Decline in volume growth, particularly in the US market, loss of business in Venezuela, price erosion and delayed launches due to warning letters impacted its performance in April-June quarter.
Most analysts have downgraded Dr Reddy’s Labs and slashed target price on dismal June quarter results dragged by US pricing issue. Shares of the Hyderabad-based company plunged over 10 percent intraday on Wednesday (stock lost over 4 percent yesterday).
The drug major missed analysts' expectations on all counts with consolidated profit falling sharply by 76.3 percent year-on-year to Rs 153.5 crore, impacted largely by US business and weak operational performance. Revenue declined 14 percent to Rs 3222.5 crore in the quarter ended June 2016 from Rs 3,752.2 crore in same period last year.
Decline in volume growth, particularly in the US market, loss of business in Venezuela, price erosion and delayed launches due to warning letter impacted its performance in April-June quarter. Its US business declined 20 percent and margins fell to 4 percent on annual basis while the management has already warned that there are more headwinds ahead with other businesses also underperforming.
So, how to trade it now?
Jefferies has downgraded the stock to underperform from hold with a reduced target price of Rs 2850 per share. It has also cut FY17-18 earnings estimates by 28-14 percent and expects earnings to remain flat over FY16-18.
Credit Suisse has downgraded the stock to underperfrom from neutral stating that the sharp decline in the US sales in Q117 now becomes the new base. It has also cut FY17/18 earnings per share (EPS) by 35/19 percent and trimmed target to Rs 2750 as it is cautious that near-term outlook is weak with further hit from expiry of McNeil contract, increase in R&D expense for Phase III trials for assets acquired from Xenoport and Eisai.
"We continue to highlight that profit concentration for Dr Reddy's is still high with top-three products accounting for 30-35 percent of FY18 profits. Higher competition in these could lead to further downside. We expect competition in Fondaparinux in H2FY17 (Teva & Aurobindo) and Metoprolol in FY18 (Cadila, Intas, Wockhardt)," it says in a report.
Macquarie has also downgraded the stock to neutral with a recommendation to add only on weakness with a 12 to 18-month view. It has set a target of Rs 3500 per share. It says that Dr Reddy's has outperformed its large-cap peers over the last quarter, driven by the buy-back. The brokerage firm expects the stock to trade at a discount to its fair value near term, until remediation efforts on the warning letter bear fruit and approvals provide visibility to offset negative operating leverage.
Citi has maintained neutral rating with a reduced target at Rs 3315 per share from Rs 3515 stating that Dr Reddy's is highly leveraged to the US and its high product concentration in this market makes it vulnerable in a faster approvals environment, particularly when its own approvals have been hit by compliance issues. It has also cut FY17-18 EPS by 30-13 percent respectively. However, it adds The post Q1 weakness in the stock and certain mitigating factors may limit downside but sustained recovery is likely to be long-drawn-out.
CLSA also has downgraded the stock to outperfrom from buy due to near-term headwinds and cut FY17/18 EPS by 27 percent/9 percent. It has cut target price to Rs 3680 per share. The EPS cuts include the impact of termination of a product supply contract with a US customer from Dr Reddy’s Shreveport site in the US.
Surajit Pal of Prabhudas Liladher has reduced earnings estimates by 14 percent in FY17 and 3 percent in FY18 and says its FY17 EPS is seen at Rs 113 and for FY18 at Rs 134 stating that worst for Dr Reddy's is yet to be seen. "Increasing competition with new entries will hurt the vulnerable business going forward. Dr Reddy's FY17 earnings per share (EPS) is seen at Rs 113 and for FY18 at Rs 134," he says in an interview to CNBC-TV18. According to Pal, impact in injectable will be felt slowly and steadily while increasing competition with new entries will hurt the vulnerable business going forward.
Meanwhile, unperturbed by the weak performance few analysts are still betting on the stock. Bank of America Merrill Lynch has reiterated a buy rating on expectations of pickup from H2FY17, mainly led by new launches in the US, including Teva’s acquired products. But it has slashed target price to Rs 3765 per share and EPS forecasts by 19-10 percent over FY17-18.
"While R&D costs are likely to remain elevated due to incremental spend on the in incensed products from XenoPort and Eisai, recovery in sales and completion of remediation measures is likely to aid margin improvement over next few quarters. We cut our EBITDA margin forecasts to 20.5-23 percent over FY17-18," it says in a report.
Morgan Stanley also reiterates an equalweight with a target of Rs 2883 per share and expects profits to normalise in FY18 subject to multiple niche US launches but warns that negative operating leverage should hurt FY17 EPS a lot.
According to the brokerage firm FY 17 appears to be a wash-out year for Dr Reddy's, with below trendline profits. "For mid-to longer-term investors, the company is building a high-quality pipeline of complex products (modified release, multi layer, liposomal, microspheres, RTU, gels, patches), biosimilars and NDDS, which should drive growth in FY 19 and beyond," it adds.
Motilal Oswal also rates it neutral with a target of Rs 3000. It says that although long-term fundamentals remain intact, the stock will remain range bound in the near term due to regulatory concerns and pricing pressure in the US.
At 09:42 hrs Dr Reddys Laboratories was at Rs 3,007.00, down Rs 315.85, or 9.51 percent on the BSE.