of new drugbased on its additional benefit of it compared to other drugs available in the marketfor relative therapy. Additionally, a new regulation for packaging size to beimplemented by 2013, under which standard size of packaging will be based ondays of therapies, instead of based on fixed quantity. Hence we believe that despiteGermany being third largest Pharma market, it is likely to remain challenging for

generic & branded drug companies.

DRLs position in European markets:In European markets DRLs major revenue (almost 60% of total European revenue)comes from German markets. In the year 2006, DRL acquired Germany based

Betapharma to make an entry in to the markets. Other than Germany, DRL has itspresence in UK, Italy & Romania. Company has almost 29 products in these marketswith more than 100 dosage forms. DRL has strategy of consolidating its business indifferent geographies rather than going aggressively for expansion. In FY10, it closeddown business in Spain, where it entered two years back. DRL has presence inAustralia, New Zealand, & Venezuela also.

In FY09, DRL was awarded 8 products by AOK (one of the Germans leading SHI), InFY10 company filled tenders with other SHIs also but could not succeeded

significantly. While company was awarded 12 products again by AOK at lower pricescompared to previous year. Hence, margins & profitability of company in Germanmarket continued to remain under pressure. In respect to cope up with structural

changes in German market, DRL reduced its field force by 200 persons in FY11. Oftotal revenue from Germany, company supply ~65% drugs (almost economically at

optimal level) from domestic market. We are of the view that German market islikely to remain challenging & unpredictable for DRL in coming period.

Increasing focus in African and other emerging markets:DRL is increasing its focus to African markets, especially in therapeutic areas ofCNS, oncology & women health. In view of the same, company acquired remaining

40% share of its own South African subsidiary in FY11. Currently, its product portfoliois comprises of CNS, Cardio, Gynae, Gastro & anti-infective drugs. Venezuelacontributed ~35%, South Africa ~20% of total ROW (Global generic) revenue of Rs

3.37 billion in FY11. Row (Global Generic ) business reported a revenue growth of47% in FY10, 17% in FY11 & lowest 16% y-o-y in FY12 primarily due low revenuerealization from Venezuela linked with currency devaluation (almost 70% devalue)

from January 2011 onwards. However, South Africa business has performed well.We expect ROW business to report 20% CAGR over FY12-FY14E on account ofstabilization in VEB (Venezuela Currency) from here onwards, increase in penetrationto other countries & new launches. Other than South Africa, DRL launched fewproducts in Australian market and now focusing more towards other emerging

markets including New Zealand, Jamaica, Brazil & Sri Lanka. Company has a deal ofout licensing up to 100 products to GSK to supply in Africa, Middle East, Latin America& Asia Pacific regions excluding India. Currently this deal is contributing ~$ 10 millionof total revenue to DRL. Inline with increasing focus of MNCs into emerging markets,GSK may increase focus in the same direction and this alliance may contributesignificantly to Dr Reddys top-line.

Despite Germany being third largest

pharmaceutical market, it is likely to remainchallenging for generics & branded drugcompanies

Lesson from German acquisition: DRL isconsolidating its business in Europe rather

than going aggressively

ROW business is expected to grow at 20%CAGR over FY12-14E


10/19



1,959

2,873

3,365

3,904

4,685

5,622

46.7%

17.1% 16.0%

20.0% 20.0%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

40.0%

45.0%

50.0%

-

1,000

2,000

3,000

4,000

5,000

6,000


RoW Revenue( Rs Mn) Y-o-Y (RHS)

North America

21%

Europe

33%India12%

RoW

34%

JV with Fuji Film Corporation for Japanese market:DRL has signed MOU with Fuji film to form a JV for marketing generic drugs into

Japanese market. However, definitive agreement is yet to be signed. Managementexpects the process to take another three months to finalize the plans. Japanesemarket is very good opportunity for generic drug players including Dr Reddy.

Currently, it (Japan)has only 25% by volume and 10% by value, penetration of genericdrugs of total market size of $ 64.5 billion. Increasing aging population and mountingcost of healthcare expenses are two important drivers for the increasing demand

of low cost generic drugs in Japan. Almost 40% of drugs are already off patents inJapan hence open to generic penetration. We believe that DRL would be benefitedfrom JV in long term.

Patent offs in global market would help PSAI Business:Companys PSAI business declined ~4% y-o-y to Rs 19.65 billion (contributed ~26%of DRLs total revenue) in FY11, although it reported healthy growth of 22% y-o y topost revenue of Rs 23.81 billion in FY12 on the back of expiry of various patent

molecules worldwide. Further, on the back of upcoming patent offs in the globalmarket, we expect companys PSAI business to grow at 12% CAGR over FY12 toFY14E. Additionally, we believe that companys integrated position would help it to

foray into competitive markets with ease. Further we believe that any positiveoutcome from USFDA for Mexican facility would add incremental revenue of Rs 1.4billion annually, which we have not factored in our estimates yet.

Companys PSAI business contributed ~25% of total revenue in FY12. Of this, major

contribution was from European markets only (see the charts given here). Despiterelatively expected low growth in this segment, we are of the view that companysintegrated position would help it to penetrate in various competitive markets withease and bode well for its margins. Companys major products in this segments areclopidogrel, Naproxen, Gemcitabine, Atorvastatin, Ciprofloxacin, Escitalopram etc.

Margins are expected to stabilize at current level:We believe that increase in share from quality earnings geographies and change inproduct mix would have positive impact on margins however increasing other

expenditure, R&D cost & pricing pressure across the markets may offset expansionin margins.

We are of the view that increases in contribution from North America & Russia,change in product mix including increasing share of bio-similars in domestic &

emerging markets would improve the gross margins of core business. However,

Revenue from Rest of World:


Product mix of PSAI business:


Japanese market is expected to be nextopportunity for DRL

Although change in geographic & productmix would improve margins but considering

increase in R&D expenses and SG&Acharges, we expect margins to stabilize atcurrent level


11/19



62.5% 62.6%65.7%

69.8% 68.5% 68.0%

18.9% 20.2% 19.9%24.0% 22.9% 22.1%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

80.0%


Gross Margin s EBITDA Margins

28.6%23.9% 25.4%

33.0% 34.1% 33.8%

17.1%

13.7% 11.3%

8.5% 7.3% 6.4%

12.2%

14.5% 15.7%13.4% 13.5% 13.8%

11.0%13.0% 14.5%

13.7% 14.2% 15.0%

2.8%4.1% 4.5%

4.0% 4.2% 4.5%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

80.0%


North America Europe India Russia & Other CIS RoW

increasing R&D cost associated with research for complex generic products & bio-similars and increase in SG&A charges linked with higher marketing & advertising

charges in Russia may offset benefit at operating levels. To manage its margins inpast also DRL has realigned its various businesses time to time. For example, in

FY11, it reduced 200 employees of Germany business to cope up with increasingcost pressure & low margin on the products linked with increasing competition in

the region.

Geographic mix of Global Generic Business:


Margins expected:


Also, improvement in Gross margins on the back of favorable product mix may beoffset by wiping out the DEPB benefit, which is likely to impact the gross profit byRs 600 million in FY13E. Hence we expect gross margins to remain at 68% level in

FY13E & FY14E, while EBITDA margin to be at ~22-23% level.


12/19



22.9%

28.5% 29.3%

35.9%

31.1%

27.7%

10.9%

15.6% 15.7%17.2% 16.2% 16.7%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

40.0%


ROE ROCE

49,91761,818 67,767

74,23391,226

108,341123,536

23.8%

9.6% 9.5%

22.9%

18.8%

14.0%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

-

20,000

40,000

60,000

80,000

100,000

120,000

140,000

FY08 FY09 FY10 FY11 FY12 FY13E FY14E

Total Core Revenue (Rs Mn) Y-o-Y



Overall revenue growth at 16.2% CAGR overFY08-12E, despite 13% y-o-y decline in

European business during same period

Financials

Core business revenue growth at 16.2% CAGR from FY08-12.Company reported revenue CAGR of 16.2% over FY08-12 from its core business(excluding 180 days exclusivity from US market). In the year FY09, it launched

Sumatriptan as an authorized generic player and collected ~Rs 7.2 billion and Rs 2.5billion in FY09 and FY10 respectively. Companys EBITDA has grown at 22% CAGRover the same period & earnings grew over 25% CAGR.

North American market has been a key driver for DRLs total growth in last 4-5 yearslinked with many patent expiries. Its revenue from core business has grown at 35%CAGR during FY08 to FY12. Till March 2012, company filled cumulative 194 ANDAs,of which 80 are still awaiting approvals including 41 para IV (7 FTF). DRL has fillingrate of ~ 15-20 ANDAs every year since it entered into US market in 2001.

DRL operates its business under segments a) Global Generics: contributed ~72.6%

of total revenue & b) PSAI (Pharmaceuticals Services & Active Ingredients):contributed ~ 24.6% of total revenue c) Proprietary products & other: contributedonly 2.8% of total revenue in FY12.

Companys PSAI business has grown only at ~11.6% CAGR over FY09-FY12, giventhe fact that business grew 30% y-o- y in FY12 only. During the year, growth wasmainly on account of patent expiry globally & launch of FTFs in US market. Hencetaking in to account the inherent lumpiness quality of business, we expect ~12%CAGR in over FY12-FY14E. However, companys strong backward integrated positionwould bode well in the future.

Among the Global generics markets, during FY09-12, Domestic, Russian & Rowmarket has grown at CAGR of 15%, 20% & 25% respectively. The only laggard in thepack was European business, which declined at 11% CAGR during the same periodlinked with regulatory changes & price erosion in German market.

Strong return ratios:

15-20 ANDAs filling rate every year,cumulative 194 fillings till date

(RHS)


13/19



Outlook

Industry Outlook:Indian Pharmaceutical industry has grown at a healthy 15% CAGR in last 5 years toreach at $25 billion in FY11. Exports, which contribute almost 45% of total industry,

have grown at ~18% CAGR during the same period owing to key patent offs &increasing penetration of generic drugs in global market. US market had been keygrowth drivers for domestic companies, where para IV & FTF opportunity hasprovided a boost to the top line as well as bottom line. In the year 2012, ~$27billion drugs are going to be off patents, which may further provide boost to Indianpharma companies. However in 2013, patent expiry is likely to decline to only ~$7billion. Hence, lowering in value of patent expiry from 2013 onwards, increasingcompetition may slow down the pace of industry growth in medium term. However,Indian companies are still awaiting approval of more than 700 ANDAs filled withUSFDA, which, considering previous record of ~130 ANDAs approval for Indiancompanies annually (out of ~450 total ANDAs approvals by USFDA annually ) havestrong backup to maintain the growth for at least another 5 years. However, higherprice erosion due to increase in competition cannot be denied which may reduceindustrys profitability relatively.

European markets are having low penetration of generic drugs (~20%, and offeranother good opportunity for Indian pharma companies. However, regulatory issueslike in Germany are the key risk for profitability of the industry.

In our view, Bio-similars would be the next growth drivers for Indian pharma industry.We believe that mounting healthcare cost in developed countries will compel therepolicy makers to allow bio-similars in the regions. Hence, regulatory guidelines haveto be twisted in the favors of bio-similars. We expect entry of bio-similars in USmarkets from 2016 onwards and more new bio-similars approval could be seen inEuropean markets from 2013 onwards.

Increasing competition in domestic market is key concern in short term, whileconsidering the increasing income level, healthcare expenditure, insurancepenetration & lifestyle disease we believe that domestic market would continue to

grow at healthy rate of ~15% CAGR for another 5 years.As a result, we believe that overall pharma industry is likely to have healthy revenuegrowth of ~18% y-o-y in FY13E and growth may take a gentle pause in FY14E beforeresuming the pace from FY16E onwards.

Company outlook:We expect total revenue (from core business) likely to increase at 18.8% y-o-y inFY13E & 14% in FY14E. PSAI business is expected to grow at 12% y-o-y in eachFY13E & FY14E. North American generic core business would grow at 35% y-o-y inFY13E (excluding one offs ~$40 million from FTF) on the back of key launches andincrease in market share of key products. Further, on the back of ramp up in newlaunches (expected in FY13), increase in OTC contribution and new launches, weexpect this business to grow 16% y-o-y in FY14E (expected slow growth due to lowvisibility on patent cliffs). Russian business would grow at 18.5% CAGR over FY12-FY14E mainly on the back of strong leadership position, more focus on OTC products& new launches. We expect European market to remain stable at ~Rs 8 billion &believe that slowdown in German market would be offset by Rest of Europe.Domestic market would grow in line with industry at 15% CAGR over FY12-FY14Ebacked by strong bio-similars growth, new launches & increase in productivity. Weexpect gross margins (from Core business) to stand at current 68% level in FY13E &FY14E. However, EBITDA margins are likely to sustain at 22% level in FY13E & FY14E.Further we expect company to report EPS of Rs 86 in FY13E & Rs 96 in FY14E fromcore business. However, including one offs, EPS would be Rs 91 & Rs 98 in FY13E &FY14E respectively.

We expect company to do capex of Rs 8.86 billion in FY13E & Rs 9.30 billion inFY14E. Company s effective tax rate is likely to increase to 23% y-o-y from FY13 and

onwards, mainly on account of going away of EOU benefit from Baddi (HimachalPradesh) facility in FY12.

Overall pharma industry is likely to havehealthy revenue growth of more than 18%y-o-y in FY13E and growth may take agentle pause in FY14E before resuming the

pace from FY16E onward

Outlook is positive; we expect DRL to reportan EPS of Rs 86 in FY13E & Rs 96 in FY14E

from core business


14/19



0.00

500.00

1000.00

1500.00

2000.00

2500.00

3000.00

3500.00

Apr-06

Jul-06

Oct-06

Jan-07

Apr-07

Jul-07

Oct-07

Jan-08

Apr-08

Jul-08

Oct-08

Jan-09

Apr-09

Jul-09

Oct-09

Jan-10

Apr-10

Jul-10

Oct-10

Jan-11

Apr-11

Jul-11

Oct-11

Jan-12

Apr-12

Jul-12

Oct-12

Jan-13

Apr-13

Assumptions:


ValuationsChange in product mix in US market, consolidation of its business in Russian market,new launches & improvement in productivity in domestic business would bode well for

revenue growth & expansion in margins in future. Owing to high return ratios, margins& market size stock had traded at 5 year average forward PE 20x, almost with industryaverage. We believe that Dr Reddy would trade in PE range of 19x - 22x.

Recommendation:At CMP of Rs 1,660, the stock is trading at PE 19.4x of FY13E & 17.3x of FY14E. Relativeto average trading forward PE of 20x, currently the stock is available at 17.3x, whichlooks attractive. We initiate coverage on the stock and recommend BUY with the targetprice of Rs 1,983, valuing at SOTP basis, assigning 20x to FY14E earnings estimates(Rs 1,953) & Rs 30 to potential Para IV opportunities.

PE Band:


30.0x

25.0x

20.0x

15.0x

10.0x

Price (Rs) - LHS

Peer comparision:

FY12 FY13E FY14E FY12 FY13E FY14E FY12 FY13E FY14E FY12 FY13E FY14E FY12 FY13E FY14E

Dr Reddy's Laboratories Ltd 280,872 24.0% 22.9% 22.1% 12.6X 11.4X 10.2X 23.1X 19.4X 17.3X 3.2X 2.9X 2.8X 35.9% 31.1% 27.7%

Cipla Ltd/India 250,993 22.2% 23.1% 23.4% 14.5X 11.6X 10.8X 25.4X 19.1X 16.4X 3.8X 2.9X 2.6X 14.8% 15.4% 15.8%

Sun Pharmaceutical Industries Ltd 597,346 34.5% 39.1% 36.7% 14.7X 16.9X 14.3X 33.1X 25.8X 23.0X 5.8X 5.3X 4.5X 17.6% 20.4% 19.8%

GlaxoSmithKline Pharmaceuticals Ltd 172,794 32.7% 32.8% 33.0% 17.9X 14.9X 13.6X 40.3X 25.1X 22.3X 8.9X 8.0X 7.1X 22.1% 32.4% 32.4%

Glenmark Pharmaceuticals Ltd 91,279 14.7% 20.3% 20.6% 10.4X 10.2X 9.4X 19.8X 15.8X 13.0X 4.4X 3.1X 2.5X 22.2% 19.5% 19.7%

Ranbaxy Laboratories Ltd 203,775 21.4% 20.7% 15.8% 8.1X 12.2X 9.4X -7.0X 12.9X 17.2X 6.9X 3.6X 3.1X -98.3% 30.6% 18.4%

Lupin Ltd 237,260 17.3% 20.9% 21.2% 11.0X 11.7X 10.4X 27.3X 19.7X 17.2X 7.1X 4.9X 4.0X 25.9% 24.8% 23.5%

Avg 23.8% 25.7% 24.7% 12.7X 12.7X 11.2X 23.1X 19.7X 18.0X 5.7X 4.4X 3.8X 5.7% 24.9% 22.5%Source: INSPL- India Nivesh Research, BB: Bloomberg,

EBITDA Margin EV/EBITDA P/E P/B ROEMarket Cap

(Rs Mn)

Domestic Effective

in Rs mn Reported Core Reported Core Reported Core Reported Core Reported Core Tax Rate

FY13E 110,301 108,341 37,632 35,672 15,646 8,091 14,871 25,305 23,690 22.9% 21.9% 90.9 85.7 23.0%

y-o-y 14.0% 18.8% 18.0% 35.2% 18.0% -2.0% 15.0% 7.7% 17.9% 7.0% 19.2%

FY14E 124,256 123,536 41,954 41,234 18,618 7,977 17,101 27,441 26,980 22.1% 21.8% 97.7 95.9 23.0%y-o-y 12.7% 14.0% 11.5% 15.6% 19.0% -1.4% 15.0% 8.4% 13.9% 7.4% 11.9%

Revenue EBITDA EPSNorth America Russia Europe EBITDA Margin

*Price as on 17th May, 2012


15/19



Key Risks & Litigations

Allegra D 24:Patent litigation for Allegra D 24 (Fexofenadine + Pseudoephedrine) is under trial in

US Federal Circuit, outcome of which is expected by June 2012. Given the favorableoutcome from the district court & withdrawn of complaint for 7 of 9 patents byAventis, we expect outcome to be in DRLs favor.

Olanzapine (Zyprexa):The litigation for Olanzapine is under trial in Canadian Federal court on the allegationsof Eli Lilly. Unfavorable outcome may lead to penalty and wipe out the profits earnedfrom the sale of product.

Import alert from USFDA on Mexican facility:Management expect to resolve the issue by the mid of FY13. Any negative outcomemay have negative sentiment impact on the stock.

Increase in R&D Expenses:Companys R&D expenses have increased to more than 7% of core revenue in FY12Eowing to its focus on development of complex generic molecules & bio-similars.We expect R&D expenses to sustain at same level (7% of total revenue) in FY13E &

FY14E. Further increase in R&D expenses may hamper companys profitability inshort term.


16/19



Facilities in India

A) Formulation B) API

FTO-I CTO -I

IDA, Bollaram Jinnaram Mandal, Medak District (AP) Bollaram Jinnaram Mandal, Medak District (AP)

FTO- II CTO-II

Bachupally, Qutubul lapur Mandal, Ranga Reddy Distr ic t (AP) IDA, Bol laram Jinnaram Mandal , Medak Distr ic t (AP)

FTO-III CTO-III

Bachupally, Qutubul lapur Mandal, Ranga Reddy Distr ic t (AP) IDA, Bol laram Jinnaram Mandal , Medak Distr ic t (AP)

FTO-IV CTO-IV

Adavipolam- Yanam Pondocherry IDA Jeedimetla, Ranga Reddy District (AP)

FTO- VI CTO- V

Khol, Nalagarh, Solan, Baddi (HP) Peddadevulappy, Tripuraram Mandal, Nalgonda District (AP)

FTO- VII CTO-VI

Duwada VSEZ, Visakapatanam (AP) IDA Pydibheemavaram, Ransthal Mandal, Srikakulam District, (AP)

FTO-VIII

Nalagarh, Baddi , (HP)

C) Biologics Facilities Outside India

Bachupally Village, Q utubullapur mandal, Ranga Reddy (AP) 1) Kunshan Developm ent Zone

Jiangsu Province, P.R. China

D) R&D Facilities

2 ) Jiutepec, Morelos Mexico

Integrated Product Development Organization (IPDO)

B achu pa ll y Villa ge, Q utub ul la pur ma ndal, Ra nga Redd y (A P) 3) B eve rly , Ea st Yo rksh ire, HU 1 7 O LD , UK

Aurigene Discovery Technologies Ltd Hyderabad 4) Stenard Lane, Mirfield, East Yorkshire, UK

Bolaram Road, Miyapur Hyderabad (AP)

5) Cambrodge Scince Park, Milton Road UK

Aurigene Discovery Technologies Ltd Bangalore

Electronic City Phase II, Bangalore 6) Shreveport Louisiana USA

7) Industrial Drive Bristol, USA

Dr Reddy's Manufacturing Facilities

Dr Reddy acquired Glaxos US manufacturing site in Bristol along with marketingrights of Augmentin & Amoxil (only for USA) in Nov 2010 for $ 26 million. Thisacquisition has been completed in mid of FY11.

Companys Mexican facility is under USFDA import alert since June 2011. This facilityproduces intermediates & APIs of worth $60 million annually; of this 50%

contribution was from US market. We estimated insignificant financial impact onDRLs bottom line from import alert. Recently, USFDA visited the facility for inspectionin March 2012. Although, outcome may take 2-3 months but we have not estimated

any financial contribution from the given unit in FY13E & FY14E. Hence, any positiveoutcome would be sentiment positive for the stock.

Manufacturing facilities:


Annexure I


17/19



Key acquisitions/JVs in last 10 years:


Year Compannies $ Mn Details

Likely to sign an agreement with Fuji (Japan) for JV to enter into Japanese market

Planning to expand its business in China, Beazil & Mexico

2010 GSk Pharma 26Buy GSK's oral pencillin facility & products in the US. As per the agreement GSKwill transfer ownership of its Pencillin manufacturing site in Bristol & rights for

Au mentin & Amoxil brands in the US onl to DRL.

2009 GSK PharmaStretegic partnership to outliceense 100 products to GSK for emerging markets

(excluding India)2008 Parlecan Pharma in 2008, it again included reasearch as inhouse

Dr Reddy was forced to buy back minority share of the Parlecan Pharma

ICICI & Citi venture were having 43% stake in drug discovery company

2008 Jet Generici Srl Italy bsed company , to get entry into Italy

2007 Litaphar Spain based company, to get entry into Spain, now closed

2005 Parlecan Pharma Spinned off drug discovery business to de couple risk of core business

2006 Betapharma Arznemittel GmbH 675

2004 Trigenesis Therapeutics US based company involved in selling of Derma products

Eurodrug laboratories Nether land Marketing agreement for Doxofy line, use for the treatmetn of Asthma

Rheoscience Denmark

10 year agreement for development of Balaglitazone (anti diebetic molecule)

(Rheoscience holds market rights for European Union & China, while marketing

ri hts for US & ROW are with Dr Redd2003 Par apharmaceuticals to produce & market OTC drug in US.

2003 Pharmaceutical Resources Inc To market Flouxitine 40 mg (hypertension drug) in the market.

2003 Meredian Healthcare Limited U K Based marketing company

2002 Agreement with Argenta discovery Ltd in to an R&D and Commercia lization agreement for treatment of COPD

2002 Acquired BMS Laboratories 21 Company deals in Oral solid, liquid & packageings

Annexure II

PL system in Russia:We observe three versions of PLs on the market in Russia. The first version: unbranded goods designed in a common style(mostly used by food retailers). The second version: goods are also designed in a common style, but they bear a logo of theretail operator, which serves as a sort of quality mark for consumers. And finally, the third version: the trademark and design ofa product are original and owned directly by the retailer.

For a drugstore chain, selling products under a brand of its own has quite a few advantages, e.g. promotion of its own brand; anopportunity to offer competitive prices and, at the same time, boost revenues etc. Besides, due to virtually nil costs of marketingand promotion on part of the manufacturer, the drugstore chain may use a much higher markup for PL products. Due to the fact

that the retailer saves on product promotion and makes the supply chain shorter, the consumer also finds himself/herself at anadvantage, because he/she is able to buy quality goods from the drugstore chain at relatively low prices. There are advantagesfor the manufacturer, too. In spite of lower revenues from such sales as compared to selling branded goods, the manufacturer

is able to ensure a stable order flow as well as guarantees that the whole lot will be purchased. The manufacturer also makessignificant savings on promotion, since that function is passed over to the retailer. However, in spite of all advantages of PL, thepharma market imposes a number of serious requirements on the retailer that may turn out to be a barrier for a successful PL

development. They are as follows: the need for a strong positive brand of the retailer; a well-developed drugstore chain with a

wide regional coverage (the latter being necessary in order to be able to ensure sales and place large orders with manufacturers);and, certainly, a well-developed logistics system that may reduce the end product costs for the consumer.

Annexure III


18/19



Income statement

Y E March (Rs m) FY10 FY11 FY12 FY13E FY14E

Net sales 70,310 74,233 96,737 110,301 124,256

Growth % 1.9% 5.6% 30.3% 14.0% 12.7%

Expenditure

Raw Material 24,532 23,566 28,918 34,745 39,762

Employee cost 11,832 12,786 15,420 17,572 20,073

Other expenses 19,751 23,085 28,897 32,679 36,980

EBITDA 14,195 14,796 23,502 25,305 27,441

Growth % 9.0% 4.2% 58.8% 7.7% 8.4%

EBITDA Margin % 20.2% 19.9% 24.3% 22.9% 22.1%

Deprecaition 4,131 3,981 4,995 6,033 7,129

EBIT 10,064 10,815 18,508 19,272 20,312

EBIT Margin % 14.3% 14.6% 19.1% 17.5% 16.3%

Other Income 1,014 1,259 765 1,362 1,603

Interest 312 246 690 654 454

PBT 10,766 11,828 18,583 19,981 21,460

Tax 2,668 1,839 4,204 4,596 4,936Effective tax rate % 24.8% 15.5% 22.6% 23.0% 23.0%

Extraordinary items 4,583 - 116 - -

Less: Minority Interest

Adjusted PAT 8,098 9,989 14,379 15,385 16,525

Growth% 48.4% 23.4% 43.9% 7.0% 7.4%

PAT margin % 11.5% 13.5% 14.9% 13.9% 13.3%

Reported PAT 3,515 9,989 14,262 15,385 16,525

Growth% -138.3% 184.2% 42.8% 7.9% 7.4%

Balance sheet

Y E March (Rs m) FY10 FY11 FY12 FY13E FY14E

Share Capital 844 846 848 848 848

Reserves & Surplus 36,924 39,472 50,947 63,335 76,640

Net Worth 37,768 40,318 51,795 64,183 77,488

Secured Loans 269 295 295 295 295

Unsecured Loans 14,571 2 3,410 33,410 3 2,410 22,410

Total debt 14,840 23,705 33,705 32,705 22,705

Minority Interest - - - - -

Net defered tax li abi lity 7 50 99 9 1, 11 5 1 ,1 15 1, 11 5

Total Liabilities 53,358 65,022 86,615 98,003 101,308

Gross Block 64,468 79,751 90,769 101,044 111,234

Less Depreciation 40,946 4 5,896 50,891 5 6,924 64,053

Net Block 23,522 33,855 39,878 44,120 47,181

Capital Work in Progress 7,622 6,045 3,627 2,176 1,306

Investments 3,580 9 10 10 10

Deferred Tax Assets 680 1,224 1,224 1,224 1,224

Current AssetsInventories 13,394 15,992 19,810 22,665 25,532

Sundry Debtors 11,599 16,507 21,395 2 4,478 27,575

Cas h & Bank Balance 6,600 5,751 18,684 24,958 23,211

Loans & advances 6,609 9,267 11,886 12,994 14,638

Current Liabilities & provisions

Current Liabilities 16,746 2 0,188 2 5,080 29,108 33,156

Provisions 3,502 3,440 4,821 5,515 6,213

Net Current Assets 17,954 23,889 41,875 50,472 51,587

Total assets 53,358 65,022 86,614 98,002 101,308

Cash flow

Y E March (Rs m) FY10 FY11 FY12E FY13E FY14E

PBT 10,766 11,828 18,583 19,981 21,460

Depreciation 4,131 3,981 4,995 6,033 7,129

Interest 312 246 690 654 454

Other non cash charges 2,147 1,074 - - -

Changes in working capital (1,375) (6,587) (5,053) (2,323) (2,863)

Tax (2,831) (2,988) (4,204) (4,596) (4,936)

Cash flow fromoperations 13,150 7,554 15,011 19,749 21,245

Capital expenditure (4,305) (11,539) (8,600) (8,824) (9,319)

Free Cash Flow 8,845 (3,985) 6,411 10,925 11,926

Other income 213 (1,088) - - -

Investments (3,010) 3,639 - - -

Cash flow fro m investments (7,102) (8,988) (8,600) (8,824) (9,319)

Equity capital raised 17 29 - - -

Loans availed or (repaid) (3,781) 8,915 10,000 (1,000) (10,000)Interest paid (321) (307) (690) (654) (454)

Dividend paid (incl tax) (1,232) (8,192) (2,787) (2,997) (3,219)

Cash flow from Financing (5,317) 445 6,523 (4,651) (13,673)

Net change in cash 731 (989) 12,933 6,274 (1,747)

Cash at the beginning of the year 5,869 6,740 5,751 18,684 24,958

Cash at the end of the year 6,600 5,751 18,684 24,958 23,211

Key ratios

Y E March FY10 FY11 FY12 FY13E FY14E

EPS (Rs) Core 44.1 59.0 71.9 85.7 95.9

EPS Reported 48.0 59.0 85.0 90.9 97.7

Cash EPS (Rs) 63.6 57.5 139.9 183.2 179.3

DPS (Rs) 7.3 48.1 16.5 17.7 19.0

BVPS (Rs) 316 384 512 579 599

ROCE 15.6% 15.7% 17.2% 16.2% 16.7%

ROE 28.5% 29.3% 35.9% 31.1% 27.7%

EBITDA Margin % 20.2% 19.9% 24.3% 22.9% 22.1%

Net Margin % 11.5% 13.5% 14.9% 13.9% 13.3%

PER (x) 16.1 21.1 23.1 19.4 17.3

P/BV (x) 3.0 3.9 3.2 2.9 2.8P/CEPS (x) 14.9 26.3 11.9 9.1 9.3

EV/EBITDA (x) 11.87 18.54 12.59 11.41 10.22

Dividend Yield % 0.8% 3.2% 1.0% 1.1% 1.1%

m cap/sales (x) 2.3 3.5 2.9 2.5 2.3

net debt/equity (x) 0.4 0.6 0.7 0.5 0.3

net debt/ebitda (x) 0.6 1.2 0.6 0.3 0.0


Consolidated Financial Statements


19/19

IndiaNivesh Research May 18 2012 | 19


Disclaimer:

The projections and the forecasts described in this report were based upon a number of estimates and assumptions and are inherently subject to significant

uncertainties and contingencies. Projections and forecasts are necessarily speculative in nature, and it can be expected that one or more of the estimates on whichthe projections are forecasts were based will not materialize or will vary significantly from actual results and such variations will likely increase over the period of

time. All the projections and forecasts described in this report have been prepared solely by authors of this report independently. All the forecasts were not

prepared with a view towards compliance with published guidelines or generally accepted accounting principles.

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Actual results may differ materially from those set forth in the projection. Forward-looking statements are not predictions and may be subjected to change without

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information in response to specific client queries.

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