Buy Opto Circuits;target Rs 515: Karvy Stock Broking

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Karvy Stock Broking is bullish on Opto Circuits and has recommended buy rating on the stock with target price of Rs 515 over a period of one year.

Karvy Stock Broking report on Opto Circuits:

Opto Circuits, is a leading player in the non-invasive (non-surgical) sensor segment and is all set to emerge as a potential global player for stents, as the acquisition of Eurocor (for a consideration of USD 13 million) would help to penetrate into most of the developed markets. It is growing through the organic and inorganic route and is increasing its presence in the global market. The growth momentum would continue on the back of its increasing sales of disposable sensors and stents with the help of strong global distribution network, customer focused business strategies, and expansion of product portfolio. The revenues are expected to grow at a CAGR of 64% to Rs 5155 million and bottomline at a CAGR of 65% to Rs 1,588 million over FY06-09. We recommend a BUY on the stock with a target price of Rs 515 over one year investment perspective.

Revenues to show strong growth on account of increase in sales of Disposable sensors and stents:

The increase in demand of stents, and disposable sensors across the global and domestic market would help the company to grow at CAGR of 64% during FY06-09. After the acquisition of Eurocor which is in the business of manufacturing Cardiac and Peripheral stents, Opto Circuits has become a leading player in stents market which globally has market size of USD 8 billion. We believe that increasing number of heart patients would enhance the demand of stents. The strong distribution network, CE (Conformit Europen) certification for stents and it's revolutionary product - DIOR would help to increase revenues from stents business. Low cost of disposable products and the increasing number of HIV/AIDs globally has increased the use of disposable sensors. We expect the net sales of the company for FY07, FY08, and FY09 to increase by 74%, 60%, and 59% to Rs 2,021million, Rs 3,237million, and Rs 5155 million respectively.

Growing global & domestic stents market helps revenues to grow:

The global demand of Drug Eluting Stents (DES) is surging due to lowering the rate of restenosis. It is estimated that global stent market is growing at 14%p.a and market size for stents in 2006 was USD 8 billion of which US accounts for of USD 4 billion, Europe USD 3 billion and Rest of world comprising of USD 1billion. Going forward, it is expected that the total global market for stents would increase to USD 10 billion by 2008. The domestic market for stents is also big with over 60,000 stents sold in 2005 and estimated to go up to over 80,000 in 2007. The stents market in India is growing on account of increasing number of heart patients. Hence, companies are getting an opportunity to charge higher rates of reimbursement from payers on account of new inventions. Thus, we believe that by acquiring EuroCOR, Opto Circuits would leverage the opportunity from increasing demand as well as higher rate of Drug Eluting Stents (DES).

Low cost advantage driving the Pulse Oxymeters growth:

Pulse Oxymeters business has reported 40% growth in revenues for FY06 to Rs 236 million over FY05. We estimate that the revenues for FY07, FY08, and FY09 would increase by 18.8%, 41.5% and 20% to Rs 280 million, Rs 396 million, and Rs 475 million respectively. The growth is expected to be driven by a product called Desktop Pulse Oxymeters and Hand Held Pulse Oximeters which is used in operation theatres as well as in intensive care units. The product is featured with connectivity to computers, nurse call back facility and battery back up satisfying the international standards for this range of products. Opto Circuits would leverage on its low cost advantage as well as established distribution network to further penetrate the market.

Key Concerns

Business heavily dependent on research and development

The optoelectronics and medical instrumentation industry of which the company forms a part are substantially dependent on research and development for growth. The growth is substantially dependent on the research and development undertaken by the company and expertise of the research team. Consequently, it is also dependent on ability of company to attract, motivate and retain highly skilled research team. Any loss of the services of such personnel could have an adverse effect on the business.

Business is highly dependent upon demand and regulatory policies from the US and Europe:

The major revenues of the company come from product exports and services to developed country markets like the United States and the European Union. Consequently, the performance of the company is highly dependent upon demand and regulatory policies adopted in these markets. The reimbursement policies of large health insurers and government benefits providers are the key demand drivers for these markets. The effort from governments and private insurers to reduce health care costs may reduce the profitability of the company.

Foreign Exchange fluctuations

Opto Circuits is export oriented business. It is exposed to fluctuations in currency rate. Besides, the company imports the entire plant and machinery and raw materials. Thus, fluctuations in the rate of conversion of foreign exchange will have an impact on the performance and profitability of the company.

High debtor days

The company has extremely high debtor days which are due to the billing done to its overseas marketing subsidiary, MediAid Inc. It has never faced the problem of bad debt but the average debtor days are above 180 days due to the credit period given to its OEM customers.

Valuations:

The earnings of Opto Circuits including EuroCor are expected to grow at a strong CAGR of 65% to Rs 1588 million in FY09 from Rs 351million in FY06. The stock is currently trading at 22.7x FY08E and 14xFY09E earnings and at EV/EBIDTA of 20 x of FY08E and 12.5 x of FY09E. Hence, we believe that strong growth in stents and disposable sensors will boost the earning growth in future. We recommend a BUY on the stock with a target price of Rs 515 over one year investment perspective. We have valued the stock at 20x its FY09E EPS of Rs 25.76 to arrive at our price target of Rs 515.