Aarti Drugs: Proxy play on the domestic and global pharma industry

SECTOR: HEALTH CARE

Aarti Drugs

STOCK INFO.

BLOOMBERG

BSE Sensex:28,420

S&P CNX:8,603

ARTD:IN

REUTERS CODE

21 July 2015

Initiating Coverage

(INR CRORES)

Buy

INR677

ADRG.NS

Y/E MARCH

Revenue

EBITDA

EBITDA Margin

NP (Adj.)

EPS (Adj.)

EPS Growth

BV/share

ROE (%)

ROCE (%)

P/E (x)

P/BV (x)

FY15E

1085

166

15.3%

31.3

24%

125

21.6

5.4

FY16E

1273

193

15.1%

35.9

15%

150

18.9

4.5

FY17E

1526

234

15.3%

114

47.2

31%

183

14.3

3.7

KEY FINANCIALS

Diluted Shares (cr)

Market Cap. (Rs cr)

Market Cap. (US$ m)

Past 3 yrs Sales Growth (%)

Past 3 yrs NP Growth (%)

2.4

1090

173

18%

53%

We recommend a BUY on Aarti Drugs with a target of INR 850

- valuing the company at 18x FY17E EPS.

Proxy play on the domestic and global pharma industry:

Aarti

Drugs is a high quality API supplier to formulation companies across

domestic and international markets. Over the last decade, the company

has gained scale by growing its revenues from INR 200cr to over

INR 1000cr at an annual growth of 16%. Further the company is the

market leader in most of its top 10 products thereby enabling it to

enjoy economies of scale. The company's domestic clients comprise

all major formulation companies like Cipla, Dr Reddy's, Cadilla, Ranbaxy,

Glaxo, Alembic, etc. The company exports to over 97 countries with

exports constituting 38% of its revenues.

Focus on higher value products driving return ratios:

Much of

the incremental capex of the company is strategically being allocated

towards high value import substitute products in segments of Antibiotic,

Antifungal, Cardio and Antidiabetic. The margin commanded by these

new products will be in line with those of other categories however

owing to their higher realizations the company will be able to increase

its asset turnover thereby driving the return ratios. Over the last few

years, the company has increased its ROCE from 11% in FY11 to

18% in FY15 which we expect to rise to 21%/23% by FY17/18E.

Insulated from currency movements:

The company is insulated

from movement in the currency inspite of exports constituting 38% of

revenue as import of raw materials form 36% of revenue. Thus the

net currency exposure of the company is at barely 2% of its revenue.

Robust expansion plans to drive 23% earnings growth over

FY15-17E:

In order to tap opportunities unfolding in the domestic

and global pharmaceutical industry, the company plans to incur an

annual capex of around INR 100cr in coming years. We expect the

company to grow its revenues and profits at 19% and 23% respectively

over FY15-17E.

Valuations & View:

Given the robust revenue visibility that the

company enjoys from its dependence on the domestic and global

pharmaceutical industry, aggressive expansion plans in high value

segments, a 23% CAGR in profits over FY15-17E along with

consistently expanding return ratios and dividend payout of 30%; we

believe company is available at attractive valuations at 14.3x FY17E.

We value the business at 18.0x FY17E EPS which is a 20% discount

to the mean multiple of 22.6x commanded by midcap formulation

companies and recommend a BUY rating on the stock with a target

price of INR 850/share.

STOCK DATA

52-W High/Low Range (INR)

Major Shareholders (as of March 2015)

Promoter

Non Promoter Corp Holding

Public & Others

Average Daily Turnover(6 months)

Volume

Value (Rs cr)

1/6/12 Month Rel. Performance (%)

1/6/12 Month Abs. Performance (%)

294/874

60.1

2.1

37.8

14069

1.1

7/11/120

13/12/131

Maximum Buy Price :INR720

Jehan Bhadha (jehan.bhadha@MotilalOswal.com); Tel: +91 22 33124915

Aarti Drugs

Well diversified product and client profile:

Aarti Drugs derives two-thirds of its revenue from antibiotics

and antiprotozoal while the balance is contributed by segments like anti-inflammatory, antifungal, cardio and

antidiabetic. Among products, the highest revenue share is derived from Ciproflaxacin contributing 18% of the

revenues while the top 10 products together account for 60% of the revenues. In all of these products, the

company is the leader in terms of production either domestically or globally. The huge scale of operations along

with high market shares in each of these products enables the company to command impressive EBITDA

margins of around 15% inspite of being an API player. Further, the company's clientele is also well diversified

with the top 10 contributing to just 28% of the revenues. Cipla, J.B.Chemicals and Abbot are among the major

clients contributing around 4% each to the company's revenues.

Promoter shareholding on the rise:

The promoters have consistently increased their stake from 50.0% in

FY10 to 60.1% currently. However, actual promoter holding is at 68% as around 5% is held by Mr Harit Shah

(and his family) who joined the company later as a promoter and around 3% is held by relatives of Mr Harshit

Savla (Joint M.D), the holdings of which are not included in the promoter group.

CONCERN:

Adverse pricing action under DPCO:

Any action by the government under the DPCO (Drug Price Control

Order) to add more drugs under the price control mechanism could act as a dampener for the sector which

could have an impact on the company as well. However, since Aarti Drugs has a basket of over 35 products,

it shall be able to wither such an impact in case it were to happen.

Import alert:

One of Aarti Drugs' Tarapur facility was issued an import alert in March 2015. However this

won't have any major impact on the company as US forms less than a percent of the company's revenue.

Further, the import alert was issued due to data integrity reasons as USFDA requires the minutest of details to

be furnished. We believe the company follows robust manufacturing practices as audits are carried out by its

customers on one-third of the days on an average.

Company Background

Aarti Drugs Ltd (ADL), an Aarti Group company, was established in 1984 by four engineering batch mates of

UDCT (now Institute of Chemical Technology) and is owned by these four families who form the promoter

group. The company is engaged in manufacturing APIs, pharma intermediates and specialty chemicals with ten

GMP compliant facilities including one USFDA approved facility. Eight facilities are located in MIDC Tarapur,

Mahrashtra while two are located in GIDC Sarigam, Gujarat. The company exports 38% of its revenues to

over 97 countries with strong presence in regulated markets including Brazil, Mexico, Netherlands and Spain.

21 July 2015

Aarti Drugs

IVRCL: Financials and Valuation

Aarti Drugs Financials & Valuation

INCOME STATEMENT (Consolidated)

Y/E MARCH

FY13

FY14

(INRCR)

FY15 FY16E FY17E

RATIOS (Consolidated)

Y/E MARCH

FY13

FY14

FY15 FY16E FY17E

Revenues

Growth

COGS

Gross Profit

GP Margin

Employee Cost

Other Expenses

EBITDA

EBITDA Margin

Depreciation

Other Income

PBIT

E/O. Inc/(Loss)

Interest Cost

PBT

Tax

Rate

Adjusted PAT

Growth

PAT Margin

825

25%

555

270

122

119

(0)

31%

115%

5.5%

970

18%

664

306

129

145

118

28%

34%

6.3%

1085 1273

12%

742

343

139

166

137

23%

24%

17%

871

402

166

193

161

117

25%

15%

1526

20%

1044

482

196

234

200

153

25%

114

31%

7.5%

Adjusted EPS (INR)

Book Value

Div Per Share

Dividend Payout

Net Debt / Equity

Valuation

P/E

P/BV

EV/EBITDA

EV/Sales

Dividend Yield

Return Ratios

ROCE

ROE

W.Cap. Ratios

Debtor days

Inventory days

Creditor days

W.Cap cycle

18.8

171

10.0

31%

1.5

25.2

207

13.0

30%

1.5

31.3

125

8.0

30%

1.4

21.6

5.4

9.9

1.5

1.2%

35.9

150

9.5

31%

1.3

18.9

4.5

8.5

1.3

1.4%

19%

24%

103

47.2

183

12.5

31%

1.2

14.3

3.7

7.0

1.1

1.8%

21%

26%

101

32.7% 31.6% 31.6% 31.6% 31.6%

14.5% 14.9% 15.3% 15.1% 15.3%

18%

22%

19%

24%

104

18%

25%

104

7.0% 6.8%

BALANCE SHEET (Consolidated)

Y/E MARCH

FY13

FY14

(INRCR)

FY15 FY16E FY17E

CASH FLOW

(Consolidated)

(INRCR)

FY13

FY14

FY15 FY16E FY17E

Y/E MARCH

Share Capital

Reserves

Networth

Loans

SOURCES OF FUNDS

Gross Fixed Assets

Less: Depreciation

Net Fixed Assets

Capital WIP

Inventories

Debtors

Cash & Investments

Loans & Advances

Other Curr Assets

Curr. Assets

Creditors and Prov.

Net Current Assets

196

208

321

528

479

188

291

141

216

416

164

252

239

251

379

630

581

209

373

127

277

469

189

280

630

279

304

439

742

684

239

445

153

308

522

189

333

742

340

364

486

850

783

273

510

186

358

606

232

374

850

419

444

521

965

880

309

572

231

420

714

288

426

965

EBITDA

Adjustments

(Inc)/Dec in W.Cap

Pre Tax OCF

Tax Paid

CF from Operations

(Inc)/Dec in FA

Invst in Bank Deposits

Interest Received

CF from Investing act.

Inc/(Dec) in Debt

Interest Paid

Divd Paid (incl Tax)

CF from Financing act.

Inc/(Dec) in Cash

Add: Opening Balance

Closing Balance

119

(33)

(21)

(49)

(48)

(28)

(14)

(20)

(2)

145

-2

(27)

115

(24)

(98)

(96)

(33)

(18)

166

-6

(47)

113

(19)

(95)

(93)

(39)

(23)

(1)

193

-1

(41)

151

(31)

120

(98)

(97)

(44)

(27)

(24)

(1)

234

(51)

184

(39)

144

(98)

(96)

(48)

(35)

(48)

Less Net Def. Tax Liab

APPLICATION OF FUNDS528

21 July 2015

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Aarti Drugs

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