Alkem: Near-term overhang for US biz

Any adverse FDA outcome will affect overall growth

The Alkem Laboratories stock has shed about 9 per cent over the last few sessions after it received 13 observations from the US Food and Drug Administration (FDA) for its Daman formulations plant.

The facility contributes about 30 per cent to the company’s US revenues. It accounts for 25-30 pending abbreviated new drug applications (ANDAs) of a total pipeline of 60 ANDAs. The US contributes about 21 per cent to the company’s overall revenues.

Analysts at Nomura said the observations were a concern and highlighted that the system was not adequately equipped to carry out tests in a timely manner. Also, it raises concerns over data protection and reliability.

The overhang is likely to continue in the near term. With a strong ANDA pipeline and plans to grow the US revenues at 20 per cent annually over the FY17-19 period, any adverse FDA action will have a bearing on the firm’s US and international revenue.

The revenue of international (largely US) business, present in niche segments of dermatology, oncology and nasal spray, has grown at 37 per cent annually over the FY13-17 period on the back of a low base and the firm’s organic and inorganic initiatives.

The company’s overall profit margins are lower than peers even as it is the sixthlargest domestic formulations player with a market share of 3.4 per cent and has been outperforming the pharma market in the last few years.

According to analysts at Axis Securities, higher share of acute business, which has lower gross margins, US business, which is neutral at the operating profit level, third-party distribution business in the US and higher investment in the field force are mainly responsible for lower margins. However, they said profitability should improve on the back of operating leverage, higher share of chronic portfolio and increasing share of own products in the US.

Given that over 70 per cent of revenues come from India, near-term earnings growth will be driven by its domestic formulation business. The company reported 12.2 per cent growth in February, led by its anti-diabetic therapy that grew 15.9 per cent, new product introductions and volume growth. This was better than the overall pharma market growth, which came in at 7.1 per cent. Though sales of the chronic portfolio are much smaller than the acute segment, it is growing at a faster pace and should help improve market share and margins.

At the current price the stock is trading at 21 times its FY19 estimates and investors should await clarity on the FDA observations as well as the March quarter numbers before taking an exposure into the stock.