Shares of Ranbaxy Laboratories Ltd continued outperforming the Bombay Stock Exchange’s health-care index after it announced the acquisition of a majority stake in Zenotech Laboratories Ltd. The acquisition would enhance Ranbaxy’s R&D capability, which hasn’t seen major successes and which recently suffered a setback when WHO agency Medicines for Malaria Venture (MMV) pulled out of a four-year-long joint development programme for an anti-malarial drug. Besides, Ranbaxy would get an entry in the key oncology space as well as biopharmaceutical products.

Ranbaxy shares have now outperformed the BSE health-care index by 27.5% since it announced its second quarter results on 19 July. Until then, the shares had underperformed the benchmark by about 13% from the beginning of the year. The results themselves had nothing to get excited about. Although net profit more than doubled on a year-on-year basis, it was only because of a one-off translation gain on the company’s forex exposure. At the operating level, profit fell by nearly 15% as margin pressure in the key US and European markets continued. The appreciating rupee only made things worse.

Yet, even while the core operating numbers were unimpressive, analysts were heartened by the company’s disclosure that it expects a strong performance in emerging markets during the second half of the year, buoyed by 100 product launches in various geographies. Ranbaxy’s sales in emerging markets grew 44% last quarter and now account for 54% of total sales. One of the drivers of growth in the emerging markets space was the South African market, and the company’s acquisition of Be-Tabs is expected to increase its share in the market. The fact that the company got approval to be the first generic for GlaxoSmithKline’s Valtrex also helped raise its valuation.

Besides, Ranbaxy had already got a 180-day exclusivity for the generic version of Pfizer’s Lipitor. Analysts expect that the earnings for sales of these two products have a net present value equivalent to Rs60 per Ranbaxy share. These earnings will reflect in the company’s accounts towards the end of 2009 and in 2010. Analysts say these earnings aren’t reflected fully in the shares.

Restrained show

In what seems rather uncharacteristic, punters and operators in small-cap shares have shown tremendous restraint in the rally that commenced after the Fed rate cut. Since 18 September, stocks with a market capitalization of less than Rs50 crore have remained flat, at a time when large-cap shares have risen by about 15%. Those with a value of less than Rs5 crore have seen cumulative market cap fall by 3.5% during the period. This group of traders typically piles on when the going is good and market sentiment is on a high.

What could be the reason for the subdued activity, especially at a time when traded turnover and other indicators, especially from the derivatives market, suggesting that the markets were almost complacent?

A look at the performance of the markets prior to the rate cut suggests that this group of traders could be taking a breather after the excesses of the previous two months. While the broad market fell by more than 10% from the highs in late July, shares with a market cap of less than Rs50 crore gained by 4.3%. The even smaller stocks (market cap less than Rs5 crore) gained by as much as 22.5%. Note that this was at a time when the sub-prime fears were at their worst. It’s fortunate for investors dealing in these shares that things haven’t become worse since the Fed rate cut. The fact that these shares have underperformed since then has helped offset a large part of undue outperformance in the preceding two months. As things stand, small-cap shares (market cap of less than Rs50 crore) have underperformed the broad market by 5% since the peak on 24 July. Prior to the Fed rate cut, the outperformance level was as high as 19%.

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