July 17, 2009 | Pharmaceuticals

Initiating Coverage Current Price Target Price

Rs 1221 Rs 1344
Potential upside Time Frame
Sun Pharmaceuticals (SUNPHA) 10 % 12-15 months

In the pit stop… PERFORMER

Sun Pharma (SPIL) is a leading player in the Indian pharma space. Strong
focus on cost control, impressive pipeline for the US, strong foothold in
domestic markets and a clean & strong balance sheet are the major Analysts’ Name
investment planks of SPIL. We also like its strategy of buying distressed Raghvendra Kumar
assets and turning it around via strong management bandwidth. We are raghvendra.kumar@icicidirect.com
initiating coverage on SPIL with a PERFORMER rating. Ashish Thavkar
ƒ Selective strategy for regulated markets prevents margin contraction ashish.thavkar@icicidirect.com
SPIL’s US strategy places the company among one of the highest
margin earners in the industry. We estimate SPIL’s US revenue to de- Sales & EPS trend
grow ~27% on account of recent seizure of 33 Caraco products.
However, speedy approval from its portfolio of 108 ANDAs (mostly 6000 Sales (Rs cr) EPS (Rs) 120
differentiated ANDAs) pending approval will likely cushion steeper fall
4000 80
in US revenues (we have not factored such revenue in our estimates).
Such approvals will likely help maintain margins and US revenue 2000 40

ƒ Strong foothold in domestic chronic segment earns highest margins 0 0

SPIL generates one of the highest EBITDA margins (GC ~70-75%) in the

FY05

FY06

FY07

FY08

FY09

FY10E

FY11E
industry. This is on account of its strong foothold in niche therapies
such as CNS, CVS, diabetes, etc, which contribute ~75-80% of its Stock Metrics
domestic formulations revenue
Bloomberg Code SUNP@IN
ƒ Clean & debt-free balance sheet with strong fundamentals – a safe bet Face Value (Rs) 5.0
The balance sheet of SPIL carries almost zero debt. Moreover, SPIL has Promoter holding (%) 63.7
robust return ratios despite expanding balance sheet, which indicates Market Cap (Rs Cr) 25,289
that the reinvestment of incremental cash flows is generating better 52W - H/L 1600/953
return. A debt-free balance sheet with strong fundamentals provides a Sensex 14253
safe investment bet in the volatile markets Average Volume 48,321

Valuations
Comparative return metrics
SPIL has consistently outperformed most industry peers on parameters
such as revenue growth, export growth and margins. Given strong 3M 6M 12M
formulation focus on chronic ailments, cost containment and robust Cipla 14.1 49.5 30.4
pipeline for US generics, we believe the stock is well on track for long-term Dr Reddy 46.1 71.7 21.4
secular growth. Exclusivity opportunities in the US may bring mid-way Piramal Heathcare 47.4 45.8 7.0
spikes. Moreover, a cash balance of US$550 million enhances the chances Sun Pharma -1.7 10.2 -6.6
of SPIL’s participation in the global consolidation wave. We estimate the fair
value of SPIL to be in the range of Rs 1344, ~10% higher than CMP. We are
initiating coverage on SPIL with a PEFORMER rating. zzStock price movement
1800
Exhibit 1: Key Financials Rs Crore
1500 Target Price
Year to March 31 FY07 FY08 FY09A FY10E FY11E
Net Sales 2135.9 3356.7 4271.4 4108.7 4426.9 1200
Net Profit (Rs crore) 784.3 1487.1 1824.1 1698.8 1733.4
Absolute buy
Shares in issue (Crore) 19.3 20.7 20.7 20.7 20.7 900
EPS (Rs) 40.6 71.8 88.1 82.0 83.7
600
% Growth 31.5 77.0 22.7 -6.9 2.0
PE (x) 32.1 17.0 13.9 14.9 14.6
300
Price / Book (x) 4.5 2.5 1.9 1.6 1.4
EV/EBITDA (x) 36.9 15.4 13.5 14.2 13.8 0
RoE (%) 28.3 29.8 28.1 21.6 18.6 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 May-09
RoCE (%) 21.1 30.4 28.2 21.9 18.9
Source: Company, ICICIdirect.com Research
ICICIdirect | Equity Research

1 | Page
 Shareholding pattern (Q4FY09)
Company Background Shareholder % holding
Indian Promoters 63.7
Promoted by Dilip Shanghvi, Sun Pharmaceuticals (SPIL) was formed as a Financial Institutions / Banks 3.1
partnership firm in 1982 to manufacture drugs at Vapi in Gujarat. It was Foreign Institutional Investors 17.1
incorporated as a limited company in 1993 and renamed as Sun Pharmaceutical MFs/Insurance Companies 4.3
Industries Ltd. Non-promoters(non-institution) 11.8

Business profile
SPIL is primarily engaged in the formulation business. The key therapeutic 100
segments of the company in the formulation business in India are CNS, 80
gastrointestinal (GI) and cardiac care. The company also has a presence in anti- 63.7 63.7 63.7 63.7
diabetics, orthopaedics, paediatrics, oncology and ophthalmology. Domestic 60
revenue contributes ~45% to the overall FY09 revenue of the company. 40 25.3 25.1 25.0 24.5
20
Manufacturing and R&D facilities 0
The company has 17 drug manufacturing plants, seven of which are API plants Q2FY09 Q3FY09 Q4FY09 Q1FY10
while the remaining 10 are formulation ones. The company’s API plants at
Ahmednagar and Panoli enjoy USFDA and UKMHRA regulatory approval. On the Promoters (%) Institutional Holding (%)
US generic front, between Sun Pharma and all subsidiaries the company had a
stock of 71 ANDA approvals until March 2009. The company filed 37 ANDAs in
2008-09. The company has a cumulative 129 DMF filings until March 2009.

The erstwhile TDPL division was renamed Spectra while a new division, Arian,
targeting cardiologists/physicians and diabetologists was launched during 2001.
The formulation site in Halol, India (the erstwhile MJ Pharma site) received
approval from USFDA, UKMHRA, South African MCC, Brazilian ANVISA and
Columbian INVIMA. In the same year 2004, the first joint venture manufacturing
unit in Dhaka, Bangladesh was commissioned.

Market position in domestic formulations market

Sun Pharma maintained its sixth position in the domestic formulation market with
a market share of 3.46% in December 2008. The company has about 507 brands
and 14 of its brands were among list of the top 300 industry brands. The leading
brands are Glucored, Pantocid, Susten Aztor, and Monotrate. CNS, cardiac and
anti-diabetic are the top three therapeutic categories for SPIL contributing ~61%
to the total revenues. In branded markets, SPIL’s products are prescribed in
chronic therapies like CVS, psychiatry, neurology, gastroenterology, diabetology
and respiratory. It makes speciality formulations across a range of dosage forms,
viz., oral, injectable and delivery based system. Sun Pharma began international
acquisitions during 1997.

Acquisitions
SPIL has a vast history of acquisitions. It took stake in MJ Pharma, which has
several manufacturing lines for fixed dosage formulation and UKMHRA approved
manufacturing line for Cephalexin capsules. SPIL acquired TDPL (which has
extensive product offering in therapies such as oncology, fertility, anaesthetics
and pain management), brands in respiratory and asthma therapy area from
Natco Pharma, Cephalexin API manufacturer and Gujarat Lyka Organics.
Moreover, SPIL acquired common stocks and options from two large
shareholders of Caraco, thereby increasing its stake to more than 60% from 44%
at a total outlay of ~$42 million. In May 2007, SPIL signed a definitive agreement
to acquire Taro Pharma, an MNC generic manufacturer with established
subsidiaries and manufacturing across the US, Israel and Canada for $454 million.

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Exhibit 1: Major acquisitions done by SPIL
Acquired Entity Name Year Benefit
MJ Pharma Ltd Equity stake 1996.
MJ Pharma had USFDA approval for Cephalexin capsules and UKMHRA approvals for oral dosage
Merged with Sun form. Sun upgraded the plant across dosage form lines (sterile dry powder injections, small volume
Pharma in 2003 injections, nasal sprays, tablets, capsules, soft gelatin caps, aerosols, ophthalmics). This site now has
seven manufacturing lines spread over 36,000 sqft
Tamil Nadu Dadha 1997 Enabled a quick entry into high-growth therapy areas of interest: fertility, anticancer, anaesthesiology,
Pharma gynaecology, pain management. Trusted brands, processes for difficult-to-make oncology products
such as Cisplatin and Carboplatin, and a field force with existing relationships were advantages. In the
subsequent years, this portfolio was totally revamped to bring new products to market, doctor
coverage was improved, and a swift increase in customer rankings was seen. The company revamped
the product list with new products based on complex technologies, like Susten and Lupride, to earn
the trust of doctors in India and world markets
Caraco Pharma Iniital stake 1997. Sun increased its stake in Caraco from 49% to 63% in FY04. Current stake stands at ~76% on a diluted
Larger stake basis. With this Sun got an access to the front end in the US. The US generic opportunity is immense,
buyout in 2004 with products worth $40 billion likely to go off patent in the next few years
Gujarat Lyka Organics 1999 The manufacturing site for Cephalexin and 7 ADCA actives has since been converted into a ISO 9002
certified, intermediates and API manufacturing site for India and traditional markets

Brands from Natco 1998 A basket of brands in the respiratory/chest therapy area and brands in gastroenterology, orthopedics,
Pharma anti-infectives and pediatrics were acquired. In line with the company's strategy of reorienting brands
so that they can offer the best value. These brands were shifted into different divisions, doctor call-
lists were reworked and new products added backed by strong promotional programmes

Milmet Labs 1999 Milmet's presence in ophthalmology with well-trusted brands like Viscomet (used in major eye
surgeries) and Timolet (for glaucoma) made it an attractive acquisition candidate. New products were
brought in, several of which used complex delivery technologies such as gel forming systems. The
portfolio was revamped and coverage improved for a move in rankings to No. 1 based on prescription
share with this high-growth specialist group
Pradeep Drug Co 2000 This WHO cGMP approved API manufacturing site for India and neighbouring markets was upgraded
and has subsequently received ISO 9002 and 14001 certification
Phlox Pharma Phlox manufactures cephalosporins and has a European Drug Master File for cefuroxime axetil. This
acquisition is an attractive proposition as a result of the international approval and the plant's
compliance with international regulatory standards. The acquisition gave Sun Pharma a quick entry
into the market. Additionally, the company has a number of products that were scaled up at the facility

Women's First 2004 Acquired three brands : gynaecological Ortho-Est® (estropipate), and the antimigraine preparation
Healthcare Midrin® for less then $4 million. This was Sun's first step in the branded generic space in the US at a
reasonable cost
ICN, Hungary 2005 Sun bought a plant in Hungary (known as Alkoladia). It was one of the few sites globally that had an
authorisation to make controlled substances APIs. This has helped Sun to make filings in the controlled
substances space in developed markets
Able Labs 2005 Dosage form manufacturing facilities spanning 2,50,000 sq ft with specifically designed areas to
handle the manufacture of controlled substance dosage forms, were acquired for $23.15 million, from
the US Bankruptcy Court of the District of New Jersey. This deal also includes the rights to product
dossiers that were being marketed by Able

Chattem Chemicals 2008 Sun along with its subsidiaries, acquired 100% ownership of Chattem Chemicals, Inc.,a narcotic raw
material importer and manufacturer of controlled substances with a facility in Tennessee. With this
acquisition, it has been possible for Sun Pharma to augment its preseence in controlled substances.
Chattem is a US registered palyer for narcotic importer and producer. This has helped Sun Pharma to
be more active in the pain management segment in the US
Source: Company, ICICIdirect.com Research

3 | Page
Restructuring
During 2006, the company announced a de-merger of the innovative business
and completed the de-merger in 2007. SPARC Ltd, the new company, was listed
on the stock exchanges in India, the first pure research company to be so listed.

Exhibit 2: SPIL’s business model

BUSINESS DISTRIBUTION COMMENTS

Focus on chronic therapies

INDIA OWN
Fastest growing Indian
Pharma company

stake in caraco 72%

CARACO PHARMA Turned around the operations
Markets own as well as Sun
Pharma's products
SUN PHARMA
US GENERICS
BUSINESS MODEL

OWN
Marketing/ ANDA Filings

Replicating India strategy

Rest of World
PARTNERSHIP/OWN Focussing on chronic
(RoW)
therapies

Source: Company, ICICIdirect.com Research

4 | Page
Exhibit 3: Revenue break-up for FY08-09
SUN PHARMA

(FY09)
Rev: Rs 4374.1 crores
Rev contribution: 100%

FORMULATIONS API (BULK) + OTHERS

Rev: Rs 3885.1 crores Rev: Rs 487.9 crores

Rev contribution: 88.8% Rev contribution: 11.2%

DOMESTIC MARKET EXPORT MARKET

DOMESTIC MARKET EXPORT MARKET
Rev: Rs 104.2 crores Rev: Rs 379.6 crores
Rev: Rs 1959.7 crores Rev: Rs 1925.4 crores Rev contribution: Rev contribution:
Rev contribution: 50.4% Rev contribution: 49.6% 21.4% 77.8%

CHRONIC SEGMENT US MARKET

Rev: Rs 1371.8 crores Rev: Rs 1589.5 crores

Rev contribution: 66.4% Rev contribution: 83.0%

ACUTE SEGMENT NON-US MARKET

Rev: Rs 587.9 crores Rev: Rs 335.9 crores

Rev contribution: 33.6% Rev contribution: 17.4%

Source: Company, ICICIdirect.com Research

5 | Page
Investment rationale

SPIL has been one of the best performers in the Indian pharma space Strong foothold in niche therapies,
during the last few years on account of its superior product mix. The robust pipeline of filings for US
company differentiates itself from most of its Indian peers on account of markets, superior product mix and
its strong foothold in niche therapies in the domestic market, robust lean cost structure makes Sun one
product pipeline in the US markets and cost leadership. Thereby, it of the best performers in the Indian
generates one of the best EBITDA margins in the Indian pharma space. pharma space
Recent ‘at risk’ launch of generics pantoprazole (Protonix) and
exclusivity on generics Ethyol and Trileptal led SPIL to achieve lifetime
growth in the US business.

However, SPIL suffered a setback on the Effexor XR opportunity. We

believe its formidable market share in niche therapies in domestic
markets and strong pipeline of 108 pending ANDA approvals in the US
market will keep its growth momentum upbeat in the longer run.
Recent seizure of 33 drugs by USFDA from Caraco’s Michigan facility
will hamper the revenue flow from the US market. We estimate the
base US business (other than exclusivity opportunity on Ethyol,
Protonix & Trileptal) will likely significantly de-grow at a CAGR of 30%
over FY09-11E on account of the seizure from Caraco’s plant. The
Lexapro opportunity may provide some respite.
Lexapro opportunity may provide respite
Recently, SPIL entered into a litigation settlement with Forest Lab
regarding Lexapro, which is a blockbuster anti-depressant drug with
annual sales of US$2.3 billion on innovator price. The settlement may
bring positives to SPIL but the USFDA issues with Caraco may cast cloud
over this opportunity.

The major contours of SPIL (along with Caraco) - Forest Labs agreement
regarding the settlement of the legal proceedings related to Lexapro
(escitalopram oxalate) tablets are:

• SPIL will license out to Lundbeck certain patent applications

related to the synthesis of escitalopram and citalopram in Sun will benefit from out-licensing
exchange for an upfront payment. If such technology is used income and royalties on sales
SPIL will also get royalties on sales.

Comment: SPIL may get out-licensing income on licensing out

the technology and also royalties on sales, if the transferred
technology is utilised for manufacturing of the drug

• Forest will provide licenses to Caraco for any patents related to

Lexapro and with respect to the marketing of Caraco’s generic Caraco’s entry into the Lexapro
version of the product. This will happen as of the date that any market will be triggered by the
third party generic that has received final approval from the entry of another generic after the
FDA enters the market other than an authorised generic (AG) or FTF holder and it’s authorized
the first filer. generic

Comment: Caraco gets litigation risk-free rights to sell

generics version of Lexapro, if any third party (having
approval from USFDA) enters the Lexapro market other than
the first filer or the authorised generics (AG). This will enable
Caraco to enter the markets as a fourth generic player after
the FTF opportunity holder, AG and any third party entering
the market triggering entry of Caraco.

6 | Page
 • Caraco will take over the commercialisation and sale of several
other products from Forest’s Inwood business in return for Caraco will also undertake
royalty payment on the sales of these products. commercialisation and sale of
several products from Inwood Labs
Comment: Caraco would get rights to commercialise various product basket
products of Forest in the US markets, on which Caraco will
pay royalties on sales of these products.

Exhibit 4: Inwood Labs Product List

Category Brand Generic
Depression Celexa® Citalopram HBr
Angina Tiazac® Diltiazem HCl
Angina Isochron™ Isosorbide Dinitrate
Hypertension Tiazac® Diltiazem HCl
Asthma Theochron™ Theophylline Tablets
Asthma TheoCap™ Theophylline Capsules
Cough Suppression Tessalon® Benzonatate
Source: Company, ICICIdirect.com Research

• Forest will reimburse Caraco for a portion of their costs related

to this litigation.

Comment: The reimbursement of the certain part of the

litigation cost will likely to improve cash flow slightly.

US generics – key to drive exports revenue

In a quest to excel in the export market and generate higher margins,
SPIL accorded top priority to the US markets. SPIL follows a different
strategy in the US market, which gives it stability in earnings. The major
contours of the strategy are:
SPIL follows a multi-pronged
• SPIL enters a product wherein it can remain competitive for a
strategy in the US markets wherein
longer period
it targets difficult to manufacture
products through a blend of
• SPIL prefers to enter into the market of a product, which is
superior product filings
difficult to manufacture

• SPIL selects products, which includes filings with Para-IV

certification, complex products, controlled substances,
extended release products, blockbusters and some plain vanilla
ANDA on old molecules. The clever blend of the filings provides
stability to the earnings

• Moreover, SPIL follows a multi-pronged strategy in the US

markets

This strategy seems to fetch SPIL one of the best margins on generics in
A 27% de-growth in revenues from
the US. We believe US revenues will de-grow ~27% on account of recent
the US market will be cushioned by
actions by the USFDA on the company’s US subsidiary. This will hamper
speedy approvals of 108 pending
the revenue flow from key US market. However, speedy approval from its
ANDA approvals
portfolio of 108 ANDAs (~20-25% differentiated ANDAs) pending
approval, including seven tentative approvals, and few filings under Para-
IV will likely act as a cushion for the company. The US fixed dosage
business is one of the significant growth drivers of SPIL’s overall business

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while the US fixed dosage business per se is dependent upon the
composition of (ANDA) filings for the market.

Filing under exclusivity provide for the best revenue and profits growth as
there is almost nil generics competition while technologically
differentiated products generate better and sustainable margins due to
limited competition. Plain vanilla products have highest competition and
the margins are not very high. A major risk in the US markets arises from
price erosion once the patent on a product expires. However, SPIL has an
edge over other Indian players because of its front-end Caraco (which has
a presence in the US market) and backward integration into own bulk for
many of its products.

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US revenue will likely de-grow at 27% CAGR through FY09-11E
We believe the US continuing business revenue will likely de-grow at a
CAGR of ~27% to ~US$180 million on account of recent actions by the Recent USFDA action at Caraco’s
USFDA at the Caraco’s Michigan facility and generics competition on Michigan facility will likely cause
generics pantoprazole. In the short-to-medium term (until July 2010), new fall in revenues by ~27% to US$
approvals and contribution from generic pentoprazole will likely prevent a 180 million. However, in the short
steep deterioration in US sales. SPIL is still in the generic pentoprazole to medium term new approvals
(Protonix) market. However, it is selling at a certain price point without and enhanced product filings will
diluting the price. We estimate the base US business (other than prevent a steep deterioration in
exclusivity & generics pantoprazole sales) of SPIL to de-grow at ~31% US revenues.
CAGR over FY09-11E and revenue from generics pantoprazole (protonix)
to decline by ~22% CAGR over FY09-11E.

Exhibit 5: US base business will likely de-grow at ~31% CAGR over FY09-11E
900 850.7
800 724.1
700
600 511.1
500 399.2
400 343.2
300
200
100
0
FY07 FY08 FY09 FY10E FY11E

US (base business)

Source: Company, ICICIdirect.com Research

Protonix (Generics Pentaprazole) – A brief background

Protonix (generic name Pantoprazole) is a heartburn proprietary drug of Protonix Statistics:
Wyeth. It prevents the production of acid in the stomach. It is used to Developer: Atlanta
treat gastroesophageal reflux disease (GERD) and inflammation of the US development & marketing
oesophagus. Protonix is Wyeth’s drug with annual sales revenues of rights: Wyeth
US$2.3 billion in the US at innovator price. In September 2007, SPIL’s Annual Sales: ~ US$ 2.3 bn
ANDA with Para IV certification got USFDA approval with few other Patent expiry: July 19, 2010
players such as Israeli player Teva. Out of the companies that got Generic Launch:
approval, Teva launched the generic version of the drug in December Teva (22nd Dec 2007)
2007. On January 29, 2008, Wyeth launched the generic version of Authorized generic:
Protonix by authorising Prasco Labs of the US. Following this authorised Prasco (29th Jan 2008)
generic launch by Wyeth, SPIL launched the generic Protonix at risk on At risk Generics launch by
January 29, 2008. Sun Pharma (30th Jan 2008)

Generic Pentaprazole – a lifetime opportunity for SPIL

Generic Pentaprazole (Protonix) is probably the largest-ever product in
terms of revenue and profit launched by any Indian pharma company in We believe SPIL clocked
the US. SPIL launched generic Protonix at risk on January 29, 2008 after estimated revenues of ~US$300
Teva & Wyeth’s authorised generics Prasco. We believe the company million till date from Protonix at
clocked revenues of ~US$300 million at a gross margin of ~90% till date gross margin of ~90% and
from generics pantoprazole. We believe SPIL earned exceptionally good estimated EBITDA margin of ~75-
EBITDA margin of 75-85% on it. Further, we believe SPIL is still in the US 85%. Sun may rake in ~US$120-
market with generic pantoprazole but selling at a certain price point 150 million in revenues till the
without diluting the overall price of the product. We believe SPIL may time Protonix patent expires
rake in ~US$120-150 million in the topline until protonix goes off patent
in July 2010. Also, we believe the competition in the generics

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pantoprazole market is low with around three to four players – innovator
Wyeth, authorised generics Prasco, Teva & SPIL. Kudco is another
generics company, which filed ANDA for pantoprazole. With its 30-month
stay becoming complete in December 2008, it has probably not entered
the market. Kudco is also SPIL’s potential competitor. It has Para IV ANDA
whose 30-month stay expired in December 2008.

Lower claim probability on SPIL in Protonix issue

Teva launched generic Protonix in December 2007. Thereby, it became
the first generic company to dilute the price. This may trigger triple
In case of patent litigation turning
damage claims on the quantity on launch. Just to put a check on the
against SPIL, probable damage
quantity exposed for potential triple damage control, we believe Teva is
claim on Sun will likely be lesser
unlikely to re-launch the product in the US once the inventory in the
market is depleted. However, it is not known whether Teva is there in the
market or not. If Teva is not in the market, it is a positive for SPIL as it
would be the only generic company in the market. Also, if Wyeth goes for
damage claims on SPIL, it is likely to be a single damage claim.

Effexor XR – a lost opportunity

SPIL received a ‘not to sue’ covenant from Wyeth over SPIL’s ANDA for
generic venlafaxine extended release (generic version of Effexor XR) with
multiple Para IV certifications in October 2007. The three strengths (for Sun Pharma lost the opportunity
which ANDA has been approved) have annual sales of ~US$2.6 billion in to market Effexor XR after
the US. In April 2007, Wyeth filed suit against Osmotica Pharma of US for Osmotica filed for citizen’s petition
505b (2) application filed by Osmotica for generic tablet version of Effexor requesting the USFDA to make all
XR. However, later they settled the patent litigation, wherein Wyeth the subsequent filers to resubmit
granted Osmotica a royalty-bearing licence. Osmotica got an approval in their application with Osmotica’s
May 2008. product as the Reference Listed
Drug (RLD)
Moreover, Teva settled the patent litigation with Wyeth and will launch
generic Effexor XR capsules in July 2010. Subsequently, Osmotica filed a
citizen’s petition in May 2008, requesting the USFDA to ask all
subsequent filers for the generic tablet version of Effexor XR to resubmit
their ANDA applications with its drug being the reference listed drug
(RLD) as its product is NDA. Responding to the citizen’s petition, USFDA
granted CP to Osmotica. Thereby, it has not given approval to SPIL’s
generic tablet version of EffexorXR (venlafaxine extended release)
capsules. Post this development, SPIL needed to re-file the ANDA using
Osmotica’s venlafaxine extended release tablets as the RLD. SPIL has
filed for the ANDA for Effexor XR with Osmotica’s drug as RLD. It expects
to launch the drug on approval. If it is successful in launching the drug by
the end of CY09, then SPIL will benefit from the exclusive marketing of
Effexor XR until July 2010, when Teva is expected to launch the drug.

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Robust pipeline of filings – key to US revenue growth
SPIL, along with Caraco, has ~108 ANDAs (which includes seven
tentative approvals and some filings with Para-IV certification) pending Sun Pharma’s robust R&D pipeline
approvals. Approvals will likely be significant growth drivers for the of 108 pending ANDA approvals
topline & bottomline and to maintain margins. The growth will likely be will be the key growth driver for
fuelled on account of the company’s focus on filing for technologically the US business.
differentiated products such as new drug delivery systems, extended
releases, controlled substances, filings with para IV certification, etc. We
believe currently differentiated ANDAs account for 20-25% of the filings.

Exhibit 6: ANDA pipeline

200
170
160 142

120 103
94

80 59
48 53
40 29
15 20

0
2005 Mar 2006 Mar 2007 Mar 2008 Mar 2008 Dec

Cummulative product filings Cummulative product approvals

Source: Company, ICICIdirect.com Research

We believe while product sales under exclusivity (with FTF opportunity)

will likely bring midterm spikes in the performance, the filings under new
drug delivery systems (NDDS), extended releases, or controlled
substances, etc. will likely provide for a sustainable medium to long term
growth. It will also prevent margins erosion on account of less
competition in differentiated products.

We believe SPIL has an edge over its Indian peers because of its front-
end Caraco and backward integration into own APIs for many of its
products. For the US markets, SPIL selects products, which includes
filings with Para-IV certification, complex products, extended release
products, blockbusters and some plain vanilla ANDA filings on old
molecules. The clever blend of the filings provides stability to the
earnings.

• The plain vanilla ANDA filings on old molecules gives SPIL a

steady stream of revenue for few years, thereby enabling the
company to corner decent market share on the product

• On products under exclusivity period (on filings with Para IV

certification), the competition is likely to be low during the
exclusivity period (if the company launches the product)

• For complex molecules such as extended release or controlled

substances, there is less competition and price erosion, so the
margins and markets are sustainable

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Changing business mix – delivers superior margin
The product mix and US revenue contribution has a major bearing on the
EBITDA margin. Revenue mix from the US has increased to ~36% in
FY09 from ~25% in FY04 while the EBITDA margin expanded to ~44% in
FY09 from ~31% in FY04, indicating a positive relationship of EBITDA SPIL’s US strategy of
margin with US revenue contribution. However, SPIL has shown prudent product-mix in the
significantly higher margins historically. Contribution from exclusivity on US, lean cost structure and
Trileptal & Ethyol and at risk launch of generics pantoprazole on January strong cash flows to
29, 2008 contributed significantly to the topline & EBITDA margin. Super finance the R&D activity for
normal EBITDA margin on products during the exclusivity period lead the the US business are the
overall EBITDA margin to be very high. three mainstays to manage
a robust and consistent
Post FY09, revenues from the US market will likely decline on account of growth rate in the US
expiry of exclusivity period, declining contribution from generic
pantoprazole and decline in sales revenue of Caraco on account of
product withdrawal and USFDA action against its Michigan plant.
However, we believe the US strategy of the company of prudent product-
selection, lean cost structure and strong cash flows to finance the R&D
activity for the US business are the three mainstays to manage a robust
and consistent growth rate in the US & overall margins.

Exhibit 7: Changing business mix delivers superior margins

60 60
46.2 43.6
45 40.6 45
US (% contribution)

35.2 36.9
30.6 30.0 31.5 43.5
EBITDA %
30 36.3 30

24.9 22.8 23.8

15 24.9 15
18.7

0 6.3 0
FY04 FY05 FY06 FY07 FY08 FY09 FY10E FY11E

EBITDA (%) US (% to total sales)

Source: Company, ICICIdirect.com Research

12 | Page
Domestic market – niche focus, high margins

SPIL has superior margins via its strong focus on niche therapies in the
domestic market. The extensive product mix and exposure to growing Extensive product mix and
niche therapy areas of cardiovascular (CVS), central nervous system exposure to growing niche
(CNS), gastrointestinal (GI), respiratory, ophthalmology, orthopaedics, therapy areas lead to
etc. enables SPIL to grow faster than the industry growth rate. The ~28% CAGR growth in the
company generates ~75-80% of domestic formulation revenues from the domestic business over
niche therapies. During FY09, the domestic formulations business FY04-09. With continued
registered a healthy growth of 32% vis-à-vis industry growth of ~13%. focus on niche therapies
The company has been ranked No. 1 in six specialty therapies. and new product launches,
we expect SPIL to sustain
SPIL has demonstrated significantly good results in domestic markets. Its the domestic growth of
domestic formulations revenue grew at a CAGR of ~28% to Rs 1960 ~15% over FY09-FY11E.
crore over FY04-09. With continued focus on niche therapies and new
product launches, we expect SPIL to sustain the domestic growth of
~15% over FY09-FY11E.

Exhibit 8: Specialty-wise ranking in the domestic market

Speciality 1998 Current Ranking
Psychiatrist 1 1
Neurologist 1 1
Cardiologist 5 1
Opthalmologist NA 1
Diabetologist 6 1
Orthopedicians 31 1
Cgastro-enterologist 6 2
Nephrologist NA 4
Oncologist 20 6
Consulting Physician 8 5
Chest Physicians 16 4
Gynaecologist NA 6

Source: Company, ICICIdirect.com Research

Exhibit 9: Therapy-wise revenue contribution

30% 28%
Therapy-wise revenue contribution

20%
20%
14%
11%
10% 8% 7% 6%
4%
2%
0%
Gynaec &
Cardiology

Optholmology
Diabetology

Gastroenterology

Others
Musculo-skeletol

Psychiatry
Antiasthamatic
& Antiallergic
Urology

Neuro-
& Pain

Source: Company, ICICIdirect.com Research

13 | Page
Strong focus on niche therapies
SPIL exhibited robust domestic revenue growth on account of its strong
focus on chronic therapeutic areas. These require prolonged treatment as
the illness tends to be more chronic such as neuropsychiatry, CVS,
diabetology, etc. The segment accounts for ~75-80% of SPIL’s domestic A total of 70% of SPIL’s
formulations revenue. Due to prolonged nature of treatment, we believe domestic revenues come
the prescription life of the medicine is higher and is not readily from high margin chronic
changeable. Also, due to company’s ranking over the last five years, the segment. We expect this
brand value is higher. This will likely help SPIL to maintain superior segment to grow at a
margin. higher rate of ~21-22%

With rising stress levels, lifestyle changes and rising affluence, we believe
chronic therapy areas such as CNS, CVS and diabetes will likely grow
faster (~21-22%) than the industry growth rate of 12-13%. Historically
also the chronic segment has grown faster than the acute segment due to
changes in lifestyle. SPIL generates ~15% of its revenue from specialty
segments of ophthalmology and diabetology. In this therapeutic segment,
it has maintained its top ranking in the industry.

Exhibit 10: Break-up of chronic therapies in the domestic market

Chronic Therapies

CVS
29%
Nephro
39%

Diabetes
Opthal 16%
6% Gynaec
10%

Source: Company, ICICIdirect.com Research

14 | Page
R&D expenditure fetching robust returns
SPIL increased its stake from 56.5% to 76% i.e. 19.5% in Caraco via
technology transfer (technology developed by SPIL’s R&D) during the last
five years. Thereby, the company made expenditure on R&D to the tune
of ~Rs 1129 crore. The current market cap of Caraco (Caraco is a listed
entity) is ~Rs 765 crore implying that the expenditure on R&D has SPIL’s strong focus on R&D
generated ~Rs 150 crore via stake increase in Caraco and generated led to successful FTF
EBITDA of ~Rs 1120 crore on sale of products in the US markets applications (Protonix,
developed by the R&D team. Ethyol and Trileptal).
During H2FY09, SPIL
Strong organic revenue and profit growth has enabled SPIL to increase its received four ANDA
spending on R&D while maintaining profit margins. SPIL spends ~9% of approvals which have an
its annual sales on R&D, which is one of the highest in the Indian pharma estimated market size of
space. The R&D of the company is focused on generics research and has US$ 650 million.
developed a number of products ranging from ANDA with Para IV
certification to controlled substance and plain vanilla products. In the
recent past, a major fillip to its US business was provided by the
successful FTF applications (Protonix, Ethyol and Trileptal). During
H2FY09, SPIL received four ANDA approvals out of which one is the
company’s first controlled substance release.

Exhibit 11: Increased R&D effort translating into higher product filings
160 142

120
94

80
59 53
40
40 29
15 20

0
FY05 FY06 FY07 FY08
Cummulative products filed Cummulative products approved

Source: Company, ICICIdirect.com Research

15 | Page
Leanest cost structure
SPIL has one of the leanest cost structures in the industry, translating into
highest margins and superior RoEs. SPIL’s lean cost structure, strong SPIL has one of the leanest
organic growth and value-accretive acquisitions have enabled it to cost structures in the
maintain high return ratios. Average RoE for the last five years has been industry, translating into
consistently above 30% despite a worsening environment for global one of the highest margins
generics and increasing shareholders fund. However, going forward, we and superior RoEs
expect RoE to decline on expanded balance sheet largely financed via
shareholders’ fund.

In FY05, Sun issued FCCBs to the tune of US$350 million at an initial

conversion rate of Rs 729 per share and at a fixed exchange rate of Rs
45.01 per dollar. During FY08, the entire outstanding FCCBs were
converted into equity leading to an increase in shareholders fund. With all
the FCCBs getting converted, Sun’s net worth will rise significantly,
lowering the reported RoEs.

Exhibit 12: Cost comparison Rs crore

Cost Structure Sun Pharma Cipla DRL Ranbaxy

Net Sales 3357.1 4230.9 4991.7 6982.2

Raw material 722.6 2071.6 1813.3 2721.6
RM as % to sales 21.5 49.0 36.3 39.0
Employee cost 304.3 255.5 731.1 891.8
Emp. Cost as % to sales 9.1 6.0 14.6 12.8
R&D expenses 300.1 - - 428.0
R&D as % to sales 8.9 6.1
SGA 290.3 - 874.3 1690.7
SGA as % to sales 8.6 17.5 24.2
Other expenses 188.7 1042.2 734.1 335.3
Other exp as % to sales 5.6 24.6 14.7 4.8

Source: Company, ICICIdirect.com Research

16 | Page
A clean balance sheet with strong fundamentals
SPIL enjoys a strong balance sheet with over Rs 2000 crore in cash &
liquid investments, an important asset in tough business cycles. With Although there has been a
huge cash and attractive valuations in the market, we believe SPIL can rapid expansion in the
participate in the consolidation wave in the industry. SPIL’s strategy has fixed asset base, fixed
always been to focus on acquiring high potential yet underperforming asset turnover has
assets and create value out of such buy outs. improved from 1.6 in FY04
to 3.2 in FY08, signifying
SPIL has been utilising its strong operating cash flow to step up rapid up-gradation and
investments in manufacturing to meet the requirements of rapidly turning around the
expanding revenues. A significant portion of the fixed asset base acquisitions.
expansion is because of the multiple capacity acquisitions Sun has done
in the past. Although there has been a rapid expansion in the fixed asset
base, fixed asset turnover has improved from 1.6 in FY04 to 3.2 in FY08,
signifying rapid upgradation and turning around the acquisitions.

Exhibit 13: Improving asset utilisation

1200 4.0
1035.4
951.4
892.4
900 3.0
Net Fixed Assets (Rs

725.7 3.2

Fixed Asset T/o

613.0
600 2.0
2.2
1.8
1.6 1.6
300 1.0

0 0.0
FY04 FY05 FY06 FY07 FY08

Net Fixed Asset Fixed Asset T/o

Source: Company, ICICIdirect.com Research

17 | Page
Taro acquisition:

On May 20 2007, SPIL announced the acquisition of Taro Pharma for

US$454 million. The deal was agreed at $7.75 per share implying the
equity value of the transaction to be ~$230 million and debt refinance
of ~$224 million. The total EV of the transaction works out to ~$454
million. In May 2007, Franklin Advisers and Templeton Assets
Management, having beneficial ownership of ~9% in Taro, filed a
motion in the court to prevent the proposed merger on the grounds of
discrimination against minority shareholders.

Taro – breaching the agreement

A year after signing the deal with SPIL, Taro sent a notice to SPIL to
terminate the merger agreement on the grounds the price of US$7.75 per
share does not reflect the financial turnaround that the company achieved
in CY07. However, SPIL claims the turnaround happened on account of
the help that SPIL extended to Taro in the form of cash injection of US$60
million. SPIL currently holds a 36% stake in Taro and has the option to
buy 5 million shares of promoters at US$7.75 per share. It also has a
warrant to buy additional 3.8 million shares at US$6 per share. Exercising
all these options may take SPIL’s shareholding in Taro to 52%.

Promoters’ effort to raise the agreed price

In June 2008, SPIL exercised the option to acquire the promoters’ share,
subsequent to which Taro filed a motion seeking a declaratory judgment
on the tender offer in the Tel Aviv court. Responding to the motion the
Court ruled in favour of SPIL. Now Taro is appealing to the lower court
seeking declaratory judgment on the tender offer in the Israeli Supreme
Court. The Supreme Court of Israel will decide whether a tender offer or a
special tender offer is required. The Taro promoters may not tender their
stake. Hence, SPIL is pleading in the Supreme Court of the state of New
York to order the promoters and directors of Taro to honour the promise.

Taro acquisition, an attractive opportunity for value creation

If the Taro acquisition happens, it will be EPS accretive in the first year. As
per unaudited results, Taro reported profit of US$50 million on sales of
US$339 million in CY08 as against a profit of US$29 million on sales of
US$315 million in CY07. The acquisition is likely to help SPIL penetrate
deeper into the US as Taro gets ~85% revenue from the US. In FY08,
SPIL generated ~45% of revenue from the US on account of FTF
opportunities and at risk launches. However, we believe that the US
revenue contribution should stabilise at ~30-35% (without acquisition of
SPIL). On Taro acquisition, US revenues may move up to ~45-50%. If
SPIL does not succeed in acquisition of Taro, it should be construed as an
opportunity lost rather than a real loss.

Exhibit 14: Taro financials (un-audited numbers) Rs crore

CY07 CY08 YoY Gr. (%)
Sales 1471.1 1607.1 9.2
EBITDA 210.5 278.7 32.4
Net Profit 169.3 77.6* -54.2
Rs/$ assumed at 47
*includes an investment loss of Rs 82 crore
Source: Company, ICICIdirect.com Research

18 | Page
Risks & concerns

Near-term risks could be in the form of uncertainty surrounding SPIL’s

Taro Pharma acquisition, which we believe, will be a long drawn affair
unless both parties quickly agree on the issue.

During October 2008, Caraco’s Detroit facility was issued a warning letter
by USFDA. Although the FDA warning letter would not impact sales of
currently marketed products, it would halt any further approval of ANDAs
from that facility. If the issue is not resolved quickly, revenues from US
would be impacted.

Heightened competition in key therapy areas of the domestic market and

greater vulnerability to currency fluctuations (with international business
now accounting for ~50% sales) remain the key concern.

Sun continues to ship generic pantoprazole but in substantially lower

quantities. Sun intends to selectively sell pantoprazole with a certain price
point and mitigate risk – particularly before potential entry of a generic
competitor (UCB) in the near term. The generic pantoprazole was
launched at-risk. Hence, Sun may be liable for damage claims.

19 | Page
Financials

Organic growth to remain subdued SPIL’s FY09-11E CAGR is

Having grown at a CAGR of ~40% during FY07-09, SPIL’s CAGR is likely likely to decline on a higher
to decline on a higher base in the next two years due to loss of exclusivity base in the next two years
on some of its products, loss of revenue from the US post USFDA action due to loss of exclusivity on
and increasing competition in at-risk launched pantoprazole (Protonix), some of its products, loss
which generated estimated revenue of ~US$200 million for SPIL from the of revenue from the US
day it was launched till date. We estimate the FY09-11E revenue CAGR of post USFDA action and
2% at Rs 4427 crore. SPIL has exhibited excellent growth track record in increasing competition in
the past on account of extensive product mix in niche therapies and at-risk launched
clever product selection for the US market. Higher base and loss revenue pantoprazole
from Caraco post USFDA action seems to keep revenue growth flat.

Exhibit 15: Net sales to witness flat growth Rs Crore

Organic growth
5000 without exlusivity
4271.4 4426.9
4500 4108.7
4000 Marketing exlusivity led growth
3356.7
3500
3000
2500 2135.9
2000 1636.8
1500 1185.3
984.7
1000
500
0
FY04 FY05 FY06 FY07 FY08 FY09 FY10E FY11E

Source: Company, ICICIdirect.com Research

During FY07-09, the net profit of SPIL grew by ~52% to Rs 1824 crore
due to super normal margins on product under exclusivity in the US
markets and generic Protonix. We believe rising competition on generic
Protonix will keep margins under pressure. We estimate net profit will de-
grow at a CAGR of ~2.5% to Rs 1733 crore over FY09-11E.

Exhibit 16: Profits to decline @2.5% CAGR over FY09-11 Rs Crore

2000 1824.1
1698.8 1733.4
1800
1600 1487.1
1400
1200
1000 784.3
800 573.3
600 404.6
345.9
400
200
0
FY04 FY05 FY06 FY07 FY08 FY09 FY10E FY11E

Source: Company, ICICIdirect.com Research

20 | Page
Margins will likely stabilise in FY11E but remain robust
Given SPIL’s lean cost structure and strong focus on cost control, at risk
launch of generics pentoprazole (protonix) and exclusivity on Trileptal
and ethyol lead to SPIL’s super normal EBITDA margin in the range of
over ~43% during FY08 & 09. We believe SPIL’s EBITDA margin will likely We believe SPIL’s EBITDA
show declining trend over FY09-11E before normalising in FY11E in the margin will likely show
range of ~37%. declining trend over FY09-
11E before normalising in
During FY10E, we believe the EBITDA margin will likely be in the range of FY11E in the range of
~40% as SPIL is still marketing generics pentoprazole at certain price ~37%
level with very few competitors. This will likely keep margins higher. In
FY11E, we have assumed the margins will normalise in the range of ~36-
40% on account of better product mix and higher contribution from
controlled substances from US markets.

SPIL is likely to maintain its operating margin at over ~37% in the longer
run on account of its strategy of remaining focused on technologically
difficult products for the US markets, superior product mix in niche
therapy areas in domestic markets and lean cost structure. We believe
increase in SPIL’s revenue from core generic business of US would also
help in keeping margins high.

Exhibit 17: Operating and net profit margins to stabilise

50%

40%
NPM, OPM (%)

30%

20%

10%

0%
FY04 FY05 FY06 FY07 FY08 FY09 FY10E FY11E

EBITDA (%) NPM (%)

Source: Company, ICICIdirect.com Research

21 | Page
Return ratios – to stabilise after a spike
Given strong cost discipline, robust organic growth and value-accretive Over the last five years, the
acquisitions, SPIL has maintained better return ratios. However, over the RoNW & RoCE has shown a
last five years, the RoNW & RoCE has shown a declining trend due to declining trend due to
increasing balance sheet size, mostly financed by reserves. increasing balance sheet
size, mostly financed by
Exhibit 18: Return ratios to stabilise reserves.

40% ROCE & RoNW stabilizing after a fall 40%

30% 30%

20% 20%

10% 10%

0% 0%
FY '04 FY '05 FY '06 FY '07E FY '08E FY09E FY10E FY11E

RONW ROCE

Source: Company, ICICIdirect.com Research

Exhibit 19: Balance sheet size expanding at 33% CAGR with net worth at 42%
over FY04-11E
12000
Expanding balance sheet largely
10000 financed by reserves
8000

6000

4000

2000

0
FY '04 FY '05 FY '06 FY '07E FY '08 FY '09E FY10E FY11E

Networth BS Total

Source: Company, ICICIdirect.com Research

Exhibit 20: Du -Pont ratio analysis

FY04 FY05 FY06 FY07 FY08 FY09E FY10E FY11E
ROE (%) 43.2 35.8 36.1 28.3 29.8 28.1 21.6 18.6
PAT/PBT 0.9 0.9 0.9 0.9 0.9 1.0 1.0 0.9
PBT/PBIT 1.0 1.0 1.0 1.0 1.0 1.0 1.0 1.0
PBIT/Sales 0.4 0.4 0.5 0.5 0.4 0.4 0.4 0.4
Sales/Assets 0.5 0.5 0.6 0.6 0.5 0.5 0.4 0.8
Assets/Equity 1.1 1.1 1.1 1.1 1.5 2.3 2.7 1.6

Source: Company, ICICIdirect.com Research

22 | Page
Rising RoIC – indicating superior re-investment rate
Following the trend of RoNW & RoCE, RoIC is likely to show an increasing Continued return from
trend from FY10E onwards. Looking at the historical trend, RoIC generic Pantoprazole in
increased suddenly during FY08. During the period between FY04 and FY09 is likely to keep RoIC
FY07, the RoIC declined from ~39% to ~27% and later peaked in FY08 at at higher levels. Sudden
~53% due to supernormal returns from generic Pentoprazole, Ethyol and decline from pantoprazole
Trileptal. Continued return from generic Pentoprazole in FY09 is likely to revenue will impact return
keep RoIC at higher levels. As Pentoprazole is going off patent in July ratios post patent expiry on
2010, we expect a sudden decline from pentoprazole revenue to impact it in July 2010
return ratios. In FY11E, we expect technologically differentiated
molecules to generate higher revenues in US markets post ANDA
approval over FY10. This would likely improve the RoIC in FY11E. With
increasing RoIC and incremental cash flows being reinvested at higher
rates (at the rate of RoIC), we can expect healthy cash flows in future
years.

Exhibit 21: Return on invested capital to stabilise after spike in FY08

60% 53.1%
47.5%
50%
40.4%
39.5% 37.0% 37.6%
40%
30.0% ROIC likely to increase after a slight
26.9%
30% decline over FY08 to FY09E

20%

10%

0%
FY '04 FY '05 FY '06 FY '07E FY '08E FY09E FY10E FY11E

Source: Company, ICICIdirect.com Research

23 | Page
Valuations

SPIL has been one of the best performers in the Indian pharma space on
account of extensive and superior product mix. The company
differentiates itself from most of its Indian peers on account of strong
foothold in niche therapies in Indian markets, robust pipeline of
products in the US markets and cost leadership, thereby generating one
of the best EBITDA margins in the Indian pharma space. Recent ‘at risk’
launch of generic pantoprazole and exclusivity on Ethyol and Trileptal
lead it to achieve lifetime growth rate in the US. However, SPIL suffered
a setback on its Effexor XR opportunity. We believe its formidable
market share in niche therapies in domestic markets and strong pipeline
of 108 pending ANDAs approvals in the US market will likely keep its
growth momentum upbeat.

SPIL accorded top priority to the US markets to excel in the exports

market and follows a differentiated strategy in US markets, which
generates stabile earnings. We believe US revenues will likely de-grow
~27% due to recent USFDA actions on the Caraco’s Michigan facility.
However, speedy approval from its portfolio of 108 ANDAs (~20-25%
differentiated ANDAs) pending approval will likely protect further
deterioration of US revenues. SPIL has an edge over other Indian players
because of its front-end Caraco and backward integration into own bulk
for many of its products.

In the domestic market, SPIL generates superior margins via its strong
focus on niche therapies. The extensive product mix and exposure to
growing niche therapy areas of CVS, CNS, GI, respiratory, With continued focus on
ophthalmology, orthopaedics, etc. will likely lead SPIL to grow faster than niche therapies and new
the industry growth rate. The company generates ~75-80% of domestic product launches, we
revenue from niche therapies. During FY08-09, the domestic formulations expect SPIL to sustain the
business registered a healthy growth of 33% vis-à-vis industry growth of domestic growth of ~15%
~13% while the domestic formulations revenue growth was at a CAGR of over FY09-FY11E
~25% to Rs 1565 crore over FY04-09. With continued focus on niche
therapies and new product launches, we expect SPIL to sustain the
domestic growth of ~15% over FY09-FY11E.

Moreover, the company has a long history of acquisitions. The company

is currently making efforts to acquire Israel based Taro Pharma. If the
Taro acquisition happens, it will be EPS accretive in the first year. Taro On the Taro acquisition, US
reported unaudited profit of US$50 million on the sales of US$339 million revenues may move up to
in CY08 as against a profit of US$29 million on sales of US$315 million in ~45-50%
CY07. The acquisition is likely to help SPIL to penetrate deeper into the
US as Taro gets ~85% revenue from the US. In FY08, SPIL generated
~45% of revenue from the US on account of FTF opportunities and at risk
launches. However, we believe the US revenue contribution should
stabilise at ~30-35% (standalone SPIL). On the Taro acquisition, US
revenues may move up to ~45-50%.

24 | Page
Is the high P/E viable?

• SPIL generates a very strong EBITDA margin, which is probably one

of India’s best margins. Superior product mix gives better visibility
on the earnings

• Neat and clean balance sheet with almost nil debt on the books
reduces risk

• Strong fundamentals and better return ratios augur well

• SPIL has been one of the best performers in the Indian pharma
space during the last few years on account of extensive and
superior product mix

• If the Taro acquisition happens, it will be EPS accretive in the first

year. Taro reported unaudited profit of US$50 million on the sales
of US$339 million in CY08 as against a profit of US$29 million on
sales of US$315 million in CY07. The acquisition will lead SPIL to
penetrate deeper into the US market

• SPIL has a very strong pipeline of filings for the US market, which
may again generate some interesting launch

• SPIL has a superior and extensive product line in the niche chronic
therapy areas in the domestic market, which generate consistent
and better revenue and margin

• Lesser competition in the SPIL’s niche chronic therapy areas gives

better earning visibility

• SPIL invests aggressively in building a strong proprietary product

pipeline for the US market. It has demonstrated this by making R&D
expenditure of ~9% of sales

We believe SPIL deserves a premium over other players in terms of target

PE, as we believe:

1) There is better visibility on revenues and earnings momentum

2) The company can maintain its margin due to its superior product
mix in the domestic market and robust pipeline for the US market

3) Lower risk due to strong fundamentals, almost debt free and

clean balance sheet

4) Better RoIC, indicating higher reinvestment rate

25 | Page
We estimate the fair value of SPIL to be in the range of Rs 1344 (16x
FY11E EPS), ~10% higher than CMP. We are initiating coverage on SPIL
with a PERFORMER rating.

Exhibit 22: P/E band Exhibit 23: EV to EBITDA band

40000
1500 18x

16x 32000 20x

1200

12x 16x
900 24000

8x 12x
600 16000
8x

300 8000

0 0

Apr-03

Apr-08
Sep-03
Feb-04
Jul-04
Dec-04

Aug-06
May-05
Oct-05
Mar-06

Jan-07
Jun-07
Nov-07

Sep-08
Feb-09
Jul-09
Apr-03

Apr-08
Sep-03
Feb-04

Feb-09
Jul-04

Aug-06
Dec-04
May-05
Oct-05
Mar-06

Jan-07
Jun-07
Nov-07

Sep-08

Jul-09

Source: Company, ICICIdirect.com Research Source: Company, ICICIdirect.com Research

Exhibit 24: Market cap to sales band Exhibit 25: Price to book band
45000 4000
40000 10x 4x
3500
35000 3000
8x 3x
30000
2500
25000
2000 2x
20000
5x 1500
15000
2x 1000
10000
1x
5000 500

0 0
Apr-03

Apr-08
Sep-03
Feb-04
Jul-04

Aug-06
Dec-04
May-05
Oct-05
Mar-06

Jan-07
Jun-07
Nov-07

Sep-08
Feb-09
Jul-09
Apr-03

Apr-04

Apr-05

Apr-06

Apr-07

Apr-08

Apr-09
Aug-03

Aug-04

Aug-05

Aug-06

Aug-07

Aug-08
Dec-03

Dec-04

Dec-05

Dec-06

Dec-07

Dec-08

Source: Company, ICICIdirect.com Research Source: Company, ICICIdirect.com Research

26 | Page
Exhibit 26: P&L account Rs crore
FY '06 FY '07 FY '08 FY09A FY10E FY11E
Net Sales 1636.8 2135.9 3356.7 4271.4 4108.7 4426.9
Other Income 167.4 242.8 145.1 86.8 259.0 332.0
Raw Material 529.5 577.1 756.4 950.3 1083.3 1265.0
Raw material as % of sales 32.4 27.0 22.5 22.2 26.4 28.6
Emp Expenses 141.6 199.0 304.1 439.9 505.9 581.7
Emp exp as % of sales 8.7 9.3 9.1 10.3 12.3 13.1
SGA Expenses 321.8 443.9 290.3 388.3 369.8 398.4
SGA as % of sales 19.7 20.8 8.6 9.1 9.0 9.0
Other expenses 0.0 0.0 189.8 391.4 164.3 187.5
Other exp as % of sales 0.0 0.0 5.7 9.2 4.0 4.2
R&Dexpenses 153.4 244.0 299.0 332.0 317.5 362.7
R&D exp as % of sales 9.4 11.4 8.9 7.8 7.7 8.2
EBITDA 490.5 672.0 1551.3 1863.3 1668.0 1631.5
EBITDA margin (%) 30.0 31.5 46.2 43.6 40.6 36.9
Depreciation 61.0 81.3 96.9 116.2 106.6 112.2
PBT 596.9 833.5 1599.6 1955.6 1820.4 1851.3
Taxation 23.9 -6.7 48.5 71.2 72.8 79.8
Net Profit before minority interest 573.0 840.2 1551.1 1884.4 1747.6 1771.5
Minority Interest -0.3 55.9 64.0 60.3 48.8 38.1
Net Profit after minority interest 573.3 784.3 1487.1 1824.1 1698.8 1733.4

Source: Company, ICICIdirect.com Research

Exhibit 27: Balance sheet Rs crore

FY '06 FY '07 FY '08 FY '09E FY10E FY11E
Equity Share Capital 92.9 96.7 103.6 103.6 103.6 103.6
Preference capital 1.4 1.4 0.0 0.0 0.0 0.0
Reserves & Surplus 1495.9 2674.7 4887.3 6383.1 7776.1 9197.5
Minority Interest 33.2 43.8 188.6 248.9 297.7 335.8
Loan Funds 1874.5 1113.2 143.6 236.5 135.6 135.9
Secured Loans 35.6 38.3 36.8 129.6 28.8 29.1
Unsecured Loans 1838.9 1074.9 106.8 106.8 106.8 106.8
Deffered Tax Liability 105.3 89.5 9.2 9.0 9.0 9.0
Total Liabilities 3603.1 4019.3 5332.2 6981.0 8321.9 9781.7
Fixed Assets
Gross Block 1284.9 1425.2 1596.0 1940.6 2163.0 2298.6
Accumulated Depreciation 392.5 473.8 560.7 676.9 783.5 895.7
Net Block 892.4 951.4 1035.4 1263.7 1379.5 1402.9
Capital Work-in-progress 41.4 60.8 68.6 42.0 0.0 0.0
Investments 354.1 254.3 656.5 2500.0 2500.0 2500.0
Net Current Assets
Cash 1546.8 1448.7 1510.5 380.6 1752.1 2962.8
Trade Receivables 360.9 678.9 1417.7 1791.8 1725.4 1857.3
Loans & Advances 247.1 265.3 508.1 437.4 421.2 453.4
Inventory- Other 511.7 664.5 772.8 1008.0 1048.3 1194.5
Current Assets, Loans & Advances 2666.6 3057.3 4209.1 3617.9 4946.9 6468.0
Less : Current Liabilities & Provisions 351.5 304.6 637.3 442.6 504.5 589.2
Total Net Current Assets 2315.1 2752.8 3571.8 3175.3 4442.4 5878.8
Miscellaneous expenses not written 0.0 0.0 0.0 0.0 0.0 0.0
Total Assets 3603.1 4019.3 5332.2 6981.0 8321.9 9781.7

Source: Company, ICICIdirect.com Research

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Exhibit 28: Ratio analysis
FY '06 FY '07 FY '08 FY09E FY10E FY11E
Per share data
EPS 30.8 40.6 71.8 88.1 82.0 83.7
Cash EPS 34.1 47.6 79.6 96.6 89.5 90.9
Book Value 171.1 286.6 481.9 626.4 760.9 898.1
Margins
Operating Margin (%) 30.0 31.5 46.2 43.6 40.6 36.9
Gross Profit Margin (%) 36.5 38.5 48.4 47.5 44.1 41.3
Net Profit Margin (%) 31.8 35.3 44.3 43.2 40.0 37.2
Balance sheet & Return ratios
RoNW (%) 36.1 28.3 29.8 28.1 21.6 18.6
ROCE (%) 16.8 21.1 30.4 28.2 21.9 18.9
ROIC (%) 30.0 26.9 53.1 47.5 40.4 37.6
Debt Equity 1.2 0.4 0.0 0.0 0.0 0.0
Valuation ratios
EV/Sales 12.9 9.9 6.5 5.4 5.2 4.6
EV/EBIDTA 42.9 31.6 14.0 12.3 12.9 12.4
Market Cap to sales 12.7 10.1 6.9 5.4 5.6 5.2
P/BV 6.5 3.9 2.3 1.8 1.5 1.2
Turnover Ratios
Fixed Assets Turnover Ratio 1.9 2.4 3.3 3.5 3.1 3.2
Debtors Turnover Ratio 4.5 3.1 2.4 2.4 2.4 2.4
Inventory Turnover Ratio 3.4 3.4 4.5 4.3 4.0 3.8
Creditors Turnover Ratio 2.8 4.0 2.1 4.0 3.9 3.8
Working capital ratios
Current Ratio 7.6 10.0 6.6 8.2 9.8 11.0
Quick Ratio 6.1 7.9 5.4 5.9 7.7 9.0
Working Capital/Sales 1.4 1.3 1.1 0.7 1.1 1.3
Cash to Absolute Liabilities 4.4 4.8 2.4 0.9 3.5 5.0
L& A T/o 6.6 8.1 6.6 9.8 9.8 9.8
Debtor Days 80.5 116.0 154.2 153.1 153.3 153.1
Inventory Days 107.5 108.4 81.5 84.1 90.8 96.2
Creditor Days 129.2 91.1 172.2 90.8 94.0 95.8
L&A Days 55.1 45.3 55.3 37.4 37.4 37.4
Debtors to Sales 0.2 0.3 0.4 0.4 0.4 0.4
Average Debtors/Sales 0.2 0.2 0.3 0.4 0.4 0.4
Source: Company, ICICIdirect.com Research

Exhibit 29: Cash flow statement Rs crore

FY '06 FY '07 FY '08 FY09E FY10E FY11E
Op cash or cash equivalents 1752.1 380.6 1510.5 1448.7 1546.8 1180.9
Profit after Tax 1771.5 1747.6 1884.4 1551.1 840.2 573.0
Less: Dividend Paid 352.0 301.3 328.3 267.7 141.2 102.3
Add: Depn 112.2 106.6 116.2 96.9 81.3 61.0
Add Provision for deffered tax 0.0 0.0 0.2 80.3 15.8 15.7
Cash Profit 1571.7 1548.4 1672.1 1300.0 764.5 547.4
Net Increase in Current Liabilities 230.8 103.5 194.7 332.8 46.9 92.8
Net Increase in Current Assets 964.4 77.9 538.7 1089.9 488.9 406.0
Cash Flow after changes in WC 1030.0 1547.0 938.8 542.8 228.8 234.1
Purchase of Fixed Assets 135.6 180.4 318.0 188.6 159.6 219.9
(Increase) / Decrease in Investment 0.0 0.0 1843.5 402.2 99.8 294.4
Increase / (Decrease) in Loan 2.9 101.9 92.8 969.6 761.3 51.5
Increase / (Decrease) in share cap 0.0 0.0 0.0 1079.4 494.2 5.8
Net Cash Inflow / Outflow 897.3 1264.7 1129.9 61.8 98.1 365.9
Closing Cash/ Cash Equivalent 2542.6 1645.3 380.6 1510.5 1448.7 1546.8
Source: Company, ICICIdirect.com Research

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 RATING RATIONALE
ICICIdirect.com endeavours to provide objective opinions and recommendations.
ICICIdirect.com assigns ratings to its stocks according to their notional target price vs. current
market price and then categorises them as Outperformer, Performer, Hold and
Underperformer. The performance horizon is two years unless specified and the notional target
price is defined as the analysts' valuation for a stock.
Outperformer (OP): 20% or more;
Performer (P): Between 10% and 20%;
Hold (H): +10% return;
Underperformer (U): -10% or more;

Pankaj Pandey Head – Research pankaj.pandey@icicidirect.com

ICICIdirect.com Research Desk,

ICICI Securities Limited,
7th Floor, Akruti Centre Point,
MIDC Main Road, Marol Naka,
Andheri (E)
Mumbai – 400 020

research@icicidirect.com

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