Buy Ipca Laboratories; target of Rs 641: Nirmal Bang

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Nirmal Bang is bullish on Ipca Laboratories and has recommended buy rating on the stock with a target of Rs 641 in its December 31, 2012 research report.
 
“With over two-thirds of its business vertically integrated, Ipca Laboratories (ILL) has created a profitable and sustainable franchise in some of the most competitive markets where peers are scaling down their exposure. We believe the company has considerable leverage in its operating model and also as some of its recent investments start paying off we believe expansion in margins will continue, thereby driving further improvement in return ratios and triggering a re-rating of the stock. We have assigned a Buy rating to the stock with a target price of Rs641.”
 
“Contrary to consensus expectations of flat margins over FY13- FY15E, we believe multiple margin levers can play out for the company and have factored in a 90bps improvement over FY13E-FY15E. Key drivers are likely to be rising share of high-margin businesses (domestic formulations, US, institutional and branded business) in the overall revenue pie from 63% in FY12 to 68% in FY15E, benefit of lowcost artemesinin inventory – a key raw material for anti-malarial drugs - and higher operating leverage as the recently added field force starts contributing meaningfully to domestic revenue. Further, ILL is a major beneficiary of a weak rupee; as per our estimate, a 10% depreciation in the rupee against the US dollar leads ILL’s revenue to rise by ~1.8% and operating margin to increase by ~130bps. Early clearance of Indore SEZ by the US Food and Drug Administration (by around 1HFY14E) would further aid expansion in margins, although prudently we have assumed a one-year delay. Corrective action after a backfired sales restructuring strategy helped the company’s domestic business to stage a sharp recovery in 1HFY13 (up 17%) after a tepid FY12 and we believe this is largely sustainable. Further, with the extension of AMFm (Affordable Medicines Facility for Malaria) programme until December 2013, investor concerns regarding continuation of donor funding have been put to rest and we expect its institutional anti-malaria business to continue its growth momentum with market share ramp-up in arthemeter+lumefantrine (AL) and launch of amodiaquine+artesunate (AS-AQ) fixed- dose combination. Thus, even after assuming a delay in US business ramp-up, we expect ILL to post earnings CAGR of 29% over FY12-FY15E, which combined with margin expansion, is likely to drive RoE/RoCE up by 359bps/380bps, respectively, over FY12-FY15E.”
 
“We believe ILL’s steep discount (trading 70%-80% below peers and 20% below its two-year average) is unwarranted and under-estimates the following: a) The company’s strong growth prospects (29% earnings CAGR likely over FY12-FY15E versus 16% over FY10-FY12), b) Positive free cash flow (FCF) generation (a swing from negative FCF in FY12), and c) Expansion in RoE/RoCE on increased capacity utilisation. We believe the discount gap will narrow and so we have valued ILL at 13.5xFY15E EPS of Rs48 to arrive at a target price of Rs641. Our target multiple is pegged at a 5% premium to its two-year historical average owing to significant improvement in the operating profile,” says Nirmal Bang research report.

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