Supply chain disruptions due to COVID-19, coupled with the India-China border tensions, have brought to the fore the risk in depending on one geography, China, for active pharmaceutical ingredients (APIs) and key starting materials (KSMs).
Both global and domestic drug companies are looking to diversify sourcing of APIs and KSMs from China. An API is the active molecule that gives a drug its efficacy, while KSMs are key raw materials used in the manufacture of APIs.
Some Indian drug makers, especially those involved in the manufacture of APIs, did see some benefits in Q1FY21, but analysts say these are still early days, as many drug companies, in anticipation of shortages, have piled up raw material inventory.
They also don't rule out the possibility of Chinese suppliers trying to consolidate their dominance through enticing price cuts.
The Indian government, meanwhile, recently announced a production-linked incentive scheme for 53 critical bulk drugs to encourage domestic production. However, it may take some time for the scheme to be rolled out.
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To be sure there are big companies such as Aurobindo Pharma, Dr Reddy's, Lupin and Sun Pharma with a huge API business that stand to potentially benefit from the shift, but this report will look at more pure-play API companies.
So, here is the list of five companies poised to benefit from API diversification:
Divis Lab is a pure-play generic active pharmaceutical ingredients maker and does custom synthesis of active ingredients for innovator companies.
The company reported record sales and profits in Q1FY21. Its sales grew 49 percent YoY to Rs 1,730 crore for the June quarter, while net profit rose 80.61 percent to Rs 492.06 crore.
Divis Lab’s Earnings Before Interest, Tax, Depreciation and Amortisation (EBITDA) margin in Q1 stood at 40.5 percent. The company achieved this performance without any one-off gains or windfall opportunities. The results aided Divis to become the second-most-valued pharmaceutical company, with market capitalisation of about Rs 87,000 crore.
Unlike many other Indian drug companies, Divis makes relatively fewer API products but is well integrated up to intermediate or KSM stage, and produces these products in high volumes. Divis Lab has global leadership in APIs such as anti-inflammatory Naproxen, anti-seizure Gabapentin, and cough-suppressant Dextromethorphan HBr, among others.
Analysts expect Divis to continue its momentum on account of efforts to increase the in-house manufacturing of intermediates and additional revenues from new capex. About 87 percent of Divis Lab’s sales comes from exports.
Aarti Drugs has become the alternative for many drugmakers looking to diversify their sourcing from China. For instance, a large paracetamol API maker that relies heavily on China for intermediate Para-aminophenol said it has tied up with Aarti Drugs.
Unlike Divis, Aarti Drugs gets much of its business from domestic pharma companies. And that is clearly helping the company, which has seen overall sales jump to Rs 544.67 crore — a year-on-year (Y-o-Y) increase of 34.34 percent — for the quarter ended June 2020.
Profit after tax rose 280.63 percent to Rs 85.45 crore on a Y-o-Y basis during the same period. The EBITDA margin stood at Rs 135.23 crore, up 146.89 percent Y-o-Y.
The company attributed the API segment’s performance to both volume growth and good realisation in selling prices. Aarti Drugs saw good demand for APIs for antibiotic drugs such as ciprofloxacin, ofloxacin and norfloxacin. Traditionally, China is the major supplier here.
Analysts expect the company to benefit from new capacity and higher realisations, going forward.
In May, Hikal announced successful development of the antiviral Favipiravir API and its intermediates, demonstrating its capabilities. Favipiravir is used to treat mild to moderate Covid-19 patients.
While Hikal isn't as big as Divis or Aarti Drugs, it can benefit from the uncertainty in Chinese supplies and efforts by Indian pharma to diversify. The company has three decades’ worth of experience and has API and intermediate facilities that are in compliance with regulators USFDA, EU and PMDA (Japan). Q1 was disappointing as revenues fell due to a steep fall in sales of its crop-protection chemicals.
Hikal’s revenues dropped 12 percent YoY to Rs 352 crore, while net profit stood at 15 crore. API and intermediate sales saw a 5 percent YoY jump to Rs 213.7 crore, led by improved capacity ramp-up and better volume off-take by customers.
The company expects an improvement in capacity utilisation and higher volume off-take by customers based on new opportunities arising from supply-chain de-risking. Meanwhile the stock gained about 50 percent in 2020, and ended at Rs 173.60 on Friday, gaining 2.75 percent.
Neuland Labs, has been around for more than three decades, and is familiar with the demands and rigour of highly regulated markets. The company makes APIs and intermediates and supplies APIs to the US, Europe and Japanese markets.
The company manufactures Mirtazapine (anti-depressant), Sotalol (cardiac), Levetiracetam (anti-seizures), Levofloxacin (antibiotic), Salmeterol (anti-asthma), and Salbutamol (anti-asthma), among others. Neuland Labs says it is looking at backward integration of many of these products to gain market share.
The company is yet to capture the diversification opportunity in a big way, but the stock has gained on the tailwind of the potential Chinese opportunity. The company reported 13.7 percent YoY sales growth, at Rs 206.1 crore, in Q1. Net profit stood at Rs 15.1 crore.
Solara Active Pharma Sciences
Solara was formed in 2018 as a result of the de-merger of the API businesses of Strides and Sequent. The intention was to be a pure-play API company. With a portfolio of over 50 plus molecules, and two state-of-the-art research centres supported by six large-scale, multi-product facilities, it has the potential to seize the opportunity emerging from the diversification away from China.
The company’s sales rose 5.53 percent YoY to Rs 348.42 crore in the quarter ended June 2020, while net profit rose 59.43 percent to Rs 42.28 crore.