Notes from Annual Report 2020
Key business updates:
- Company is focused on API business. The business is focused on GDS and CMS
- Further, GDS has prime APIs and specialty APIs
- Across these two verticals, expertise extends to both small molecules and peptides
- Company has successfully cleared 15 USFDA audits so far
- Two audits were cleared in this financial year
- Has filed 54 DMFs so far
- 282 research scientists which is almost 28% of workforce
- 2% is R&D expense as proportion of revenue and 20% being capitalized. 50% of R&D cost is salaries and wages
- There is a 5-acre land to be developed jointly by phoenix group for commercial purposes which should get ready by 2021
Business Segment:
Generic drug substances (GDS) – Prime API and Specialty API (57% of revenue):
- Prime APIs are high volume low margin APIs
- Specialty APIs are niche high margin APIs
- Key business driver products in specialty APIs were Deferasirox, Dorzolamide, Ezetimbe and Donepezil
- Filed DMF for Sugammadex and Indaceterol
- In Prime API, key molecules such as Levetiracetam and Labetalol generated substantial volume
- Fluoroquinolones has seen de growth of 6-7% and contribution will decrease going forward
- 15 APIs in prime segment. Ciprofloxacin, Levetiracetam are key molecules. Other important one ate Levofloxacin, Mirtazapine, Enalapril Maleate, Sotalol, Labetalol and salbutamol
- 20 molecules in specialty API segmnent. Important one is deferasirox, donepezil, entacaponer and salmeterol
- Company has strong pipeline of 18 new products to be launched over next 8-10 years
- Readied molecules like edaravone, indacaterol and sugammadex for launch for current year. Also, working on 3-4 niche high value products
- Team made an entry in Koran market and also filed 11 regulatory filings in Chinese market
- Focus will be on shifting large volume products like levetiracetam from unit I and II to unit III to leverage economies of scale
- This business has not grown much in 5 years and share to total revenue has come down from 89% to 69% which is good.
Custom Manufacturing Solutions (CMS) (25% of revenue):
- Grown 4x in 5 years from Rs 100 crore to Rs 385 crore
- Currently doing 76 projects which is >100% jump. Also, quality of projects has improved which means contribution of late stage projects. This is good for second source opportunity. Expect to commercialize few of them in 2-3 years
- Later stage molecules are opportunities which are closer to being approved by regulatory agencies
- Three factors need to be tracked for CMS success:
- New projects continue to populate pipeline
- Existing commercial products growth and success – Have 15 commercial molecules (6 APIs and 9 intermediaries) out of which 3 APIs are base and these products are doing well. This will also reduce performance volatility
- Ability to add later stage commercial pipeline products. These are low risk high return products
- Added 4-5 advance stage projects during the year which may commercialize in 12-36 months. This includes 3 APIs which may get commercialized in 12-18 months
- Some projects in peptide space and at an advance stage development showing considerable promise for commercialization
- This segment has grown 3.5x in 5 years and share to sales has increased from 11% to 25%. Number of live projects in 5 years has gone up from 21 to 76
- Below is project pipeline
| Type | Pre-clinical | P-1 | P-2 | P-3 | Development | Commercial | Total |
|---|---|---|---|---|---|---|---|
| API | 12 (10) | 4(4) | 5(2) | 5(4) | 9(5) | 6(5) | 41(30) |
| Intermediate | 7(0) | 4(2) | 2(0) | 4(6) | 8(8) | 9(10) | 35(26) |
| Total | 19(10) | 8(6) | 7(2) | 10(10) | 17(13) | 15(15) | 76(56) |
Financial Performance:
- 14.4% revenue growth led by CMS business. This year revenue was Rs 767 (GDS – Rs 529 Cr, CMS – 188 Cr) crore against Rs 670 Crore (GDS – Rs 535 Cr, CMS – 91 Cr) last year. In GDS, specialty revenue increased from Rs 168 cr to Rs 174 cr.
- Sale of services is up from Rs 15 crore to Rs 26 crore.
- 30% revenue from India, 31% from Europe, 15% from USA and rest 20% (Japan key contributor)
- Fixed asset is up from 232 crore to Rs 339 crore; however, debt is maintained around same level from 230 crore to 260 crores.
- Interest coverage ratio has improved from 3.35 to 5.43 though ROCE is yet to reach to respectable levels
- Improved product mix due to CMS and specialty API (47% combined contribution compared to 38% last year) along with cost optimization helped to improve margins leading to 72% growth in EBITDA
- CMS is executing more than 70+ projects now across various life stages compared to 35 a year ago
- The spike in CMS revenue is attributed to increase in count of projects as well as commercial products gaining in volume
- 15 projects have already gone commercial. 10 are in phase 3 and 17 in development phase waiting for commercialization
Annual Review of Management:
- Ensured that last few years of learning are incorporated
- Growth was driven by CMS business both in terms of number of projects and revenue
- Successfully completed two US FDA audits
- Actively trying to penetrate customers for CMS in North America and Japan
- Could have done better on scaling of products from R&D to operating unit, CMS business in European region and better performance in couple of prime products
- Reduced raw material dependence on China from 50% to less than 30%
- China supplies 40% of world APIs
- Implemented and integrated quality systems in unit III and completed validation of 2 large volume molecules
- Filed 3 US DMFs (ticagrelor, indacaterol, sugammadex) and 3 CEPs (donepezil hydrochloride, rotogoitine and ecitalopram oxalate)
- Europe has invested in specialized highly potent APIs
- The import of APIs in India has risen at 8.3% CAGR in last 7 years at Rs 249 billion which is 68% of API consumption. There is an urgent need to improve self sufficiency and boost domestic manufacturing. Chinese API is currently 19% cheaper than India despite India having lower labor cost
- Indian bulk drug industry has grown at 8.6% in last few years and expected to grow at 8.8% in next few years
- CDMO industry had good growth in 2019- and double-digit growth was expected to continue in 2020 but post covid there are uncertainties over prospects for next 12-18 months
- Key emerging trends in CDMO
- Large to small
- Integration of synthesis and service requiring collaboration, project management and communication skills
- Small molecules in vogue
Market Trends:
- Specialty medicine contribute 36% of sales globally and likely to reach 40% by 2024 driven by developed markets. Developed market specialty share of its sales is 44% which is expected to go up to 52% by 2024. Specialty segment growth in last 5 years was 11% but expected to reduce to 5-8%
- India is 3rd largest by volume and 13th largest by value
- Indian pharma industry is Rs 3.75 L crore and expected to reach Rs 8 L Crore by 2030 growing at 11-12%. 75% of this is formulation and 25% is bulk drugs. In formulation, 55% is domestically consumed and 45% is export. However, in API, 70% is domestic consumption and 30% is export. In formulation export, 60% is for regulated market and 40% to semi-regulated. In APIs, this is 40:60
- Pharma generates $11 billion of trade surplus annually
- There are 2 business models in APIs – low margin high volume and specialized hard to make API. China has reputation of making low-cost high-volume API
Guidance:
- While current contribution of CMS to business is 25%, expect it to become 33% in foreseeable future
- Unit III is being operationalized and will be contributing to revenue in FY21. Currently used by R&D for development batches. This will drive growth in days to come
- Positive on CMS business based on opportunity pipeline from North America and Japan
- Expects to file 1-2 DMFs for peptides in 18-24 months in solid oral formulations or injectables. This space is not very crowded and Neuland has created proprietary purification technology
Other Points:
- All members of remuneration committee are independent directors
- Most of members of audit committee are independent directors
- SBI, HDFBC and Kotak are some of the bankers
- Added SAP based vendor management for superior material management
- Some of non-promoter board members have rich pharma and life sciences experience
Risks and Open Items:
- Growth has been lumpy in past
- Poor demand forecasting in past has led to loss of business
- Forex based losses have happened in past
- Margins have been volatile in past as prime API is significant part of business without much pricing power
- Company has mid-size biotech firms as clients in CMS and if they go through a budget cut in Corona, it will impact their CMS pipeline
- EBITDA margins and ROCE are not yet at respectable limits
- Leverage though improving still remains on balance sheet and need more improvement
- Net rs 360 cr revenue inflow from export subjected to currency risk
- 3.53% increase in retail shareholding
- Promoter salary is close to ceiling limit
- Goodwill remains 22% of overall asset
- Some related party transactions related to security deposit of Rs 2.43 crore needs deeper look. Also, need to look at some contingent liabilities and land parcel litigations
