Sun Pharma
BSE SENSEX
25,860
S&P CNX
7,966
24 November 2016
Update | Sector: Healthcare
CMP: INR684
TP: INR925 (+35%)
Buy
Mohali 483 observations out; all eyes now on Halol resolution
Sun Pharma’s (SUNP) Mohali-based oral solids formulations plant was
inspected by the US FDA from 7–16 November 2016. Post inspection, seven
observations were issued, none of which were repeated (last 483 observations
were issued in late-2012). Most of the observations were related to
SOP/documentation. In our understanding, resolution of observations 1 (a) and
2 is critical (related to handling of out of specification results and failure to
document repeat testing, respectively).
Notably, the Mohali plant is new and under import alert and consent decree
since 2013. US FDA had previously inspected the facility twice – in Sep-12 (11
observations) and Dec-12 (3 observations) – after which it issued import alert.
Although resolution of US FDA issues at Mohali may prove to be sentimentally
positive and help create excess capacity, we do not expect it to lead to any
meaningful change to our near-term estimates, even if the outcome is not
favorable. Halol resolution remains the key near-term catalyst, in our view.
Resolution of issues at Mohali to help de-risk future fillings from India:
There
were ~30 pending ANDAs from this facility. Given that these ANDAs are at least
3-4 years old, we do not expect any meaningful contribution to sales. Having
said that, resolution of FDA issue is crucial for SUNP. Currently, SUNP has four
oral solids facilities in India that supply to the US (apart from Halol, other three
facilities are running closer to full capacity). Mohali becoming CGMP-compliant
will help SUNP to expand capacity and de-risk future fillings.
Halol resolution is key:
According to media reports, US FDA is currently
inspecting the Halol facility, one of SUNP’s largest facilities contributing to US
sales. In FY16, Halol contributed ~7-9% of total sales and >15% of US sales for
the company. Apart from key oral solid fillings (including SPARC products),
almost all the injectable fillings are from this facility.
Major initiatives over past two years to bring Halol back on track:
Over past
two years, the company has taken multiple measures like 1) hiring of third-
party foreign consultants, 2) hiring of senior employees from big pharma in
quality and compliance teams (e.g. hired Jila Breeze in early 2015 as head of
global quality and compliance; she has more than 25 years of experience with
companies like Novartis and Apotex), and 3) heavy investment on technology
and remediation (one of the primary reasons for significant increase in legal
cost over past two years).
Valuation remains attractive:
We believe the current stock price does not
reflect key positives like RBXY integration benefits, Halol and Mohali plant
resolution, and investments in the specialty business. We see the current
weakness in stock price as an opportunity to add. SUNP remains an attractive
Indian play on specialty business in the US. We maintain
Buy
rating with a
target price of INR925, based on 22x 1HFY19E.
Stock Info
Bloomberg
Equity Shares (m)
52-Week Range (INR)
1, 6, 12 Rel. Per (%)
M.Cap. (INR b)/ (USD b)
Avg Val, (INR m)
Free float (%)
SUNP IN
2,406.0
898 / 572
0/-14/-4
1,645.7/23.9
2973
45.0
Financials Snapshot (INR b)
Y/E Mar
2016
2017E
2018E
Sales
EBITDA
Rep. PAT
Rep.EPS (INR)
Adj. PAT
Core EPS (INR)
EPS Gr. (%)
BV/Sh. (INR)
RoE (%)
RoCE (%)
Payout (%)
Valuations
P/E (x)
P/BV (x)
EV/EBITDA (x)
Div. Yield (%)
277.4
79.6
47.1
19.6
47.1
19.6
-0.7
130.5
16.5
18.7
0.0
35.0
5.2
19.8
0.0
313.2
97.5
76.2
31.7
69.4
28.8
61.8
144.6
21.0
22.9
19.4
23.7
4.7
15.1
0.9
338.3
114.8
94.8
39.4
94.8
39.4
24.5
177.0
24.5
25.3
16.0
17.4
3.9
12.1
0.9
Estimate change
TP change
Rating change
Kumar Saurabh
(Kumar.Saurabh@MotilalOswal.com); +91 22 6129 1519
Gaurav Tinani
(Gaurav.Tinani@motilaloswal.com); +91 22 6129 1552
Investors are advised to refer through important disclosures made at the last page of the Research Report.
Motilal Oswal research is available on www.motilaloswal.com/Institutional-Equities, Bloomberg, Thomson Reuters, Factset and S&P Capital.

Sun Pharma
Exhibit 1: Detailed analysis of form 483 observations
Sr. No Observations
Our view
FDA has pointed out two specific
instances.
1a. In the first instance, out of
specification (OOS) batches were
okayed for release, rather than being
rejected or disposed.
1b. In the second instance, an analyst
who was performing a particular task
had not been trained properly.
Remedial measure
required
1
Failure to thoroughly review the failure of a batch or any of its
components to meet any of its specifications whether or not the
batch has been already distributed
Training-related
deficiency. Can be
remediated by
employee re-training.
2
Laboratory records do not include complete data derived from all
tests, examinations and assay necessary to assure compliance with
established specifications and standards
FDA has pointed out two specific
Requires amendment in
instances where the laboratory did not
SOP.
report/record all test results.
Requires amendment in
SOP.
3
Appropriate controls are not exercised over computers or related
Concern relating to no password
systems to assure that changes in master production and control
protection for an instrument used in
records or other records are instituted only by authorized personnel the quality control testing lab.
Examination and testing of samples are not done to assure that in-
process materials conform to specification
4
According to FDA, there is no sufficient
Requires amendment in
data to support accuracy and sensitivity
SOP.
of test method.
Requires amendment in
SOP.
Requires deleting the
previously retired SOPs.
5
6
Concern relating to the process of
The quality control unit lacks authority to review production records
reviewing of electronic data by the
to assure that no errors have occurred.
quality control unit.
The quality control unit lacks the responsibility and authority to
approve and reject all drug products
There are no written procedures for production and process
controls designed to assure that the drug products have the
identity, strength, quality, and purity they purport or are
represented to possess
Obsolete SOPs are accessible for
viewing for end users.
7
Concern relating to absence of data to
Requires adding details
support accuracy and sensitivity of test
to the current SOP.
method.
Source: MOSL, USFDA
Exhibit 2: Previous form 483s issued to SUNP’s Mohali formulations facility
Facility
Mohali, Punjab
Mohali, Punjab
Inspection end
date
26-Sep-12
12-Dec-12
No of observations
11
3
Link to form 483
Click here
Click here
Source: MOSL, USFDA
24 November 2016
2

Sun Pharma
Exhibit 3: Past US FDA enforcement action on Indian companies
Company
Cadila Healthcare
Sun Pharma
Dr. Reddy's
Dr. Reddy's
Dr. Reddy's
Emcure Pharma
IPCA Labs
IPCA Labs
IPCA Labs
Sun Pharma
Ranbaxy
Ranbaxy
Strides
Arcolab
Wockhardt
Jubilant
Life Sciences
Dr. Reddy's
Cadila
Aurobindo
Aurobindo
Sun Pharma
Ranbaxy
Sun Pharma
Lupin
Cipla
Ranbaxy
Taro
Pharma
Ranbaxy
Ranbaxy
FDA Action
Warning Letter
Warning Letter
Warning Letter
Warning Letter
Warning Letter
Import Alert
Import Alert
Import Alert
Import Alert
Import Alert
Ban
Import Alert
Warning Letter
Import Alert
Warning Letter
Import Alert
Warning Letter
Warning Letter
Import Alert
Warning Letter
Warning Letter
Product Seizure
Warning Letter
Form '483
AIP
Warning Letter
Warning Letter
Import Alert
Unit
Moraiya, Gujarat
Halol, Gujarat
Srikakulam, AP
Miryalaguda, TL
Visakhapatnam, AP
Pune
Silvassa
Pithampur, MP
Ratlam, MP
Karkhadi,
Gujarat
Taonsa
Mohali
Bangalore
Waluj, India
Canada
Mexico
Moraiya
Unit III
Unit VI
Able Labs
Ohm Labs
Michigan,
Caraco
Mandideep
Bangalore
Paonta Sahib
Brampton,
Canada
Batamandi
Dewas
Formulations
Formulations
Formulations
API
Formulations
Formulations
API
Formulations
Nature of
facility
Formulations
Formulations
API
API
Formulations
Formulations
Formulations
Formulations
API
API
API
Formulations
Injectable formulations
Formulations
Formulations
API
Formulations
Formulations
Formulations
Date of
action
23-Dec-15
17-Dec-15
6-Nov-15
6-Nov-15
6-Nov-15
13-Jul-15
25-Mar-15
25-Mar-15
23-Jan-15
13-Mar-14
24-Jan-14
13-Sep-13
11-Sep-13
24-May-13
27-Feb-13
6-Jul-11
6-Jun-11
23-May-11
27-Feb-11
31-Aug-10
24-Dec-09
26-Jun-09
14-May-09
20-Apr-09
26-Feb-09
5-Feb-09
17-Sep-08
17-Sep-08
Date of
resolution
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
27-Jul-12
17-Jul-12
4-Jun-12
28-Mar-13
19-Sep-11
x
28-Aug-12
20-Jan-10
31-Aug-09
x
25-Apr-11
x
x
Resolution in
(months)
NA
NA
NA
NA
NA
NA
NA
NA
NA
NA
NA
NA
NA
NA
NA
12.9
13.6
12.6
25.3
12.8
NA
38.6
8.4
4.4
NA
27
NA
NA
Source: MOSL, USFDA
24 November 2016
3

Sun Pharma
Exhibit 4: Last inspection date of SUNP’s USFDA approved India based formulations facility as per FDA inspection database
Legal Name
Halol, Gujarat
Dadra
Silvassa, Dadra
Baska, Gujarat
Inspection
End Date
Sep-14
Jan-15
NA
District
Decision
OAI-483
issued
VAI-483
issued
NA
Comments
Warning Letter issued. Still
Under Review
Other
Formulations- Tablets, Capsules, Injectable
Formulations- Tablets, Capsules, DPI
Formulations- Tablets, Capsules, ointments, eye drops
Formulations- Tablets
Source: MOSL, Company, USFDA
Valuation and view
SUNP has historically commanded 20-25% premium to Indian pharma peers,
typically at 25-27x one-year forward P/E multiples. The stock is trading at 24x FY17E
and 17x FY18E, which does not fully value its rich US pipeline and stable, cash-
generating domestic business. Consistent outperformance in the domestic market
with market share gains and high profitability reflect management’s execution
capability (and product selection skills). Identification of value-accretive assets and
integrating them successfully has been one of the cornerstones of SUNP’s success.
We believe that valuation premium is likely to be maintained on the back of:
High earnings visibility on a favorable base (forecast EPS CAGR of 30% over
FY16-19E).
Sustained improvement in RoE, implying high capital efficiency. We expect RoE
to expand from 16.5% in FY16 to 22.6% by FY19E.
Strong cash generation and healthy balance sheet. We expect SUNP to generate
INR350b free cash flows over FY16-19E
Our target price implies 35% upside
We assign target P/E of 22x to SUNP’s base business EPS for 1HFY19E and arrive at a
target price of INR925, implying 35% upside from current levels. Our target multiple
is:
At lower end of its historical average P/E band (1-year forward).
At 10% premium to sector average P/E of 20x.
Key catalysts going forward are:
We have not factored in any potential acquisition that SUNP can execute (net
cash surplus) as well as positive development of its novel molecule
(tildrakizumab, in-licensed from Merck).
Execution of RBXY integration would be a key catalyst to watch out in future.
Risks to our thesis are:
Currency volatility:
SUNP derives more than 70% of its revenues (and profits)
from overseas business (largely the US), and is thus affected by currency
fluctuations on operational level. As a prudent measure though, the company
has hedged ~50% of its net exposure to the USD through forward covers
(<12mths duration) in the past. A reversal in current trend (i.e., rupee
appreciation) thus poses downside risk to forecasts.
24 November 2016
4

Sun Pharma
Increased competition in US derma market:
Taro accounts for 20% of SUNP’s
business and is currently witnessing pricing pressure owing to increased
competition in the US derma market. Additionally, if some of the approved
players (2-3) re-enter the market, there could be accelerated risk to pricing in
the US derma market, hurting SUNP (Taro) adversely.
Exhibit 6: P/E relative to Sensex
Exhibit 5: P/E band (x)
62
52
42
32
22
12
15.7
25.3
22.3
PE (x)
Peak(x)
Avg(x)
52.3
Min(x)
210
140
70
0
-70
Sun Pharma PE Relative to Sensex PE (%)
LPA (%)
50.0
31.1
Source: Company, MOSL
Source: Company, MOSL
24 November 2016
5

Sun Pharma
Story in charts
Exhibit 7: Revenues to exhibit 11% CAGR over FY16-19E
Formulations (INR b)
API (INR b)
23
11
6
75
8
154
265
265
296
318
355
15
17
20
47.5
55.0
42.9
39.3 2,080
-7.5
10.0
-2.4
2,254 2,199 2,418
8.4
Exhibit 8: US generic sales to be driven by new launches
110.8
US Sales (USD m)
Growth YoY (%)
5
53
8
106
494
729
1,130 1,615 2,249
FY11 FY12 FY13 FY14 FY15 FY16 FY17E FY18E FY19E
Source: Company, MOSL
Source: Company, MOSL
Exhibit 9: Domestic business to exhibit robust growth
India sales (INR b)
82%
91
13%
101
Growth YoY (%)
Exhibit 10: RBXY synergy benefits to drive margin expansion
EBITDA (INR m)
39.9
43.7
43.3
28.3
28.7
31.1
115
33.9
133
EBITDA Margin (%)
34.2
73
22%
29
2%
30
24%
37
67
8%
80
10%
12%
32
FY12
49
FY13
69
77
80
98
FY14
FY15
FY16
FY17E FY18E FY19E
Source: Company, MOSL
Source: Company, MOSL
Exhibit 11: Earnings to exhibit 31% CAGR (on fav. base)
Exhibit 12: Margin expansion to yield superior return ratios
RoE (%)
33.4
31.5
24.0
25.6
21.5
22.7
22.9
18.7
16.5
21.0
25.3
24.5
24.2
22.6
RoCE (%)
22.2
21.0
6
8
11
12
13
19
20
32
39
44
FY11
26.9
28.8
FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17E FY18E FY19E
Source: Company, MOSL
FY12
FY13
FY14
FY15
FY16 FY17E FY18E FY19E
Source: Company, MOSL
24 November 2016
6

Sun Pharma
Financials and Valuation
Income Statement
Y/E March
Net Sales
Change (%)
EBITDA (INR b)
Margin (%)
Depreciation
EBIT
Int. and Finance Charges
Other Income - Rec.
Extra-ordinary Exp
PBT
Tax
Tax Rate (%)
Profit after Tax
Change (%)
Margin (%)
Less: Minority Interest
Reported PAT
Adjusted PAT (excl. Ex. Items)
2014
160,044
42.4
69,257
43.3
4,092
65,165
442
6,282
25,174
45,831
7,022
15.3
38,809
11.9
24
7375
31,434
52,813
2015
272,865
70.5
77,198
28.3
11,947
65,250
5,790
6,946
2,378
64,029
9,147
14.3
54,882
41.4
20
9488
45,394
47,415
2016
277,442
1.7
79,561
28.7
10,135
69,426
4,769
9,848
6,852
67,653
9,349
13.8
58,304
6.2
21
11145
47,159
47,069
2017E
313,159
12.9
97,542
31.1
12,400
85,142
4,000
21,400
0
102,542
15,381
15.0
87,161
49.5
28
11000
76,161
69,407
2018E
338,326
8.0
114,785
33.9
13,000
101,785
3,000
25,000
0
123,785
17,949
14.5
105,836
21.4
31
11000
94,836
94,836
(INR Million)
2019E
378,256
11.8
132,730
35.1
14,000
118,730
2,000
26,500
0
143,230
23,633
16.5
119,597
13.0
32
13000
106,597
106,597
Balance Sheet
Y/E March
Equity Share Capital
Total Reserves
Net Worth
Minority Interest
Deferred Liabilities
Total Loans
Capital Employed
Gross Block
Less: Accum. Deprn.
Net Fixed Assets
Capital WIP
Goodwill
Investments
Curr. Assets
Inventory
Account Receivables
Cash and Bank Balance
L & A and Others
Curr. Liability & Prov.
Account Payables
Provisions
Net Current Assets
Appl. of Funds
E: MOSL Estimates
2014
2,071
183,178
185,249
19,212
-9110
24,982
220,333
63,886
28,904
34,982
8,415
33,191
27,860
177,393
31,230
22,004
75,902
48,257
61,509
15,887
45,622
115,884
220,333
2015
2,406
253,826
256,232
28,661
-17516
77,827
345,203
130,369
60,617
69,752
20,386
57,073
27,163
297,403
56,680
53,123
109,980
77,619
126,574
59,198
67,376
170,828
345,203
2016
2,406
311,636
314,042
40,859
-21259
83,381
417,023
165,221
69,301
95,920
22,425
57,073
13,086
331,817
64,236
67,959
139,893
59,730
103,297
48,325
54,972
228,520
417,024
2017E
2,406
345,431
347,837
51,859
-21259
47,308
425,745
154,369
79,335
75,034
24,667
57,073
27,163
395,558
60,220
55,912
190,167
89,259
153,750
64,645
89,105
241,808
425,745
2018E
2,406
423,377
425,783
62,859
-21259
34,795
502,178
166,369
90,149
76,220
27,134
57,073
27,163
480,955
59,522
60,272
264,172
96,989
166,367
63,896
102,471
314,588
502,178
(INR Million)
2019E
2,406
513,084
515,490
75,859
-21259
25,700
595,790
191,369
102,588
88,781
29,847
57,073
27,163
578,882
63,452
67,139
340,786
107,504
185,956
68,115
117,841
392,926
595,790
24 November 2016
7

Sun Pharma
Financials and Valuation
Ratios
Y/E March
Reported EPS
Cash EPS
BV/Share
DPS
Payout (%)
Valuation (x)
P/E
P/BV
EV/Sales
EV/EBITDA
Dividend Yield (%)
Return Ratios (%)
RoE
RoCE
RoIC
Working Capital Ratios
Fixed Asset Turnover (x)
Debtor (Days)
Creditor (Days)
Inventory (Days)
Leverage Ratio
Debt/Equity (x)
2014
13.1
14.8
77.0
2.6
18.7
2015
18.9
23.8
106.5
4.3
21.8
34.7
6.4
5.8
20.5
0.6
31.5
33.4
55.5
4.8
50
209
71
21.5
22.7
37.8
5.2
71
321
76
2016
19.6
23.8
130.5
0.0
0.0
35.0
5.2
5.7
19.8
0.0
16.5
18.7
27.9
3.3
89
272
85
2017E
31.7
36.8
144.6
6.0
19.4
23.7
4.7
4.7
15.1
0.9
21.0
22.9
34.0
3.7
65
321
70
2018E
39.4
44.8
177.0
6.0
16.0
17.4
3.9
4.1
12.1
0.9
24.5
25.3
47.4
4.5
65
321
64
2019E
44.3
50.1
214.3
6.0
14.1
15.4
3.2
3.4
9.8
0.9
22.6
24.2
51.9
4.6
65
321
61
0.2
0.3
0.3
0.2
0.1
0.1
Cash Flow Statement
Y/E March
OP/(Loss) bef. Tax
Int./Dividends Recd.
Direct Taxes Paid
(Inc)/Dec in WC
CF from Operations
(inc)/dec in FA
Free Cash Flow
(Pur)/Sale of Invest.
CF from investments
Change in networth
(Inc)/Dec in Debt
Interest Paid
Dividend Paid
CF from Fin. Activity
2014
44,083
6,282
-9,010
-5,589
35,767
-18,580
17,187
-3,745
-22,324
6,674
22,910
-442
-7,270
21,872
2015
74,820
6,946
-17,553
-20,865
43,348
-82,570
-39,223
698
-81,872
37,513
52,845
-5,790
-11,964
72,605
2016
72,709
9,848
-13,092
-27,780
41,685
-38,341
3,344
14,077
-24,264
11,705
5,554
-4,769
0
12,490
29,911
109,980
139,892
2017E
97,542
21,400
-15,381
36,986
140,547
6,244
146,791
-14,077
-7,833
-25,476
-36,073
-4,000
-16,890
-82,439
50,275
139,893
190,167
2018E
114,785
25,000
-17,949
1,225
123,061
-16,653
106,408
0
-16,653
0
-12,513
-3,000
-16,890
-32,403
74,005
190,167
264,172
(INR Million)
2019E
132,730
26,500
-23,633
-1,724
133,873
-29,274
104,599
0
-29,274
0
-9,095
-2,000
-16,890
-27,985
76,614
264,172
340,786
Inc/Dec of Cash
35,315
34,080
Add: Beginning Balance
40,587
75,902
Closing Balance
75,902
109,982
E: MOSL Estimates; Note: Cash flows do not tally due to acquisition
24 November 2016
8

Sun Pharma
Corporate profile
Company description
Sun Pharma is among the largest players in the
domestic formulations market and the most
profitable one. It makes and markets specialty
medicines and APIs for chronic therapy areas such
as cardiology, psychiatry, neurology, etc. Sun has
forayed into regulated markets by acquiring
majority stake in CaracoPharma and has
strengthened its presence in US by recent
acquisition of Taro.
Exhibit 1: Sensex rebased
Source: MOSL/Bloomberg
Exhibit 2: Shareholding pattern (%)
Sep-16
Promoter
DII
FII
Others
55.0
10.9
22.4
11.7
Jun-16
55.0
10.2
24.8
10.1
Sep-15
54.7
8.1
27.6
9.7
Source: Capitaline
Exhibit 3: Top holders
Holder Name
Life Insurance Corporation Of India
Government Of Singapore
Lakshdeep Investments & Finance (P) Ltd.
% Holding
3.4
1.5
1.1
Note: FII Includes depository receipts
Source: Capitaline
Exhibit 4: Top management
Name
Israel Makov
Dilip S Shanghvi
Sunil R Ajmera
Designation
Chairman
Managing Director
Company Secretary
Exhibit 5: Directors
Name
Israel Makov
Dilip S Shanghvi
Ashwin Dani*
Keki M Mistry*
Hasmukh S Shah*
Name
S Mohanchand Dadha*
Sudhir V Valia
Sailesh T Desai
Rekha Sethi*
Source: Capitaline
*Independent
Exhibit 6: Auditors
Name
Deloitte Haskins & Sells LLP
Kailash Sankhlecha & Associates
Type
Statutory
Cost Auditor
Exhibit 7: MOSL forecast v/s consensus
EPS
(INR)
FY17
FY18
MOSL
forecast
31.7
39.4
Consensus
forecast
29.5
35.3
Variation
(%)
7.4
11.7
Source: Bloomberg
Source: Capitaline
24 November 2016
9

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