Sun Pharma’s ex-India biz at record low valuations, amid FDA troubles

Pharmaceutical stocks have been receiving high investor attention due to the coronavirus outbreak. However, for Sun Pharmaceutical Industries Ltd, the attention is for the wrong reasons. The US Food and Drug Administration (US FDA) has rapped the drug maker with an official action status indicated (OAI) letter for its Halol plant. This comes as a negative surprise, since the company had received a product approval from the plant just two months ago.

However, the company’s ex-India business is already valued at distress levels of about one-time sales, and as such, the impact on valuations is limited, point out analysts at Jefferies India Pvt. Ltd. The company’s shares fell by 1.6% on Monday, far lower than the 4.4% drop in the broad markets.

It looks like the markets were already worried about headwinds such as adverse observations from US FDA ahead of the development. “1x EV/Sales (for the ex-India business) are distressed valuations. Sandoz sold its portfolio (declining sales) at 1x to Aurobindo after it remained unsold for over 12 months. Thus, the price already factors no recovery in any business,”wrote Jefferies India’s analysts in a note. EV stands for enterprise value.

The OAI letter, in itself, does not impact the firm’s current operations much, although future growth rates could slow as new launches take a back seat, apart from the impact of remediation costs. Jefferies India estimates these costs at $25 million.

US FDA had issued several observations in December, to which the company’s response was less than satisfactory. A resolution process not only takes about 12-18 months, but it also requires firms to incur heavy costs as several processes have to be changed. If further responses fail to satisfy US FDA, drug firms then face a high probability of a warning letter.

Sun Pharmaceutical has, however, shifted its US business strategy towards launching more speciality products in the US rather than pursuing the highly competitive generics products. This is bearing fruit to some extent as price erosion is less severe in speciality products. The firm now has six speciality products in the US, which now account for about 10% of its total sales.

Sun Pharma’s domestic business is proving to be the saving grace amid the tough business conditions in the US. Domestic growth rates are much better on average than that of competition. Sun Pharma’s presence in many different therapies in the domestic market insulates the company from a slowdown in some segments. The average growth rate for the quarter ended February 2020 has been in the low teens of 11.1% year-on-year, significantly better than its year-ago growth rate of 7.8%.

Nevertheless, Sun Pharma’s generic revenue growth in the US remains at risk, mainly due to the nature of the industry, which continues to see price erosion.