Sharekhan is bullish on Wockhardt and has recommended a buy rating on the stock with a target price of Rs 552.

Sharekhan report on Wockhardt: 

Strong growth in the regulated markets:

Wockhardt's consolidated sales reported a 22.4% growth to Rs 1,729.0 crore for the year 2006. The revenue growth was largely contributed by a 25.1% rise in the formulation business, which contributed 90.3% of the total revenue of the company. During 2006, the USA and Western Europe contributed 50.9% of the consolidated revenues of the company as compared with 49.0% in 2005. The consolidated revenue from these countries grew by 27.2% during the year to Rs 880.8 crore. Also, the acquisitions of Pinewood Laboratories, an Ireland based generic company, and Dumex India (with established nutraceutical brands Protinex and Farex) were instrumental in driving the revenue growth during the year.

OPM slips, despite improving gross margin:

The operating profit margin (OPM) of the company remained almost flat at 23.1%for the year against 23.3% in the previous year. In fact, the gross margin of the company improved by 220 basis points to 61.2% on the back of the increasing contribution from formulations and higher revenues flowing from the regulated markets. But the cost of integrating the newly acquired businesses, as well as the employee cost and the other operating expenses rose by 240 basis points and 210 basis points respectively. This restricted the OPM expansion for the company.

Extraordinary expenses drag down net profit:

Subsequently, the depreciation charge rose by 45.5% (led by the acquisitions) whereas the tax incidence improved from 12.7% to 14.9%, resulting a 17.3% growth in the profit after tax (PAT) to Rs 301.6 crore. But due to the exceptional expenses of Rs 60.40 crore (related to charge-back for the US business for the previous periods, and merger and acquisition expenses), the net profit saw a 6.2% fall to Rs 257.1 crore.

Integration expenses weigh on the profitability:

Despite an impressive revenue growth in the US, Western European and domestic formulation businesses, the company witnessed a decline in its profitability on the back of the acquisition of the low-margin businesses of Pinewood Laboratories and Dumex India, and the consequent integration expenses. As a result the net profit margin slid to 17.4% in CY2006 from 18.2% in the previous year. Likewise, the return on capital employed and the return on net worth fell to 14% and 22.6% in CY2006 from 21.4% and31.5% respectively in CY2005. On the other hand, the debt-equity ratio went up to 1.8% (from the earlier 1.1%), as the company raised an external currency loan of USD 250 million during the year. However, the company could reduce its working capital cycle to 51 days in CY2006 from 57 days in the previous year.

Valuation-maintain Buy recommendation:

At the current market price of Rs 406, the stock is available at 13.4x its estimated CY2007 earnings and 11.7x its estimated CY2008 earnings on a fully diluted basis. Considering the growth plan of the company, the valuations seem attractive at these levels. We maintain our Buy recommendation on the stock with a price target of Rs 552.