Sputnik V was launched on May 14, 2021 by Dr Reddy’s Laboratories (DRL), the same day its March 2021 quarterly results were released. While analysts are busy deciphering Sputnik’s favourable impact, DRL is forging ahead with a strategy initiated three years ago. With the management change in 2018, the company renewed its focus on US, Russia, India and API (active pharmaceutical ingredient) business, launching high value new products and strengthening existing brands. The company reported stable numbers in the March 2021 quarter aided by strong performance in India, Europe and PASI segment. The stock price has gained 24% from mid-March this year. 

Quick Takes

• DRL is manufacturing 2-deoxy-D-glucose (2-DG), developed by the Defence Research Development Organisation (DRDO).2-DG helps in faster recovery of hospitalised patients reducing supplemental oxygen requirement

• DRL has acquired exclusive rights to commercialise PRG1801 cell therapy from Shenzhen Pregene BiopharmaPRG1801 is used in the treatment of multiple myeloma (cancer). The company will provide affordable alternatives for this niche cell therapy currently unavailable in India

• Star drugs gNuvaring and gCopaxone are unlikely to be launched in FY22

• DRL has the rights for the first 250 million doses of Sputnik V costing Rs 945 per dose. 

Stable March numbers - but did not live up to street expectations

DRL’s consolidated revenues for the quarter ended March 2021 rose 7% YoY at Rs 4,768 crore driven by double digit growth in India, Europe and PSAI segment. Sequential decline was 3.5% primarily due to lower sales in branded markets and recognition of milestone income in the December 2020 quarter. Operating profit came in at Rs 1,053 crore vs Rs 949 crore a year ago. Operating margins at 22.1% expanded 75 basis points (bps) YoY aided by better product mix and cost rationalization efforts partly offset by Wockhardt integration costs and lower export benefits.

Net profit fell 29% YoY to Rs 557 crore. Last year in the March 2020 quarter the company had recognised a deferred tax benefit, which inflated the net profit. Free cash flows during the quarter were Rs 792 crore or $108 million, supported by profitability and decrease in operating working capital compared to Rs 7 crore or $1 million, a year ago. R&D spend for the quarter was Rs 409 crore, or $56 million, at 8.7% of sales. Though March numbers look stable, DRL’s stock price slipped 2% post result announcement mainly in response to negative growth in North American revenues which contribute 37% of total revenue pie. 

India and Europe business lead the way

The US FDA woes ended by May 2020 for DRL as all its manufacturing plants received regulatory clearance. Management change in 2018 and Erez Israeli joining in from Teva as CEO brought about a shift for DRL, which had been reeling under the regulatory backlash. The new management came with a renewed focus on India, Europe, Russia and API business which after three years have started yielding strong and stable results operating amid Covid.

Indian revenues contributed about 16% in FY18 and have inched up to 18% of total revenues in FY21 after it acquired about 60 brands in neurology, VMS, dermatology, respiratory, gastroenterology for a purchase consideration of Rs 1,850 crore from Wockhardt. This acquisition was completed and fully integrated with DRL in the June 2020 quarter.

After a slow start in June 2020, the domestic engine started firing strongly, growing above 20% over the past three quarters. In the March 2021 quarter, DRL’s India business grew 23% YoY. Growth was driven by new product launches and business from the Wockhardt acquisition. Excluding the Wockhardt portfolio, organic growth was 8% YoY for the company. DRL presently has a roughly 3% market share in the domestic pharma market, lower than Cipla (5%), Lupin, Alkem, Zydus Wellness (all at around 4%) and Sun Pharma (8%). 

DRL says it is ready to evaluate more opportunities on the back of its strong balance sheet and robust financial capacity. In this regard, Israeli noted that though the company is not on a shopping spree, the focus will be on suitable products, and brands with specific capabilities in India and emerging markets.

Europe is a turnaround story for DRL since Q3 FY19. European revenues have grown consistently over the past two years. Revenue mix has also gone up from 5% in December quarter FY19 to 8% in March quarter FY21. European revenues have grown 15% YoY in Q4 FY21 driven by both new product launches and improvement in volumes across the market. In this regard, Israeli said that though the base is low, there is a lot of room for strong growth in Europe. During the quarter, DRL launched 3 new products in Germany, 4 in U.K., 1 in Italy and 2 in Spain and 14 new launches across our markets in Europe.

North America business – Investors wait for key growth triggers

North America generics (NAG) business also turned a corner since Q3 FY20. After three years of consistent muted or negative growth, NAG reported 8% YoY growth in December quarter FY20. NAG revenues were growing strongly since December 2019 but came up short in the March 2021 quarter with a YoY fall of 3%. The management said that the revenue decline was primarily on account of higher stocking up in Q4FY20 due to the pandemic and price erosion in Q4 FY21. 

Speaking on price erosion in NAG, Israeli clarified that certain products were facing intense competition and the price erosion trend will continue in FY22, and might be in single or double digits. In addition to this, investor concern also revolves around DRL’s upcoming drug pipeline comprising of gNuvaring (birth control), gCopaxone (multiple sclerosis), gRemodulin (hypertension) and gVascepa (reducing triglyceride levels) considered to be strong growth drivers for NAG business. 

The company was noncommittal on any timeframe for the launch of gRemodulin and gVascepa. DRL is working on the second CRL(complete response letter) it received for gCopaxone in December 2020, and is awaiting the USFDA response on gNuvaring CRL. CRL indicates that the USFDA did not approve the drug application. The market size for both these drugs are $750 million and $1.5 billion, respectively. The management said that both drugs are unlikely to be launched in FY22.

The Pharmaceutical Services and Active Ingredients (PSAI) segment mainly comprises the API business. After having a strong run of 88% YoY growth in June 2020, reported 20% YoY growth in September quarter followed by flat performance in December 2020. API demand was driven by high inventory stocking up amidst Covid uncertainty in H1 FY21. Revenues are back to double digit growth of 10% YoY in March 2021 driven by new products and increase in volumes of key products of API business. Israeli said that though there might not be linear growth, APIs will grow strongly and profitably in the near future.

Sputnik V – DRL’s Russian Rendezvous

DRL holds the rights for the first 250 million doses of Sputnik V developed by Gamaleya Research Institute, Russia. Though initially imported, the vaccine will be locally manufactured with six local players distributing the vaccine for DRL. Sputnik V has further strengthened DRL’s product portfolio for tackling the Covid 19 pandemic comprising Remdesivir, Avigan, Molnupiravir, Baricitinib and 2-deoxy-D-glucose to be launched soon. 

The management did not give any financial details on the Sputnik V vaccine deal. The vaccine cost is expected to reduce when local manufacturing starts. But even at the current market price, the street is modelling in a Rs 6-8 EPS increase. The next few quarters will give a better picture.