Dr Reddys Laboratories Ltd Q4 FY2022 Concall Summary

Key Takeaways

• Resilient year, margin target held: FY22 revenue grew 13% despite COVID waves, inflation and geopolitical shocks; EBITDA margin at 24.0% is "closely tracking" the aspirational 25% target.
• Impairment hit masks underlying momentum: A Rs. 752 crores impairment on proprietary products and Shreveport assets drove Q4 net loss, but the Global Generics engine delivered 15% YoY growth.
• US generics crossed \$1 bn again, with a caveat: North America generics regained the milestone on new launches like Vascepa and Vasopressin, even as double-digit price erosion persisted.
• Russia is a growth driver and a question mark: Q4 Russia sales jumped 87% in constant currency on brand divestments and stocking; normalization is expected, but management sees opportunity as competitors pull back.
• What to watch next quarter: The pace of Russia normalization, the margin impact of sustained commodity cost pressure, and any detail at the upcoming Investor Day on Horizon-II bets beyond generics.

Financial Performance

• Revenue growth: Q4 consolidated revenue grew 15% YoY, driven by all Global Generics markets and the divestment of a few non-core brands; FY22 revenue grew 13% on base business volume improvement and new product launches.
• Gross margin pressure: Q4 gross margin declined 50 bps YoY and 90 bps QoQ, attributable to pricing pressure in North America and Europe, higher commodity prices, and increased inventory provisioning including COVID-related products; brand divestment income provided a partial offset.
• One-time SG&A charge: Q4 SG&A included a Rs. 98 crores provision for an old outstanding litigation with the State of Texas, US; adjusted for this, spend was in line with normalized levels.
• Impairment charge: Q4 impairment of Rs. 752 crores largely pertained to PPC06 from the proprietary products segment, where market potential was reduced, and Shreveport subsidiary-related assets, reflecting a substantial reduction in product cash flows.
• Elevated tax rate: Q4 effective tax rate of 64.8% was higher due to the impact of the impairment charges taken; normalized ETR expected in the 24% to 26% range.
• Net cash position: The company ended the year with a net surplus cash position of more than \$200 million.

Parag Agarwal: "EBITDA margin for the year is at 24.0% and is closely tracking our aspirational target of 25%."

North America: The Generics Engine and Its Limits

• Regained the \$1 bn milestone: North America generics revenue crossed \$1 billion for the fiscal year, led by key new product launches including Icosapent Ethyl Softgels and Vasopressin for injection, plus market share growth on existing products.
• Price erosion is structural, not cyclical: Double-digit price erosion continued through the year and management expects it to persist; growth depends entirely on the cadence and quality of new launches.
• Launch momentum building: Management expects to launch 20 to 25 new products in FY23, an improvement on the current year's pace; 9 out of the last 11 quarters showed growth before any Revlimid contribution.
• Beyond traditional generics: The company is exploring other channels not exposed to the high price erosion model; more detail is promised at the upcoming Investor Day.
• Rituximab biosimilar timeline: Management is looking at a potential calendar 2024 event for its biosimilar, aiming for interchangeability and expecting to be competitive with the rest of the biosimilar field.

G V Prasad: "I think the US market will always remain price competitive. There has always been pricing pressure. It is not new and it will not end. It will continue. It depends on how well you choose your portfolio, how well you execute and how competitive you are to continue to establish your presence there..."

Emerging Markets: Russia Surge and Normalization

• Russia delivered an outsized quarter: Q4 Russia sales grew 87% YoY in constant currency, partially led by the divestment income of two brands (Levolet and Ciprolet, contributing ~Rs. 50-60 crores per annum) and higher sales from stocking up by customers.
• Normalization ahead: The stocking-driven component of Q4 Russia sales is expected to normalize during the coming quarter; management continues to ship products and receive payments, with logistics channels adjusted but no disruption.
• Competitor withdrawal as opportunity: Management sees global companies withdrawing or curtailing operations in Russia as an opportunity, noting that some players will not invest in marketing over time; discussions are ongoing, though the company is not aware of anyone that has actually left the market yet.
• Broader EM strength: Emerging Markets overall grew 30% in FY22; excluding Russia and Ukraine, markets are growing very well with no one-offs or shipment deferments, driven by the strategy to take the portfolio global, especially injectables.
• China on the board: The company received 3 product approvals during the year under the QCE framework and expects to launch about 7 products in FY23.

India and Europe: Steady Growth Engines

• India delivered 26% growth in FY22: The business grew strongly even after excluding the COVID portfolio contribution, which was less than 4% of overall sales; management expects India to continue growing organically in double digits in FY23.
• IQVIA rank improved: As per IQVIA March 2022, Dr Reddys ranked number 11 on a monthly basis in the Indian market.
• Novartis collaboration: An exclusive collaboration with Novartis for in-licensing of key brands in the India market was signed during the quarter.
• Voveran repatriation: The brand will be repatriated to an Indian facility; the cost structure will allow competitiveness, and the opportunity is to bring a familiar brand to physicians in chronic disease focus areas like diabetes and cardiovascular.
• Europe momentum: FY22 sales grew 8% driven by new product launches; strong growth momentum is expected to continue in FY23.
• Nimbus Health acquisition: The company entered the high-growth medical cannabis space in Germany through the acquisition of Nimbus Health.

Margins, Costs and Capital Allocation

• 25% margin target held: Management wants to sustain profitability in the neighborhood of the 25:25 guidance and is comfortable maintaining this level while investing for the future; the long-term aim is the same level regardless of the Revlimid scenario.
• Cost pressures are real but manageable: Commodity prices, logistics and transportation costs have built up gradually since COVID and intensified recently; mitigation comes from an effective supply chain not dependent on specific territories or vendors, logistics primarily by sea rather than air, and a mid-to-long-term move to renewable energy.
• Inventory provisioning impact contained: Inventory provisions, including for COVID-related products, impacted gross margin by less than 50 bps; overall the effect was not significant.
• FY23 CAPEX guided at Rs. 1,500-1,700 crores: Investment is focused on existing facilities including the FTO-11 injectable facility, biologics and digital; management does not anticipate needing additional facilities.
• Inorganic strategy stays disciplined: The company is open to inorganic moves in every space with a preference for India, but prefers product acquisitions as complementary moves to strategy focus areas; management explicitly prefers not to make big acquisitions and wants to remain primarily an organic growth organization.

Erez Israeli: "We are not guiding with and without because naturally, first, we don't and second, I wish I knew exactly what will happen, so you know that, but let us say, long term, no matter what will be the scenario for Revlimid, we are absolutely aiming for the same level."

Pipeline and Horizon-II Bets

• R&D acceleration: The company is on track to accelerate product filings in FY23.
• PSAI normalization complete: Customer stock levels in the Pharmaceutical Services and Active Ingredients segment are now back to pre-COVID levels; steadier growth is expected in FY23 after a 5% decline in FY22.
• Sputnik Light progress: Approval was received as a vaccine and as a booster for the Sputnik vaccine; a trial is being conducted as a vaccine for other vaccines in India, with results expected in the coming weeks; all Sputnik activities have been repatriated to India and are no longer dependent on Russia.
• Svaas scaling up: The digital health platform is adding more cities in metros; it is early stage but looks promising.
• Investor Day ahead: In the coming month, the company will hold an Investor Day covering growth levers for Horizon-I and Horizon-II, plus its approach and goals towards ESG; additional moves in India are expected in outpatient initiatives, nutrition, biologics activities and digital.
• ESG targets imminent: Detailed long-term ESG targets will be announced shortly.

Erez Israeli: "I would like to remind that there are several factors which have an impact on the short-term performance of the company, including evolving geopolitical situation and higher commodity price. However, I am confident that we will emerge stronger with every challenge. We do see opportunities in the current situation and are readjusting our strategy to cater to the new opportunities for future goals."

Guidance & Commitments

Key Metrics