Daiwa - India Generics

Pharmaceuticals & healthcare / India 8 July 2011
Separating the men from the boys

A bottom-up approach is key to picking defensive sector plays We prefer the domestic business; we believe the market is too positive about India pharma companies' sales growth in the US Sun and Cadila remain our top picks; Lupin upgraded to Outperform, Biocon to Hold, and Glenmark to Underperform
India Generics Pharmaceuticals Sector
How do we justify our view?
Kartik A. Mehta
(91) 22 6622 1012 kartik.mehta@in.daiwacm.com
Amit Nagdewani
(91) 22 6622 8412 amit.nagdewani@in.daiwacm.com
taking into account our forecasts for EBITDA margins, sales growth, and past-two-year PER bands. We ascribe higher target valuations to companies that we believe offer stable EBITDA margins rather than high sales growth, since in the generics space limitedperiod upsides like Para IV opportunities in the US market could dwarf our forecast sales and earnings growth rates.
India pharmaceuticals market vs. US prescription-sales growth rates (%)
Bloomberg consensus reflect mainly our moderate growth assumptions for the US market, which is coming off the Patent Cliff, with many patents due to expire in 2011 and 2012.
Daiwa vs. consensus EPS forecasts (%)
Ranbaxy* Dr. Reddy's Glenmark Torrent Cipla Sun Glaxo* Cadila Lupin Biocon FY12E (23.4) (15.5) 15.8 (8.3) (8.5) 5.7 5.3 4.9 (2.8) (4.4) FY13E (34.9) (8.0) (6.6) (2.3) (9.5) 8.8 5.9 7.0 (4.9) (8.9)
What's new
The BSE Healthcare Index has (%) India sales growth has outperformed the BSE Sensex by 3.4% hovered at 11-16% 20% over the past six months, due mainly, 15% in our view, to investors ongoing 10% recognition that India pharma 5% 0% companies are not sensitive to 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 interest-rate rises (most have net cash) US prescription sales and their products are demandSource: Industry sources, IMS inelastic. We have rolled over the valuation periods for our target prices, What we recommend and value strength in the domestic We prefer companies that derive a sector as the key single factor to drive high proportion of sales from India recurring EBITDA margins. and other emerging markets, and believe the lofty valuations of What's the impact companies focused on the US markets The India Pharmaceuticals Sector is now trading at a high forward-average are unsustainable. Our top picks are Sun Pharmaceutical (Sun) and Cadila PER, and we prefer a bottom-up Healthcare (Cadila). We have approach to our stock selection. We upgraded Lupin to Outperform (2) believe the domestic-formulations business is the best play in the current from Hold (3), and Biocon to Hold (3) from Sell (5), and Glenmark to uncertain macro climate, as its Underperform (4). demand is inelastic, sales growth is driven by volume, there are no forex How we differ risks, and ROEs are high due to higher Unlike the market, we value limitedEBITDA margins (versus US-generic sales). We benchmark the companies period upside on a cash basis (and not on a PER basis), as we believe it PER bands against those of neutralises high and low earningsGlaxoSmithKline Pharmaceuticals (Glaxo), and have applied target PERs, growth periods. The differences in our EPS forecasts versus those of the
Source: Bloomberg, Daiwa * For Dec year- end companies, FY12E=2011E
Key stock calls New Prev. Sun Pharmaceutical Industries (SUNP IN) Rating Buy Buy Target price Rs561.00 Rs509.00 Up/downside 12.2% Cadila Healthcare (CDH IN) Rating Buy Target price Rs1,102.00 Up/downside 18.4% Lupin (LPC IN) Rating Target price Up/downside Outperform Rs490.00 9.2% Buy Rs1,010.00
Hold Rs448.00
Dr Reddy's Laboratories (DRRD IN) Rating Sell Target price Rs1,394.00 Up/downside (10.6)% Ranbaxy Laboratories (RBXY IN) Rating Sell Target price Rs446.00 Up/downside (15.9)%
Source: Daiwa forecasts Note: Please refer to page 3 for details.
Sell Rs1,114.00
Sell Rs385.00
Important disclosures, including any required research certifications, are provided on the last two pages of this report.

8 July 2011

Growth outlook Valuation Earnings revisions
Growth outlook
Revenue for the domestic-formulations industry has risen by about 14% annually over the past three years, and we forecast it to increase at an annual pace of about 13-15% over the next three years. Over the past year, revenue for the India pharmaceuticals market has risen by 15% YoY without any drastic increase in the bonuses paid to distributors (3.0-3.4% of sales). Moreover the industry has seen its inventory levels decrease (from 73.6% to 68.7% of sales) over the same period. This shows the strong continuous volume-led growth in the India market over the past three years, which we believe justifies the large additions to the field sales forces (over the past two years) of almost all of the top-10 companies in the domestic market.
India market: sales growth, 13m inventory, bonus sales (% monthly average total [MAT] sales)
18 16 14 12 10 8 6 4 2 0 Jun-10 Aug-10 Oct-10 Dec-10 Feb-11 Apr-11
13m avg. inv. (RHS) Bonus sales (LHS) MAT sales change YoY (LHS)
74 73 72 71 70 69 68 67 66
Source: compiled by Daiwa, All Indian Origin Chemists & Distributors Ltd (AIOCD) AWACS
Valuation
For companies with a high domestic focus and limited volatility in recurring earnings, such as Glaxo, Sun and Cadila, we have assigned past-two-year PERs that are higher than the industry average over the past two years (20x, based on our FY13 EPS forecast), because we believe these companies earnings will continue to rise at a pace faster than their peers with their clearer earnings visibility. For companies like Lupin, Cipla and Dr. Reddys, we assign a 19x PER due to the limited recurring earnings growth we forecast for them. In the case of Ranbaxy, we now assign a PER of 17x from 19x previously on its recurring EPS to factor in its lowerthan-average EBITDA margin. Glenmark, Torrent and Biocon are valued on their past-two-year PERs.
Daiwas generic pharma universe: valuation matrix

Company Glaxo* Sun Cadila Lupin Cipla Dr Reddys Ranbaxy* Glenmark Torrent Biocon Target PER (x) Rating (2012E, FY13E) Outperform (2) 25 Buy (1) 22 Buy (1) 20 Outperform (2) 19 Underperform (4) 19 Sell (5) 19 Sell (5) 17 Underperform (4) 16 Buy (1) 15 3 (Hold) 16 Cash + one -offs 250 43 45 66 10 Target price (Rs) 2,457 561 1,102 490 299 1,394 446 298 702 351
Source: Daiwa forecasts Note: *December year-end; PER is based on recurring EPS
Earnings revisions
We have revised up our FY12 earnings forecast for Glenmark by 22.8% to include a US$50m milestone payment and revised down that for FY13 by 11.2% due to EBITDA-margin pressure in its generic business in the regulated markets. We have revised down our earnings forecasts for Torrent by 13.8% for FY12 and 3.7% for FY13 due to the intense competition faced by its chronic-care segment. The 8.6% and 13.2% downward revisions to our FY12-13 earnings forecasts for Lupin are to factor in increasing competition in the US market and delays in the launch of its oral contraceptives. Meanwhile, we have revised down our FY12-13 earnings forecasts for Cadila by 5-6% to take into account higher tax assumptions.
Daiwa earnings-forecast revisions (%)

12E 22.8 (13.8) (8.6) (5) (1.6) 0 13E (11.2) (3.7) (13.2) (5.8) 0 1.9
Glenmark Torrent Lupin Cadila Biocon Glaxo

Source: Daiwa forecasts
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8 July 2011
Executive summary Separating the men from the boys

We maintain our Positive sector rating and see a bottom-up approach as key to picking defensives in the sector; Sun and Cadila remain our top picks; Lupin upgraded to Outperform, Bicon to Hold, and Glenmark to Underperform
Investment thesis
The BSE Healthcare Index has outperformed the BSE Sensex by 3.4% over the past six months, due mainly, in our view, to investors ongoing recognition that India pharma companies are not sensitive to interest-rate rises (most have net cash) and their products are demand-inelastic. We have rolled over the valuation periods for our target prices, and value strength in the domestic sector as the key single factor to drive recurring EBITDA margins.
Maintain positive sector view; stable EBITDA margins are the key to high PERs
Valuation
For companies with a high domestic focus and limited volatility in recurring earnings, such as Glaxo, Sun and Cadila, we have assigned pasttwo-year PERs that are higher than the industry average over the past two years (20x, based on our FY13 EPS forecast), because we believe these companies earnings will continue to rise at a pace faster than their peers with their clearer earnings visibility. For companies like Lupin, Cipla and Dr. Reddys, we assign a 19x PER due to the limited recurring earnings growth we forecast for them. In the case of Ranbaxy, we now assign a PER of 17x from 19x previously on its recurring EPS, to factor in its lower-than-average EBITDA margin. Glenmark, Torrent and Biocon are valued on their past-two-year PERs.
Profit outlook
We believe the Indian Pharmaceutical Sector will see a large variance in its net-profit outlooks over the next two years. Companies with a strong focus on India business have stable net-profit outlooks, in our view, while those with US businesses will continue to face pricing pressure. We believe the the net-profit outlooks for the Indian companies will largely fluctuate on their sales-growth assumptions in the US markets, which is coming off the Patent Cliff where many patents are due to expire in 2011 and 2012.
Key stock calls

EPS (local curr.) Company Name Biocon Cipla Cadila Healthcare GlaxoSmithKline Pharmaceuticals Sun Pharmaceutical Industries Dr Reddy's Laboratories Lupin Ranbaxy Laboratories Torrent Pharmaceuticals Glenmark Pharmaceuticals
Source: Daiwa forecasts Note: FY1=FY12, FY2=FY13
Stock code BIOS IN CIPLA IN CDH IN GLXO IN SUNP IN DRRD IN LPC IN RBXY IN TRP IN GNP IN
Rating New Hold Underperform Buy Outperform Buy Sell Outperform Sell Buy Underperform
Prev. Sell Buy Outperform Buy Sell Hold Sell Buy Sell
Target price (local curr.) New Prev. % chg 351.00 312.00 12.5 299.00 1,102.00 2,457.00 561.00 1,394.00 490.00 446.00 702.00 298.00 269.00 1,010.00 2,329.00 509.00 1,114.00 448.00 385.00 680.00 266.00 11.2 9.1 5.5 10.2 25.1 9.4 15.8 3.2 12
Underperform
New 19.18 6 13.43 43.65 82.24 21.32 68.77 21.54 18.31 36.64 23.17
FY1 Prev. 19.49 1 13.43 45.93 82.25 21.32 68.77 23.56 18.31 42.52 18.87
% chg (1.6) 0.0 (4.9) 0 0.0 0 (8.6) 0.0 (13.8) 22.8
New 21.95 2 15.72 55.09 93.34 26.01 85.09 25.77 22.34 46.77 20.73
FY2 Prev. 21.95 2 15.72 58.50 91.62 26.01 85.10 29.68 22.34 48.56 23.35
% chg 0.0 0.0 (5.8) 1.9 0.0 0 (13.2) 0 (3.7) (11.2)
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8 July 2011
Table of contents We prefer a bottom-up approach..................................................................................................... 5 Strong domestic-focused companies have outperformed ........................................................... 5 The domestic market is the key .................................................................................................... 6 Revenue for the domestic-formulations industry likely to rise by 13-15% annually ............... 6 US generics industry..................................................................................................................... 6 Generics continue to gain share, but increasing competition limits profitability ................... 6 Acute care likely to remain the biggest segment in India ........................................................ 7 Domestic sales growth .............................................................................................................. 7 The India market: big and becoming bigger ................................................................................8 What is happening in the India market? ..................................................................................8 Risk-loaded business models .......................................................................................................8 Stable sales and profitability are key to strong defensive stocks .............................................8 Valuations ..................................................................................................................................... 9 We prefer a PER-based valuation for the sector ...................................................................... 9 Global perspective ...................................................................................................................... 12 Generics average valuations in line with global peers, but with a wider dispersion.......... 12 Diverse business models, even on a global-comparison basis ............................................... 12 ROE and PBR indicate that stability gets a premium ............................................................ 12 Company Section Sun Pharmaceutical Industries .................................................................................................. 13 Cipla ............................................................................................................................................ 19 Dr Reddy's Laboratories ............................................................................................................. 25 Ranbaxy Laboratories................................................................................................................. 31 GlaxoSmithKline Pharmaceuticals............................................................................................. 37 Lupin ...........................................................................................................................................43 Cadila Healthcare .......................................................................................................................49 Glenmark Pharmaceuticals ........................................................................................................ 55 Biocon ......................................................................................................................................... 61 Torrent Pharmaceuticals ............................................................................................................ 67
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8 July 2011
Hence, we prefer to adopt a bottom-up approach, rather than a top-down one, for valuing individual companies.
We prefer a bottom-up approach

Strong domestic-focused companies have outperformed
The BSE Healthcare Index underperformed the BSE Sensex between January 2007 and February 2008, outperformed it over the next nine months, and underperformed it for 12 months, before outperforming again for the past 18 months. We believe the recent outperformance was due to a flight to safety. Pharmaceuticals companies in India have diverse business models with varying levels of risk.
BSE Sensex versus BSE Healthcare Index
700 600 500 400 300 200 100 0 Feb-03 Bear phase starts, pharmaceutical companies outperform
We believe the domestic-formulations business is the best play in the current uncertain macro climate, as its demand is inelastic. In three of the past five cycles, the BSE Healthcare Index has outperformed the BSE Sensex on a relative basis. During these five cycles, pharmaceutical companies with strong domesticfocused businesses outperformed their peers.
Relative performance of BSE Healthcare vs. BSE Sensex
Period Jan 07- Feb 08 Mar 08- Dec 08 Dec 08- Dec 09 Jan 10- Nov 10 Nov 10 - Jun 11 BSE Healthcare vs. Sensex Underperformed (-17%) Outperformed (16.6%) Underperformed (-8.5%) Outperformed (16.8%) Outperformed (4.1%) Winners Sun, Glenmark Lupin, Cadila Torrent,Dr. Reddy's Cadila, Lupin Torrent, Cadila Losers Dr. Reddy's, Cadila Ranbaxy, Biocon Glenmark, Glaxo Cipla, Ranbaxy Dr. Reddy's, Biocon
Source: Daiwa Research, Bloomberg
Bull phase starts. Pharma begins to underperform
Broader market recovery phase, healthcare outperforms
Bottom-up approach key to picking real defensives in Pharma
Aug-03
Feb-04
Aug-04
Feb-05
Aug-05
Feb-06
Aug-06
Feb-07
Aug-07
Feb-08 BSE SENSEX
Aug-08
Feb-09
Aug-09
Feb-10
Aug-10
Feb-11
BSE HEALTHCARE INDEX

Source: Bloomberg, compiled by Daiwa
India Pharmaceuticals Sector: rationale for target PERs

Company Glaxo Sun Cadila Lupin Cipla Dr Reddys Ranbaxy Glenmark Torrent Pharma Biocon Valuation parameter PER of 25x on our 2012 EPS forecast plus Rs250/share for cash PER of 22x on our FY13 core EPS forecast plus Rs4/share for Para IV upside plus Rs39/share for cash PER of 20x on our FY13 EPS forecast PER of 19x on our FY13 EPS forecast PER of 19x on our FY13 EPS forecast PER of 19x on our FY13 core EPS forecast and Rs45/share for limited period upsides PER of 17x on our 2012 EPS forecast, plus Rs66/share for Nexium and Lipitor PER of 16x on our FY13 EPS forecast plus Rs10/share for generic Malerone, Cutivate, Locoid Lipocream, Lunesta and Zetia. PER of 15x on our FY13 EPS forecast PER of 16x on our FY13 EPS forecast Rationale for target PERs 35%+ EBITDA margin, all sales from domestic formulations Maintaining the past-3-year premium of 10-25% over the past-year PER average of 22x Above its one-year average of 19x to factor in increasing stability of the overall businesses Trading at the higher end of its past-5-year PER Lower multiple than Sun on account of its lower EBITDA margin Lower multiple than Sun on account of relatively weaker base businesses, lower proportion of sales from the domestic business Lower multiple than peers on account of uncertainty over US FDA issues Lower multiple than peers on account of very high working capital and debt Trading at the higher end of its past-2-year PER Average PER over the past three years
Source: Daiwa forecasts Note: PER is based on recurring EPS
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8 July 2011
The domestic market is the key

Revenue for the domestic-formulations industry likely to rise by 13-15% annually
Over the past eight years, prescriptions-sales growth rates in the India market have been far higher than those in the US. Increasing competition in the US market has led to the generics drug market shrinking in value terms, whereas we forecast sales for the India market to expand by 13-15% annually over the next three years. Revenue from the India domesticformulations industry has risen by about 14% annually over the past three years, while the US prescriptionsales growth rate has plummeted from 19% at the start of the decade to 2% in 2010.
India market vs. US prescription-sales growth (%)
(%) 20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 US prescription sales Source: Industry sources, IMS India sales growth has hovered at 11-16%
US generics industry
Generics continue to gain share, but increasing competition limits profitability
Generic drugs constituted 78% of the US prescription market in 2010, up from 33% in 1990, due to the increasing availability of drugs in a generic form as patents expire, along with patients choosing lower-cost options. Increasing acceptance of generics has led to intensified competition, exerting constant pressure on prices, leading to price declines over the past three years. In our view, Medicare Part D of the Medicare Reform Act 2003 (which began extending coverage for basic medication in late-2006) will continue to contribute to expand the market for commonly prescribed generics.
Generic drugs penetration and rise in prescription drug expenditure
90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 55-14% of sales value 67% 55% 57% 51% 53% 46% 48% 72-18% of sales value 78% 72% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 Penetration (LHS)
Source: IMS Health, National Sales Perspective
Change (RHS,YoY %)
The MAT (monthly average total) sales growth of the top-five players in India has exceeded industry growth over the past one year. This shows that even though the India pharmaceutical industry is becoming more fragmented, the top-five players have been able to prevent this fragmentation from eating into their sales growth.
Sales growth: top-5 MAT vs. India market MAT (%)
116 114 112 110 108 106 104 102 100 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 May-11
On average, more than 80% of a brands prescription volume is replaced by the generic form of the brand within six months of patent loss. Patent expiries in the US are set to peak in 2011 and 2012, when some of the largest products are likely to face generic competition. We believe US-focused companies that are riding on higher one-off-led sales growth in FY11 and FY12 will find it difficult to retain such growth rates going forward.
Top-5 sales MAT

Source: Daiwa Research, AIOCD-AWACS
Industry sales MAT
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8 July 2011
Average annual % change in manufacturer prices for most widely used generic prescription drugs
10% 5% 0% (5%) (10%) (15%) 2003 2004 2005 2006 2007 Apr 09Mar 10 General inflation (CPI - U) 2008 2009 Medicare Part D is operational
Domestic sales growth

Over the past year, revenue for the India pharmaceuticals market has risen by 15% YoY without any drastic increase in the bonus component for the distributors (3.0% to 3.4%). Moreover, the industry has seen its inventory decrease (from 73.6% to 68.7%) over the same period. This shows that there is strong volume-led growth in the India market, which has resulted in large additions to the field sales forces of almost all the top-10 companies in the domestic market over the past two years.
India market: sales growth, 13m inventory, bonus sales (% MAT sales)
18 16 14 12 10 8 6 4 2 0 Jun-10 Aug-10 Oct-10 Dec-10 Feb-11 Apr-11
13m avg. inv. (RHS) Bonus sales (LHS) MAT sales change YoY (LHS)
Manufacturer price (WAC)

Source: American Association of Retired Persons (AARP)
Acute care likely to remain the biggest segment in India

The chronic-care segment constitutes 30% of the total domestic market in terms of sales, and has expanded by 17% annually over the past three years.
Indian Pharmaceutical Sector: breakdown of domestic sales (FY10) (%)
Sun Pharma Torrent Zydus Cadila Sanofi Cipla Dr Reddy's Lupin Piramal Industry Ranbaxy Glenmark Pfizer India GSK 0 20 Chronic
Source: compiled by Daiwa
74 73 72 71 70 69 68 67 66
Source: compiled by Daiwa, AIOCD - AWACS
40
60
80
100
Acute & Others
Breakdown of the India domestic market (FY07-10)

CAGR (FY07-10) (%) 30 Antidiabetic 25 20 15 10 5 0 2 5 8 11 Market share (%)
Source: Various industry sources, Daiwa
Breakdown of the India domestic market (FY10-14E)

CAGR (FY10-14E) (%) 30 25 Antidiabetic
Dermatology CNS Gynaecology Vitamins CV GI Pain Respiratory Others
20 15 AI 10 5 0 14 17 20 2 5 8 11 Market share (%)

Source: Various industry sources, Daiwa forecasts
Dermatology
CNS Pain GI
CV Others AI
Gynaecology Respiratory Vitamins
14
17
20
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8 July 2011
India market: gainers and losers
The India market: big and becoming bigger

What is happening in the India market?
Over the past three years, acquisitions in the India pharmaceutical market have been transacted at the equivalent of 5-8x annual sales. The acquisitions undertaken by multinational companies have been for the purpose of gaining market share in India and entering the top-three in terms of Indias domestic sales. We believe the top-10 companies in the India market cannot expand at the same rates for a much longer period of time, and that similar levels of sales growth can only be achieved going forward through continuous additions in field sales forces.
Industry structure
Type MNCs Listed Not listed Company Abbott (includes Piramal and Solvay) (1),Ranbaxy (3), GSK (4),Pfizer-Wyeth (9), Sanofi-Aventis (15) Cipla (2),Sun (5), Cadila (6), Lupin (10), Dr Reddys (13) Mankind (8), Alkem (7), Aristo (11), Intas (12), Mcloeds (14) Remarks Negligible bonus levels. Ranbaxy has conducted considerable sales force additions. Cipla has a large sales force; Sun is strong due to its 100% penetration of the key chronic-care segment. Aggressive business models; most offer high incentives to distributors.
Comments Manpower additions New product launches In-licensing
Positive Increase in coverage Adds to sales growth Companies with high penetration can make optimum use of in-licensing
Negative EBITDA falls for 3-4 quarters Increase in free samples Difficult to find gaps in the portfolio in the India market
Remarks Cipla, Ranbaxy Ranbaxy, Cipla, unlisted companies Sun-MSD
Source: Daiwa
Risk-loaded business models

Stable sales and profitability are key to strong defensive stocks
We prefer businesses that have a strong focus on profitability, coupled with sales-driven models that can boost profitability and increase leverage. In our view, stable sales and profitability are key for strong defensive stocks (Glaxo, Sun and Cadila). However, sales driven by the probability of at-risk launches, and/or non-recurring and uncertain revenue can improve the short-term outlook but also increase the volatility of EBITDA margins. An increasing reliance on such uncertain profit negatively affects the defensive nature of the stocks (eg, Ranbaxy and Dr Reddys). The market capitalisations of the companies focused on sales growth have been increasing in the past 2-3 years on the expectation of limited-period opportunities, which the market has valued at almost double-digit PERs. We continue to define recurring sales in the domestic market, non-regulated markets and developed markets (non-Para IV types) as the base business, which we value at a past two-to-three-year average PER. We continue to value limited-competition-period sales increases (such as Para IV sales) on a cash basis.
Source: Daiwa, AIOCD-AWACS Note: Figures in brackets are the ranks of the companies based on their market shares
Daiwa generics pharmaceutical coverage universe: sector summary

Company name Glaxo Sun Cadila Lupin Cipla Dr Reddy's Ranbaxy Glenmark Torrent Biocon Comments Rating Outperform Buy Buy Outperform Underperform Sell Sell Underperform Buy Hold Target price (Rs) 2,457 561 1,102 490 299 1,394 446 298 702 351 Domestic formulations as a % of total sales (2010, FY11)* 99.0 42.1 48.7 27.2 43.8 19.2 20.4 30.0 38.0 53.4 Gearing (x)(2010, FY10) Net Cash Net Cash 0.4 0.2 Net Cash 0.4 0.2 0.9 0.1 Relative stability of business Very High High High Medium Medium Medium Low Low Medium EBITDA margins (%) (2010, FY11) 35.2 34.4 20.2 18.7 21.1 22.5 26.7 22.0 14.4 21.1 ROE% (2010, FY11) 30.9 22.5 39.1 33.1 15.3 24.4 26.6 23.8 29.1 19.3 Keenly awaited news flow More patented launches in India Consistency in Taro's operating performance Launch of more products from Hospira joint venture in the US markets Launch of oral contraceptives in the US Update on incremental partnership deals in the US/EU Approval of some key products in the US Progress on USFDA's import alert Further out licensing of NCE/NBE Update on contract-manufacturing deal with Astrazeneca (Not rated) Update on progress of the IN105 insulin
Net Cash Medium
High proportion of domestic sales Glenmark In terms of provide a good hedge against has consistency highest extreme currency fluctuations in sales mix leverage
Glaxo has the Sun with highest EBITDA higher cash margins on lower ROE recurring sales
Source: Daiwa Note: * For Biocon it is biopharmaceuticals as a percent of total sales
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8 July 2011
Valuations
We prefer a PER-based valuation for the sector
We believe that PER bands in the generics space will continue to change over time. About seven years ago, high revenue growth resulted in a PER premium being applied when India generics players entered the regulated markets. However, over the past three years, increasing competition in generics and a string of acquisitions in the regulated markets by India players have affected their EBITDA margins, return ratios, and valuations. We prefer companies with business models that deliver stable revenue growth and do not pursue earnings growth at the expense of margins. While PBRs and
India Pharmaceuticals Sector: rationale for target PERs
Company Glaxo Sun Cadila Lupin Cipla Dr Reddys Ranbaxy Glenmark Torrent Pharma Biocon
ROEs effectively reflect the premium applied to profitability, PER valuations in the generics space reflect the quality of the business, in our view. We believe that PER bands will continue to be the best valuation method for a long time to come.
Indian Pharmaceuticals Sector: PER and rating changes
Rating New Previous Outperform Outperform Buy Buy Buy Buy Outperform Hold Underperform Underperform Sell Sell Sell Sell Underperform Sell Buy Buy Hold Sell Target PER (x) New target Previous target New Previous price (Rs) price (Rs) 25 27 2,457 2,339 22 24 561 509 20 22 1,102 1,010 19 19 490 448 19 20 299 269 19 19 1,394 1,114 17 19 446 385 16 16 298 266 15 16 702 680 16 16 351 312
Glaxo Sun Cadila Lupin Cipla Dr Reddys Ranbaxy Glenmark Torrent Biocon
Source: Daiwa forecasts, PER is on recurring EPS
Valuation parameter PER of 25x on our 2012 EPS forecast plus Rs250/share for cash PER of 22x on our FY13 core EPS forecast plus Rs4/share for Para IV upside plus Rs39/share for cash PER of 20x on our FY13 EPS forecast PER of 19x on our FY13 EPS forecast PER of 19x on our FY13 EPS forecast PER of 19x on our FY13 core EPS forecast and Rs45/share for limited period upsides PER of 17x on our 2012 EPS forecast, plus Rs66/share for Nexium and Lipitor PER of 16x on our FY13 EPS forecast plus Rs10/share for generic Malerone, Cutivate, Locoid Lipocream, Lunesta and Zetia. PER of 15x on our FY13 EPS forecast PER of 16x on our FY13 EPS forecast
Rationale for target PERs 35%+ EBITDA margin, all sales from domestic formulations Maintaining its past-three-year premium of 10-25% over the past-year PER average of 22x Above its one-year average of 19x to factor in increasing stability of the overall businesses Trading at the higher end of its past-five-year PER Lower multiple than Sun on account of its lower EBITDA margin Lower multiple than Sun on account of relatively weaker base businesses, less proportion of sales from the domestic business Lower multiple than peers on account of uncertainty over US FDA issues Lower multiple than peers on account of very high working capital and debt Trading at the higher end of its past-two-year PER Average PER over the past three years
Source: Daiwa forecasts Note: PER is based on recurring EPS
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8 July 2011
Sun: one-year-forward PER bands

(Rs) 600 500 400 300 200 100 0 Jun-04 25x 22x 17x 12x
Cadila: one-year-forward PER bands

(Rs) 1,000 900 800 700 600 500 400 300 200 100 0 Jun-04
20x 16x 12x 8x
Jun-05
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Jun-05
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Source: Company, Bloomberg, Daiwa forecasts
Glaxo: one-year-forward PER bands

(Rs) 2,800 2,400 2,000 1,600 1,200 800 400 0 Jun-05 Jun-06 Jun-07 Jun-08 Jun-09 Jun-10 Jun-11 25x 20x 15x
Lupin: one-year-forward PER bands

(Rs) 30x 600 500 400 300 200 100 0 Jun-05 20x 16x 12x 8x
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Torrent: one-year-forward PER bands

(Rs) 900 800 700 600 500 400 300 200 100 0 Jun-05 Jun-06 Jun-07 Jun-08 Jun-09 Jun-10 Jun-11 5x 10x 15x 20x
Comments
For companies with a high domestic focus and limited volatility in recurring earnings, such as Glaxo, Sun and Cadila, we have assigned past-two-year PERs that are higher than the industry average (over past two years) (20x, based on our FY13 forecasts), because we believe these companies earnings will continue to increase at a pace faster than their domestic peers as they have clearer earnings visibility. For Lupin, we assign a 19x PER, which is due to our lower recurring earningsgrowth forecast, while we value Torrent on its pasttwo-year PER.
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8 July 2011
Ranbaxy: one-year-forward PER bands

(Rs) 2,500 2,000 1,500 1,000 500 0 (500) (1,000) Jun-06 Jun-07 Jun-08 Jun-09 Jun-10 Jun-11 80x 60x 40x 20x
Dr Reddys: one-year-forward PER bands

(Rs) 2,000 1,500 1,000 500 0 (500) (1,000) Jun-05 25x 19x 15x 10x
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Biocon: one-year-forward PER bands

(Rs) 500 450 400 350 300 250 200 150 100 50 0 Jun-05 24x 18x 12x 6x
Glenmark: one-year-forward PER bands

(Rs) 1,000 900 800 700 600 500 400 300 200 100 0 Jun-05 40x 30x 20x 10x
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Cipla: one-year-forward PER bands

(Rs) 600 500 400 300 200 100 0 Jun-04 25x 15x 5x Jun-05 Jun-06 Jun-07 Jun-08 Jun-09 Jun-10 Jun-11 35x
Comments
In the case of Ranbaxy, we now assign a PER of 17x (from 19x previously) on its recurring EPS to factor in its lower-than-average EBITDA margin. For companies like Cipla and Dr. Reddys we assign 19x which is due to our lower recurring earnings-growth forecasts. We value Glenmark and Biocon on their past-two-year PERs.
Source: Company, Bloomberg. Daiwa forecasts
- 11 -

8 July 2011
Global perspective
Generics average valuations in line with global peers, but with a wider dispersion
Our group of US pharmaceutical stocks (Teva, Mylan, Watson [all not rated], see following table) trades at an average PER of 11x on the 2012 Bloomberg-consensus EPS forecasts, which is much lower than the India group on our EPS forecast. We think this reflects the diverse business models, with varying levels of risk, in the India generics space. Teva Pharmaceutical (Teva) guides for its generics sales in the US to increase at a CAGR of 9.5% over the next three years.
Global comparison
Bloomberg Company name code TEVA PHARM-ADR TEVA US MYLAN INC MYL US WATSON PHARM WPI US Glaxo Pharma* (Outperform) GLXO IN Sun Pharma* (Buy) SUNP IN Cadila* (Buy) CDH IN Lupin* (Outperform) LPC IN Cipla* (Underperform) CIPLA IN Dr Reddy's* (Sell) DRRD IN Ranbaxy" (Sell) RBXY IN Glenmark* (Underperform) GNP IN Torrent Pharma* (Buy) TRP IN Biocon* (Hold) BIOS IN Share price (US$) 48.92 24.78 70.28 53.02 11.25 21.04 10.10 7.43 35.08 11.94 7.04 14.08 8.19 Mkt cap US$bn 46 10.9 8.9 4.5 10.3 4 4.3 5.6 6.1 4.4 2 1.1 1.8 Sales in US$m 2011 18,575 6,126 4,285 430 1,657 1,212 1,522 1,670 1,954 2,203 824 541 455 CAGR (%) 2010-12E 14 11 20 15 28 22 18 16 13 7 15 14 (9)
Diverse business models, even on a globalcomparison basis

The business models of companies globally are fairly diverse, as reflected in their valuations. Tevas penchant for at-risk launches comes from its size (its market cap is larger than the sum of the other 12 companies in the table). By contrast, companies with relatively stable models, such as Sun, command rich valuations
ROE and PBR indicate that stability gets a premium

The companies with stable recurring and domesticfocused businesses are assigned a premium by the market as signalled by their PBRs.
EBITDA (%) 2010 2011E 2012E 33 33 33 23 28 29 17 25 26 35 35 36 34 30 30 20 21 21 19 19 19 21 20 20 22 23 25 27 14 14 22 28 25 14 15 16 21 30 31
PAT in US$m CAGR (%) 2010 2010-12E 3,331 23 345 72 184 94 130 16 409 22 167 23 194 16 216 15 248 14 298 (15) 118 7 61 21 82 10
ROE (%) 2011E 2012E 18 18 24 25 15 17 34 34 23 23 35 34 29 27 15 16 23 23 13 14 28 20 27 28 18 18
ROCE (%) 2010 43 26 13 40 20 25 24 17 20 20 14 16 18
PER (x) 2011E 2012E 10 9 12 11 16 13 29 25 23 19 21 17 21 17 25 21 23 18 29 24 14 15 17 13 19 17
Source: Bloomberg, * Daiwa forecasts Note: 2010E is FY11, 2011E is FY12E, 2012E is FY13E, 1 US$ = Rs 44.438. Closing share prices as at 4 July 2011. Note: For Sun, Cadila, Lupin, Cipla, Dr Reddys, Glenmark, Torrent and Biocon, we have used FY11-13E figures for 2010-12E.
PBR and ROE (2010/FY11E)

(PBR, x) 11.0 10.0 9.0 8.0 7.0 6.0 5.0 4.0 3.0 2.0 1.0 0.0 0 CY10/ FY11 Glaxo Cadila Lupin Sun Pharma Watson Cipla Mylan Teva 10 20 30 40 Dr Reddy's Torrent Pharma
PBR and ROE (2011E/FY12E)

(PBR, x) 10.0 9.0 8.0 7.0 6.0 5.0 4.0 3.0 2.0 1.0 0.0 0 CY11E/FY12E Glaxo
Glenmark Biocon Ranbaxy
Ranbaxy Watson
Cipla
Lupin Dr Reddy's Torrent Pharma Sun Pharma Glenmark Biocon Mylan
Cadila
Teva 10 20 (ROE, %) 30 40 50
(ROE, %)
Source: Bloomberg, companies, Daiwa forecasts for Glaxo, Sun, Cadila, Lupin, Cipla, Dr Reddys, Ranbaxy, Glenmark, Torrent and Biocon
Source: Bloomberg, companies, Daiwa forecasts for Glaxo, Sun, Cadila, Lupin, Cipla, Dr Reddys, Ranbaxy, Glenmark, Torrent and Biocon
- 12 -
Sun Pharmaceutical Industries

SUNP IN
Target price: Rs509.00 Rs561.00 Up/downside: +12.2% Share price (4 Jul): Rs499.85
Strong core business

More than two-thirds of its sales are recurring (India formulations plus Taro) Competitive but profitable growth in the domestic market Taros profitability comes as a positive surprise
What's the impact
Forecast revisions (%)

Year to 31 Mar Revenue change Net-profit change EPS change
Kartik A. Mehta
Amit Nagdewani
We forecast Suns total sales and earnings to increase at CAGRs of 23.1% and 19.2%, respectively, over the FY11-14 period, driven by the domestic-formulations business and an improvement in margins for the export business. We forecast sales for Suns domestic-formulations business to rise at an 18.9% CAGR for FY11-14.
What we recommend
12E 0.0 0.0 0.0
13E 0.0 0.0 0.0
14E 0.0 0.0 0.0
Share price performance
What's new
Sun guides for 28-30% YoY revenue growth for FY12. The improvement in Taros (Not rated) 4Q FY11 operating performance was a positive surprise. Sun launched Docetaxel in 1Q FY12, and we assume there will be five generics companies in this market by the end of 1H FY12. Sun received its first ANDA approval for Sumatriptan Autoinjector in June 2011. It has also seen its domestic sales rise by over 22% over the past six months.
Sun: monthly domestic sales growth (%)
30 20 10 0 Jul-10 Oct-10 Aug-10 Sep-10 Feb-11 Jun-10 Jan-11 Nov-10 Dec-10 Mar-11 Apr-11 May-11
We have a Buy (1) rating for Sun, as it has maintained its dominant position in the chronic-therapy segment in India, and given Taros improving operating performance. We have raised our SOTP-based six-month target price to Rs561 (from Rs509), based on a target PER of 22x on our FY13 recurrent EPS forecast (previously 24x on our FY12 EPS forecast), plus Rs4/share for the Para IV upside potential and Rs39/share for cash. The key risks to our view would be greater-than-expected volatility at Taros operations and a slower-than expected expansion of the India pharma market.
How we differ
12-month share-price performance Relative to BSE SENSEX 30 Index
12-month range Market cap (US$bn) Average daily turnover (US$m) Shares outstanding (m) Major shareholder
341.34-500.00 11.65 10.01 1,036 Dilip Shanghvi & Group (63.7%)
Financial summary (Rs)

Year to 31 Mar Revenue (m) Operating profit (m) Net profit (m) Core EPS EPS change (%) Daiwa vs Cons. EPS (%) PER (x) Dividend yield (%) DPS PBR (x) ROE (%) 12E 73,613 20,471 22,090 21.328 21.6 5.7 23.4 0.8 4.000 5.0 23.1 13E 93,032 25,537 26,943 26.014 22.0 8.8 19.2 1.0 5.000 4.1 23.5 14E 106,692 29,098 30,747 29.686 14.1 8.4 16.8 1.2 6.000 3.5 22.4
Sun Pharma sales growth YoY Industry Sales growth YoY Source: Daiwa Compilation, AIOCD AWACS
Our FY12 and FY13 EPS forecasts are respectively 5.7% and 8.8% higher than those of the Bloomberg consensus, due mainly to our higher EBITDA-margin forecasts.
Source: Bloomberg, Daiwa forecasts

8 July 2011

Growth outlook
We forecast Suns overall sales to increase at a CAGR of 23.1% over the FY11-14 period, driven by the domestic formulations business. While the domestic market is competitive, it remains far more attractive at the EBITDA level than those of other regions. We see Suns marketing tie-up with Merck (Not rated) in the India market for Januvia/Janumet as a good strategy to improve its presence in one of the fastest-expanding segments. The tie-up involves marketing Sitagliptin under a different brand name to diabetologists in India.
Sun: sales mix (%)

FY09 100 45 42 2 55 46 9 FY10 100 46 44 3 54 42 12 FY11 100 42 40 2 58 51 7 FY12E 100 40 38 2 60 55 6 FY13E 100 37 36 1 63 58 5 FY14E CAGR (FY11-14E) 100 23.1 37 18.3 36 18.9 1 4.7 63 26.3 57 27.9 6 14.0
Total Domestic Formulations Bulk drugs Exports Formulations Bulk drugs
Source: Company, Daiwa forecasts Note: slight discrepancies are due to rounding, CAGR for domestic sales excludes excise duty
Valuation
We believe Sun should be able to maintain its PER premium over its peers, because of its stable and focused business model. We value Sun on an SOTP basis, have raised our six-month target price to Rs561 (from Rs509), based on a target PER of 22x on our FY13 recurrent EPS forecast (previously 24x on our FY12 EPS forecast), plus Rs4/share for the Para IV upside potential and Rs39/share for cash. We believe the companys strong performance in the domestic market and improvements in Taros performance will drive valuations. Our PER multiple of 22x for Sun on FY13 EPS forecasts represents a discount to that of Glaxo, which had an overall EBITDA margin for sales in the India formulations market of 35% for 2010.

(Rs) 600 500 400 300 200 100 0 Jun-04 25x 22x 17x 12x
Jun-05
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Earnings revisions
We maintain our revenue and earnings forecasts. While the domestic market is competitive, it remains more profitable than those of the other regions in the world where Sun operates. Our FY12 and FY13 EPS forecasts are respectively 5.7% and 8.8% higher than those of the Bloomberg consensus, due mainly to our higher EBITDA-margin forecasts.
Sun: Daiwa EPS versus the Bloomberg-consensus EPS (Rs)

35 30 25 20 15 10 5 0 FY12E Bloomberg consensus
Source: Daiwa, Bloomberg
20.2
21.3
24.0
26.0
27.4
29.7
FY13E
FY14E Daiwa forecasts
- 14 -

8 July 2011
Financial summary
Key assumptions
Year to 31 Mar Domestic sales growth YoY (%) 2007 23.7 2008 25.2 2009 34.2 2010 (6.0) 2011 36.9 2012E 21.2 2013E 17.6 2014E 16.2
Profit and loss (Rs m)

Year to 31 Mar Domestic Export Others Total revenue Other income COGS SG&A Other op. expenses Operating profit Net-interest inc./(exp.) Assoc/forex/extraord./others Pre-tax profit Tax Min. int./pref. div./others Net profit (reported) Net profit (adjusted) EPS (reported) (Rs) EPS (adjusted) (Rs) EPS (adjusted fully-diluted) (Rs) DPS (Rs) EBIT EBITDA EV 2007 11,144 9,687 0 20,831 0 (5,767) (3,205) (5,948) 5,910 945 1,301 8,157 0 (314) 7,843 7,665 7.572 7.400 7.400 1.350 5,910 6,724 511,341 2008 13,954 18,956 0 32,909 0 (7,222) (4,280) (6,865) 14,543 1,146 305 15,994 (485) (640) 14,869 14,869 14.356 14.356 14.356 2.100 14,543 15,511 499,479 2009 18,733 23,101 0 41,833 0 (8,556) (8,138) (7,733) 17,407 1,217 867 19,491 (712) (602) 18,177 18,176 17.550 17.549 17.549 2.750 17,407 18,640 484,578 2010 17,605 20,481 0 38,086 1,988 (10,977) (9,373) (7,624) 12,100 1,138 904 14,142 (679) 48 13,511 13,504 13.045 13.038 13.038 2.750 12,100 13,633 483,010 2011 24,096 33,119 0 57,214 0 (14,607) (11,863) (13,113) 17,631 1,342 1,386 20,358 (1,284) (913) 18,161 18,161 17.534 17.534 17.534 3.500 17,631 19,672 484,585 2012E 29,195 44,417 0 73,613 0 (18,149) (16,573) (18,420) 20,471 1,382 2,025 23,878 (1,194) (594) 22,090 22,090 21.328 21.328 21.328 4.000 20,471 22,410 474,268 2013E 34,347 58,685 0 93,032 0 (22,664) (21,397) (23,433) 25,537 1,423 2,100 29,060 (1,453) (664) 26,943 26,943 26.014 26.014 26.014 5.000 25,537 27,771 463,312 2014E 39,918 66,775 0 106,692 0 (26,018) (24,539) (27,037) 29,098 1,466 2,500 33,064 (1,653) (664) 30,747 30,747 29.686 29.686 29.686 6.000 29,098 31,645 447,353
Cash flow (Rs m)

Year to 31 Mar Profit before tax Depreciation and amortisation Tax paid Change in working capital Other operational CF items Cash flow from operations Capex Net (acquisitions)/disposals Other investing CF items Cash flow from investing Change in debt Net share issues/(repurchases) Dividends paid Other financing CF items Cash flow from financing Forex effect/others Change in cash Free cash flow 2007 8,157 813 (91) (5,358) 178 3,699 (1,958) 0 998 (960) (7,601) 38 (1,482) 4,785 (4,260) (999) (2,519) 1,741 2008 15,994 969 (1,288) (7,572) 0 8,102 (1,886) 0 (4,022) (5,908) (9,722) 69 (2,547) 9,586 (2,614) 4,022 3,602 6,216 2009 19,491 1,233 (1,482) 1,818 1 21,060 (6,390) 0 (12,030) (18,420) 353 0 (3,332) 3,647 668 12,030 15,338 14,671 2010 14,142 1,533 (890) (4,675) 7 10,117 (2,113) 0 (12,069) (14,182) (77) 0 (3,321) (3,155) (6,553) 12,069 1,451 8,004 2011 20,358 2,041 (4,046) (533) 0 17,819 (13,205) 0 8,354 (4,851) 2,544 0 (4,241) 4,592 2,895 (8,354) 7,509 4,615 2012E 23,878 1,938 (1,059) (4,151) 0 20,606 (4,848) 0 (5,709) (10,557) 1,064 0 (4,847) (1) (3,784) 5,709 11,975 15,758 2013E 29,060 2,234 (1,305) (7,393) 0 22,597 (4,917) 0 (5,545) (10,462) 1,330 0 (6,059) (1) (4,730) 5,546 12,951 17,680 2014E 33,064 2,547 (1,490) (5,227) 0 28,895 (5,001) 0 (13,050) (18,050) 1,662 0 (7,271) (1) (5,609) 13,050 18,285 23,894
Source: Company, Daiwa forecasts Note: Annual Audited Report 2011 not yet available
- 15 -

8 July 2011
Financial summary continued
Balance sheet (Rs m)

As at 31 Mar Cash & short-term investment Inventory Accounts receivable Other current assets Total current assets Fixed assets Goodwill & intangibles Other non-current assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Other non-current liabilities Total liabilities Share capital Reserves/R.E./others Shareholders' equity Minority interests Total equity & liabilities Net debt/(cash) BVPS (Rs) 2007 16,345 6,645 6,789 2,653 32,431 10,122 0 293 42,846 0 2,966 80 3,046 11,144 1,188 15,378 981 26,050 27,031 438 42,846 (5,201) 26.085 2008 19,947 7,728 14,177 5,081 46,932 11,040 0 0 57,972 0 3,722 2,651 6,373 1,436 92 7,901 1,036 47,150 48,185 1,886 57,972 (18,511) 46.523 2009 35,285 9,757 8,811 7,425 61,278 16,196 0 1,907 79,381 0 3,767 3,431 7,198 1,789 1,228 10,215 1,036 66,160 67,196 1,970 79,381 (33,496) 64.878 2010 36,737 10,739 11,748 8,562 67,785 16,776 0 2,100 86,661 0 4,095 3,484 7,579 1,712 1,209 10,500 1,036 73,193 74,229 1,932 86,661 (35,025) 71.668 2011 44,246 14,794 11,716 11,726 82,482 27,940 0 5,001 115,423 0 9,203 5,030 14,234 4,256 1,348 19,838 1,036 86,078 87,114 8,472 115,423 (39,990) 84.108 2012E 56,221 19,019 15,062 11,820 102,122 30,849 0 5,001 137,972 0 11,832 5,916 17,748 5,320 1,483 24,551 1,036 103,320 104,356 9,066 137,972 (50,901) 101 2013E 69,171 24,013 19,017 14,923 127,125 33,532 0 5,001 165,658 0 14,939 7,469 22,408 6,650 1,631 30,689 1,036 124,204 125,240 9,730 165,658 (62,521) 121 2014E 87,456 27,544 21,814 17,118 153,932 35,985 0 5,001 194,918 0 17,135 8,568 25,703 8,312 1,795 35,810 1,036 147,679 148,715 10,394 194,918 (79,144) 144
Key ratios (%)

Year to 31 Mar Sales (YoY) EBITDA (YoY) Operating profit (YoY) Net profit (YoY) EPS (YoY) Gross-profit margin EBITDA margin Operating-profit margin ROAE ROAA ROCE ROIC Net debt to equity Effective tax rate Accounts receivable (days) Payables (days) Net interest cover (x) Net dividend payout 2007 30.5 37.0 37.5 33.7 33.7 72.3 32.3 28.4 36.2 18.7 15.7 29.7 net cash 0.0 91.1 45.9 n.a. 17.8 2008 58.0 130.7 146.1 94.0 94.0 78.1 47.1 44.2 39.5 29.5 31.8 51.5 net cash 3.0 116.3 37.1 n.a. 14.6 2009 27.1 20.2 19.7 22.2 22.2 79.5 44.6 41.6 31.5 26.5 28.1 50.3 net cash 3.7 100.3 32.7 n.a. 15.7 2010 (9.0) (26.9) (30.5) (25.7) (25.7) 71.2 35.8 31.8 19.1 16.3 16.0 30.6 net cash 4.8 98.5 37.7 n.a. 21.1 2011 50.2 44.3 45.7 34.5 34.5 74.5 34.4 30.8 22.5 18.0 19.6 35.8 net cash 6.3 74.8 42.4 n.a. 20.0 2012E 28.7 13.9 16.1 21.6 21.6 75.3 30.4 27.8 23.1 17.4 18.5 35.1 net cash 5.0 66.4 52.1 n.a. 18.8 2013E 26.4 23.9 24.7 22.0 22.0 75.6 29.9 27.4 23.5 17.7 19.4 37.9 net cash 5.0 66.9 52.5 n.a. 19.2 2014E 14.7 14.0 13.9 14.1 14.1 75.6 29.7 27.3 22.4 17.1 18.6 37.9 net cash 5.0 69.8 54.9 n.a. 20.2
Company profile
Sun Pharmaceutical was founded in 1983 by Dilip Shanghvi to manufacture formulations and bulk drugs. Initially operating a single plant at Vapi, Gujarat, it now has 17 manufacturing locations (including three in the US and one in Hungary). It is the industry leader in chronic care. Sun has expanded internally and via acquisitions, with an important acquisition being that of Caraco.
- 16 -

8 July 2011
India business and Taro account for more than two-thirds of sales
Earnings outlook
We forecast Suns total sales and earnings to increase at CAGRs of 23.1% and 19.2%, respectively, over the FY11-14 period, driven by a strong performance by the domestic-formulations business and an improvement in the EBITDA margin for the exports business. While the domestic market is competitive, it remains more profitable than those of the other regions in the world where Sun operates.
Sun: sales mix and EBITDA margin (%)
Total Domestic Formulations Bulk drugs Exports Formulations Bulk drugs EBITDA margin FY09 100 45 42 2 55 46 9 44.6 FY10 100 46 44 3 54 42 12 35.8 FY11 FY12E FY13E FY14E CAGR (FY11-14E) 100 100 100 100 23.1 42 40 37 37 18.3 40 38 36 36 18.9 2 2 1 1 4.7 58 60 63 63 26.3 51 55 58 57 27.9 7 6 5 6 14.0 34.4 30.4 29.9 29.7
We see Suns marketing tie up with Merck in the India market for Januvia/Janumet as a good strategy to improve its presence in one of the fastest-expanding segments. The tie-up involves marketing Sitagliptin under a different brand name to diabetologists in India
Taros profitability a positive surprise

We forecast Taro to account for 28% of Suns total FY12 sales. The improvements in the companys profitability and pace of filings/approvals have been positive surprises. However, we believe that such high EBITDA margins for Taro may not be sustainable going forward, as generic products continue to face increasing competition in the US. In April 2011, the USFDA informed Taro that its manufacturing facility in Canada had an acceptable regulatory status, resolving the warning letter issued in February 2009.
Taro: sales, gross and operating margins
70 60 50 40 30 20 10 0 1QCY10 2QCY10 3QCY10 4QCY10 1QCY11 Sales (RHS, $m) Operating margin (LHS, %)
Source: Company, Daiwa Compilation
120 100 80 60 40 20 0 Gross margin (LHS, %)
Source: Company, Daiwa forecasts Note: slight discrepancies are due to rounding, CAGR for domestic sales excludes excise duty
Leader in the chronic-care segment

The India pharma market accounted for almost 40% of Suns FY11 sales, and the company was ranked among the top-five pharma manufacturers in India. More than 70% of these sales came from the fast-expanding chronic-care segments.
Sun vs. market sales growth (%), 13M inventory (%)
30 25 20 15 10 5 0 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 May-11 70 69 69 68 68 67 67
Sun Pharma has 377 cumulative filings (the highest of any company in India), with 225 approved as at 31 March 2011. The remaining 152 are awaiting approval, while 20 have received tentative approvals. Sun launched Docetaxel in 1Q FY12, and we assume there will be five generics companies in this market by the end of 1H FY12. Sun received its first ANDA approval for Sumatriptan Autoinjector in June 2011.
Sun: ANDA pipeline
400 350 300 250 200 150 100 50 0 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Cumulative products filed
Source: Company Note: Mar-11 numbers include Taro
377
177 142 95 40 59 15 20 29 53 69
207
225
84
13m avg. inv. (% sales, RHS)
Sun Pharma (LHS)
India market (LHS)
Cumulative products approved
Source: Daiwa Compilation, AIOCD AWACS
- 17 -

8 July 2011
Valuation and target price

The stock has traded within a PER band of about 17-23x over the past three years
Sun has traded within a PER band of about 17-23x over the past three years, which represents about a 10-25% premium to those of its peers in India. It traded at a lower PER for a short while due to the US FDA warning letter issued to Caraco. The existing higher PER over its peers is on account of Suns increasing focus on the chronic-care segment, in our view, and improvement in the operating-profit margins at Taro. Sun had about Rs40bn net cash as at the end of FY11, and in our opinion remains conservative in terms of acquiring companies in regulated markets. We believe Sun will maintain its PER premium to its peers, not only because of its stable and focused business model, but also because of what we regard as the deteriorating business models of the other India pharma companies.
(Rs) 600 500 400 300 200 100 0 Jun-04 25x 22x 17x 12x
Relative/absolute stock performance

Still the best defensive stock in the sector
One can see from the following chart that Sun has outperformed both the SENSEX and BSE Healthcare Index by wide margins during volatile times in the past. We attribute this mainly to the companys stable and focussed business model. We forecast recurring business to account for more than two-thirds of Suns FY12 sales, and see it as the best defensive stock in the sector given its strong and stable EBITDA margin.
Sun, BSE Healthcare: QoQ performance relative to SENSEX
40 30 20 10 0 (10) (20) (30) (40) (50) (60) 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12 Sun Pharma 4.8 (5.9) 24.8 2.1 14.0 5.9 (28.3) 4.4 (1.9) 29.1 7.2 18.8 (0.4) 13.2 20.0 (8.8) 12.5 50 30 10 (10) (30) (50) (70) (90)
BSE Healthcare (LHS) SENSEX (RHS)

Source: Bloomberg, Daiwa Research
Sun relative performance (LHS)
The stock has outperformed SENSEX and BSE Healthcare Index on 10 and 12 occasions, respectively, in absolute terms over the past 17 quarters.
Jun-05 Jun-06 Jun-07 Jun-08 Jun-09 Jun-10 Jun-11
Sun, SENSEX, BSE Healthcare index: QoQ absolute performance

Quarter ended 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12 SENSEX 12.1 18.0 17.3 (22.9) (14.0) (4.5) (25.0) 0.6 49.3 18.2 2.0 0.4 1.0 13.4 2.2 (5.2) (3.1) BSE Healthcare 4.3 (0.6) 16.8 (12.9) 8.2 (11.8) (19.2) (4.6) 25.5 24.0 13.9 6.2 7.9 4.3 12.3 (10.6) 6.2
Target PER of 22x on FY13 EPS forecast

We maintain our Buy (1) rating for Sun, and have raised our SOTP-based six-month target price to Rs561 (from Rs509), based on a target PER of 22x on our FY13 recurrent EPS forecast (previously 24x on our FY12 EPS forecast), plus Rs4/share for the Para IV upside potential and Rs39/share for cash. We believe the companys strong performance in the domestic market and improvements in Taros performance will drive its valuations. Our PER multiple of 22x for Sun on FY13 EPS forecasts represents a discount to that of Glaxo, which had an overall EBITDA margin for sales in the India formulations market of 35% for 2010.
Key risks
The key risks to our view would be higher-thanexpected volatility at Taros operations and a slowerthan-expected expansion of the India pharma market.
Source: Bloomberg, Daiwa Note: Highlighted cells show periods when the stock outperformed both the SENSEX and the BSE Healthcare Index
- 18 -
Cipla
CIPLA IN
Target price: Rs269.00 Rs299.00 Up/downside: -9.4% Share price (4 Jul): Rs329.95
Weak product mix affects earnings outlook

Domestic-sales growth remains sluggish Company faces delays in sales from the Indore SEZ to regulated markets, and rising operating costs EBITDA-margin outlook continues to be weak
What's the impact

Kartik A. Mehta
Amit Nagdewani
For FY11-14, we forecast Ciplas total sales and earnings to increase by CAGRs of 15.6% YoY and 15.9% YoY, respectively. Over the same period, we forecast the companys domesticformulation business sales (excluding excise duty) to increase at a CAGR of 15%.
What we recommend
12E 0.0 0.0 0.0
13E 0.0 0.0 0.0
14E 0.0 0.0 0.0
What's new
Ciplas domestic sales rose by 6-9% during the period between December 2010 and May 2011, while the average industry sales-growth rate was 15% over the same period. This, along with increased expenses due to delays in scaling up commercial production of the Indore plant, is a concern for us. Meanwhile, the companys increasing focus on exporting low gross-profit-margin antiretrovirals (ARV) should drag down the companys EBITDA margin.
India market and Cipla: domestic monthly-sales growth (YoY, %)
40 30 20 10 0 Jul-10 Oct-10 Aug-10 Sep-10 Feb-11 Jun-10 Jan-11 Nov-10 Dec-10 Mar-11 Apr-11 May-11
We have raised our six-month target price to Rs299 (from Rs269), now based on a target PER of 19x on our FY13 EPS forecast (20x on our FY12 EPS forecast previously), but maintain our Underperform (4) rating for Cipla. The key risks to our view would be higher-than-expected sales growth for the domestic business and a better-than-expected EBITDA margin due to a lowerthan-expected contribution from low-margin ARVs, and a fast turnaround in the business at the Indore plant.
How we differ
287.75-379.25 5.96 8.67
803 Dr Y.K. Hamied & Group (36.8%)

Year to 31 Mar Revenue (m) Operating profit (m) Net profit (m) Core EPS EPS change (%) Daiwa vs Cons. EPS (%) PER (x) Dividend yield (%) DPS PBR (x) ROE (%) 12E 74,199 12,158 10,786 13.434 12.2 (8.5) 24.6 0.8 2.500 3.5 15.2 13E 85,178 14,261 12,624 15.723 17.0 (9.5) 21.0 0.9 3.000 3.1 15.8 14E 97,767 16,949 14,958 18.631 18.5 (1.3) 17.7 1.1 3.500 2.7 16.5
Our FY12 and FY13 EPS forecasts are respectively 8.5% and 9.5% below those of the Bloomberg consensus, due mainly to our expectation of weak EBITDA margins arising from an unfavourable product mix.
Cipla
India market

8 July 2011

Growth outlook
For FY11-14, we forecast Ciplas total sales to increase at a CAGR of 15.6%. This is due mainly to the slow salesgrowth rate in the domestic market. Domestic sales for the company increased by 6-9% during the period between December 2010 and May this year, well below the average industry sales-growth rate of 15% over the same period. We believe that Ciplas high level of bonus sales in the channel will continue to limit secondary sales (sales from distributors to retailers/consumers) growth in the domestic market. We forecast sales in the companys domestic-formulation business to increase at a CAGR of 15% over the FY11-14 period.
India market and Cipla: change in sales (%), bonuses (% of sales)

35 30 25 20 15 10 5 0 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 May-11 35x 25x 15x 5x Jun-05 Jun-06 Jun-07 Jun-08 Jun-09 Jun-10 Jun-11 18.6 14 12 10 8 6 4 2 0
Cipla
India market
Bonus (% sales, RHS)
Source: compiled by Daiwa, AIOCD - AWACS
Valuation
Over the past two years, the stock has traded mostly in a PER band of about 15-29x. We believe that for a short time the stock traded at a premium to its peers average PER, because investors expected a pick-up in exportsales growth. However, the PER fell to 18x once the base-effect subsided. Our target price of Rs299 is based on a target PER of 19x on our FY13 EPS forecast. Our target PER is at a discount to our PERs for Sun (22x) and Cadila (20x) .We believe Ciplas stock should trade at about a 10-20% PER discount to Sun and a marginal discount to that of Cadila, mainly on account of Suns strong domestic-formulation business and Cadilas strong sales and earnings outlook.

(Rs) 600 500 400 300 200 100 0 Jun-04
Earnings revisions
Our FY12-14 revenue and earnings forecasts are unchanged. Sales for Ciplas domestic-formulation business are rising at a slower pace than that of the industry as a whole, and we expect this to continue. Our FY12 and FY13 EPS forecasts are respectively 8.5% and 9.5% below those of the Bloomberg consensus, due mainly to our weaker EBITDA-margin assumptions, arising from the unfavourable product mix.
Cipla: Daiwa and consensus EPS forecasts (Rs)

20 18 16 14 12 10 8 6 4 2 0 18.8 15.7
17.3 14.5 13.4
FY12E Bloomberg consesus

FY14E
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8 July 2011
Financial summary
Key assumptions
Year to 31 Mar Domestic sales growth YoY (%) 2007 14.9 2008 18.2 2009 17.8 2010 9.1 2011 9.4 2012E 13.7 2013E 14.5 2014E 14.5

Year to 31 Mar Domestic Sales Export Sales Others Total revenue Other income COGS SG&A Other op. expenses Operating profit Net-interest inc./(exp.) Assoc/forex/extraord./others Pre-tax profit Tax Min. int./pref. div./others Net profit (reported) Net profit (adjusted) EPS (reported) (Rs) EPS (adjusted) (Rs) EPS (adjusted fully-diluted) (Rs) DPS (Rs) EBIT EBITDA EV 2007 17,824 17,808 0 35,631 0 (17,256) (6,705) (4,613) 7,058 (70) 1,057 8,045 (1,365) 0 6,680 6,680 8.320 8.320 8.320 2.000 7,058 8,091 262,054 2008 21,073 21,103 0 42,176 0 (20,716) (8,345) (6,003) 7,112 (117) 653 7,648 (1,305) 667 7,010 6,343 8.731 7.900 7.900 2.000 7,112 8,419 267,385 2009 24,822 27,544 0 52,367 0 (23,474) (9,276) (8,978) 10,639 (329) 894 11,203 (1,173) (2,320) 7,710 10,030 9.603 12.492 12.492 2.000 10,639 12,157 271,379 2010 27,081 28,989 0 56,070 0 (24,530) (9,858) (9,599) 12,084 (230) 1,060 12,915 (2,122) 33 10,826 10,793 13.483 13.443 13.443 2.000 12,084 13,755 260,277 2011 29,632 33,548 0 63,180 0 (29,146) (11,484) (11,772) 10,778 (51) 794 11,521 (1,910) 60 9,671 9,611 12.045 11.971 11.971 2.000 10,778 13,315 261,978 2012E 33,692 40,507 0 74,199 0 (34,214) (13,840) (13,987) 12,158 (39) 877 12,996 (2,209) 0 10,786 10,786 13.434 13.434 13.434 2.500 12,158 15,014 265,036 2013E 38,590 46,588 0 85,178 0 (38,964) (16,063) (15,891) 14,261 (38) 987 15,210 (2,586) 0 12,624 12,624 15.723 15.723 15.723 3.000 14,261 17,233 264,993 2014E 44,173 53,594 0 97,767 0 (44,484) (18,424) (17,910) 16,949 (38) 1,111 18,022 (3,064) 0 14,958 14,958 18.631 18.631 18.631 3.500 16,949 20,042 264,531
Cash flow (Rs m)

Year to 31 Mar Profit before tax Depreciation and amortisation Tax paid Change in working capital Other operational CF items Cash flow from operations Capex Net (acquisitions)/disposals Other investing CF items Cash flow from investing Change in debt Net share issues/(repurchases) Dividends paid Other financing CF items Cash flow from financing Forex effect/others Change in cash Free cash flow 2007 8,045 1,034 (1,217) (4,223) 0 3,638 (4,210) (954) 0 (5,164) (3,454) 955 (1,870) 6,765 2,396 954 1,824 (572) 2008 7,648 1,307 (940) (6,553) 667 2,130 (5,639) 0 243 (5,396) 4,570 0 (1,870) 49 2,748 (243) (761) (3,509) 2009 11,203 1,518 (1,023) (5,428) (2,320) 3,951 (6,161) 0 134 (6,027) 3,597 0 (1,819) 35 1,813 (134) (397) (2,211) 2010 12,915 1,671 (1,972) (1,310) 33 11,337 (5,037) (1,664) 0 (6,700) (9,352) 51 (1,873) 6,623 (4,550) 1,664 1,750 6,300 2011 11,521 2,536 (1,874) (7,507) 60 4,736 (4,559) 0 1,788 (2,771) 1 0 (1,879) 0 (1,878) (1,788) (1,701) 177 2012E 12,996 2,856 (2,173) (10,225) 0 3,454 (4,163) 3,192 0 (972) (6) 0 (2,348) 0 (2,354) (3,192) (3,063) (709) 2013E 15,210 2,972 (2,548) (8,364) 0 7,270 (4,409) 88 0 (4,321) (5) 0 (2,818) 0 (2,823) (88) 38 2,861 2014E 18,022 3,093 (3,026) (9,809) 0 8,281 (4,530) (314) 0 (4,845) (4) 0 (3,288) 0 (3,291) 314 459 3,750
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8 July 2011

As at 31 Mar Cash & short-term investment Inventory Accounts receivable Other current assets Total current assets Fixed assets Goodwill & intangibles Other non-current assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Other non-current liabilities Total liabilities Share capital Reserves/R.E./others Shareholders' equity Minority interests Total equity & liabilities Net debt/(cash) BVPS (Rs) 2007 2,493 9,786 10,288 6,958 29,525 14,523 0 0 44,048 0 5,311 4,101 9,413 1,236 1,127 11,775 1,555 30,718 32,273 0 44,048 (1,257) 40.196 2008 1,732 11,205 14,065 11,379 38,381 18,855 0 0 57,236 0 8,309 4,168 12,477 5,805 1,492 19,774 1,555 35,907 37,462 0 57,236 4,074 46.658 2009 1,334 13,983 18,529 11,133 44,980 23,498 0 0 68,478 0 10,129 3,917 14,046 9,402 1,642 25,090 1,555 41,834 43,388 0 68,478 8,068 54.039 2010 3,085 15,126 15,666 12,260 46,137 26,864 0 0 73,002 0 9,980 2,164 12,143 51 1,792 13,986 1,606 57,410 59,016 0 73,002 (3,034) 73.504 2011 1,384 17,252 20,406 14,182 53,224 28,887 0 0 82,111 0 11,383 2,041 13,424 52 1,827 15,303 1,606 65,203 66,808 0 82,111 (1,333) 83.209 2012E (1,679) 20,379 27,100 17,056 62,856 30,194 0 0 93,049 0 13,446 2,448 15,893 46 1,864 17,803 1,606 73,641 75,247 0 93,049 1,725 93.718 2013E (1,642) 23,437 32,315 19,615 73,726 31,631 0 0 105,357 0 15,463 2,899 18,363 41 1,901 20,304 1,606 83,447 85,053 0 105,357 1,682 106 2014E (1,183) 26,958 38,491 22,562 86,827 33,068 0 0 119,895 0 17,786 3,410 21,196 37 1,939 23,172 1,606 95,117 96,723 0 119,895 1,220 120
Key ratios (%)

Year to 31 Mar Sales (YoY) EBITDA (YoY) Operating profit (YoY) Net profit (YoY) EPS (YoY) Gross-profit margin EBITDA margin Operating-profit margin ROAE ROAA ROCE ROIC Net debt to equity Effective tax rate Accounts receivable (days) Payables (days) Net interest cover (x) Net dividend payout 2007 16.1 2.8 (0.2) 9.9 9.9 51.6 22.7 19.8 25.7 17.0 23.5 20.6 net cash 17.0 97.6 59.8 101.5 24.0 2008 18.4 4.0 0.8 (5.0) (5.0) 50.9 20.0 16.9 18.2 12.5 17.9 15.7 10.9 17.1 105.4 58.9 60.8 22.9 2009 24.2 44.4 49.6 58.1 58.1 55.2 23.2 20.3 24.8 16.0 21.5 19.8 18.6 10.5 113.6 64.3 32.3 20.8 2010 7.1 13.1 13.6 7.6 7.6 56.3 24.5 21.6 21.1 15.3 21.0 18.2 net cash 16.4 111.3 65.4 52.7 14.8 2011 12.7 (3.2) (10.8) (11.0) (11.0) 53.9 21.1 17.1 15.3 12.4 16.6 14.4 net cash 16.6 104.2 61.7 210.1 16.6 2012E 17.4 12.8 12.8 12.2 12.2 53.9 20.2 16.4 15.2 12.3 16.7 13.8 2.3 17.0 116.8 61.1 311.7 18.6 2013E 14.8 14.8 17.3 17.0 17.0 54.3 20.2 16.7 15.8 12.7 17.4 14.1 2.0 17.0 127.3 61.9 371.6 19.1 2014E 14.8 16.3 18.8 18.5 18.5 54.5 20.5 17.3 16.5 13.3 18.3 22.8 1.3 17.0 132.2 62.1 448.8 18.8
Company profile
The Chemical, Industrial, & Pharmaceutical Laboratories, now known as Cipla, was incorporated in 1935. The companys strong brand and diversified portfolio, spread across therapeutic segments, have helped it to outperform other domestic companies on a consistent basis. Cipla, with all its overseas partners, has a presence in more than 180 countries. The company has registered about 5,500 products in various countries.
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8 July 2011
Slow sales growth and EBITDA-margin pressure bite

Earnings outlook
For FY11-14, we forecast Ciplas total sales and earnings to increase at CAGRs of 15.6% and 15.9%, respectively. We expect the EBITDA margin to be under pressure due to slow sales growth in the domestic market and the companys increasing focus on low gross-margin ARVs.
Cipla: sales mix and EBITDA margin (%)
Domestic Exports - APIs - Formulations Other operating income Total sales EBITDA margin FY10 44 51 10 41 5 100 24.5 FY11 44 53 11 42 3 100 21.1 FY12E 43 55 13 41 2 100 20.2 FY13E 43 55 13 42 2 100 20.2 FY14E CAGR 11-14E 43 15.0 55 13 22.7 42 15.3 2 0.3 100 15.6 20.5
in the domestic market. Also, the company has seen a steady fall in sales growth rates over the October 2010 May 2011 period as channel inventory has been used for secondary sales. However, there have been increases in bonus sales in the months that inventory levels have fallen.
Cipla: 13-month inventory and bonuses (% sales)
82 81 80 79 78 77 76 75 74 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 May-11 2013E 14 12 10 8 6 4 2 0
13m avg. inv. (% sales, LHS)

Source: Daiwa compilation, AIOCD AWACS
Bonus (% sales, RHS)
Ramp-up in commercial sales delayed at Indore SEZ plant

The company has started commercial production at its Indore plant (in the Special Economic Zone [SEZ]). However, delays in sales from the Indore SEZ to regulated markets, and rising operating costs are likely to put pressure on the EBITDA margin. For 4Q FY11, the Indore SEZ plant recorded a loss of Rs300m.
Source: Company, Daiwa forecasts
Losing share in the domestic market

Ciplas domestic sales rose by 6-9% during the period between December 2010 and May 2011, while the average industry sales-growth rate was 15% over the same period. We believe the company is losing market share to companies such as Ranbaxy in particular, because both these companies have exposure to the common therapeutic market.
India market, Cipla, and Ranbaxy: monthly sales growth (%)
35 30 25 20 15 10 5 0 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 May-11 Ranbaxy is seeing an increase in sales growth while Cipla is seeing a decrease
Low asset-turnover ratios

The companys asset-turnover ratio is at an all-time low, implying that incremental sales are more volumedriven. This is in line with Cipla's partnership-based contract-manufacturing model. We believe the companys asset-turnover ratio will remain low in FY12, due to a lack of clarity on the contracts to be undertaken by the Indore plant. We forecast marginal increases in the asset-turnover ratio over the next two years as production from the Indore SEZ increases.
Cipla: asset-turnover ratio (x)
2.50 2.00 1.50 1.00 0.50 0.00 2001 2003 2005 2007 2009 2011 Falling asset turns
Stable asset turns
Cipla
Ranbaxy
India market
Source: compiled by Daiwa, AIOCD AWACS
We believe that Ciplas high level of bonus sales in the channel will continue to limit secondary-sales growth
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8 July 2011

The stock has traded in a PER band of 1529x over the past two years
The stock has traded mostly in a PER band of about 1529x over the past two years. In FY07, it traded at a PER of more than 25x, due mainly to a large increase in formulation exports. Once this base-effect subsided, the PER fell to about 18x. We believe that for a short time the stock traded at a premium to its peers average PER, because investors expected a pick-up in exportsales growth. However, given the weak outlook for sales and the EBITDA margin, we believe it should trade at about a 10-20% PER discount to Sun and a marginal discount to Cadila, mainly on account of Suns strong domestic-formulation business and Cadilas strong sales and earnings outlook.
(Rs) 600 500 400 300 200 100 0 Jun-04 35x 25x 15x 5x Jun-05 Jun-06 Jun-07 Jun-08 Jun-09 Jun-10 Jun-11
Relative/absolute share-price performance

Outperforms during periods of volatility
The stock has always outperformed the SENSEX and the BSE Healthcare Index during periods of stockmarket volatility; however, its absolute performance has not been positive in such times.
Cipla and BSE Healthcare index: performance vs. SENSEX (QoQ)
30 20 10 0 (10) (20) (30) (40) 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12 Cipla (12.1) (12.4) 16.6 3.5 (4.1) 8.3 (18.4) 17.9 15.1 10.5 19.7 1.0 0.0 (4.8) 14.7 (13.0) 2.9 40 20 0 (20) (40) (60)
BSE Healthcare (LHS)

Source: Bloomberg, Daiwa
Cipla (LHS)
SENSEX (RHS)
Cipla has outperformed both the SENSEX and the BSE Healthcare Index six times (and also at the same times) in the past 17 quarters.
Cipla, SENSEX, and BSE Healthcare: absolute performance (QoQ)

We have raised our six-month target price to Rs299 (from Rs269), now based on a target PER of 19x on our FY13 EPS forecast (20x on our FY12 EPS forecast previously), but maintain our Underperform (4) rating.
Key risks
The key risks to our view would be higher-thanexpected sales growth for the domestic business and a better-than-expected EBITDA margin due to a lowerthan-expected contribution from low-margin ARVs, and a fast turnaround in the business at the Indore SEZ plant.
- 24 -
Dr Reddy's Laboratories
DRRD IN | RDY US
Target price: Rs1,114.00 Rs1,394.00 Up/downside: -10.6% Share price (4 Jul): Rs1,558.75
Weak sales growth outlook for the core business

Sales growth in the domestic market has been sluggish The pace of sales growth for the US business depends on key product launches, for which approval timelines are uncertain Germany and Mexico operations also likely to drag down salesgrowth rates
What's the impact
Kartik A. Mehta
Amit Nagdewani
We forecast Dr Reddys total sales and earnings to increase at CAGRs of 13.8% and 16.1%, respectively, for FY11-14, driven by its operations in India and Russia. However, we expect slow sales growth in India compared with the growth rates of its peers. Hence, we maintain our FY12 and FY13 earnings and revenue forecasts.
What we recommend
assumption of lower growth rates for Dr Reddys US business.

12E 0.0 0.0 0.0
13E 0.0 0.0 0.0
14E n.a. n.a. n.a.
What's new
Dr Reddys has witnessed slow and below-industry-average sales growth in the domestic market over the past 12 months. The company has not given any sales guidance for FY12, but has lowered that for FY13 by 10% to US$2.7bn. We believe this reduction comes on the back of the uncertainty surrounding the approval timeliness of one-offs in the US generic markets, and manufacturing delays at its plant in Mexico.
Dr Reddys: YoY monthly domestic sales growth (%)
25 20 15 10 5 0 Jul-10 Oct-10 Feb-11 Jun-10 Jan-11 Nov-10 Dec-10 Aug-10 Sep-10 Mar-11 Apr-11 May-11
We maintain our Sell (5) rating with a new target price of Rs1,394 (from Rs1,114), now equivalent to an FY13E target PER of 19x (previously FY12E) on recurrent earnings, plus a value of Rs45/share for products with limited-period upside potential. We believe uncertainty about the timelines for key product approvals in the US generics market, and challenges faced by its German operations, Betapharm (Not listed), hamper the sales and earnings outlooks. We would see the key risks as higher-than-expected sales of Fondaparinux on approval by the USFDA in FY12, and higher-thanexpected sales growth in the domestic market.
How we differ
1,314.05-1,842.35 5.92 11.59 169 Anji Reddy & Group (25.7%)

Year to 31 Mar Revenue (m) Operating profit (m) Net profit (m) Core EPS EPS change (%) Daiwa vs Cons. EPS (%) PER (x) Dividend yield (%) DPS PBR (x) ROE (%) 12E 86,848 14,729 11,611 68.773 5.2 (15.5) 22.7 0.7 11.500 4.7 22.8 13E 95,333 16,923 14,367 85.097 23.7 (8.0) 18.3 0.7 11.500 3.9 23.2 14E 110,048 21,112 17,277 102 20.3 1.4 15.2 0.7 11.500 3.2 22.8
Dr. Reddy's sales growth
Industry sales growth
Our FY12 and FY13 EPS forecasts are 15.5% and 8.0%, respectively, below those of the Bloomberg consensus, due mainly to our

8 July 2011

Growth outlook
We forecast Dr Reddys total sales to increase at a CAGR of 13.8% from FY11-14, driven mainly by its operations in India and Russia. However, sales growth for the India operations remains slow due to pressure on Nimesulide (NISE), which was the companys second-highest selling domestic brand in FY11. The company has not given any sales guidance for FY12 but has lowered its guidance for FY13 by 10% to US$2.7bn. We believe this reduction comes on the back of the uncertainty surrounding the approval timeliness of one-offs in the US generic markets, and manufacturing delays at its plant in Mexico.
Dr. Reddys: YoY monthly domestic sales growth

25 20 15 10 5 0 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 May-11 25x 19x 15x 10x Jun-11 Jul-10
Dr. Reddy's sales growth

Valuation
Dr Reddys has traded in a PER range of 19-25x over the past two years. We expect the stock to trade at the lower end of this PER range for FY13, as we believe the current price factors in potential earnings upside for products like Fondaparinux and other launches in the US. We believe slow sales growth in the domestic market and challenges in the German business will continue to be a drag on valuations. We have raised our six-month target price to Rs1,394 (from Rs1,114), equivalent to an FY13E target PER of 19x on recurrent earnings, plus a value of Rs45/share for products with limited-period upside potential. Our target PER of 19x is at the lower end of its average band over the past two years, as we expect a weak outlook for the base business.
Dr Reddys: one-year forward PER bands

(Rs) 2,000 1,500 1,000 500 0 (500) (1,000) Jun-05
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Earnings revisions
We maintain our revenue and earnings forecasts. Our FY12 and FY13 EPS forecasts are 15.5% and 8.0%, respectively, lower than those of the Bloomberg consensus, due mainly to our assumption of lower growth rates for Dr Reddys US business.
Dr Reddy's: Daiwa EPS vs. consensus EPS (Rs)

120 100 80 60 40 20 0 FY12E Bloomberg consensus
Source: Daiwa forecasts, Bloomberg
82.4 68.8
92.9
85.1
94.8
102.3
FY13E
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8 July 2011
Financial summary
Key assumptions
Year to 31 Mar Domestic formulations sales growth YoY (%) 2007 25.6 2008 15.7 2009 5.2 2010 19.8 2011 15.1 2012E 15.5 2013E 16.5 2014E 17.0

Year to 31 Mar Global generics PSAI Others Total revenue Other income COGS SG&A Other op. expenses Operating profit Net-interest inc./(exp.) Assoc/forex/extraord./others Pre-tax profit Tax Min. int./pref. div./others Net profit (reported) Net profit (adjusted) EPS (reported) (Rs) EPS (adjusted) (Rs) EPS (adjusted fully-diluted) (Rs) DPS (Rs) EBIT EBITDA EV 2007 43,411 11,882 9,802 65,095 204 (34,220) (12,612) (7,243) 11,224 (1,575) 914 10,563 (1,177) (59) 9,327 9,327 55.246 55.246 55.246 3.750 11,224 16,005 270,217 2008 33,024 16,623 359 50,006 402 (24,598) (15,062) (8,407) 2,341 (1,080) 862 2,124 972 741 3,837 3,098 22.726 18.348 18.348 3.750 2,341 7,216 276,171 2009 49,837 18,757 847 69,441 0 (32,941) (19,401) (19,933) (2,834) (1,034) 482 (3,386) (1,172) (610) (5,168) (4,534) (30.612) (26.856) (26.856) 6.250 (2,834) 12,808 278,156 2010 48,606 20,403 1,268 70,277 569 (33,937) (19,824) (15,077) 2,008 (372) 297 1,933 (985) 120 1,068 996 6.326 5.900 5.900 11.254 2,008 13,292 272,162 2011 53,342 19,647 1,704 74,693 1,115 (34,430) (19,542) (9,207) 12,629 (362) 173 12,440 (1,403) 3 11,040 11,040 65.393 65.393 65.393 11.250 12,629 16,776 281,894 2012E 63,005 23,435 408 86,848 434 (41,554) (19,703) (11,296) 14,729 (300) (235) 14,194 (2,549) (35) 11,611 11,611 68.773 68.773 68.773 11.500 14,729 20,210 275,283 2013E 67,880 25,660 1,792 95,333 477 (46,516) (18,572) (13,799) 16,923 (400) 976 17,499 (3,154) 21 14,367 14,367 85.097 85.097 85.097 11.500 16,923 23,996 272,208 2014E 77,986 28,391 3,671 110,048 550 (56,261) (17,320) (15,906) 21,112 (600) 538 21,049 (3,793) 20 17,277 17,277 102 102 102 11.500 21,112 30,018 271,113
Cash flow (Rs m)

Year to 31 Mar Profit before tax Depreciation and amortisation Tax paid Change in working capital Other operational CF items Cash flow from operations Capex Net (acquisitions)/disposals Other investing CF items Cash flow from investing Change in debt Net share issues/(repurchases) Dividends paid Other financing CF items Cash flow from financing Forex effect/others Change in cash Free cash flow
2007 10,563 4,780 0 2 33 15,379 (8,882) 0 (93) (8,975) (3,066) 10,428 (740) 243 6,865 0 13,269 6,497
2008 2,124 4,875 (942) (7,289) 739 (494) (8,385) 0 1,076 (7,309) (5,007) 1,537 (738) 844 (3,364) 0 (11,166) (8,879)
2009 (3,386) 15,642 (2,144) (383) (634) 9,095 (8,336) 0 (22) (8,359) (2,732) 705 (1,231) 696 (2,562) 0 (1,825) 759
2010 1,933 11,284 (2,935) 234 72 10,588 (4,655) 0 (48) (4,703) (4,747) 1,140 (2,216) 926 (4,897) 0 988 5,933
2011 12,440 4,147 (2,101) 5,341 0 19,827 (12,603) 0 (3) (12,606) (114) 699 (2,213) (6,639) (8,267) 0 (1,046) 7,224
2012E 14,194 5,481 (2,346) (2,003) 0 15,325 (6,750) 0 0 (6,750) (6,427) 0 (2,271) 295 (8,404) 0 172 8,575
2013E 17,499 7,073 (3,042) (8,659) 0 12,871 (7,875) 0 0 (7,875) (1,600) 0 (2,271) 351 (3,521) 0 1,475 4,996
2014E 21,049 8,906 (3,676) (14,264) 0 12,016 (9,000) 0 0 (9,000) 1,856 0 (2,271) 350 (66) 0 2,950 3,016
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8 July 2011

As at 31 Mar Cash & short-term investment Inventory Accounts receivable Other current assets Total current assets Fixed assets Goodwill & intangibles Other non-current assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Other non-current liabilities Total liabilities Share capital Reserves/R.E./others Shareholders' equity Minority interests Total equity & liabilities Net debt/(cash) BVPS (Rs) 2007 18,588 7,546 7,519 3,536 37,189 12,428 34,429 1,874 85,919 6,883 11,650 0 18,533 17,871 7,926 44,330 21,498 20,091 41,589 0 85,919 6,166 246 2008 7,421 11,133 6,823 8,873 34,251 16,765 33,602 827 85,445 6,678 12,715 0 19,392 12,864 6,122 38,378 23,035 24,032 47,067 0 85,445 12,120 279 2009 5,596 13,226 14,592 6,997 40,411 20,882 22,179 320 83,792 9,569 16,984 0 26,553 10,132 5,062 41,747 23,740 18,305 42,045 0 83,792 14,105 249 2010 6,584 13,371 11,960 11,143 43,058 22,459 13,973 840 80,330 9,310 19,712 0 29,022 5,385 3,008 37,415 24,880 18,035 42,915 0 80,330 8,111 254 2011 5,729 16,059 17,615 9,959 49,362 29,642 15,246 755 95,005 18,301 22,714 0 41,015 5,271 2,729 49,015 25,579 20,411 45,990 0 95,005 17,843 272 2012E 5,901 17,760 18,913 10,731 53,304 30,911 15,246 755 100,216 18,289 24,458 0 42,747 (1,156) 2,967 44,557 25,579 30,080 55,659 0 100,216 11,232 330 2013E 7,376 19,880 22,837 12,428 62,521 31,713 15,246 755 110,236 18,289 23,534 0 41,823 (2,756) 3,085 42,152 25,579 42,505 68,084 0 110,236 8,157 403 2014E 10,327 24,045 28,998 14,465 77,835 31,807 15,246 755 125,643 18,289 21,625 0 39,914 (900) 3,209 42,223 25,579 57,841 83,420 0 125,643 7,062 494
Key ratios (%)

Year to 31 Mar Sales (YoY) EBITDA (YoY) Operating profit (YoY) Net profit (YoY) EPS (YoY) Gross-profit margin EBITDA margin Operating-profit margin ROAE ROAA ROCE ROIC Net debt to equity Effective tax rate Accounts receivable (days) Payables (days) Net interest cover (x) Net dividend payout
2007 168.2 432.0 678.6 472.6 472.6 47.4 24.6 17.2 29.2 12.1 18.8 19.5 14.8 11.1 34.5 57.0 7.1 6.8
2008 (23.2) (54.9) (79.1) (66.8) (66.8) 50.8 14.4 4.7 7.0 3.6 3.5 4.0 25.8 n.a. 52.3 88.9 2.2 16.5
2009 38.9 77.5 n.a. n.a. n.a. 52.6 18.4 n.a. n.a. n.a. n.a. n.a. 33.5 n.a. 56.3 78.1 n.a. n.a.
2010 1.2 3.8 n.a. n.a. n.a. 51.7 18.9 2.9 2.3 1.2 3.4 1.8 18.9 51.0 69.0 95.3 5.4 177.9
2011 6.3 26.2 528.9 n.m. n.m. 53.9 22.5 16.9 24.8 12.6 19.9 19.4 38.8 11.3 72.3 103.7 34.9 17.2
2012E 16.3 20.5 16.6 5.2 5.2 52.2 23.3 17.0 22.8 11.9 20.7 18.6 20.2 18.0 76.8 99.1 49.1 16.7
2013E 9.8 18.7 14.9 23.7 23.7 51.2 25.2 17.8 23.2 13.7 21.6 19.5 12.0 18.0 79.9 91.9 42.3 13.5
2014E 15.4 25.1 24.8 20.3 20.3 48.9 27.3 19.2 22.8 14.6 22.9 20.8 8.5 18.0 86.0 74.9 35.2 11.2
Company profile
Dr Reddys, established in 1984, is a leading pharmaceutical company in India with vertically-integrated operations. Dr. Reddys produces finished dosage forms of drugs, APIs and biotechnology products and markets them globally, with a focus on India, the US, Europe and Russia.
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8 July 2011
from the launch of Geodon, Zyprexa and Fondaparinux. While the US product pipeline remains strong, expanding revenue by a double-digit percentage in the US market in FY12 will be a challenge, in our view. With Allegra OTC due to be launched in FY12 by the innovator, we expect Dr Reddy's to lose market share in Allegra (Rx).
Dr Reddy's: YoY sales vs. EBITDA margin (%)
30 25 20 15 10 5 0 (5) (10) (15) (20) 1Q FY10
Higher growth due to limited period upside in US markets
Weak domestic growth, high base effect for the US business

Earnings outlook
We forecast Dr Reddys total sales and earnings to increase at CAGRs of 13.8% and 16.1%, respectively, for FY11-14, driven mainly by the companys operations in India and Russia. Management has not given any sales guidance for FY12, but has lowered its guidance for FY13 by 10% to US$2.7bn. We believe the reduction in guidance comes on the back of the uncertainty surrounding the approval timeliness of one-offs in the US generic markets, and some manufacturing delays at its plant in Mexico. Following the recent regulatory changes by healthinsurance companies in Germany (lowering the number of companies per tender will affect the generic companies in the German market), the challenges for the companys German operation (Betapharm) remain, and we expect its sales growth and EBITDA margins to be under pressure over the next one year. However, we expect products like Fondaparinux to drive EBITDA margins over the next two years.
Dr Reddy's: sales mix and EBITDA margins (%)
Sales (%) Global Generics North America Europe (includes Betapharm) India Russia PSAI (Pharmaceutical Services & Active Ingredients) Others Total EBITDA margins
25 20 15 10
High base effect curbs growth
5 0 4Q FY13E 62 61 60 59 58 57 56 May-11
2Q FY10
3Q FY10
4Q FY10
1Q FY11
2Q FY11
3Q FY11
4Q FY11
1Q FY12E
2Q FY12E
3Q FY12E
4Q FY12E
1Q FY13E Mar-11
2Q FY13E
Sales change YoY (LHS)

EBITDA margin (RHS)
Sluggish growth in the domestic market

The companys domestic sales have been sluggish over the past year, falling short of the industrys growth rate. We believe this is due to slow sales of NISE, which was the companys second-highest selling domestic brand in FY11.
Dr Reddys: sales growth vs. India market sales growth (%), 13-month average inventory
25 20 15 10 5 0 Oct-10 Aug-10 Sep-10 Nov-10 Dec-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10
FY10 FY11 FY12E FY13E FY14E CAGR FY11-14E 69 71 73 71 71 13.5 24 25 28 26 25 13.7 14 11 11 10 9 7.1 14 16 16 16 17 16.3 17 19 18 19 19 14.3 29 26 27 27 26 13.1 2 2 100 100 18.9 22.5 0 100 23.3 2 100 25.2 3 100 27.3 29.1 13.8
13m avg. inv. (% sales, RHS) India market (LHS)

Dr. Reddy's (LHS)
We believe the 360bps YoY increase in the EBITDA margin for FY11 was purely due to the large number of products with limited-period upside potential in the US market, like Prograf, Lotrel and Omeprazole OTC. We believe the high base for the EBITDA margin in FY11 will make it difficult for the EBITDA margin to remain at the same level in FY12, and hence could lead to a slowdown in sales growth. The considerable upside potential over the next three quarters should come
We value Para IV at Rs45/share

Competition for products with limited-period upside potential will occur only for a limited period, hence we value them on a cash basis. We have assigned a value of Rs45/share for the sales contribution from one-off drugs, including Geodon, Zyprexa, Fondaparinux and Prevacid.
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3Q FY13E

8 July 2011

Dr Reddys has traded in a PER range of 19-25x over the past two years. During the period around the launch of the generics Zocor and Zofran from July 2006 to June 2007, the share price traded in a PER band of 19-25x (the same as over the past two years). Following this period, the share price remained steady for about two years, due mainly to margin pressure following the Betapharm acquisition. We believe the current high PER band of 19-25x captures most of the upside potential from the limited-period opportunities including Fondaparinux and other launches in the US markets. Hence, we expect the stock to trade at the lower end of the PER range over the next one year.
Dr Reddys: one-year-forward-PER bands
(Rs) 2,000 1,500 1,000 500 0 (500) (1,000) Jun-05
USFDA in FY12, and higher-than-expected sales growth in the domestic market.

Expectations of US launches led to outperformance over the past two years
Dr Reddys has outperformed the SENSEX and BSE Healthcare Index during volatile times on a relative basis mainly over the past two years. We believe this outperformance was pre-dominantly due to the markets expectations of large product launches in the US market.
Dr Reddys, BSE Healthcare: QoQ performance relative to SENSEX
30 20 50 40 30 20 10 0 (10) (20) (30) (40) (50) 1QFY08 2QFY08 3QFY08 4QFY08 1QFY09 2QFY09 3QFY09 4QFY09 1QFY10 2QFY10 3QFY10 4QFY10 1QFY11 2QFY11 3QFY11 4QFY11 1QFY12 Dr. Reddy's (9.7) (1.1) 12.7 (19.3) 13.3 (23.9) (8.1) 4.6 59.1 27.3 15.5 11.2 13.8 (0.7) 15.3 (1.4) (6.5)
25x 19x 15x 10x
10 0 (10) (20) (30)
BSE Healthcare (LHS) Jun-06 Jun-07 Jun-08 Jun-09 Jun-10 Jun-11

Dr. Reddy's (LHS)
SENSEX (RHS)
We assign a FY13E target PER of 19x

We maintain our Sell (5) rating for Dr Reddys with a revised six-month target price of Rs1,394 (from Rs1,114), now equivalent to an FY13E target PER of 19x on recurrent earnings (previously FY12E), plus a value of Rs45/share to account for the limited-period upside products. We have included Fondaparinux but no other Para IV upside potential in our earnings forecasts. We have assigned a target PER of 19x, which is at lower end of its average band over the past two years, mainly due to the weak sales and earningsgrowth outlook for the base business. We believe sluggish sales growth in the domestic market, uncertainty surrounding the approval timelines for key products in the US market, and challenges faced by Betapharm will continue to be a drag on valuations.
The stock has outperformed both the SENSEX and BSE Healthcare indices 10 times over the past 17 quarters.
Dr Reddys, SENSEX, BSE Healthcare: QoQ absolute performance
Risks
We would see the key risks to our view as higher-thanexpected sales of Fondaparinux on approval by the
Source: Bloomberg, Daiwa Note: Highlighted cells show periods when the stock outperformed both the SENSEX and BSE Healthcare Index
- 30 -
Ranbaxy Laboratories
RBXY IN
Strong domestic sales, but EBITDA margin still weak

Company has seen strong sales growth in the domestic market over the past four months Issues with USFDA/DOJ remain unresolved and are likely to delay US operations returning to normal Wide variance in consensus expectations for Lipitor revenue upside
What's the impact
Kartik A. Mehta
Amit Nagdewani
What's new
Ranbaxys domestic-formulation sales increased by more than 24% during the period from January to May 2011. The company expects to launch 50 new products in the domestic-formulation market. Following the expiry of exclusivity on Aricept in May this year and the entry of new players, we expect price erosion of more than 90%. Ranbaxy continues to look for a comprehensive resolution of the USFDA/Department of Justice (DOJ) issue.
Ranbaxy: monthly domestic-sales growth (YoY, %)
30 25 20 15 10 5 0 Jul-10 Oct-10 Aug-10 Sep-10 Feb-11 Jun-10 Jan-11 Nov-10 Dec-10 Mar-11 Apr-11 May-11
For 2010-13, we forecast Ranbaxys total sales to increase at a CAGR of 9.6% and a compound annual decline in earnings of 1.9%. We do not include Lipitor sales and earnings in our forecasts but do include the drugs value in our target price. We believe that such a high sales-growth rate in the domestic market is unsustainable and expect it to fall in line with industry salesgrowth rates. We have not revised our 2011-12 revenue and earnings forecasts. The ongoing issues with the USFDA are likely to delay US operations returning to normal.
What we recommend
mainly because our forecasts do not include sales of Para IVs that have not yet been approved.
Year to 31 Dec Revenue change Net-profit change EPS change
11E 0.0 0.0 0.0
12E 0.0 0.0 0.0
13E n.a. n.a. n.a.
We maintain our Sell (5) rating on Ranbaxy, but have raised our sixmonth target price to Rs446 (from Rs385), equivalent to a target PER of 17x on our 2012 EPS forecast (19x on 2011 EPS forecast previously), plus a value of Rs66/share for ParaIV upside potential. The key risks to our view would be a higher-thanforecast rise in the EBITDA margin due to US sales following the resolution of the USFDA issue and higher-than-expected sales growth in the domestic market.
How we differ
426.35-617.30 5.09 11.15 426 Daichii Sankyo Company Ltd (63.9%)

Year to 31 Dec Revenue (m) Operating profit (m) Net profit (m) Core EPS EPS change (%) Daiwa vs Cons. EPS (%) PER (x) Dividend yield (%) DPS PBR (x) ROE (%) 11E 86,063 8,113 7,808 18.318 (41.1) (23.4) 29.0 0.4 2.000 3.6 13.1 12E 97,910 9,733 9,524 22.345 22.0 (34.9) 23.7 0.4 2.000 3.2 14.1 13E 112,417 12,710 12,494 29.313 31.2 (1.5) 18.1 0.6 3.000 2.7 16.2
Ranbaxy
Industry
Our 2011 and 2012 EPS forecasts are respectively 23.4% and 34.9% below those of the Bloomberg consensus,

8 July 2011

Growth outlook
For 2010-13, we forecast Ranbaxys total sales to increase at a CAGR of 9.6%, driven mainly by the domestic-formulation business. From January to May 2011, domestic-sales growth was more than 24%, which we believe was due to the company investing in its sales force Project Viraat. We forecast sales for the domestic-formulation business to increase at a CAGR of 17.7% over the 20010-13 period, at a faster pace than we forecast for the India market as a whole over the period.
Ranbaxy: monthly domestic sales growth (YoY, %)

30 25 20 15 10 5 0 Oct-10 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 May-11 60x 45x 30x 15x Jun-11
Ranbaxy
Source: Daiwa compilation, AIOCD AWACS
Industry
Valuation
Over the past two years, the stock has traded in a PER band of 15-30x. We believe it should trade within a lower band as more-than-reasonable upside from Para IVs seems to have been factored in, while the companys EBITDA margin on a recurring basis is lower than those of its peers. Our target price is Rs446, equivalent to a target PER of 17x on our 2012 EPS forecast (previously 19x on 2011 EPS forecast), plus a value of Rs66/share for Para-IV upside potential. Our target PER of 17x is at the low end of the band over the past two years, mainly due to the delay in the US operation returning to normal and the weak EBITDA margin of the base business.

(Rs) 2,000 1,500 1,000 500 0 (500) (1,000) Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Earnings revisions
We maintain our 2012-13 revenue and earnings forecasts. We do not include Lipitor sales and earnings in our forecasts but do include the drugs value in our target price. Our 2011 and 2012 EPS forecasts are respectively 23.4% and 34.9% below those of the Bloomberg consensus, mainly because our forecasts for 2011 and 2012 do not include sales of first-to-file (FTF) drugs/Para IVs that have not yet been approved.
Ranbaxy: Daiwa and consensus EPS forecasts

40 35 30 25 20 15 10 5 0 2011E Bloomberg consensus
2012E
2013E Daiwa forecasts
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8 July 2011
Financial summary
Key assumptions
Year to 31 Dec US sales growth YoY (%) 2006 39.5 2007 (1.2) 2008 3.4 2009 1.0 2010 15.1 2011E (9.2) 2012E 2.7 2013E 6.3

Year to 31 Dec Dosage Forms API's (includes Nexium API) Others Total revenue Other income COGS SG&A Other op. expenses Operating profit Net-interest inc./(exp.) Assoc/forex/extraord./others Pre-tax profit Tax Min. int./pref. div./others Net profit (reported) Net profit (adjusted) EPS (reported) (Rs) EPS (adjusted) (Rs) EPS (adjusted fully-diluted) (Rs) DPS (Rs) EBIT EBITDA EV 2006 54,962 5,209 0 60,170 1,179 (23,733) (13,867) (16,852) 6,898 (1,036) 423 6,285 (1,357) 324 5,252 4,878 12.321 11.444 11.444 8.500 6,898 8,741 269,971 2007 62,288 4,192 0 66,480 3,343 (27,217) (17,127) (18,515) 6,964 (1,412) 681 6,232 (2,118) 3,631 7,746 3,991 18.174 9.363 9.363 8.500 6,964 9,147 271,689 2008 67,278 4,967 0 72,245 1,895 (31,832) (19,530) (30,829) (8,050) (2,055) 1,633 (8,472) 0 (1,040) (9,512) (2,984) (22.317) (7.001) (7.001) 0.000 (8,050) (5,226) 252,036 2009 68,349 4,945 0 73,294 2,676 (26,838) (16,466) (26,287) 6,379 (710) 2,265 7,934 (6,991) 2,022 2,965 801 6.956 1.879 1.879 0.000 6,379 9,056 256,615 2010 80,150 5,204 0 85,355 4,253 (26,812) (16,450) (29,121) 17,225 (614) 2,670 19,281 (5,849) 1,535 14,968 13,248 35.117 31.082 31.082 2.000 17,225 22,758 243,554 2011E 79,704 5,907 452 86,063 2,737 (30,788) (18,889) (31,010) 8,113 (598) 2,907 10,422 (2,489) 102 8,034 7,808 18.850 18.318 18.318 2.000 8,113 12,037 246,270 2012E 87,929 7,830 2,151 97,910 3,721 (35,173) (21,580) (35,145) 9,733 (559) 3,049 12,223 (2,445) (254) 9,524 9,524 22.345 22.345 22.345 2.000 9,733 13,934 246,325 2013E 100,920 8,126 3,371 112,417 4,497 (39,986) (24,533) (39,685) 12,710 (256) 3,507 15,961 (3,192) (275) 12,494 12,494 29.313 29.313 29.313 3.000 12,710 17,217 238,142
Cash flow (Rs m)

Year to 31 Dec Profit before tax Depreciation and amortisation Tax paid Change in working capital Other operational CF items Cash flow from operations Capex Net (acquisitions)/disposals Other investing CF items Cash flow from investing Change in debt Net share issues/(repurchases) Dividends paid Other financing CF items Cash flow from financing Forex effect/others Change in cash Free cash flow
2006 6,285 1,843 (653) (5,544) 374 2,305 (18,106) 0 (191) (18,296) 20,342 0 (3,612) (217) 16,513 0 521 (15,801)
2007 6,232 2,183 (1,338) 452 3,755 11,285 (5,270) 0 (2,041) (7,311) 2,910 0 (3,711) (1,746) (2,546) 0 1,428 6,014
2008 (8,472) 2,825 (8,013) 25,406 (6,528) 5,217 (6,815) 0 (3,028) (9,843) (180) 34,833 0 (10,449) 24,204 0 19,578 (1,598)
2009 7,934 2,676 0 (11,030) 2,657 2,236 (4,319) 0 24 (4,294) (6,819) (2,297) 0 (366) (9,482) 0 (11,540) (2,082)
2010 19,281 5,533 0 (6,332) 389 18,871 (3,696) 0 423 (3,273) 7,053 (2,500) (982) 1,059 4,630 0 20,228 15,175
2011E 10,422 3,923 (1,937) (7,644) 227 4,991 (5,654) 0 (498) (6,152) (8,431) 0 (997) (234) (9,662) 0 (10,824) (663)
2012E 12,223 4,201 (2,439) (9,258) 0 4,726 (4,627) 0 1,097 (3,530) (10,341) 0 (997) 231 (11,107) 0 (9,910) 100
2013E 15,961 4,507 (3,187) (3,077) 0 14,204 (5,127) 0 877 (4,250) 0 0 (1,496) 453 (1,043) 0 8,911 9,077
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8 July 2011

As at 31 Dec Cash & short-term investment Inventory Accounts receivable Other current assets Total current assets Fixed assets Goodwill & intangibles Other non-current assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Other non-current liabilities Total liabilities Share capital Reserves/R.E./others Shareholders' equity Minority interests Total equity & liabilities Net debt/(cash) BVPS (Rs) 2006 2,951 16,116 15,716 6,321 41,104 42,534 0 362 84,001 0 8,055 8,714 16,768 40,384 655 57,808 7,472 18,387 25,859 334 84,001 37,433 60.670 2007 4,379 16,409 14,931 9,042 44,760 45,619 0 2,403 92,782 0 8,556 10,892 19,448 43,295 1,434 64,178 6,888 21,146 28,034 571 92,782 38,916 65.774 2008 23,956 19,643 13,310 10,012 66,922 49,607 0 17,661 134,190 0 8,183 39,256 47,439 43,114 0 90,553 41,721 1,242 42,962 675 134,190 19,158 101 2009 12,416 18,407 18,399 10,863 60,086 51,136 0 10,153 121,375 0 14,394 26,718 41,112 36,295 0 77,408 39,423 4,010 43,434 533 121,375 23,879 102 2010 32,644 21,926 16,052 16,309 86,932 49,297 0 5,212 141,441 0 18,975 22,424 41,398 43,348 0 84,746 36,924 19,123 56,047 647 141,441 10,704 131 2011E 21,820 21,767 17,684 12,303 73,575 51,027 0 5,591 130,193 0 17,035 14,186 31,221 34,917 0 66,138 36,924 26,160 63,084 971 130,193 13,096 148 2012E 11,910 26,489 20,118 13,520 72,038 51,453 0 4,489 127,980 0 14,056 16,282 30,337 24,576 0 54,913 36,924 34,687 71,611 1,456 127,980 12,666 168 2013E 20,821 30,114 23,099 14,994 89,028 52,074 0 3,607 144,708 0 15,979 19,361 35,339 24,576 0 59,916 36,924 45,685 82,608 2,184 144,708 3,755 194
Key ratios (%)

Year to 31 Dec Sales (YoY) EBITDA (YoY) Operating profit (YoY) Net profit (YoY) EPS (YoY) Gross-profit margin EBITDA margin Operating-profit margin ROAE ROAA ROCE ROIC Net debt to equity Effective tax rate Accounts receivable (days) Payables (days) Net interest cover (x) Net dividend payout
2006 17.9 180.9 313.9 113.6 113.6 60.6 14.5 11.5 19.4 6.8 12.3 10.2 144.8 21.6 82.3 47.6 6.7 69.0
2007 10.5 4.7 1.0 (18.2) (18.2) 59.1 13.8 10.5 14.8 4.5 9.9 7.0 138.8 34.0 84.1 45.6 4.9 46.8
2008 8.7 n.a. n.a. n.a. n.a. 55.9 n.a. n.a. n.a. n.a. n.a. n.a. 44.6 n.a. 71.3 42.3 n.a. n.a.
2009 1.5 n.a. n.a. n.a. n.a. 63.4 12.4 8.7 1.9 0.6 8.5 1.5 55.0 88.1 79.0 56.2 9.0 0.0
2010 16.5 151.3 170.0 n.m. n.m. 68.6 26.7 20.2 26.6 10.1 19.6 20.0 19.1 30.3 73.7 71.3 28.1 5.7
2011E 0.8 (47.1) (52.9) (41.1) (41.1) 64.2 14.0 9.4 13.1 5.7 8.2 9.2 20.8 23.9 71.5 76.4 13.6 10.6
2012E 13.8 15.8 20.0 22.0 22.0 64.1 14.2 9.9 14.1 7.4 9.9 10.2 17.7 20.0 70.5 58.0 17.4 9.0
2013E 14.8 23.6 30.6 31.2 31.2 64.4 15.3 11.3 16.2 9.2 12.3 12.2 4.5 20.0 70.2 48.8 49.6 10.2
Company profile
Ranbaxy was incorporated in 1961 and is an integrated and research-based international pharmaceutical company. It has manufacturing facilities in 11 countries, a presence in 49 countries and serves customers in more than 125 countries. Ranbaxy is focused on both dosage and API sales in Indias regulated and semi-regulated markets.
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8 July 2011
India market, Cipla, and Ranbaxy: monthly sales growth (%)

35 30 25 20 15 10 5 0 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 May-11 Ranbaxy is seeing an increase in sales growth while Cipla is seeing a decrease
Domestic sales drive revenue growth, but not the EBITDA margin
Earnings outlook
For 2010-13, we forecast Ranbaxys total sales to increase at a CAGR of 9.6% and compound annual decline in earnings of 1.9%. We expect total sales to be driven the domestic-formulation business, which we forecast to increase at a CAGR of 17.7% over the period. The company expects to launch 50 new products in the domestic-formulation market and reap the benefits of investments in its sales force. Following the expiry of exclusivity on Aricept on 23 May this year, and the entry of new players, the price for this product has fallen by more than 90%.
Ranbaxy: sales mix and EBITDA margin (%)
Dosage forms US India Europe CIS, Africa Others APIs (includes Nexium API) Nexium dosage from end-2011 Total EBITDA margin 2009E 93 27 22 18 14 12 7 100 12.4 2010 2011E 2012E 2013E CAGR 2010-13E 94 93 90 90 8.0 35 27 25 27 0.3 20 24 25 25 17.7 14 15 13 12 3.9 14 15 15 15 12.8 10 12 11 10 10.3 6 7 8 7 16.0 1 2 3 n.m. 100 100 100 100 9.6 26.7 14.0 14.2 15.3
Cipla
Ranbaxy
IPM
US business, USFDA/DOJ update

Following the expiry of exclusivity on Aricept on 23 May and after the entry of new players, the price for this product has fallen by more than 90%. Ranbaxy continues to look for a comprehensive resolution of the USFDA/DOJ issue. The ongoing issues with USFDA are likely to delay its operation in the US returning to normal.
We value settled Para IV at Rs66/share

We have assigned a value of Rs66/share for the sales contribution from one-off drugs (Nexium and Lipitor). We have not factored in any upside to our EPS forecasts from Ranbaxy selling products in Japan. The company expects to manufacture generic drugs, as well as products from Daiichi Sankyo Espha Co. (Not listed), in the Japan generics market through the latter over the next few years.
Ranbaxy: target-price breakdown
500 450 400 350 300 250 200 150 100 50 0 2012 End of 2011 Nov-11 Value per share Rs380 - 17x PER 2012 Rs13 - Nexium dosage Rs53 - Lipitor Rs446 - Total
Source: Company, Daiwa compilation
High domestic sales unlikely to continue

Ranbaxy saw strong domestic sales growth of more than 24% during the period from January-May 2011. We believe that such a high sales-growth rate, which is above the average for the India market as a whole, is not sustainable and that it will fall similar to that for Cipla as shown in the following chart. We also think that such a high sales-growth for Ranbaxy has come at the expense of Cipla, which saw sales increase in the range of 6-9% during the period between December 2010 and May 2011, as most of their therapeutic segments overlap. We believe that after three more quarters on a high base it will be difficult for Ranbaxy to increase its sales at similar levels.
Source: Company, Daiwa forecasts 2012 (17x PER), all other figures Rs

The stock has traded in a PER range of about 15-30x over the past two years
While the stock has traded in different PER bands over the past six years, on account of the huge value - 35 -

8 July 2011
attached by the market to the contribution from nonrecurring earnings, it has traded in a PER range of 1530x over the past two years. The stocks PER fell sharply following the USFDA issuing an import warning on the companys India plants in 3Q08. Meanwhile, we believe the rise in the PER over the past two quarters has been due to the markets expectation of a resolution of the issue. In our opinion, the stock should trade within a lower PER band than at present, as more-than-reasonable upside from Para IVs seems to have been factored in, while the companys EBITDA margin on a recurring basis is lower than those of its peers.
(Rs) 2,000 1,500 1,000 500 0 (500) (1,000) Jun-06 60x 45x 30x 15x

An event-driven stock
Over the past four years, the share-price has fluctuated on an absolute basis more than either the SENSEX or the BSE Healthcare Index, due to the volatility in its sales and earnings. As the share price has been riding on the upside potential from the companys one-off drugs, and hence is mainly sentiment-driven, it has swung more widely against the SENSEX and the BSE Healthcare Index than those of its peers. The unstable earnings outlook makes this a less-favourable defensive stock, in our view.
Ranbaxy and BSE Healthcare Index: performance relative to SENSEX (QoQ)
60 40 20 0 (20) (40) 40 20 0 (20) (40) (60) 1QCY07 2QCY07 3QCY07 4QCY07 1QCY08 2QCY08 3QCY08 4QCY08 1QCY09 2QCY09 3QCY09 4QCY09 1QCY10 2QCY10 3QCY10 4QCY10 1QCY11 2QCY11 Ranbaxy (10.2) 1.0 22.2 (2.0) 3.0 19.3 (52.8) 2.1 (34.3) 47.8 64.8 28.4 (8.2) (3.2) 20.8 7.7 (25.6) 21.5
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
(60)
Target PER of 17x on our 2012 forecast

We maintain our Sell (5) rating on Ranbaxy but have raised our six-month target price to Rs446 (from Rs385), equivalent to a target PER of 17x on our 2012 EPS forecast (19x on 2011 EPS forecast previously), plus a value of Rs66/share for Para- IV upside potential. We have not included in our forecasts any revenue or net profit from FTF/exclusive sales that have yet to be launched. We have assigned a target PER of 17x, which is at the low end of the range over the past two years, due mainly to the delay in the US operation returning to normal and the weak EBITDA margin for the base business.
BSE Healthcare(LHS)
Ranbaxy(LHS)
Sensex (RHS)
The stock has outperformed both the SENSEX and the BSE Healthcare Index eight times in the past 17 quarters.
Ranbaxy, SENSEX, and BSE Healthcare Index: absolute performance (QoQ)
1Q 2007 2Q 2007 3Q 2007 4Q 2007 1Q 2008 2Q 2008 3Q 2008 4Q 2008 1Q 2009 2Q 2009 3Q 2009 4Q 2009 1Q 2010 2Q 2010 3Q 2010 4Q 2010 1Q 2011 2Q 2012 SENSEX (5.2) 12.1 18.0 17.3 (22.9) (14.0) (4.5) (25.0) 0.6 49.3 18.2 2.0 0.4 1.0 13.4 2.2 (5.2) (3.1) BSE Healthcare (3.8) 4.3 (0.6) 16.8 (12.9) 8.2 (11.8) (19.2) (4.6) 25.5 24.0 13.9 6.2 7.9 4.3 12.3 (10.6) 6.2
Risks
The key risks to our view would be a higher-thanforecast rise in the EBITDA margin due to US sales following the resolution of the USFDA issue and higher-than-expected sales growth in the domestic market.
Source: Bloomberg, Daiwa compilation Note: Highlighted cells show periods when the stock outperformed both the SENSEX and the BSE Healthcare Index
- 36 -
GlaxoSmithKline Pharmaceuticals
GLXO IN
Target price: Rs2,329.00 Rs2,457.00 Up/downside: +4.3% Share price (4 Jul): Rs2,356.10
Sector-high EBITDA margin to continue on steady sales growth

Domestic-sales growth continues to be in line with that of the India pharma market New product launches should supplement the company's domestic revenue growth We forecast the EBITDA margin to be more than 35% over the next three years
Kartik A. Mehta
Amit Nagdewani
driven by high and steady domestic sales. We believe that new products and vaccines will supplement the companys domestic sales. Although we have maintained our 2011 revenue and earnings forecasts, we have revised up our 2012 revenue and earnings forecasts by 1.9% each as we expect additional sales growth from new products.
What we recommend

Year to 31 Dec Revenue change Net-profit change EPS change
11E 0.0 0.0 0.0
12E 1.9 1.9 1.9
13E n.a. n.a. n.a.
What's new
Glaxos domestic-sales growth continues to be in line with that of the industry, and we expect this to continue in 2011, driven by new product launches and the stable sales growth of existing mature brands. For 2010, new products accounted for 26% of the companys sales growth.
Glaxo: YoY monthly domestic sales (%)
30 25 20 15 10 5 0 Jul-10 Aug-10 Sep-10 Nov-10 Dec-10 Feb-11 Mar-11 Jun-10 Oct-10 Jan-11 May-11 Apr-11
We believe that high and steady domestic-sales growth should keep the EBITDA margin above the 35% level for 2011-13. Hence, we maintain our Outperform (2) rating, but have revised our six-month target price to Rs2,457 (from Rs2,329), equivalent to a target PER of 25x (previously 27x on our 2011 EPS forecast), which is based on our 2012 recurrent-EPS forecast, plus a cash equivalent of Rs250/share. The key risks to our rating would be lower-than-expected domestic-sales growth, which would have a negative impact on the EBITDA margin.
How we differ
1,860.70-2,459.90 4.49 1.34 85 (50.7%)

Year to 31 Dec Revenue (m) Operating profit (m) Net profit (m) Core EPS EPS change (%) Daiwa vs Cons. EPS (%) PER (x) Dividend yield (%) DPS PBR (x) ROE (%) 11E 24,699 8,588 6,966 82.242 20.5 5.3 28.6 1.9 45.000 9.1 33.5 12E 28,301 9,819 7,907 93.349 13.5 5.9 25.2 2.1 50.000 8.0 33.6 13E 32,347 11,073 8,893 105 12.5 5.4 22.4 2.3 55.000 7.0 33.3
Glaxo
Industry
Source: Daiwa Compilation, AIOCD - AWACS
What's the impact
We forecast total sales and earnings CAGRs of 14.5% and 15.4%, respectively, over the 2010-13 period,
Our 2011 and 2012 EPS forecasts are 5.3% and 5.9% higher than those of the Bloomberg consensus, respectively, mainly due to our higher forecasts for domestic-sales growth.

8 July 2011

Growth outlook
We forecast total sales CAGR of 14.5% over the 2010-13 period, which is in line with the sales-growth rate that we expect for the overall India market. We expect this trend to continue in 2011, driven by new product launches and stable sales growth for existing mature brands. For 2010, new product launches accounted for 26% of the companys sales growth.
Glaxo: monthly domestic sales (%) (YoY)

30 25 20 15 10 5 0 Oct-10 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 May-11
30x 25x 20x 15x Jun-11
Glaxo
Source: Daiwa Compilation, AIOCD - AWACS
Industry
Valuation
The stock has been trading in a PER range of about 2530x over the past one year, and we expect this to continue on the back of Glaxos proven strength in the domestic business. We value Glaxo at Rs2,457 (from Rs2,329), based on a target PER of 25x (previously 27x on our 2011 EPS forecast) on our 2012 recurrent-EPS forecast, plus a cash equivalent of Rs250/share. We have assigned a target PER of 25x, which is at the lower end of its past-one-year PER range. However, this is still at a premium to the PERs of its India peers, due mainly to its strong and steady domestic-market sales growth, and high EBITDA margin that we expect for 2011-13 (more than 35%).
Glaxo: one-year-forward PER bands (x)

(Rs) 2,800 2,600 2,400 2,200 2,000 1,800 1,600 1,400 1,200 1,000 800 600 400 200 0 Jun-05
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Earnings revisions
We believe that new products and vaccines will supplement the companys strong domestic-market sales growth. While we have maintained our 2011 revenue and earnings forecasts, we have revised up our 2012 revenue and earnings forecasts by 1.9% each to factor in additional sales growth from new products. Our 2011 and 2012 EPS forecasts are 5.3% and 5.9% higher than those of the Bloomberg consensus, respectively, mainly on account of our higher forecasts for domestic-market sales growth.
Glaxo: Daiwa vs. Bloomberg-consensus EPS forecasts (Rs)

110 105 100 95 90 85 80 75 70 2011E 2012E Bloomberg consensus
101.8 93.3
105.0
90.3 82.2 78.1
2013E Daiwa forecasts
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8 July 2011
Financial summary
Key assumptions
Year to 31 Dec Pharma sales growth YoY (%) 2006 9.2 2007 6.9 2008 9.1 2009 12.4 2010 13.7 2011E 15.0 2012E 14.8 2013E 14.5

Year to 31 Dec Pharma Others Others Total revenue Other income COGS SG&A Other op. expenses Operating profit Net-interest inc./(exp.) Assoc/forex/extraord./others Pre-tax profit Tax Min. int./pref. div./others Net profit (reported) Net profit (adjusted) EPS (reported) (Rs) EPS (adjusted) (Rs) EPS (adjusted fully-diluted) (Rs) DPS (Rs) EBIT EBITDA EV 2006 13,730 1,929 0 15,659 0 (3,046) (1,221) (6,760) 4,632 (6) 1,024 5,649 0 (85) 5,564 3,726 65.688 43.990 43.990 31.000 4,632 4,832 187,657 2007 14,679 1,343 0 16,022 0 (3,425) (1,298) (6,021) 5,279 (6) 935 6,207 (2,111) 1,379 5,475 4,096 64.643 48.358 48.358 36.000 5,279 5,484 184,362 2008 16,012 978 0 16,990 0 (3,573) (1,375) (6,323) 5,719 0 1,220 6,938 (2,310) 1,282 5,911 4,629 69.781 54.645 54.645 40.000 5,719 5,882 182,513 2009 17,993 1,107 0 19,100 0 (3,739) (1,420) (7,381) 6,559 0 1,034 7,593 (2,589) 74 5,079 5,005 59.959 59.086 59.086 30.000 6,559 6,723 180,549 2010 20,463 1,072 0 21,535 0 (4,105) (1,597) (8,423) 7,410 0 1,306 8,716 (2,934) (177) 5,606 5,783 66.181 68.270 68.270 40.000 7,410 7,586 178,163 2011E 23,533 1,167 0 24,699 0 (8,860) (1,831) (5,421) 8,588 0 1,935 10,523 (3,557) 0 6,966 6,966 82.242 82.242 82.242 45.000 8,588 8,783 176,255 2012E 27,004 1,297 0 28,301 0 (9,905) (2,098) (6,479) 9,819 0 2,125 11,944 (4,037) 0 7,907 7,907 93.349 93.349 93.349 50.000 9,819 10,038 174,109 2013E 30,919 1,427 0 32,347 0 (11,321) (2,398) (7,554) 11,073 0 2,360 13,433 (4,540) 0 8,893 8,893 105 105 105 55.000 11,073 11,321 171,486
Cash flow (Rs m)

Year to 31 Dec Profit before tax Depreciation and amortisation Tax paid Change in working capital Other operational CF items Cash flow from operations Capex Net (acquisitions)/disposals Other investing CF items Cash flow from investing Change in debt Net share issues/(repurchases) Dividends paid Other financing CF items Cash flow from financing Forex effect/others Change in cash Free cash flow
2006 5,649 201 (1,872) (404) 1,838 5,412 (134) 0 (2,355) (2,489) 7 0 (2,994) (54) (3,041) 2,355 2,237 5,278
2007 6,207 205 (2,067) 1,430 1,379 7,155 (146) 0 (2,105) (2,251) 3 0 (3,568) (147) (3,712) 2,105 3,297 7,009
2008 6,938 163 (2,404) 71 1,282 6,051 (238) 0 6,170 5,932 (1) 0 (3,964) 0 (3,965) (6,169) 1,848 5,813
2009 7,593 164 (2,740) 147 74 5,238 (302) 0 5,811 5,509 (2) 0 (2,973) 0 (2,975) (5,811) 1,961 4,936
2010 8,716 176 (3,051) 884 (177) 6,549 (211) 0 306 94 (3) 0 (3,951) 0 (3,953) (306) 2,384 6,338
2011E 10,523 195 (3,557) (395) 0 6,767 (400) 0 (2,100) (2,500) 0 0 (4,459) 0 (4,459) 2,100 1,907 6,367
2012E 11,944 219 (4,037) (524) 0 7,602 (500) 0 (2,100) (2,600) 0 0 (4,955) 0 (4,955) 2,100 2,147 7,102
2013E 13,433 248 (4,540) (468) 0 8,673 (600) 0 (2,100) (2,700) 0 0 (5,450) 0 (5,450) 2,100 2,622 8,073
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8 July 2011

As at 31 Dec Cash & short-term investment Inventory Accounts receivable Other current assets Total current assets Fixed assets Goodwill & intangibles Other non-current assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Other non-current liabilities Total liabilities Share capital Reserves/R.E./others Shareholders' equity Minority interests Total equity & liabilities Net debt/(cash) BVPS (Rs) 2006 11,717 2,468 604 1,759 16,549 989 0 248 17,785 0 2,326 3,356 5,682 55 0 5,737 847 11,200 12,047 0 17,785 (11,662) 142 2007 15,015 2,112 378 1,626 19,130 929 0 203 20,263 0 2,283 4,113 6,396 58 0 6,454 847 12,961 13,808 0 20,263 (14,957) 163 2008 16,863 2,330 579 2,041 21,813 1,004 0 298 23,114 0 2,551 4,752 7,302 56 0 7,359 847 14,908 15,755 0 23,114 (16,806) 186 2009 18,824 2,573 537 1,377 23,311 1,142 0 449 24,902 0 2,944 4,043 6,987 54 0 7,041 847 17,014 17,861 0 24,902 (18,769) 211 2010 21,208 2,856 470 1,741 26,275 1,177 0 566 28,017 0 3,344 5,106 8,450 52 0 8,502 847 18,669 19,516 0 28,017 (21,156) 230 2011E 23,115 3,198 539 1,831 28,683 1,382 0 566 30,631 0 3,937 4,620 8,557 52 0 8,609 847 21,176 22,023 0 30,631 (23,064) 260 2012E 25,262 3,582 618 1,927 31,389 1,663 0 566 33,618 0 4,411 4,181 8,592 52 0 8,644 847 24,128 24,975 0 33,618 (25,210) 295 2013E 27,884 4,094 706 2,031 34,716 2,015 0 566 37,296 0 5,041 3,787 8,828 52 0 8,880 847 27,570 28,417 0 37,296 (27,832) 335
Key ratios (%)

Year to 31 Dec Sales (YoY) EBITDA (YoY) Operating profit (YoY) Net profit (YoY) EPS (YoY) Gross-profit margin EBITDA margin Operating-profit margin ROAE ROAA ROCE ROIC Net debt to equity Effective tax rate Accounts receivable (days) Payables (days) Net interest cover (x) Net dividend payout
2006 4.1 11.2 11.7 19.5 19.5 80.5 30.9 29.6 34.5 22.7 42.7 n.a. net cash 0.0 14.9 55.0 727.7 47.2
2007 2.3 13.5 14.0 9.9 9.9 78.6 34.2 32.9 31.7 21.5 40.7 n.a. net cash 34.0 11.2 52.5 828.4 55.7
2008 6.0 7.3 8.3 13.0 13.0 79.0 34.6 33.7 31.3 21.3 38.5 n.a. net cash 33.3 10.3 51.9 n.a. 57.3
2009 12.4 14.3 14.7 8.1 8.1 80.4 35.2 34.3 29.8 20.8 38.9 n.a. net cash 34.1 10.7 52.5 n.a. 50.0
2010 12.7 12.8 13.0 15.5 15.5 80.9 35.2 34.4 30.9 21.9 39.5 n.a. net cash 33.7 8.5 53.3 n.a. 60.4
2011E 14.7 15.8 15.9 20.5 20.5 64.1 35.6 34.8 33.5 23.8 41.2 n.a. net cash 33.8 7.5 53.8 n.a. 54.7
2012E 14.6 14.3 14.3 13.5 13.5 65.0 35.5 34.7 33.6 24.6 41.7 n.a. net cash 33.8 7.5 53.8 n.a. 53.6
2013E 14.3 12.8 12.8 12.5 12.5 65.0 35.0 34.2 33.3 25.1 41.4 n.a. net cash 33.8 7.5 53.3 n.a. 52.4
Company profile
Established in 1924 in India, GlaxoSmithKline Pharmaceuticals (Glaxo) is one of the oldest pharmaceuticals companies in India. The Glaxo India portfolio includes prescription medicines and vaccines. Glaxo offers a range of vaccines for the prevention of Hepatitis A, Hepatitis B, as well as invasive diseases caused by influenza, chickenpox, diphtheria, pertussis, tetanus, rotavirus, cervical cancer and others.
- 40 -

8 July 2011
Glaxo: sales growth vs. India market sales growth, 13-month inventory (%)
30 25 74 73 72 71 70 69 68 67 66 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 May-11
Steady sales growth should lead to highest EBITDA margin in sector

Earnings outlook
We forecast total sales and earnings CAGRs of 14.5% and 15.4%, respectively, over the 2010-13 period. We expect the sales growth to be in line with the salesgrowth rate that we expect for the overall India market over the same period. We believe the companys EBITDA margin should remain at more than 35% for the next three years based on our forecasts, which is higher than its India peers as the company has a more productive sales force, its brands, such as Augmentin (Anti infective), are stronger (in terms of sales), and it plans to launch new products and vaccines in the India market.
Glaxo: sales mix and EBITDA margin (%)
Total (%) Pharma business Others EBITDA margin 2009 100 94 6 35.2 2010 100 95 5 35.2 2011E 100 95 5 35.6 2012E 100 96 4 35.5 2013E CAGR (2010-13E) 100 14.4 96 14.7 4 9.2 35.0
20 15 10 5 0

Source: Daiwa, AIOCD AWACS
Glaxo (LHS)
India market (LHS)
Launch of new products and vaccines likely to drive sales growth over the next two years
For 2010, vaccine sales accounted for about 10-11% of total sales, up from 6% for 2007. We expect vaccine sales to accelerate in 2011 due to the under-penetration of the India Market. We expect the company to strengthen its leadership position in the India dermatology segment through the global acquisition of Stiefel Laboratories (Not listed) in 2009. For 2010, new products accounted for 26% of the companys sales growth, and we believe this trend will continue over our forecast period. Furthermore, we believe new product and vaccine launches will further supplement the companys steady domestic-sales growth.
Glaxo: new and upcoming product launches (From 2009-11)
Name Mycamine inj. Parit D Capsules Cefspan Modvate 3 cream Modvate AF cream Lilo Rusotek Calpol T Benitec A Dermocalm Ventrolin CFC free inhaler Esblanem Tykerb Revolade Votrient Vaccines Name Synflorix Rotarix Cervarix Infanrix Segment Dermatology Gastrointestinal Antibiotic Dermatology Dermatology Cardiology Cardiology Analgesic Cardiology Dermatology Respiratory Antibiotic Oncology Oncology Oncology Comments Micafungin, in-licensed from Astellas Rabeprazole + Domperidone, in-licensed from Eisai Cefixime Beclomethasone + Clotrimazole + Neomycin Beclomethasone + Clotrimazole Atorvastatin Rosuvastatin Paracetamol + Tramadol Olmersartan + Amilodipine Calamine Lotion Salbutamol Meropenem Launched under patent in India from parent's pipeline Treatment of Chronic Immune Thrombocytopenia Treatment of advanced metastatic Renal Cell Carcinoma
Strong and stable domestic sales growth

Over the past one year, Glaxos domestic sales growth has moved in line with that of the industry, and we expect this trend to continue in 2011. The companys sales growth has increased over the past four months on the back of a reduction in its channel inventory. Also, the bonus component (given by the company to distributors) of Glaxos sales accounts for less than 1% of total sales, which is one of the lowest in the India market. We believe that this sales growth has been driven by the companys consistent new product launches and the ongoing sales growth of its existing mature brands
Segment Pneumococcal vaccine for children Rotaviral Diarrhoea Cervical cancer Booster for tetanus, diptheria and pertussis in children under four
Source: Company, Daiwa
- 41 -

8 July 2011

The stock has been trading in a PER range of 25-30x over the past one year
Glaxo has been trading mostly within a PER range of 25-30x over the past one year (June 2010- June 2011), compared with 20-25x the previous year (June 2009June 2010). The rerating of the PER during this period has been gradual and constant; we believe this is due to Glaxos proven strength in the domestic business, and because it has recorded EBITDAs that have been consistently higher than the industry average.
Glaxo: one-year-forward PER bands (x)
(Rs) 2,800 2,600 2,400 2,200 2,000 1,800 1,600 1,400 1,200 1,000 800 600 400 200 0 Jun-05

Stock outperforms SENSEX amid a volatile market
Compared with the BSE Healthcare Index, Glaxo has outperformed the SENSEX, on a relative basis, by a wider margin during times of market volatility, especially when the broader market has lacked direction. We believe this has been due mainly to the companys stable earnings and high EBITDA margin compared with those of its peers.
Glaxo, BSE Healthcare Index: QoQ performance relative to the SENSEX
30x 25x 20x 15x
30 20 10 0 (10) (20) (30) (40) (50) 1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09 2Q09 3Q09 4Q09 1Q10 2Q10 3Q10 4Q10 1Q11
50 30 10 (10) (30) (50) (70) (90) 2Q11
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11

Glaxo (LHS)
SENSEX (RHS)
2012 target PER of 25x

We maintain our Outperform (2) rating, but have raised our six-month target price to Rs2,457 (from Rs2,329), which is equivalent to a target PER of 25x (previously 27x on our 2011 EPS forecast), based on our 2012 recurrent-EPS forecast, plus a cash equivalent of Rs250/share. We have assigned a target PER of 25x, which is at the lower end of its past-one-year PER range, but still at a premium to the PERs of its India peers, due mainly to its strong and steady domesticsales growth, and high EBITDA margin (more than 35%).
The stock has outperformed both the SENSEX and BSE Healthcare Index nine times over the past 17 quarters.
Glaxo, SENSEX, BSE Healthcare: QoQ absolute performance (%)
Quarter ended 1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09 2Q09 3Q09 4Q09 1Q10 2Q10 3Q10 4Q10 1Q11 2Q11 SENSEX (5.2) 12.1 18.0 17.3 (22.9) (14.0) (4.5) (25.0) 0.6 49.3 18.2 2.0 0.4 1.0 13.4 2.2 (5.2) (3.1) BSE Healthcare (3.8) 4.3 (0.6) 16.8 (12.9) 8.2 (11.8) (19.2) (4.6) 25.5 24.0 13.9 6.2 7.9 4.3 12.3 (10.6) 6.2 Glaxo (3.7) 13.4 (11.9) (8.2) 1.6 6.8 6.1 (2.7) (5.1) 9.8 29.4 3.9 10.3 22.8 1.2 5.8 (11.7) 13.9
Risks
The key risk to our rating and target price would be lower-than-expected domestic-sales growth, which would have a negative impact on the companys EBITDA margin.
Source: Bloomberg, Daiwa Note: Highlighted cells show the periods where the stock outperformed both SENSEX and the BSE Healthcare index
- 42 -
Lupin
LPC IN
Upgrade to Outperform on strong domestic sales-growth outlook

Strong sales growth for the domestic business should partially mitigate the delays in product launches in the US We have factored the oral contraceptive launches into our 4Q FY12 earnings forecasts Seeing increasing sales traction in Japan and some parts of EU
Kartik A. Mehta
Amit Nagdewani
What's new
Lupins domestic sales rose by 21-25% during the period from November 2010 to May 2011, which was above the industry growth rate of 13-15% over the same period. This growth was in line with Lupins transition from being focused on acute-care drugs to chronic-care (chronic-drug sales accounted for 34% of domestic sales for FY11 from 5% for FY01).
Lupin: YoY monthly domestic sales growth (%)
40 30 20 10 0 Nov-10 Dec-10 Feb-11 Aug-10 Sep-10 Jun-10 Jan-11 Apr-11 May-11 Oct-10 Mar-11 Jul-10
lower sales-growth expectations for 14 and to drive the EBITDA margin. the US business. We see increasing competition in Lupins US business (both generic and branded), a delay in the launch of oral Forecast revisions (%) Year to 31 Mar 12E 13E 14E contraceptives, and more intenseRevenue change (4.1) (7.5) n.a. than-expected competition in this Net-profit change (8.6) (13.2) n.a. space by the end of FY12. Hence, we EPS change (8.6) (13.2) n.a. have revised down our FY12 and FY13 Source: Daiwa forecasts revenue forecasts by 4.1% and 7.5% Share price performance and our EPS forecasts by 8.6% and 13.2%, respectively. We forecast total sales and earnings to increase at CAGRs of 17% and 16.3%, respectively, from FY11-14.
What we recommend
We believe the strong sales growth for the domestic business will partially mitigate the potential delays in launches in the US market. Hence, we have upgraded our rating for Lupin to Outperform (2) from Hold (3), with a revised six-month target price of Rs490 (from Rs448), equivalent to a FY13E target PER of 19x (from FY12E earlier). We would see the key risks to our view as slower-than-expected sales growth for the India market, longer-than-expected delays in the launch of the new products in the US, and more intense competition in Lupins US business.
How we differ
356.40-511.50 4.52 10.39 448 D B Gupta & group (47.1%)

Lupin
Source: compiled by Daiwa, AIOCD-AWACS
What's the impact
We forecast Lupins domestic sales to increase at a CAGR of 19.5% for FY11-
Our FY12 and FY13 EPS forecasts are 2.8% and 4.9%, respectively, lower than those of the Bloomberg consensus, mainly on account of our

8 July 2011

Growth outlook
We forecast the companys total sales to increase at a CAGR of 17% from FY11-14. We believe a strong sales performance in the domestic market, and increasing traction in Japan and the EU will drive overall sales growth, despite a more-intense competitive environment for the US business (in both the generic and branded areas).
Lupin: sales mix (%)

FY10 29 35 3 11 6 16 100 FY11 27 35 3 11 8 15 100 FY12E 28 36 4 11 8 13 100 FY13E 28.0 36.9 4.0 11.3 8.2 11.7 100.0 FY14E 29.0 36.8 4.4 11.3 8.1 10.5 100.0 CAGR FY11-14E 19.5 18.5 29.9 18.3 16.0 3.7 17.0
India US EU Japan Others API Total
Source: Company, Daiwa forecasts Note: Slight discrepancies are due to rounding; CAGR for domestic India sales excludes excise duties
Valuation
We have upgraded our rating for Lupin to Outperform (2) from Hold (3), with a revised six-month target price of Rs490 (from Rs448), equivalent to a FY13E target PER of 19x (from FY12E earlier). We believe the strong sales growth for the domestic business should partially mitigate the delays in launches in the US market.

(Rs) 600 500 400 300 200 100 0 Jun-05 20x 16x 12x 8x
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Earnings revisions
As we expect increasing competition in Lupins US business (both generic and branded) a delay in the launch of oral contraceptives with more intense-thanexpected competition in the US by the end of FY12 we have revised down our FY12 and FY13 revenue forecasts by 4.1% and 7.5% and our EPS forecasts by 8.6% and 13.2%, respectively. Our FY12 and FY13 EPS forecasts are 2.8% and 4.9%, respectively, lower than those of the Bloomberg consensus, mainly on account of our lower sales-growth expectations for the US business.
Lupin: Daiwa EPS vs. consensus EPS forecasts (Rs)

35 30 25 20 15 10 5 0 FY12E Bloomberg consensus
Source: Daiwa forecasts, Bloomberg forecasts
32.1 27.1 22.2 21.5 25.8
30.3
FY13 E
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8 July 2011
Financial summary
Key assumptions
Year to 31 Mar Domestic sales growth YoY (%) Pharma sales growth YoY (%) 2007 2008 2009 24.6 40.6 2010 27.7 25.3 2011 14.9 19.2 2012E 20.0 19.8 2013E 19.5 17.5 2014E 19.0 15.0

Year to 31 Mar Pharma Others Others Total revenue Other income COGS SG&A Other op. expenses Operating profit Net-interest inc./(exp.) Assoc/forex/extraord./others Pre-tax profit Tax Min. int./pref. div./others Net profit (reported) Net profit (adjusted) EPS (reported) (Rs) EPS (adjusted) (Rs) EPS (adjusted fully-diluted) (Rs) DPS (Rs) EBIT EBITDA EV 2007 20,057 89 0 20,147 0 (9,321) (5,694) (2,666) 2,466 (372) 737 2,830 0 255 3,086 1,921 6.894 4.293 4.293 1.000 2,466 2,932 204,465 2008 26,862 150 0 27,013 0 (11,638) (7,905) (3,723) 3,746 (374) 787 4,160 (1,203) 1,126 4,083 2,955 9.121 6.603 6.603 2.000 3,746 4,394 209,013 2009 37,761 191 0 37,952 0 (16,043) (10,511) (5,751) 5,647 (499) 763 5,911 (833) (62) 5,015 5,015 11.205 11.205 11.205 2.500 5,647 6,527 211,071 2010 47,328 331 0 47,659 0 (19,694) (13,226) (7,111) 7,628 (385) 1,021 8,264 (1,360) (88) 6,816 6,724 15.229 15.022 15.022 2.700 7,628 8,867 209,063 2011 56,434 590 0 57,024 0 (22,379) (16,309) (9,389) 8,947 (325) 1,317 9,939 (1,169) (145) 8,626 8,602 19.271 19.218 19.218 3.000 8,947 10,659 207,596 2012E 67,613 0 0 67,613 0 (26,530) (19,334) (11,241) 10,508 (337) 1,618 11,789 (2,004) (140) 9,645 9,645 21.549 21.549 21.549 4.000 10,508 12,687 207,990 2013E 79,413 0 0 79,413 0 (30,931) (22,633) (13,220) 12,629 (282) 1,768 14,115 (2,400) (180) 11,536 11,536 25.773 25.773 25.773 4.500 12,629 15,155 204,846 2014E 91,353 0 0 91,353 0 (35,057) (26,036) (15,178) 15,083 (267) 1,718 16,533 (2,811) (180) 13,542 13,542 30.257 30.257 30.257 5.000 15,083 17,955 199,649
Cash flow (Rs m)

2007 2,830 466 (821) (1,646) 1,164 1,993 (1,720) 0 0 (1,720) (601) 402 (470) (534) (1,203) 0 (930) 274
2008 4,160 647 (1,122) (3,667) 1,127 1,146 (3,801) 0 (30) (3,831) 3,381 17 (961) (849) 1,589 24 (1,073) (2,656)
2009 5,911 880 (776) 860 0 6,875 (4,007) 0 (157) (4,164) 204 7 (1,213) (3,673) (4,676) 157 (1,807) 2,869
2010 8,264 1,239 (1,090) (4,478) 93 4,029 (6,431) 0 (49) (6,480) (834) 61 (1,412) 5,897 3,713 25 1,286 (2,402)
2011 9,939 1,712 (1,193) (2,401) 24 8,081 (4,894) 0 233 (4,661) 226 3 (1,362) (100) (1,234) (233) 1,953 3,187
2012E 11,789 2,179 (2,254) (5,182) 0 6,531 (5,000) 0 0 (5,000) (1,238) 0 (2,035) 250 (3,023) 0 (1,491) 1,531
2013E 14,115 2,526 (2,681) (3,628) 0 10,331 (5,000) 0 0 (5,000) (1,000) 0 (2,290) 282 (3,008) 0 2,323 5,331
2014E 16,533 2,873 (3,124) (3,674) 0 12,608 (5,000) 0 0 (5,000) (1,000) 0 (2,544) 313 (3,231) 0 4,377 7,608
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8 July 2011

As at 31 Mar Cash & short-term investment Inventory Accounts receivable Other current assets Total current assets Fixed assets Goodwill & intangibles Other non-current assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Other non-current liabilities Total liabilities Share capital Reserves/R.E./others Shareholders' equity Minority interests Total equity & liabilities Net debt/(cash) BVPS (Rs) 2007 3,873 4,298 4,039 2,448 14,657 7,971 0 0 22,629 0 3,472 750 4,222 8,648 1,026 13,896 803 7,930 8,733 0 22,629 4,775 19.512 2008 2,800 7,893 7,439 2,367 20,499 11,125 0 0 31,625 0 5,644 1,826 7,470 12,029 1,107 20,606 821 10,104 10,925 95 31,625 9,229 24.408 2009 993 9,572 10,349 2,780 23,694 14,252 0 0 37,945 0 8,272 5,059 13,331 12,233 1,164 26,728 828 10,246 11,075 143 37,945 11,239 24.743 2010 2,280 9,715 11,266 4,759 28,019 19,444 0 0 47,462 0 8,821 3,071 11,893 11,399 1,435 24,726 889 21,592 22,482 255 47,462 9,119 50.229 2011 4,233 12,000 12,558 6,208 34,999 22,626 0 0 57,624 0 11,085 3,433 14,518 11,624 1,411 27,553 892 28,664 29,556 515 57,624 7,391 66.034 2012E 2,741 15,136 15,829 6,643 40,349 25,447 0 0 65,796 0 12,744 3,433 16,178 10,386 1,161 27,725 892 36,523 37,416 655 65,796 7,645 83.595 2013E 5,065 17,672 18,592 7,108 48,436 27,921 0 0 76,357 0 14,880 3,433 18,313 9,386 879 28,579 892 46,051 46,944 835 76,357 4,321 105 2014E 9,442 20,086 21,387 7,605 58,520 30,049 0 0 88,569 0 16,913 3,433 20,346 8,386 566 29,299 892 57,363 58,255 1,015 88,569 (1,055) 130
Key ratios (%)

2007 18.7 30.2 33.8 13.3 13.3 53.7 14.6 12.2 25.7 8.9 15.0 18.8 54.7 0.0 64.8 59.5 6.6 14.5
2008 34.1 49.9 52.0 53.8 53.8 56.9 16.3 13.9 30.1 10.9 18.5 14.8 84.5 28.9 77.5 61.6 10.0 21.9
2009 40.5 48.5 50.7 69.7 69.7 57.7 17.2 14.9 45.6 14.4 24.3 21.6 101.5 14.1 85.5 66.9 11.3 22.3
2010 25.6 35.9 35.1 34.1 34.1 58.7 18.6 16.0 40.1 15.7 26.5 22.4 40.6 16.5 82.8 65.5 19.8 17.7
2011 19.7 20.2 17.3 27.9 27.9 60.8 18.7 15.7 33.1 16.4 23.6 21.9 25.0 11.8 76.2 63.7 27.6 15.6
2012E 18.6 19.0 17.4 12.1 12.1 60.8 18.8 15.5 28.8 15.6 23.3 20.3 20.4 17.0 76.6 64.3 31.2 18.6
2013E 17.5 19.5 20.2 19.6 19.6 61.1 19.1 15.9 27.3 16.2 23.9 21.0 9.2 17.0 79.1 63.5 44.8 17.5
2014E 15.0 18.5 19.4 17.4 17.4 61.6 19.7 16.5 25.7 16.4 24.2 22.4 net cash 17.0 79.9 63.5 56.4 16.5
Company profile
Lupin was incorporated in 1983. It develops and markets a wide range of generic and branded formulations and APIs for the developed and developing markets of the world. Its top-six products in the API basket cover nearly 80% of API sales to the semiregulated markets. In April 2008, Lupin expanded its footprint to Japan via its subsidiary, Kyowa. In June 2008, the company entered into a marketing alliance with ASCEND Therapeutics.
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8 July 2011
Strong domestic performance

Lupin has recorded revenue growth of more than 20% per year over the past five years in the domestic market, almost double the India industry growth rate, due mainly to its renewed focus on the fast-growing chronic-care segment of the India market, which increased at a revenue CAGR of 17% over the past three years. The companys sales growth in the domestic market during the period from July to September 2010 exceeded 28%, which is very high compared with the industry growth over the same period. The reduction in channel inventory resulted in sales growth moderating to 21-25% over the past six months, from November 2010 to May 2011. Also, Lupins growth over the past four months (February 2011 to May 2011) has been on the back of further channel inventory reductions, and we believe this is on account of the lower sales contribution from the acute segment. The sales contribution for anti-tuberculosis products declined from 20% of domestic sales for FY07 to 10% for FY11.
Lupin: sales growth vs. industry sales growth (%), 13-month avg. inventory
40 35 30 25 20 15 10 5 0 May-11 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 72 71 70 69 68 67 66 65 64 63 62
Domestic business should mitigate weakness in the US

Earnings outlook
We forecast total sales and earnings to increase at CAGRs of 17% and 16.3%, respectively, from FY11-14, as we expect the competitive environment to intensify for the US business (both generic and branded), but believe the strong sales performance in the domestic market will drive margins. New product launches in Japan and the EU should also drive sales-growth rates.
Lupin: sales mix and EBITDA margins (%)
India US EU Japan Others API Total EBITDA margin FY10 29 35 3 11 6 16 100 18.6 FY11 27 35 3 11 8 15 100 18.7 FY12E 28 36 4 11 8 13 100 18.8 FY13E 28.0 36.9 4.0 11.3 8.2 11.7 100.0 19.1 FY14E CAGR FY11-14E 29.0 19.5 36.8 18.5 4.4 29.9 11.3 18.3 8.1 16.0 10.5 3.7 100.0 17.0 19.7
Source: Company, Daiwa forecasts Note: Slight discrepancies are due to rounding; CAGR for domestic India sales excludes excise (taxes/duties)
Focus on chronic care in the domestic market

The higher-than-industry sales growth in the domestic market over the past five years is in line with Lupins transition from focusing on acute-care drugs to chronic-care. Consequently, its revenue contribution from the chronic-care segment has risen consistently over the years, accounting for 34% of domestic sales in FY11 from 5% in FY01.
Lupin: contribution by therapeutic area (%)
Therapeutic contribution in domestic sales % Anti-asthma Anti-diabetics Anti-TB Cephalosporins CNS CVs GI NSAIDs Others TOTAL
Source: Company Note: Highlighted text is part of chronic segment
13m avg. inv. (% of sales,RHS)

Source: compiled by Daiwa, AIOCD/AWACS
Lupin (LHS)
India market (LHS)
FY07 6 6 20 18 0 21 0 3 26 100
FY08 8 5 17 15 4 19 6 0 26 100
FY09 10 6 14 14 6 19 7 0 24 100
FY10 9 6 11 18 5 21 6 2 22 100
FY11 9 7 10 16 4 21 6 2 25 100
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8 July 2011

Has traded in a PER band of 8-20x over past five years
Lupin has traded within a PER band of 8-20x over the past five years. It traded at the lower end of this band during the June 2007 - June 2008 period, when the company was in acquisition mode and the EBITDA margin was not improving. The high sales-growth phase in the US and India markets, along with its entering new markets, has led to the company trading at a PER that is higher than its past two-year trading average. Meanwhile, Lupin is still trading at a PER discount to its peers (such as Cipla, Ranbaxy and Dr Reddys).
(Rs) 600 500 400 300 200 100 0 Jun-05 20x 16x 12x 8x

US business led past outperformance, domestic focus makes it a good defensive play
Historically, Lupin has outperformed both the BSE SENSEX and BSE Healthcare index during bear phases, and underperformed both indices during bull phases. Even when the SENSEX has moved side-ways, it has outperformed the SENSEX as well as the BSE Healthcare Index, due mainly to the strong sales growth for its US business. On the back of further improvements in its domestic sales growth, we believe Lupins earnings outlook looks more stable than that for its peers.
Lupin, BSE Healthcare: QoQ performance relative to SENSEX
60 50 40 30 20 10 0 (10) (20) (30) (40) (50) 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12 40 20 0 (20) (40) (60)
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Target PER of 19x for FY13E

We have upgraded our rating for Lupin to Outperform (2) from Hold (3) and raised our six-month target price to Rs490 (from Rs448), equivalent to a FY13E target PER of 19x (versus FY12 earlier). We believe the strong sales growth for the domestic business will partially mitigate any delays in launches in the US market.
BSE Healthcare(LHS)
Lupin (LHS)
SENSEX (RHS)
The stock has outperformed both the BSE SENSEX and BSE Healthcare Index in 11 quarters of the past 17.
Lupin, SENSEX, BSE Healthcare: QoQ absolute performance (%)
Quarter ended 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12 SENSEX 12.1 18.0 17.3 (22.9) (14.0) (4.5) (25.0) 0.6 49.3 18.2 2.0 0.4 1.0 13.4 2.2 (5.2) (3.1) BSE Healthcare 4.3 (0.6) 16.8 (12.9) 8.2 (11.8) (19.2) (4.6) 25.5 24.0 13.9 6.2 7.9 4.3 12.3 (10.6) 6.2 Lupin 20.8 (19.7) 7.1 (20.8) 33.7 8.0 (14.2) 10.8 19.2 39.1 29.9 10.4 20.9 (1.4) 24.3 (13.6) 7.8
Key risks
We would see the key risks to our view as slower-thanexpected sales growth for the India market, longerthan-expected delays in product launches in the US, and intensified competition in Lupins US business.
Source: Bloomberg, Daiwa Research Note: Highlighted cells show the periods when the stock outperformed both the SENSEX and BSE Healthcare Index
- 48 -
Cadila Healthcare
CDH IN
Target price: Rs1,010.00 Rs1,102.00 Up/downside: +18.4% Share price (4 Jul): Rs931.00
Strong earnings-growth outlook

Improved product mix should drive sales and earnings growth Product launches by Cadila-Hospira joint venture should boost EBITDA margin over the next two years Increasing presence in Brazil and other markets
Kartik A. Mehta
Amit Nagdewani
What's new
What's the impact consensus, due mainly to our higher For FY11-14, we forecast the EBITDA-margin forecasts. companys total sales and earnings Forecast revisions (%) to increase at CAGRs of 22.6% and Year to 31 Mar 12E 13E 14E 24.2%, respectively, driven by an Revenue change 0.0 0.0 0.0 improved product mix. We maintain Net-profit change (5.0) (5.8) (6.2) our FY12-14 revenue forecasts, but EPS change (5.0) (5.8) (6.2) have revised down our profit after Source: Daiwa forecasts tax (PAT) forecasts by 5%, 5.8%, and Share price performance 6.2%, respectively for FY12, FY13, and FY14, mainly to factor in an increase in our tax-rate assumptions, to 17% from 15%. What we recommend
Cadila achieved its sales target of US$1bn for FY11 and management aims to achieve sales of US$3bn by FY15. The company currently sells two products through the Hospira joint venture (Not listed) in regulated markets, and plans to be selling about six within the next two years. Cadilas business continues to expand at a healthy pace in the domestic segment, where sales growth was 17% YoY from December 2010-May 2011.
India market and Cadila: domestic sales (%)
25 20 15 10 5 0 May-11 Mar-11 Aug-10 Sep-10 Nov-10 Dec-10 Feb-11 Jun-10 Jan-11 Oct-10 Apr-11 Jul-10
We believe an improvement in Cadilas product mix will drive sales and earnings growth. Meanwhile, product launches by the CadilaHospira joint venture should boost the EBITDA margin over the next two years. We maintain our Buy (1) rating, and have raised our sixmonth target price to Rs1,102 (from Rs1,010), now based on a target PER of 20x on our FY13 EPS forecast (22x on our FY12 EPS forecast previously). The key risks to our view would be any delays in product launches by the Cadila-Hospira joint venture and slower-than-expected sales growth for the India pharmaceutical market.
How we differ
604.60-936.55 4.29 2.07 205 Pankaj Patel & group (74.8%)

Year to 31 Mar Revenue (m) Operating profit (m) Net profit (m) Core EPS EPS change (%) Daiwa vs Cons. EPS (%) PER (x) Dividend yield (%) DPS PBR (x) ROE (%) 12E 53,875 9,860 8,932 43.657 20.4 4.9 21.3 0.9 8.000 6.6 35.4 13E 66,956 12,484 11,272 55.092 26.2 7.0 16.9 1.1 10.000 5.1 34.0 14E 82,372 15,749 14,228 69.539 26.2 11.4 13.4 1.3 12.500 3.9 32.9
Cadila
Industry
Our FY12 and FY13 EPS forecasts are respectively 4.9% and 7.0% above those of the Bloomberg

8 July 2011

Growth outlook
For FY11-14, we forecast Cadilas total sales to increase at a CAGR of 22.6% on the back of an improved product mix. Currently, the company sells two products through the Hospira joint venture in regulated markets, and plans to be selling about six products within the next two years. It signed a deal with Abbott Laboratories (Abbott) (Not rated) in May 2010 to licence 24 products for 15 emerging markets with the option to include 40 more products. The products are under development and Cadila expects commercial supply to start from the end of FY12.
Cadila: YoY sales growth vs. EBITDA margin (%)
50 45 40 35 30 25 20 15 10 5 0 1Q FY10
Docetaxel launch from Cadila Hospira JV
22 22 21 21 20 20 19 19 18 18 4Q FY11 1Q FY12E 2Q FY12E 3Q FY12E 4Q FY12E 1Q FY13E 2Q FY13E 3Q FY13E 4Q FY13E
2Q FY10
3Q FY10
4Q FY10
1Q FY11
2Q FY11

Source: Company. Daiwa forecasts
3Q FY11
EBITDA margin (RHS)
Valuation
Over the past two years, the stock has traded in a PER range of 12-20x. We expect it to trade in a higher PER range over the next few years due to its improved product mix, which should drive sales and earnings growth. Our target price of Rs1,102 is based on a target PER of 20x on our FY13 EPS forecast.Our target PER is at a slight premium to the one we assign to Cipla due to the formers better sales and earnings growth over the past four quarters and also for the period of our forecast. Cadilas target PER is at a discount to that for Sun due to Suns consistently-high EBITDA margin.

(Rs) 1,000 900 800 700 600 500 400 300 200 100 0 Jun-04
20x 16x 12x 8x
Jun-05
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Earnings revisions
Our FY12-14 revenue forecasts are unchanged, but we have revised down our PAT forecasts by 5% for FY12, 5.8% for FY13, and 6.2% for FY14, mainly to factor in an upward adjustment to our tax-rate assumption, to 17% from 15%. Our FY12 and FY13 EPS forecasts are respectively 4.9% and 7.0% above those of the Bloomberg consensus, due mainly to our higher EBITDA-margin forecasts.
Cadila: Daiwa and consensus EPS forecats (Rs)

80 70 60 50 40 30 20 10 0 FY12E FY13E Bloomberg consensus
Source: Bloomberg. Daiwa forecasts
69.5 62.5 51.4 41.6 43.7 55.1
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8 July 2011
Financial summary
Key assumptions
Year to 31 Mar Domestic sales growth YoY (%) 2007 10.0 2008 17.8 2009 14.2 2010 15.3 2011 18.8 2012E 18.1 2013E 18.7 2014E 18.9

Year to 31 Mar Domestic Sales Export Sales Others Total revenue Other income COGS SG&A Other op. expenses Operating profit Net-interest inc./(exp.) Assoc/forex/extraord./others Pre-tax profit Tax Min. int./pref. div./others Net profit (reported) Net profit (adjusted) EPS (reported) (Rs) EPS (adjusted) (Rs) EPS (adjusted fully-diluted) (Rs) DPS (Rs) EBIT EBITDA EV 2007 11,803 6,052 0 17,855 0 (6,372) (6,588) (2,673) 2,222 (212) 433 2,443 (281) 176 2,338 2,085 11.427 10.191 10.191 2.667 2,222 3,045 197,842 2008 13,909 8,751 0 22,660 0 (7,903) (8,340) (3,438) 2,979 (335) 578 3,222 (548) (98) 2,576 2,629 12.592 12.851 12.851 3.000 2,979 3,948 201,800 2009 15,888 12,736 0 28,624 0 (9,566) (10,619) (4,227) 4,212 (1,205) 767 3,774 (589) (154) 3,031 3,184 14.814 15.562 15.562 3.000 4,212 5,330 204,540 2010 18,323 17,426 0 35,748 0 (11,784) (13,068) (5,269) 5,627 (821) 1,285 6,091 (741) (292) 5,058 5,103 24.723 24.943 24.943 5.000 5,627 6,966 202,945 2011 21,760 22,887 0 44,647 0 (14,754) (15,793) (6,372) 7,727 (780) 1,786 8,733 (1,064) (560) 7,110 7,418 34.750 36.258 36.258 6.250 7,727 8,997 202,845 2012E 25,691 28,184 0 53,875 0 (18,080) (17,784) (8,150) 9,860 (733) 1,981 11,108 (1,888) (288) 8,932 8,932 43.657 43.657 43.657 8.000 9,860 11,276 202,373 2013E 30,500 36,456 0 66,956 0 (22,001) (22,430) (10,041) 12,484 (630) 2,073 13,927 (2,368) (288) 11,272 11,272 55.092 55.092 55.092 10.000 12,484 14,155 200,790 2014E 36,254 46,117 0 82,372 0 (26,805) (27,595) (12,223) 15,749 (436) 2,175 17,488 (2,973) (288) 14,228 14,228 69.539 69.539 69.539 12.500 15,749 17,675 197,124
Cash flow (Rs m)

2007 2,443 823 (241) (391) 253 2,887 (2,277) 0 453 (1,824) 103 314 (664) (264) (511) 0 552 610
2008 3,222 969 (451) (1,811) (53) 1,876 (5,187) 0 7 (5,180) 3,842 0 (728) 126 3,240 0 (64) (3,311)
2009 3,774 1,118 (507) (933) (153) 3,299 (4,304) 0 5 (4,299) 4,297 54 (796) (964) 2,591 0 1,591 (1,005)
2010 6,091 1,339 (916) (402) (45) 6,067 (3,478) 0 42 (3,436) (1,769) 0 (1,237) 365 (2,641) 0 (10) 2,589
2011 8,733 1,269 (1,078) (2,108) (309) 6,508 (4,579) 0 0 (4,579) 68 341 (1,529) (364) (1,484) 0 445 1,929
2012E 11,108 1,416 (2,167) (2,682) 0 7,675 (5,000) 0 0 (5,000) (1,673) 0 (1,915) 0 (3,588) 0 (913) 2,675
2013E 13,927 1,671 (2,715) (2,617) 0 10,265 (6,000) 0 0 (6,000) (1,405) 0 (2,394) (1) (3,800) 0 466 4,265
2014E 17,488 1,926 (3,408) (3,060) 0 12,947 (6,000) 0 0 (6,000) (4,055) 0 (2,992) (1) (7,048) 0 (102) 6,947
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8 July 2011

As at 31 Mar Cash & short-term investment Inventory Accounts receivable Other current assets Total current assets Fixed assets Goodwill & intangibles Other non-current assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Other non-current liabilities Total liabilities Share capital Reserves/R.E./others Shareholders' equity Minority interests Total equity & liabilities Net debt/(cash) BVPS (Rs) 2007 990 3,896 2,784 2,201 9,871 9,783 0 261 19,915 0 4,120 1,326 5,446 4,535 1,137 11,118 628 8,027 8,655 142 19,915 3,545 42.302 2008 926 4,729 3,555 2,013 11,223 14,001 0 254 25,478 0 3,793 1,258 5,051 8,377 1,234 14,662 628 9,994 10,622 194 25,478 7,451 51.916 2009 2,517 6,012 4,845 2,237 15,611 17,187 0 249 33,047 0 5,201 1,714 6,915 12,674 1,316 20,905 682 11,232 11,914 228 33,047 10,157 58.231 2010 2,507 7,504 4,668 3,070 17,749 19,326 0 207 37,282 0 6,146 2,515 8,661 10,905 1,141 20,707 682 15,501 16,183 392 37,282 8,398 79.096 2011 2,952 8,119 7,652 4,106 22,829 22,636 0 207 45,672 0 8,306 2,883 11,189 10,973 1,127 23,288 1,023 20,692 21,715 669 45,672 8,021 106 2012E 2,039 10,355 9,234 4,312 25,941 26,220 0 207 52,367 0 9,648 2,883 12,530 9,300 848 22,678 1,023 27,709 28,732 957 52,367 7,261 140 2013E 2,505 12,692 11,476 4,527 31,200 30,549 0 207 61,956 0 11,824 2,883 14,707 7,895 501 23,102 1,023 36,586 37,609 1,244 61,956 5,390 184 2014E 2,403 15,494 14,118 4,754 36,769 34,623 0 207 71,599 0 14,435 2,883 17,317 3,840 66 21,223 1,023 47,821 48,844 1,532 71,599 1,437 239
Key ratios (%)

2007 23.5 23.3 31.4 27.2 27.2 64.3 17.1 12.4 26.7 11.8 17.9 16.0 41.0 11.5 48.8 63.6 10.5 23.3
2008 26.9 29.7 34.1 26.1 26.1 65.1 17.4 13.1 27.3 11.6 18.3 15.2 70.1 17.0 51.1 63.7 8.9 23.8
2009 26.3 35.0 41.4 21.1 21.1 66.6 18.6 14.7 28.3 10.9 19.1 16.7 85.3 15.6 53.6 57.3 3.5 20.3
2010 24.9 30.7 33.6 60.3 60.3 67.0 19.5 15.7 36.3 14.5 21.5 20.1 51.9 12.2 48.6 57.9 6.9 20.2
2011 24.9 29.1 37.3 45.4 45.4 67.0 20.2 17.3 39.1 17.9 25.4 23.7 36.9 12.2 50.4 59.1 9.9 18.0
2012E 20.7 25.3 27.6 20.4 20.4 66.4 20.9 18.3 35.4 18.2 27.3 23.8 25.3 17.0 57.2 60.8 13.5 18.3
2013E 24.3 25.5 26.6 26.2 26.2 67.1 21.1 18.6 34.0 19.7 29.1 25.2 14.3 17.0 56.4 58.5 19.8 18.2
2014E 23.0 24.9 26.2 26.2 26.2 67.5 21.5 19.1 32.9 21.3 31.2 27.2 2.9 17.0 56.7 58.2 36.1 18.0
Company profile
Cadila was founded in 1952 and restructured as Zydus Cadila in 1995. It has forayed into the US and EU markets as well as into other markets such as Brazil, South Africa and Japan. Its acquisition of Alpharma SAS (France) gave Cadila an established distribution network and pipeline of 109 generic registrations. In 2008, Cadila purchased Spanish firm Laboratorios Combix, Simayla Pharmaceuticals of South Africa, and Etna Biotech of Italy.
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8 July 2011
formed joint venture between Bayer (Not rated) and Cadila will sell products from both companies in the India market.
Domestic market and Hospira joint venture to drive earnings

Earnings outlook
For FY11-14, we forecast Cadilas total sales and earnings to increase at CAGRs of 22.6% and 24.2%, respectively, driven by an improved product mix. Currently, the company sells two products through the Hospira joint venture in regulated markets, and plans to be selling about six products within the next two years. It signed a deal with Abbott in May 2010 to licence 24 products for 15 emerging markets with the option to include 40 more products. The products are under development and Cadila expects commercial supply to start from the end of FY12. The recentlyCadila: sales mix and EBITDA margin (%)
FY10 100 51 39 37 2 1 7 4 49 37 19 8 5 5 12 2 7 2 19.5 FY11 100 49 37 35 2 1 8 3 51 38 22 6 5 6 13 1 7 5 20.2 FY12E 100 48 36 33 2 1 8 3 52 38 21 6 5 6 14 0 4 10 20.9 FY13E 100 46 33 31 2 1 9 3 54 38 20 6 6 6 16 0 3 13 21.1 CAGR FY14E 11-14E 100.0 22.6 44.0 18.6 31.0 15.2 29.0 15.0 2.0 20.0 0.5 7.0 10.0 35.0 2.5 12.0 56.0 26.3 42.4 27.0 18.4 16.2 6.5 26.1 10.6 57.3 6.9 13.6 0.3 2.4 10.9 21.5 31.4 24.4 (22.3) (14.5) 61.1 Remarks
We believe that various businesses have contributed to the EBITDA margin and sales growth over the past eight quarters, and believe a sales-growth rate of about 20% is sustainable on a stable EBITDA margin over the next two years.
Cadila: sales growth (YoY) and quarterly EBITDA margin (%)
50 45 40 35 30 25 20 15 10 5 0 1Q FY10
Docetaxel launch from Cadila Hospira JV
22 22 21 21 20 20 19 19 18 18 4Q FY11 1Q FY12E 2Q FY12E 3Q FY12E 4Q FY12E 1Q FY13E 2Q FY13E 3Q FY13E 4Q FY13E
2Q FY10
3Q FY10
4Q FY10
1Q FY11
2Q FY11

3Q FY11
EBITDA margin (RHS)
Total Domestic Formulations - Branded formulations - Generic formulations APIs Zydus Wellness Animal Health & Others Exports Formulations -US -France -Brazil -ROW APIs -Nycomed JV -Others -Hospira JV EBITDA margin
Steady and stable business Leader in cardiovascular, gastro intestinal, womens healthcare and respiratory segments. Entered into a JV with Bayer Relatively low EBITD- margin business Mainly captive use Sugar free 85% market share, Ever Yuth (skin care) and Nutralite (butter and substitutes) have strong recall Acquired the outstanding 50% stake in 2007 Focus on emerging markets Large product portfolio with strong focus, recurring earnings Improvement in profitability as more products are shifted to India, ninth-largest generic company in France by sales Strengthened market share following the acquisition of Nikkho. Brand basket of more than 25 products, planning to launch 8-10 products every year Markets include Spain, Japan, South Africa, Sri Lanka, and Myanmar Strong portfolio, leverages existing relationships with customers Pantaprazole has gone generic Injectable business, Hospira sales began in 1Q FY10
Source: Company, Daiwa forecasts Note: Slight discrepancies are due to rounding. CAGR for domestic sales excludes excise.
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8 July 2011

The stock has traded in a PER range of about 12-20x over the past two years
The stock traded at a PER of more than 16x until the end of 2007, when its PER range contracted to 8-12x, mainly on account of the decline in profit from the Nycomed joint venture. Over the past two years, it has traded in a PER range of 12-20x. We expect the stock to trade in a higher PER range over the next few years because of the companys improved product mix, which should drive sales and earnings growth.
(Rs) 1,000 900 800 700 600 500 400 300 200 100 0 Jun-04

Rerated stock outperforms throughout
Cadilas share price has outperformed both the SENSEX and the BSE Healthcare Index during most of the past two years Even when it underperformed the SENSEX, it outperformed the BSE Healthcare Index, driven by a rerating, with its PER rising from 8x in 2008 to 20x currently due to consistently strong sales and earnings growth.
Cadila and BSE Healthcare Index: QoQ performance relative to SENSEX
40 30 20 10 0 (10) (20) (30) (40) 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12 70 50 30 10 (10) (30) (50)
20x 16x 12x 8x
Jun-05
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11

Cadila (LHS)
SENSEX (RHS)

We maintain our Buy (1) rating, and have raised our six-month target price to Rs1,102 (from Rs1,010) now based on a target PER of 20x on our FY13 EPS forecast (22x on our FY12 EPS forecast previously). Our target PER is at a slight premium to that for Cipla due to Cadilas better sales and earnings growth over the past four quarters and also for the period of our forecast. Cadilas target PER is at a discount to that of Sun due to Suns consistently high EBITDA margin.
The stock has outperformed the SENSEX and BSE Healthcare Index 12 times and 13 times, respectively, in absolute terms in the past 17 quarters.
Cadila, SENSEX, and BSE Healthcare Index: QoQ absolute performance
Quarter ended 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12 SENSEX 12.1 18.0 17.3 (22.9) (14.0) (4.5) (25.0) 0.6 49.3 18.2 2.0 0.4 1.0 13.4 2.2 (5.2) (3.1) BSE Healthcare 4.3 (0.6) 16.8 (12.9) 8.2 (11.8) (19.2) (4.6) 25.5 24.0 13.9 6.2 7.9 4.3 12.3 (10.6) 6.2 Cadila 11.9 (17.5) 1.2 (19.4) 18.5 3.4 (7.1) 1.8 39.3 37.8 24.7 27.4 19.5 (0.7) 18.6 1.6 16.2
Key risks
In our view, the key risks to our target price and rating would be lower-than-expected sales growth for the Hospira joint venture and slower-than-expected sales growth for the India pharmaceutical market.
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Glenmark Pharmaceuticals
GNP IN
Upgrade to Underperform; volatile sales growth should continue

High domestic sales growth looks less sustainable in FY12 EBITDA-margin outlook appears volatile due to the company's sales mix NCE pipeline appears attractive, but products in the early stage of development
What's the impact
Kartik A. Mehta
Amit Nagdewani
What's new
The out-licensing of Glenmarks first NBE-GBR500 (monoclonalantibody) to Sanofi Aventis (Not rated) in May 2011 has rekindled investor interest in the companys NCE/NBE compound pipeline. However, we have not assigned a value to the companys NCE pipeline, due to the inherently risky nature of the business. Over the past year, the company has experienced highly volatile domestic-sales growth.
Glenmark: YoY monthly domestic sales (%)
50 40 30 20 10 0 Nov-10 Dec-10 Aug-10 Sep-10 Feb-11 Jul-10 Mar-11 Apr-11 May-11 Jun-10 Jan-11 Oct-10
We forecast total sales and earnings CAGRs of 15.5% and 15.1% over the FY11-14 period. We have revised up our FY12 revenue and earnings forecasts by 5.3% and 22.8%, respectively, to include a US$50m milestone payment from Sanofi for the out-licensing of GBR500, but revised down our FY13 revenue and earnings forecasts by 2.4% and 11.2%, respectively, as we expect EBITDA-margin pressure for its generic business.
What we recommend
assumptions for FY12 and lower EBITDA-margin assumptions for FY13.

12E 5.3 22.8 22.8
13E (2.4) (11.2) (11.2)
14E n.a. n.a. n.a.
We have upgraded our rating for Glenmark to Underperform (4) from Sell (5), and have raised our sixmonth target price to Rs298 (from Rs266), based on a target PER of 16x on our recurrent FY13 EPS forecast (previously FY12 EPS forecast), plus a value of Rs10/share for the Para IV upside potential. The key risks to our target price would be faster-thanexpected sales growth in the domestic and regulated markets, while any further successful outlicensing of NCEs/NBEs could boost sentiment temporarily.
How we differ
251.30-384.80 2.03 5.14 288 Saldanha Family Trust (48.4%)

Year to 31 Mar Revenue (m) Operating profit (m) Net profit (m) Core EPS EPS change (%) Daiwa vs Cons. EPS (%) PER (x) Dividend yield (%) DPS PBR (x) ROE (%) 12E 36,597 8,975 6,682 23.177 27.8 15.8 13.5 0.2 0.500 3.4 28.3 13E 39,423 8,132 5,979 20.737 (10.5) (6.6) 15.1 0.2 0.500 2.8 20.1 14E 46,246 10,322 7,962 27.617 33.2 20.6 11.3 0.2 0.650 2.2 21.8
Glenmark sales growth
Our FY12 and FY13 EPS forecasts are respectively 15.8% higher and 6.6% lower than those of the Bloomberg consensus, due mainly to our higher EBITDA-margins

8 July 2011

Growth outlook
We forecast a total sales CAGR of 15.5% over FY11 to FY14 mainly due to subdued sales growth in the domestic and regulated markets
Glenmark: sales mix (%)

Sales mix SPECIALTY -EU -Semi-regulated -LATAM -India -NCE income GENERIC -Argentina -API -US and EU generics TOTAL SALES FY10 56 6 16 6 28 1 44 1 11 31 100 FY11 58 5 14 6 30 3 42 1 11 30 100 FY12E 61 5 13 6 31 6 39 1 10 28 100 FY13E 5 5 13 8 33 41 2 10 30 100 FY14E CAGR FY11-14E 60 16.8 5 15.9 12 11.5 8 27.0 34 20.5 n.m. 40 13.6 2 25.9 9 8.4 29 14.9 100 15.5
Valuation
Over the past two years, the stock has traded within a PER range of 10-20x. We value the stock at Rs298 (from Rs266), based on a target PER of 16x on our FY13 recurrent-EPS forecast (previously FY12 EPS forecast), plus a value of Rs10/share for the Para IV upside potential. We have not assigned a value to the NCE pipeline, due to the inherently risky nature of the business. We have assigned a target PER of 16x, which is the average of the past-two-year trading range (the range is lower than those of its India peers, due to the less stable business outlook that we see).
Glenmark: one-year-forward PER bands (x)

(Rs) 1,000 900 800 700 600 500 400 300 200 100 0 Jun-05
40x 30x 20x 10x
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Earnings revisions
We have revised up our FY12 revenue and earnings forecasts by 5.3% and 22.8%, respectively, to include a US$50m milestone payment from Sanofi for the outlicensing of GBR 500, but have revised down our FY13 revenue and earnings forecasts by 2.4% and 11.2%, respectively, due to what we see as EBITDA-margin pressure in its generic business for the regulated markets. Our FY12 and FY13 EPS forecasts are respectively 15.8% higher and 6.6% lower than those of the Bloomberg consensus, due mainly to our higher EBITDA-margin assumptions for FY12 and lower EBITDA-margin assumption for FY13.
Glenmark: Daiwa vs. Bloomberg-consensus EPS forecasts (Rs)

30 25 20 15 10 5 0 FY12E Bloomberg consensus
Source :Daiwa research, Bloomberg
27.6 23.2 20.1 22.2 20.7 22.9
FY13E
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8 July 2011
Financial summary
Key assumptions
Year to 31 Mar Generics sales growth YoY (%) 2007 76.8 2008 108.8 2009 24.8 2010 7.1 2011 19.3 2012E 13.4 2013E 12.1 2014E 15.5

Year to 31 Mar Speciality drugs Generic drugs Others Total revenue Other income COGS SG&A Other op. expenses Operating profit Net-interest inc./(exp.) Assoc/forex/extraord./others Pre-tax profit Tax Min. int./pref. div./others Net profit (reported) Net profit (adjusted) EPS (reported) (Rs) EPS (adjusted) (Rs) EPS (adjusted fully-diluted) (Rs) DPS (Rs) EBIT EBITDA EV 2007 8,046 3,791 0 11,837 0 (3,774) (2,215) (2,047) 3,801 (406) 171 3,566 (473) 0 3,093 3,093 10.727 10.727 10.727 0.750 3,801 4,223 96,735 2008 11,423 7,917 0 19,340 0 (5,651) (3,314) (3,172) 7,203 (710) 537 7,030 (709) 0 6,321 6,321 21.925 21.925 21.925 0.700 7,203 7,920 96,784 2009 10,520 9,882 0 20,402 0 (7,499) (4,898) (4,564) 3,442 (1,457) 1,793 3,777 (673) (1,188) 1,917 3,086 6.648 10.704 10.704 0.400 3,442 4,468 108,692 2010 13,543 10,580 0 24,124 0 (8,805) (5,526) (4,803) 4,990 (1,655) 504 3,839 (529) (66) 3,245 3,245 11.254 11.254 11.254 0.400 4,990 6,196 106,186 2011 17,411 12,625 0 30,036 0 (12,190) (6,125) (6,050) 5,672 (1,566) 1,359 5,466 (237) (650) 4,578 5,228 15.880 18.134 18.134 0.400 5,672 6,618 107,829 2012E 22,276 14,321 0 36,597 0 (12,734) (7,828) (7,059) 8,975 (1,683) 663 7,955 (1,273) 0 6,682 6,682 23.177 23.177 23.177 0.500 8,975 10,337 106,489 2013E 23,372 16,052 0 39,423 0 (14,788) (8,827) (7,677) 8,132 (1,606) 591 7,117 (1,139) 0 5,979 5,979 20.737 20.737 20.737 0.500 8,132 9,703 103,561 2014E 27,714 18,532 0 46,246 0 (16,622) (10,355) (8,947) 10,322 (1,348) 620 9,593 (1,631) 0 7,962 7,962 27.617 27.617 27.617 0.650 10,322 12,103 100,101
Cash flow (Rs m)

Year to 31 Mar Profit before tax Depreciation and amortisation Tax paid Change in working capital Other operational CF items Cash flow from operations Capex Net (acquisitions)/disposals Other investing CF items Cash flow from investing Change in debt Net share issues/(repurchases) Dividends paid Other financing CF items Cash flow from financing Forex effect/others Change in cash Free cash flow 2007 3,566 423 (173) (2,970) 0 845 (2,722) 0 10 (2,713) 1,813 3 (205) 251 1,861 0 (6) (1,877) 2008 7,030 717 (483) (4,136) 0 3,127 (5,170) 0 (1) (5,171) 542 9 (201) 2,201 2,551 0 508 (2,043) 2009 3,777 1,027 (1,049) (3,776) (1,170) (1,190) (9,586) 0 0 (9,586) 11,034 2 (117) (999) 9,919 0 (857) (10,776) 2010 3,839 1,206 (388) (2,441) 0 2,216 (3,970) 0 0 (3,970) (2,250) 19 (126) 4,466 2,110 0 356 (1,754) 2011 5,466 947 (2,029) 1,570 (650) 5,304 (3,750) 0 0 (3,750) 2,422 0 (126) (2,934) (638) 0 916 1,554 2012E 7,955 1,362 (1,296) (3,523) 0 4,497 (3,000) 0 0 (3,000) (300) 0 (158) 0 (458) 0 1,040 1,497 2013E 7,117 1,572 (1,162) (1,441) 0 6,086 (3,000) 0 0 (3,000) (1,500) 0 (158) 0 (1,658) 0 1,428 3,086 2014E 9,593 1,782 (1,661) (3,050) 0 6,665 (3,000) 0 0 (3,000) (4,500) 0 (205) 0 (4,705) 0 (1,041) 3,665
Source: Company, Daiwa forecasts Note: annual audited report for 2011 not yet available
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8 July 2011

As at 31 Mar Cash & short-term investment Inventory Accounts receivable Other current assets Total current assets Fixed assets Goodwill & intangibles Other non-current assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Other non-current liabilities Total liabilities Share capital Reserves/R.E./others Shareholders' equity Minority interests Total equity & liabilities Net debt/(cash) BVPS (Rs) 2007 1,245 2,697 5,712 1,588 11,242 8,104 0 0 19,346 0 1,602 794 2,395 9,367 720 12,482 240 6,624 6,864 0 19,346 8,122 23.806 2008 1,753 4,007 8,069 2,869 16,698 12,557 0 0 29,256 0 2,308 899 3,207 9,909 946 14,062 249 14,930 15,179 15 29,256 8,156 52.647 2009 896 6,302 9,553 4,221 20,973 21,117 0 0 42,089 0 3,435 1,129 4,563 20,943 569 26,076 251 15,731 15,982 32 42,089 20,047 55.431 2010 1,251 7,085 10,783 5,273 24,392 23,881 0 0 48,273 0 3,793 1,394 5,186 18,694 710 24,590 270 23,283 23,552 130 48,273 17,442 81.690 2011 2,167 8,070 11,308 4,751 26,297 22,123 0 1,081 49,501 0 6,307 1,439 7,746 21,116 0 28,862 270 20,102 20,372 267 49,501 18,949 70.661 2012E 3,207 8,148 14,740 4,894 30,989 23,761 0 1,104 55,854 0 6,368 1,507 7,875 20,816 0 28,691 270 26,626 26,897 267 55,854 17,609 93.290 2013E 4,635 9,188 15,879 5,041 34,743 25,190 0 1,127 61,060 0 7,181 1,578 8,759 19,316 0 28,075 270 32,447 32,717 267 61,060 14,681 113 2014E 3,595 10,220 18,627 5,192 37,633 26,408 0 1,157 65,198 0 7,987 1,653 9,640 14,816 0 24,456 270 40,204 40,475 267 65,198 11,221 140
Key ratios (%)

Year to 31 Mar Sales (YoY) EBITDA (YoY) Operating profit (YoY) Net profit (YoY) EPS (YoY) Gross-profit margin EBITDA margin Operating-profit margin ROAE ROAA ROCE ROIC Net debt to equity Effective tax rate Accounts receivable (days) Payables (days) Net interest cover (x) Net dividend payout 2007 76.8 215.4 243.4 257.8 257.8 68.1 35.7 32.1 58.5 18.9 27.6 25.2 118.3 13.3 146.9 41.4 9.4 7.0 2008 63.4 87.5 89.5 104.4 104.4 70.8 41.0 37.2 57.4 26.0 34.9 32.4 53.7 10.1 130.0 36.9 10.1 3.2 2009 5.5 (43.6) (52.2) (51.2) (51.2) 63.2 21.9 16.9 19.8 8.7 11.1 9.3 125.4 17.8 157.6 51.4 2.4 6.0 2010 18.2 38.7 45.0 5.1 5.1 63.5 25.7 20.7 16.4 7.2 12.6 11.0 74.1 13.8 153.8 54.7 3.0 3.6 2011 24.5 6.8 13.7 61.1 61.1 59.4 22.0 18.9 23.8 10.7 13.7 13.5 93.0 4.3 134.2 61.4 3.6 2.5 2012E 21.8 56.2 58.2 27.8 27.8 65.2 28.2 24.5 28.3 12.7 20.5 18.3 65.5 16.0 129.9 63.2 5.3 2.2 2013E 7.7 (6.1) (9.4) (10.5) (10.5) 62.5 24.6 20.6 20.1 10.2 16.6 15.1 44.9 16.0 141.7 62.7 5.1 2.4 2014E 17.3 24.7 26.9 33.2 33.2 64.1 26.2 22.3 21.8 12.6 19.6 17.6 27.7 17.0 136.2 59.9 7.7 2.4
Source: Company, Daiwa forecasts Note: annual audited report for 2011 not yet available
Company profile
Glenmark Pharmaceuticals (Glenmanrk) was incorporated in 1977. Today, Glenmark is a research-focused pharmaceutical company. It focuses on the discovery of new molecules (both NCEs and biologics). The company has branded genericformulation interests in more than 95 countries, including India, Europe, Brazil and the rest of Latin America (excluding Argentina), Russia/Commonwealth of Independent States, Africa and Asia.
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8 July 2011
NCE pipeline is large

Glenmark has one of the best NCE pipelines in India, in our view. In addition, the company has in-licensed the molecule Crofelemer, which it has the right to sell in 140 countries. The company estimates annual peak sales of this product in less-regulated markets (excluding US, EU, and Japan) will be about US$80m after its launch.
Glenmark: NCE pipeline
Compound Crofelmer GRC 4039 Primary indication Anti-diarrheal Target CFTR Inhibitor Asthma, COPD, rheumatoid PDE IV arthritis, Inhibitor Osteoarthritic pain, TRPV3 neuropathic pain Antagonist Neuropathic pain, TRPA 1 respiratory disorder Inhibitor Multiple sclerosis, VLA-2 inflammatory, Crohns Antagonist Anti-platelet, adjunct to PCI Anti-Von /acute coronary syndrome Willebrand Factor Pain TrkA Antagonist Lymphomas, Leukemias Anti-CD19 Autoimmune Disorders Remarks Completed phase III (in-licensed from Napo Pharma (Not listed). Completed Phase I trials, Phase IIb is being initiated for asthma. Currently in Phase I, out-licensed to Sanofi; upfront payment of US$20m. Phase I nabling toxicology studies initiated Phase I trials completed in the US, (out-licensed to Sanofi, expect payment of US$50m in FY12) Phase I has been initiated. In Preclinical, (in-licensed from Lay Line Genomics, Italy (Not listed). Will file for Phase I in 4Q FY12.
Core business growth to remain subdued

Earnings outlook
We forecast total sales and earnings CAGRs of 15.5% and 15.1% over the FY11-14E period, respectively, due mainly to subdued sales growth in the domestic, EU and US markets. We have factored a US$50m milestone payment from Sanofi for the out-licensing of GBR 500 into our FY12 revenue forecasts; however we have not factored any NCE income from FY13 onwards.
Glenmark: sales mix and EBITDA margin (%)
Sales mix SPECIALTY -EU -Semi-Regulated -LATAM -India -NCE income GENERIC -Argentina -API -US and EU generics TOTAL SALES EBITDA FY10 56 6 16 6 28 1 44 1 11 31 100 25.7 FY11 FY12E FY13E FY14E CAGR FY11-14E 58 61 59 60 16.8 5 5 5 5 15.9 14 13 13 12 11.5 6 6 8 8 27.0 30 31 33 34 20.5 3 6 n.m. 42 39 41 40 13.6 1 1 2 2 25.9 11 10 10 9 8.4 30 28 30 29 14.9 100 100 100 100 15.5 22.0 28.2 24.6 26.2
GRC 15300 GBC 17536 GBR 500 GBR 600 GBR 900 GBR401
Source: Company
Para IV valued at Rs10/share

We value the Para IV upside potential for settled opportunities (ie, cases where litigation regarding Para IV has been settled) at Rs10/share, with the most important product (in terms of sales) being Zetia, which the company expects to launch at the end of 2016.
Glenmark: Para IV filings
Expected Brand Sales Approval launch date name Innovator (US$m) status 1.3bn Tentative December 2016 Zetia Schering approval Plough received Fluticasone Lotion 0.005% Cutivate Nycomed 49m Final March 2012 Atovaquone + Proguanil Malarone Glaxo64m Final 3Q11 Hcl Smithkline Hydrocortisone Butyrate Locoid Triax and 38m Awaited End of 2013 Cream Lipocream Astellas Eszopiclone tablets Lunesta Sepracor 741m Awaited 30 November 2013, or 30 May 2014 Colesevelam Hcl Welchol Daiichi & 378m Awaited 2 April 2015 Genzyme
Source: Company, Daiwa
Volatile domestic sales growth

During the period between July and September 2010, Glenmarks domestic sales growth was 37-40%, which was faster than the average growth rate for the domestic India market over the same period. Channel inventory levels also increased over the period. Between October 2010 and March 2011, Glenmarks sales-growth rate fell steadily as the channel inventory was used for secondary sales. We believe such a volatile sales-growth rate is uncommon in the India market.
Glenmark: sales vs. India market sales (%),13-month inventory
50 40 30 20 10 0 May-11 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 76 74 72 70 68 66
API name Ezetimibe
13m avg.inv. (% sales,RHS)

Glenmark (LHS)
India market (LHS)
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8 July 2011

The stock has been trading in a PER range of 10-20x for the past two years
The stock was trading mostly within a high PER range (20-40x) between the middle of 2007 and late 2008, due to the high embedded value of its NCE business. During that time, its valuations remained high as the market expected more out-licensing deals. In our view, the collapse of the share price since the start of 3Q FY09 has been due to investors lack of confidence in the company, due to the company missing its non-NCE business guidance for FY09. The stock has been trading within a PER range of 10-20x over the past two years.
Glenmark: one-year-forward PER bands (x)
(Rs) 1,000 900 800 700 600 500 400 300 200 100 0 Jun-05

Not such a defensive stock in a defensive sector
Over the past two years, the stock has fluctuated more than either the SENSEX or the BSE Healthcare Index on a relative basis.
Glenmark: BSE Healthcare Index: QoQ performance relative to the SENSEX
60 40 20 0 (20) (40) (60) 1QFY08 2QFY08 3QFY08 4QFY08 1QFY09 2QFY09 3QFY09 4QFY09 1QFY10 2QFY10 3QFY10 4QFY10 1QFY11 2QFY11 3QFY11 4QFY11 1QFY12 40 20 0 (20) (40) (60)
40x 30x 20x 10x

Glenmark (LHS)
SENSEX (RHS)
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
FY13E target PER of 16x

We have upgraded our rating for Glenmark to Underperform (4) from Sell (5), and have raised our six-month target to Rs298 (from Rs266), based on a target PER of 16x on our FY13 recurrent-EPS forecast (previously FY12 EPS forecast), plus a value of Rs10/share for the Para IV upside potential. We have not assigned a value to the NCE pipeline, due to the inherently risky nature of the business. Furthermore, we have not factored into our forecasts any revenue or profit from these FTF/exclusive sale rights for generic drugs in the US market. We have assigned a target PER of 16x, which is the average of the past-two-year trading range (the range is lower than those of its India peers, due to the less stable business outlook that we see).
The stock has outperformed both the SENSEX and the BSE Healthcare Index six times (and also at the same times) over the past 17 quarters. However, the stocks underperformance on an absolute basis was sharp during the FY09-10 period compared with both the SENSEX and the BSE Healthcare Index, due to volatile sales and earnings growth over the past two years. We believe the stocks unstable outlook, based mainly on our expectations vis--vis the companys strong NCE/NBE pipeline, makes it a less-favoured defensive play.
Glenmark, SENSEX, BSE Healthcare: QoQ absolute performance (%)
Quarter Ended 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12 SENSEX 12.1 18.0 17.3 (22.9) (14.0) (4.5) (25.0) 0.6 49.3 18.2 2.0 0.4 1.0 13.4 2.2 (5.2) (3.1) BSE Healthcare 4.3 (0.6) 16.8 (12.9) 8.2 (11.8) (19.2) (4.6) 25.5 24.0 13.9 6.2 7.9 4.3 12.3 (10.6) 6.2 Glenmark 7.5 28.6 41.1 (18.0) 30.2 (23.2) (39.4) (47.0) 38.1 9.9 15.9 (2.6) 0.7 10.9 20.8 (21.7) 11.8
Key risks
The key risks to our rating and target price would be faster-than-expected sales growth in the domestic and regulated markets, and any successful out-licensing of NCEs/NBEs.
Source: Bloomberg, Daiwa Note: Highlighted cells show the periods when the stock outperformed both the SENSEX and the BSE Healthcare Index
- 60 -
Biocon
BIOS IN
Upgrade to Hold; EBITDA margins likely to improve

With the divestment of Axicorp, we expect an improvement in the overall EBITDA margin Novel drug and biosimilar pipeline still in the early stages We expect slow sales growth in contract-research business to continue
period. We have revised down our sales and earnings forecasts for FY12 by 9.5% and 1.6%, respectively, due to the divestment of Axicorp in FY12.
Kartik A. Mehta

12E (9.5) (1.6) (1.6)
13E 0.0 0.0 0.0
14E 0.0 0.0 0.0
What we recommend
Amit Nagdewani
What's new
Biocons divestment of its lowmargin German subsidiary, Axicorp (Not listed), in April 2011 should lead to an improvement in the EBITDA margin. Upside potential from Fidaxomicin (for clostridium difficile infections), approved in May 2011 in partnership with Optimer Pharmaceuticals Inc. (Not rated), should lead to an improvement in pharmaceutical sales growth over the next two years.
What's the impact
We expect the EBITDA margin to improve sharply over our forecast period and remain in the range of 25-30%, up from 21%, for FY11. Hence, we have upgraded our rating to Hold (3) from Sell (5) and raised our six-month target price to Rs351 (from Rs312), based on a FY13E target PER of 16x (FY12E previously). The key upside risks would be the faster-than-expected ramp-up of Biocons contractresearch business, and higher-thanexpected sales of Fidaxomicin. Any out-licensing agreement for NCE/biosimilars over our forecast period would provide upside risk to our target price and rating. Slowerthan-expected growth in Biocons contract research business would be a key downside risk to our rating.
How we differ
305.35-454.95 1.64 3.60
200 Kiran Mazumdar & group (39.1%)

Following the divestment of lowmargin Axicorp, we expect Biocons total sales growth to decelerate; however, we believe the EBITDA margin will improve. We forecast the companys earnings to increase at a CAGR of 11.2% from FY11-14 and for sales for the biopharmaceuticals business to rise at a CAGR of 12.1% over the same
Our FY12 and FY13 EPS forecasts are 4.4% and 8.9%, respectively, below those of the Bloomberg consensus, mainly on account of our lower sales-growth forecast from FY12 onwards.

8 July 2011

Growth outlook
Due to the divestment of low-margin Axicorp, we expect Biocons total sales growth to decelerate. However, with the exclusion of Axicorp, the EBITDA margin of the company should improve. We forecast Biocons earnings to increase at a CAGR of 11.2% over FY11-14, and sales for the biopharmaceuticals business to rise at a CAGR of 12.1% over the same period.
Biocon: sales mix and EBITDA margins (%)
TOTAL Biopharmaceuticals Axicorp Contract Research EBITDA margins FY10 10 50 38 12 20.0 FY11 100 53 35 11 21.1 FY12E 100 82 18 30.4 FY13E 100 82 18 30. FY14E 100 81 19 30.9 CAGR 11-14E (2.5) 12.1 15.0
Source: Company, Daiwa forecasts Note: Our estimates do not include Axicorp from FY12, hence a dip in CAGR
Valuation
The stock has traded in a PER band of 6-24x over the past two years. During this period, it traded at the higher end of this PER range due to expectations of a positive outcome for the IND application filed for the oral-insulin drug IN 105. We have raised our six-month target price for Biocon to Rs351 (from Rs312) based on a target FY13E PER of 16x (FY12E previously). We assign a PER of 16x because we believe the stock will settle down in a PER range of 14-18x in the future, based on the prospects for its biopharmaceuticals business. We expect the EBITDA margin to improve sharply over our forecast horizon and remain in a range of 25-30%, up from 21% for FY11.

(Rs) 500 450 400 350 300 250 200 150 100 50 0 Jun-05 24x 18x 12x 6x
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Earnings revisions
We have revised down our sales and earnings forecasts for FY12 by 9.5% and 1.6%, respectively, due to the discontinuation of Axicorp. Our FY12 and FY13 EPS forecasts are 4.4% and 8.9%, respectively, below those of the Bloomberg consensus, mainly on account of our lower sales-growth forecasts from FY12 onwards.
Biocon: Daiwa EPS vs. consensus EPS (Rs)

30 25 20 15 10 5 0 FY12E FY13E Bloomberg consensus
24.1 20.1 19.2
25.2 22.0
25.1
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8 July 2011
Financial summary
Key assumptions
Year to 31 Mar Pharma sales growth YoY (%) 2007 26.7 2008 13.2 2009 13.0 2010 28.1 2011 23.1 2012E 12.5 2013E 12.7 2014E 12.6

Year to 31 Mar Biopharmaceuticals Axicorp Others Total revenue Other income COGS SG&A Other op. expenses Operating profit Net-interest inc./(exp.) Assoc/forex/extraord./others Pre-tax profit Tax Min. int./pref. div./others Net profit (reported) Net profit (adjusted) EPS (reported) (Rs) EPS (adjusted) (Rs) EPS (adjusted fully-diluted) (Rs) DPS (Rs) EBIT EBITDA EV 2007 7,550 950 1,357 9,857 0 (4,508) (736) (2,552) 2,062 (99) 136 2,099 (158) 62 2,003 2,003 10.013 10.013 10.013 1.500 2,062 2,727 72,852 2008 8,327 460 1,753 10,540 0 0 0 (8,529) 2,011 (105) 364 2,270 (130) 2,451 4,591 2,201 22.954 11.004 11.004 2.500 2,011 2,951 69,504 2009 9,147 4,694 2,246 16,087 0 0 0 (13,854) 2,233 (177) 645 2,701 (117) (1,654) 930 2,514 4.650 12.570 12.570 3.000 2,233 3,354 73,563 2010 11,762 9,088 2,828 23,678 0 0 0 (20,347) 3,331 (168) 370 3,533 (487) (114) 2,932 2,949 14.660 14.745 14.745 3.500 3,331 4,733 71,639 2011 14,792 9,739 3,175 27,707 0 0 0 (23,426) 4,280 (257) 429 4,452 (721) (55) 3,676 3,656 18.379 18.279 18.279 4.500 4,280 5,847 66,571 2012E 16,593 0 3,624 20,216 0 0 0 (15,785) 4,431 (146) 611 4,896 (1,077) 18 3,837 3,837 19.186 19.186 19.186 5.000 4,431 6,136 68,553 2013E 18,584 0 4,204 22,787 0 0 0 (17,595) 5,192 (96) 507 5,603 (1,233) 20 4,390 4,390 21.952 21.952 21.952 5.750 5,192 7,037 67,122 2014E 20,814 0 4,834 25,648 0 0 0 (19,724) 5,924 (81) 570 6,413 (1,411) 20 5,022 5,022 25.109 25.109 25.109 6.500 5,924 7,921 64,898
Cash flow (Rs m)

2007 2,099 665 (7) (1,491) 0 1,266 (2,053) 0 0 (2,053) 817 0 (351) 175 641 0 (145) (786)
2008 2,270 940 (113) 215 2,390 5,702 (1,978) 0 0 (1,978) 683 0 (585) 144 242 0 3,966 3,724
2009 2,701 1,121 (116) (1,187) (1,584) 935 (4,261) 0 0 (4,261) 2,688 500 (702) (210) 2,276 0 (1,050) (3,326)
2010 3,533 1,402 (445) (291) (17) 4,183 (1,701) 0 0 (1,701) (103) 0 (774) 306 (571) 0 1,911 2,482
2011 4,452 1,567 (733) 4,102 20 9,409 (3,339) 0 0 (3,339) (1,794) 0 (991) 28 (2,756) 0 3,313 6,069
2012E 4,896 1,704 (1,077) (2,038) 0 3,486 (4,298) 0 0 (4,298) (200) 0 (1,170) 4 (1,366) 0 (2,178) (812)
2013E 5,603 1,845 (1,233) (1,025) 0 5,190 (2,413) 0 0 (2,413) (146) 0 (1,346) 4 (1,488) 0 1,290 2,777
2014E 6,413 1,997 (1,411) (1,039) 0 5,959 (2,215) 0 0 (2,215) (102) 0 (1,521) 4 (1,619) 0 2,125 3,745
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8 July 2011

As at 31 Mar Cash & short-term investment Inventory Accounts receivable Other current assets Total current assets Fixed assets Goodwill & intangibles Other non-current assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Other non-current liabilities Total liabilities Share capital Reserves/R.E./others Shareholders' equity Minority interests Total equity & liabilities Net debt/(cash) BVPS (Rs) 2007 878 1,613 3,065 530 6,086 9,145 512 0 15,744 0 1,259 1,491 2,749 1,868 448 5,065 500 10,186 10,686 (8) 15,744 990 53.430 2008 4,844 1,790 2,591 869 10,094 10,419 276 0 20,789 0 3,006 0 3,006 2,551 465 6,022 500 14,340 14,840 (73) 20,789 (2,293) 74.200 2009 3,794 3,192 3,667 947 11,600 12,205 1,631 0 25,436 0 3,570 805 4,375 5,239 466 10,080 1,000 14,107 15,107 248 25,436 1,445 75.537 2010 5,705 3,716 4,461 1,344 15,226 12,408 1,726 0 29,361 0 4,909 891 5,800 5,136 508 11,444 1,000 16,579 17,579 338 29,361 (569) 87.893 2011 9,018 4,137 5,124 1,355 19,634 13,564 2,342 0 35,541 0 9,855 1,141 10,997 3,342 497 14,836 1,000 19,328 20,328 377 35,541 (5,676) 102 2012E 6,841 3,032 4,154 1,662 15,689 16,158 2,342 0 34,189 0 7,191 0 7,191 3,143 497 10,831 1,000 21,977 22,977 381 34,189 (3,698) 115 2013E 8,131 3,608 5,307 1,873 18,918 16,726 2,342 0 37,986 0 8,106 0 8,106 2,997 497 11,600 1,000 25,002 26,002 385 37,986 (5,133) 130 2014E 10,256 4,061 6,676 2,108 23,100 16,944 2,342 0 42,386 0 9,123 0 9,123 2,895 497 12,515 1,000 28,482 29,482 389 42,386 (7,360) 147
Key ratios (%)

2007 25.1 19.6 3.9 15.1 15.1 54.3 27.7 20.9 20.5 14.0 17.7 17.9 9.3 7.5 98.2 42.9 20.9 15.0
2008 6.9 8.2 (2.5) 9.9 9.9 n.m. 28.0 19.1 17.2 12.0 13.1 15.1 net cash 5.7 97.9 73.8 19.2 10.9
2009 52.6 13.7 11.1 14.2 14.2 n.m. 20.8 13.9 16.8 10.9 11.5 14.1 9.6 4.3 71.0 74.6 12.6 64.5
2010 47.2 41.1 49.2 17.3 17.3 n.m. 20.0 14.1 18.0 10.8 14.9 16.4 net cash 13.8 62.6 65.4 19.8 23.9
2011 17.0 23.5 28.5 24.0 24.0 n.m. 21.1 15.4 19.3 11.3 17.8 21.5 net cash 16.2 63.1 97.3 16.6 24.5
2012E (27.0) 4.9 3.5 5.0 5.0 n.m. 30.4 21.9 17.7 11.0 17.2 19.4 net cash 22.0 83.8 153.9 30.3 26.1
2013E 12.7 14.7 17.2 14.4 14.4 n.m. 30.9 22.8 17.9 12.2 18.3 19.3 net cash 22.0 75.8 122.5 54.0 26.2
2014E 12.6 12.6 14.1 14.4 14.4 n.m. 30.9 23.1 18.1 12.5 18.8 20.6 net cash 22.0 85.3 122.6 72.7 25.9
Company profile
Headquartered in Bengaluru, Biocon was incorporated in 1978. The company is a global provider of innovative biopharmaceutical products and research services, starting from pre-clinical discovery to clinical development through to commercialisation. Biocon's operations span 75 countries and it has more than 4,000 employees. In 2007, Biocon received US$115m following its divestment of its enzymes business to Novozymes South Asia Pvt Ltd.
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8 July 2011
margin to improve over our forecast period and remain in the range of 25-30%.
Biocon: sales growth YoY vs. EBITDA margin
Higher EBITDA margin likely to drive earnings growth

Earnings outlook
After the sale of Axicorp in April 2011, we forecast the biopharmaceuticals business to record a sales growth of 12.1% for FY11-14, driving Bicons sales. Though we expect a decline in sales from FY11-14, we forecast earnings to increase at a CAGR of 11.2%, driven by all of the companys major segments, such as insulin, statins and domestic formulations. Subsidiary Syngenes revenue rose strongly by 21% YoY for FY11 to around Rs3.2bn. Revenue for the BMS agreement constituted about 30-35% of Syngenes total sales.
Biocon: sales mix and EBITDA margins (%)
TOTAL Biopharmaceuticals Axicorp Contract Research EBITDA margins FY10 100 50 38 12 20.0 FY11 100 53 35 11 21.1 FY12E 100 82 18 30.4 FY13E 100 82 18 30.9 FY14E CAGR 11-14E 100 (2.5) 81 12.1 19 15.0 30.9
100 80 60 40 20 0 (20) (40) 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12E 2Q FY12E 3Q FY12E 4Q FY12E 1Q FY13E 2Q FY13E 3Q FY13E 4Q FY13E
35 30 25 20 15 10 5 0
Sales growth YoY (LHS)
EBITDA margin (RHS)
Source: Company, Daiwa forecasts Note: Dip in sales due fall in revenue from Axicorp in FY12
Deal with Pfizer to add value over time

Biocon signed a deal with Pfizer to commercialise Biocons biosimilar version of insulin and insulin analog products in October 2010 Biocon will manage the clinical development, the manufacture and supply of these biosimilar insulin products, as well as regulatory activities to secure their approval in various markets. Biocons recombinant human insulin formulations are approved in 27 countries in developing markets of which 23 are commercialised. Glargine has been launched in its first market in India. Pfizer will make upfront payments totaling US$200m, is also eligible to receive development and regulatory milestone payments of up to US$150m, and will receive additional milestone payments linked to Pfizers sales of its four insulin biosimilar products across global markets.
Source: Company, Daiwa forecasts Note: Our estimates do not include Axicorp from FY12, hence a dip in the CAGR
Following Axicorp divestment, EBITDA margin to improve

Biocon divested a 78% stake in its German subsidiary, Axicorp, in April 2011, keeping the commercial rights to biosimilar insulin and Glargine. The divestment appears to be in line with the global alliance for commercialising biosimilar insulin and insulin analogs with Pfizer (Not rated) in October 2010. As a result of this divestment, we expect the companys EBITDA
Biocon: R&D pipeline
Name Novel Oral insulin IN-105 Anti-CD6 Mab (Itolizumab) Fusion MAbs Anti-CD20 Peptide hybrid Anti-EGFR Biosimilars Biosimilar MAbs Insulin analogues, Lispro, Aspart RH-insulin, Glargine GCSF, EPO
Source: Company
Delays in NCE/biosimilar research are common

Biocon has a large R&D pipeline both in novel drugs, as well as in biosimilars, which entail a fair amount of development costs and long gestation periods.
Therapy Diabetes Oncololy/inflammation/auto immune Oncology Oncology Diabetes Oncology Oncology/immunology Diabetes Diabetes Oncology
Phase US IND filed in December 2009, Phase I studies with patients with Type I diabetes Later half of FY12, apply for Indian registration and have pre-IND advice from USFDA apply for US IND in FY13 Discovery (IATRICa) Entering Phase I (With Vaccinex) Later this fiscal Bicon and Amylin plan to jointly file IND Launched Entering Phase I (Alliance with Mylan) Entering Phase I Launched Launched
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8 July 2011

Biocon has traded mostly within a PER band of 6-24x over the past two years. We believe it has traded at the higher end of its PER range during the past one year, due to the markets expectation of a positive outcome for the IND application filed for the oral-insulin drug IN 105. We believe the stock will settle down in the range of 14-18x in the future, based on the prospects for its biopharmaceuticals business. We believe improving sales growth for the biopharma and contract-research businesses should see the stock trading at an average PER of 16x over the next one year.
(Rs) 500 450 400 350 300 250 200 150 100 50 0 Jun-05 24x 18x 12x 6x

Event-driven stock
As we can see from the following chart, Biocon has outperformed the BSE SENSEX and BSE Healthcare Index fewer times than its peers on a relative basis. We believe the outperformance in 2009 was due to expectations in the market of a positive outcome for the IND application filed for the oral-insulin drug IN 105.
Biocon, BSE Healthcare: QoQ performance relative to Sensex
30 20 10 0 (10) (20) (30) 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12 50 40 30 20 10 0 (10) (20) (30) (40) (50)

Biocon (LHS)
SENSEX (RHS)
Jun-06
Jun-07
Jun-08
Jun-09
Jun-10
Jun-11
Biocon has outperformed both the BSE Sensex and BSE Healthcare Index five times (and also at the same times) in the past 17 quarters on an absolute basis.
Biocon, SENSEX, BSE Healthcare: QoQ absolute performance
Quarter ended 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12 Sensex 12.1 18.0 17.3 (22.9) (14.0) (4.5) (25.0) 0.6 49.3 18.2 2.0 0.4 1.0 13.4 2.2 (5.2) (3.1) BSE Healthcare 4.3 (0.6) 16.8 (12.9) 8.2 (11.8) (19.2) (4.6) 25.5 24.0 13.9 6.2 7.9 4.3 12.3 (10.6) 6.2 Biocon (9.4) 7.4 22.0 (25.4) (8.4) (9.5) (34.7) 22.8 53.1 18.3 6.5 3.0 14.4 10.4 17.1 (18.0) 2.8
Target PER of 16x for FY13E

We have upgraded our rating for Biocon to Hold (3) from Sell (5), with a revised six-month target price of Rs351 (from Rs312) based on a FY13E target PER of 16x (FY12E previously). We expect the EBITDA margin to improve sharply over our forecast period and remain in the range of 25- 30%, up from 21% in FY11.
Upside risks
We would see the key upside risks as a faster-thanexpected ramp-up of Biocons contract-research business, and higher-than-expected sales of Fidaxomicin which was approved 1H FY12. Any outlicensing agreement for NCE/biosimilars over our forecast period would provide upside risk to our target price and rating.
Source: Bloomberg, Daiwa Research Note: Highlighted cells show the periods when the stock outperformed both the SENSEX and BSE Healthcare Index
Downside risks
Slower-than-expected earnings growth for Biocons contract-research business would be a key downside risk to our rating, in our view.
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Torrent Pharmaceuticals
TRP IN
Modest sales growth and EBITDAmargin outlook could cap PER

Domestic-sales growth broadly in line with the India market Increasing presence in export markets We forecast EBITDA margin to remain low, at about 15-16%, over the next two years
What's the impact
Kartik A. Mehta
Amit Nagdewani
What's new
Torrents domestic-sales growth has been broadly in line with that of the industry over the past six months. However, this growth rate has been declining, and we believe the slowdown is due to a higher base (the previous year) and intense price competition in the fast-expanding chronic-therapy segment, especially the cardiovascular (CV) segment for which Torrent is the No.2 in India (in terms of sales). CV sales accounted for 33% of Torrents total FY11 sales.
Torrent: domestic sales vs. India market (%)
40 30 20 10 0 Oct-10 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10 May-11
We forecast total sales and earnings CAGRs of 15.4% and 17.8 %, respectively, over the FY11-14E period. We forecast a domesticformulation sales CAGR of 17.5% over the same period, and for these sales to account for about 40% of total sales for FY14. We have revised up our FY12 and FY13 revenue forecasts by 2.5% and 2.8%, respectively, to incorporate the high export-growth rate, but have revised down our FY12 and FY13 earnings forecasts by 13.8% and 3.7%, respectively, as the company is facing intense competition in the chronic-care segment (CV business).
What we recommend
our lower EBITDA-margin assumption.

12E 2.5 (13.8) (13.8)
13E 2.8 (3.7) (3.7)
14E n.a. n.a. n.a.
12-month range Market cap (US$bn) Average daily turnover (US$ 000) Shares outstanding (m) Major shareholder
508.10-654.45 1.19 503.14 85 Samir Mehta & group (71.5%)
We maintain our Buy (1) rating, and have raised our six-month target price to Rs702 (from Rs680), based on a target PER of 15x (previously 16x on our FY12 EPS forecast) on our FY13 EPS forecast. The key risks to our rating and target price would be higher-than-expected pricing pressure in the generic markets of Brazil, Russia, and Germany. Lower-thanexpected sales growth in the domestic market could have a negative impact on the EBITDA margin.
How we differ

Torrent
Industry
Our FY12-13 EPS forecasts are 8.3% and 2.3% lower than those of the Bloomberg consensus, due mainly to

8 July 2011

Growth outlook
We forecast a total-sales CAGR of 15.4% over the FY1114 period, driven by the companys increasing presence in the export markets and stable sales growth in the domestic market. We forecast a domestic-sales CAGR of 17.5% for FY11-14. The companys domestic-sales growth has moderated to the 15% level over the past six months. We believe this slowdown is due to a higher base the previous year and intense price competition in the fast-expanding chronic segment, especially the CV segments, for which Torrent is ranked No.2 in India (in terms of sales). CV sales accounted for 33% of the companys total FY11 sales.
Torrent: YoY monthly domestic sales (%)

35 30 25 20 15 10 5 0 May-11 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10
Torrent
Industry sales growth YoY
Valuation
The stock traded mainly in a PER range of 10-16x over the past two years. Until March 2008, the stock traded mainly in a PER range of about 14-18x, after which the range declined, due mainly to earnings-growth volatility driven by an investment phase in emerging markets and the poor performance of subsidiary Heumann Pharma Generics. We value Torrent at Rs702 (from Rs680), based on a target PER of 15x (previously 16x on our FY12 EPS forecast) on our FY13 EPS forecast. The stocks current PER range is the lowest among its peer group, due mainly to its lower EBITDA margin. We have assigned a target PER of 15x as we believe a continued improvement in its export business could lead to a rerating, and the stock trading at a PER of 14-18x.
Torrent: one-year-forward PER bands (x)

Earnings revisions
We have revised up our FY12 and FY13 revenue forecasts by 2.5% and 2.8%, respectively, but revised down our FY12 and FY13 earnings forecasts by 13.8% and 3.7%, respectively, as the company is facing intense competition in the chronic-care segment. Our FY12 and FY13 EPS forecasts are 8.3% and 2.3% lower than those of the Bloomberg consensus, due mainly to our lower EBITDA-margin assumptions.
Torrent: Daiwa vs. Bloomberg-consensus EPS forecasts (Rs)

60 50 40 30 20 10 0 FY12E FY13E Bloomberg consensus
54.9 47.9 39.9 36.6 46.8
52.3
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8 July 2011
Financial summary
Key assumptions
Year to 31 Mar Domestic sales growth YoY (%) 2007 35.3 2008 (55.4) 2009 6.4 2010 13.7 2011 18.4 2012E 17.3 2013E 17.5 2014E 17.5

Year to 31 Mar Domestic formulations Contract Manufacturing Others Total revenue Other income COGS SG&A Other op. expenses Operating profit Net-interest inc./(exp.) Assoc/forex/extraord./others Pre-tax profit Tax Min. int./pref. div./others Net profit (reported) Net profit (adjusted) EPS (reported) (Rs) EPS (adjusted) (Rs) EPS (adjusted fully-diluted) (Rs) DPS (Rs) EBIT EBITDA EV 2007 12,617 0 0 12,617 0 (4,485) (4,480) (2,817) 834 (236) 469 1,067 0 (132) 935 935 11.050 11.050 11.050 3.000 834 1,163 56,100 2008 5,633 1,490 5,967 13,090 0 (4,741) (4,479) (2,713) 1,156 (229) 537 1,465 (119) 0 1,346 1,346 15.910 15.910 15.910 3.500 1,156 1,545 55,728 2009 5,993 1,639 8,233 15,865 0 (5,352) (5,836) (2,988) 1,689 (393) 679 1,975 (44) (88) 1,844 1,931 21.788 22.824 22.824 4.000 1,689 2,112 55,840 2010 6,812 2,050 9,467 18,329 0 (5,710) (6,081) (3,822) 2,716 (291) 927 3,352 (1,160) 121 2,312 2,191 27.322 25.897 25.897 6.000 2,716 3,377 54,655 2011 8,065 2,139 11,016 21,220 0 (6,965) (7,312) (4,521) 2,421 (390) 1,395 3,427 (725) 0 2,702 2,702 31.929 31.929 31.929 8.000 2,421 3,047 54,247 2012E 9,462 2,459 12,120 24,041 0 (8,053) (7,745) (5,533) 2,710 (271) 1,342 3,781 (681) 1 3,101 3,101 36.648 36.648 36.648 9.000 2,710 3,675 53,385 2013E 11,121 2,828 13,480 27,429 0 (9,012) (8,776) (6,345) 3,297 (129) 1,658 4,825 (869) 1 3,958 3,958 46.771 46.771 46.771 10.000 3,297 4,430 51,790 2014E 13,071 3,252 16,274 32,598 0 (10,920) (10,431) (7,501) 3,746 (37) 1,683 5,391 (970) 1 4,421 4,421 52.252 52.252 52.252 12.000 3,746 5,053 49,982
Cash flow (Rs m)

2007 1,067 329 (48) (1,065) 0 283 (949) 0 0 (949) 335 0 (289) (22) 23 0 (642) (666)
2008 1,465 388 (58) 698 0 2,494 (1,229) 0 (544) (1,774) 609 0 (346) (7) 255 0 976 1,264
2009 1,975 423 (83) (511) (88) 1,717 (549) 0 (849) (1,398) 1,228 0 (396) (34) 798 0 1,116 1,167
2010 3,352 661 (1,245) 349 121 3,237 (1,524) 0 (17) (1,541) 398 0 0 (511) (113) 0 1,583 1,713
2011 3,427 626 (744) 577 0 3,885 (2,657) 0 (48) (2,706) 497 0 0 (771) (274) 0 905 1,227
2012E 3,781 965 (681) (443) 0 3,622 (2,000) 0 0 (2,000) (3,087) 0 0 (761) (3,848) 0 (2,226) 1,622
2013E 4,825 1,134 (869) (649) 0 4,441 (2,000) 0 0 (2,000) (1,000) 0 0 (845) (1,845) 0 596 2,441
2014E 5,391 1,307 (970) (905) 0 4,822 (2,000) 0 0 (2,000) (1,000) 0 0 (1,014) (2,014) 0 808 2,822
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As at 31 Mar Cash & short-term investment Inventory Accounts receivable Other current assets Total current assets Fixed assets Goodwill & intangibles Other non-current assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Other non-current liabilities Total liabilities Share capital Reserves/R.E./others Shareholders' equity Minority interests Total equity & liabilities Net debt/(cash) BVPS (Rs) 2007 208 2,581 2,280 699 5,769 4,679 0 2 10,450 0 2,494 303 2,796 2,989 562 6,347 423 3,679 4,102 0 10,450 2,782 48.478 2008 1,183 2,310 2,111 988 6,592 5,520 0 546 12,659 0 2,516 826 3,342 3,598 623 7,563 423 4,673 5,096 0 12,659 2,414 60.219 2009 2,300 2,645 2,666 1,923 9,534 5,647 0 1,395 16,575 0 3,134 1,522 4,656 4,826 584 10,066 423 6,086 6,509 0 16,575 2,526 76.921 2010 3,883 3,236 2,982 1,506 11,607 6,510 0 1,412 19,529 0 3,782 1,714 5,496 5,224 499 11,219 423 7,887 8,310 0 19,529 1,341 98.203 2011 4,788 5,048 3,404 2,106 15,346 8,541 0 1,460 25,347 0 5,743 3,163 8,907 5,721 480 15,107 423 9,817 10,240 0 25,347 933 121 2012E 2,562 4,035 3,857 2,147 12,600 9,576 0 1,460 23,637 0 4,780 3,163 7,943 2,634 480 11,057 423 12,157 12,580 0 23,637 72 149 2013E 3,158 4,562 4,550 2,190 14,460 10,443 0 1,460 26,363 0 5,395 3,163 8,558 1,634 480 10,671 423 15,268 15,691 0 26,363 (1,524) 185 2014E 3,966 5,582 5,586 2,234 17,368 11,136 0 1,460 29,964 0 6,590 3,163 9,753 634 480 10,867 423 18,674 19,097 0 29,964 (3,332) 226
Key ratios (%)

2007 35.3 57.7 72.9 40.1 40.1 64.5 9.2 6.6 24.7 9.4 12.6 12.6 67.8 0.0 57.9 69.8 3.5 27.1
2008 3.8 32.8 38.6 44.0 44.0 63.8 11.8 8.8 29.3 11.7 14.7 14.1 47.4 8.1 61.2 69.8 5.1 22.0
2009 21.2 36.7 46.0 43.5 43.5 66.3 13.3 10.6 33.3 13.2 16.9 20.9 38.8 2.2 55.0 65.0 4.3 18.4
2010 15.5 59.9 60.8 13.5 13.5 68.8 18.4 14.8 29.6 12.1 21.8 20.9 16.1 34.6 56.2 68.9 9.3 22.0
2011 15.8 (9.8) (10.8) 23.3 23.3 67.2 14.4 11.4 29.1 12.0 16.4 20.2 9.1 21.2 54.9 81.9 6.2 25.1
2012E 13.3 20.6 11.9 14.8 14.8 66.5 15.3 11.3 27.2 12.7 17.4 20.3 0.6 18.0 55.1 79.9 10.0 24.6
2013E 14.1 20.5 21.6 27.6 27.6 67.1 16.2 12.0 28.0 15.8 20.3 21.7 net cash 18.0 55.9 67.7 25.6 21.4
2014E 18.8 14.1 13.6 11.7 11.7 66.5 15.5 11.5 25.4 15.7 20.2 22.0 net cash 18.0 56.8 67.1 100.5 23.0
Company profile
Torrent Pharmaceuticals (Torrent) was incorporated in 1959 as Trinity Laboratories and renamed Torrent Pharmaceuticals Ltd in 1971. Torrent is engaged in the manufacturing and sale of branded and unbranded generic pharmaceutical products in India and internationally. In addition, it offers contract-manufacturing services comprising sourcing, manufacturing, and supplying insulin formulations under a third-party brand name. Torrent exports to more than 50 countries around the world.
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Torrent is ranked No.2 in Indias CV segment and No.3 in Indias Neuro-Psychiatry (CNS) therapy segment. The companys revenue growth is driven mainly by its Anti-infective and Gastro-product portfolios.
Modest sales growth and EBITDA-margin outlook could cap PER

Earnings outlook
We forecast total sales and earnings CAGRs of 15.4% and 17.8 %, respectively, over the FY11-14 period, as the company is increasing its presence in less-regulated markets, such as Brazil, and enjoys stable domesticsales growth. Domestic formulations accounted for 38% of its total FY11 sales, and we forecast this to increase by a CAGR of 17.5% over FY11-14. Despite what we see as weak prospects for the generics market in Germany, we believe Torrents subsidiary, Heumann, should remain profitable due to the large-scale cost reductions it has been making for the past three years. We forecast Torrents EBITDA margin to remain low, at about 15-16%, for FY11-14 due mainly to intense price competition in the fast-expanding chronictherapy segment, especially the CV segment.
Torrent: market-share changes in its key therapeutic areas

(%) 8 7.8 7.8 7.7
7.4
7.6
7 6.2 6
6.7
6.4
6.4
6.2
5 FY07 FY08 Cadiovascular

Source: Company
FY09
FY10 Neuro-Psychiatry
FY11
Strong domestic sales growth

From June-December 2010, Torrents sales increased by 20-30% YoY, which is faster than the average growth rate of the domestic India market. Channel inventory levels also increased during this period. From January 2011, Torrents sales-growth rates have been falling, as its channel inventory has been used for secondary sales. We believe that such volatile salesgrowth rates are uncommon in the India market, sales for which are increasing at an average rate of 15% per annum.
Torrent: sales vs. India market sales (%), 13-month inventory
35 30 25 20 77 77 76 76 75 75 74 74 73 73 72 May-11 Aug-10 Sep-10 Nov-10 Dec-10 Mar-11 Oct-10 Feb-11 Jun-10 Jan-11 Apr-11 Jul-10
Focus on the chronic-therapy segment
Chronic-therapy sales accounted for more than 59% of total FY11 domestic sales. The top-10 brands accounted for 41% of Indias total FY11 drug-formulation revenue.
Torrent: breakdown of therapeutic areas for branded formulations (%)
Therapeutic Cardiovascular Gastro intestinal CNS Anti-infective Pain management Oral anti-diabetes Others Total
Source: Company
FY07 33 19 22 13 5 4 4 100
FY08 35 19 21 10 4 6 5 100
FY09 35 19 21 10 4 7 4 100
FY10 35 19 20 11 4 7 4 100
FY11 33 19 21 13 5 4 5 100
15 10 5 0

Torrent (LHS)
India market (LHS)
Torrent: sales mix and EBITDA margin (%)

Net sales Domestic formulations Contract manufacturing International operations Heumann Brazil Europe USA Others EBITDA margin (%)
FY10 100 37 11 52 14 18 7 5 8 18.4
FY11 100 38 10 52 13 18 10 5 4 14.4
FY12E 100 39 10 50 12 18 9 7 4 15.3
FY13E 100 41 10 49 10 19 9 7 4 16.2
FY14E CAGR- FY11-14E 100 15.4 40 17.5 10 15.0 50 13.9 9 3.0 18 15.0 12 24.6 7 23.7 4 12.6 15.5
Remarks We expect chronic-therapy sales to drive sales growth over the next three years. Supplying insulin under customers' names. Driven by Brazil market. Weaker sales growth due to its tender business. New launches and wide coverage likely to drive sales growth over FY11-14. Know-how income. Late entrant, Para III filings. Includes Russia, Sri Lanka, Vietnam, Africa and other countries. Sales growth in Brazil, cost cuts at Heumann likely to drive margins over FY11-13.
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The stock has traded in a PER range of 1016x over the past two years

Mixed performance
Over the past four years, the stock has outperformed the SENSEX by a wider margin during a bear cycle than it has underperformed during a bull cycle, compared with its performance against the BSE Healthcare Index. Hence, the stocks share-price performance has been mixed compared with the performance of the BSE Healthcare Index and the SENSEX during times of earnings-growth volatility.
Torrent, BSE Healthcare Index: QoQ performance relative to the SENSEX
80 60 40 20 0 50 30 10 (10) (30) (50) 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12
The stock traded mainly in a PER range of about 14-18x before March 2008, after which the PER range declined, due mainly to earnings-growth volatility. This volatility was due to the company being in the investment phase in the emerging markets and the poor performance of Heumann. Torrent has traded mainly within a PER range of about 10-16x over the past two years, due mainly to stable revenue and earnings growth over the same period. We believe a continued improvement in the prospects of its export business could lead to a rerating of the stock, and it trading at a PER of 14-18x.
Torrent: one-year-forward PER bands (x)
(20) (40) (60)

Torrent (LHS)
SENSEX (RHS)
FY13E target PER of 15x

We maintain our Buy (1) rating, and have raised our six-month target price to Rs702 (from Rs680), based on a target PER of 15x (previously 16x on our FY12 EPS forecast) on our FY13 EPS forecast. The stocks current PER range is the lowest among its peer group, due mainly to its lower EBITDA margin.
The stock has outperformed both the SENSEX and the BSE Healthcare Index eight times (and also at the same times) over the past 17 quarters.
Torrent, SENSEX, BSE Healthcare Index: QoQ absolute performance (%)
Quarter ended 1Q FY08 2Q FY08 3Q FY08 4Q FY08 1Q FY09 2Q FY09 3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10 4Q FY10 1Q FY11 2Q FY11 3Q FY11 4Q FY11 1Q FY12 SENSEX 12.1 18.0 17.3 (22.9) (14.0) (4.5) (25.0) 0.6 49.3 18.2 2.0 0.4 1.0 13.4 2.2 (5.2) (3.1) BSE Healthcare 4.3 (0.6) 16.8 (12.9) 8.2 (11.8) (19.2) (4.6) 25.5 24.0 13.9 6.2 7.9 4.3 12.3 (10.6) 6.2 Torrent 32.6 (27.0) 5.8 (29.8) 14.3 2.7 (17.0) (2.3) 34.1 75.3 25.1 38.4 0.7 3.2 2.1 0.4 10.1
Key risks
The key risks to our target price and rating would be higher-than-expected pricing pressure in the generic markets of Brazil, Russia, and Germany. We believe lower-than-expected domestic-sales growth could also have a negative impact on the EBITDA margin.
Source: Bloomberg, Daiwa Note: Highlighted cells show the periods when the stock outperformed both the SENSEX and the BSE Healthcare Index
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8 July 2011
Daiwas Asia Pacific Research Directory

Hong Kong Regional Research Head Regional Research Co-head Head of Product Management Product Management Head of China Research; Chief Economist (Greater China) Macro Economy (Hong Kong, China) Regional Chief Strategist; Strategy (Regional) Strategy (Regional) Head of Hong Kong Research; Regional Property Coordinator; Co-head of Hong Kong and China Property; Property Developers (Hong Kong) Automobiles and Components (China) Head of Greater China FIG; Banking (Hong Kong, China) Banking (Hong Kong, China) Insurance Capital Goods Electronics Equipments and Machinery; IT/Electronics Tech Hardware (Hong Kong, China) Consumer, Pharmaceuticals and Healthcare (China) Consumer/Retail (Hong Kong, China) Consumer/Retail (China) Head of HK and China Gaming and Leisure; Hotels, Restaurants and Leisure Casinos and Gaming (Hong Kong); Capital Goods Conglomerate (Hong Kong) Regional Head of IT/Electronics; IT/Electronics Semiconductor and Solar (Regional, Taiwan, Singapore, Hong Kong and China) Nagahisa MIYABE Christopher LOBELLO John HETHERINGTON Tathagata Guha ROY Mingchun SUN Kevin LAI Colin BRADBURY Mun Hon THAM Jonas KAN Jeff CHUNG Grace WU Queenie POON Jennifer LAW Joseph HO Hongxia ZHU Peter CHU Nicolas WANG Gavin HO Pranab Kumar SARMAH (852) 2848 4971 (852) 2848 4916 (852) 2773 8787 (852) 2773 8731 (852) 2773 8751 (852) 2848 4926 (852) 2848 4983 (852) 2848 4426 (852) 2848 4439 (852) 2773 8783 (852) 2532 4383 (852) 2532 4381 (852) 2773 8745 (852) 2848 4443 (852) 2848 4460 (852) 2848 4430 (852) 2848 4963 (852) 2532 4384 (852) 2848 4441 (852) 2773 8702 (852) 2773 8782 (852) 2848 4431 (852) 2848 4463 (852) 2532 4341 (852) 2773 8715 (852) 2773 8735 (852) 2773 8729 (852) 2773 8730 (852) 2848 4465 (852) 2848 4467 (852) 2532 4349 (852) 2848 4068 (852) 2773 8741 (852) 2773 8714 (852) 2848 4489 (852) 2532 4159 nagahisa.miyabe@hk.daiwacm.com christopher.lobello@hk.daiwacm.com john.hetherington@hk.daiwacm.com tathagata.guharoy@hk.daiwacm.com mingchun.sun@hk.daiwacm.com kevin.lai@hk.daiwacm.com colin.bradbury@hk.daiwacm.com munhon.tham@hk.daiwacm.com jonas.kan@hk.daiwacm.com jeff.chung@hk.daiwacm.com grace.wu@hk.daiwacm.com queenie.poon@hk.daiwacm.com jennifer.law@hk.daiwacm.com joseph.ho@hk.daiwacm.com hongxia.zhu@hk.daiwacm.com peter.chu@hk.daiwacm.com nicolas.wang@hk.daiwacm.com gavin.ho@hk.daiwacm.com pranab.sarmah@hk.daiwacm.com eric.chen@hk.daiwacm.com calvin.huang@hk.daiwacm.com ashley.chung@hk.daiwacm.com alexander.latzer@hk.daiwacm.com felix.lam@hk.daiwacm.com danny.bao@hk.daiwacm.com yannis.kuo@hk.daiwacm.com mark.chang@hk.daiwacm.com john.choi@hk.daiwacm.com marvin.lo@hk.daiwacm.com kelvin.lau@hk.daiwacm.com edwin.lee@hk.daiwacm.com dave.dai@hk.daiwacm.com justin.lau@hk.daiwacm.com philip.lo@hk.daiwacm.com jibo.ma@hk.daiwacm.com kenji.serizawa@hk.daiwacm.com
Co-head of Regional IT/Electronics; IT/Electronics Semiconductor/IC Design (Regional) Eric CHEN IT/Technology Hardware PC Hardware (Taiwan) IT/Electronics - Semiconductor/IC Design (Taiwan) Regional Head of Materials; Materials/Energy (Regional) Materials (China) Head of Hong Kong and China Property; Property Developers (Hong Kong, China) Property (Hong Kong, China) Regional Head of Small/Medium Cap; Small/Medium Cap (Regional) Small/Medium Cap (Regional) Regional Head of Telecommunications; Telecommunications (Regional, Greater China); Internet (China) Transportation Aviation, Land and Transportation Infrastructure (Regional) Transportation Transportation Infrastructure; Capital Goods Construction and Engineering (China) Regional Head of Clean Energy and Utilities; Utilities; Power Equipment; Renewables (Hong Kong, China) Head of Custom Products Group; Custom Products Group Custom Products Group Custom Products Group Custom Products Group Calvin HUANG Ashley CHUNG Alexander LATZER Felix LAM Danny BAO Yannis KUO Mark CHANG John CHOI Marvin LO Kelvin LAU Edwin LEE Dave DAI Justin LAU Philip LO Jibo MA Kenji SERIZAWA
South Korea Head of Research; Strategy; Banking/Finance Regional Head of Automobiles and Components; Automobiles; Shipbuilding; Steel Banking/Finance Capital Goods (Construction and Machinery) Consumer/Retail IT/Electronics (Tech Hardware and Memory Chips) IT Electronics (Tech Hardware) Materials (Chemicals); Oil and Gas Small/Medium Cap; Insurance Telecommunications; Software (Internet/Online Games) Custom Products Group Chang H LEE Sung Yop CHUNG Anderson CHA Mike OH Sang Hee PARK Jae H LEE Steve OH Daniel LEE Yumi KIM Thomas Y KWON Shannen PARK (82) 2 787 9177 (82) 2 787 9157 (82) 2 787 9185 (82) 2 787 9179 (82) 2 787 9165 (82) 2 787 9173 (82) 2 787 9195 (82) 2 787 9121 (82) 2 787 9838 (82) 2 787 9181 (82) 2 787 9184 chlee@kr.daiwacm.com sychung@kr.daiwacm.com anderson.cha@kr.daiwacm.com mike.oh@kr.daiwacm.com sanghee.park@kr.daiwacm.com jhlee@kr.daiwacm.com steve.oh@kr.daiwacm.com daniel.lee@kr.daiwacm.com yumi.kim@kr.daiwacm.com yskwon@kr.daiwacm.com shannen.park@kr.daiwacm.com
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Taiwan Head of Taiwan Research; Strategy Consumer/Retail IT/Technology Hardware (Communications Equipment); Software; Small/Medium Caps IT/Technology Hardware (Handsets and Components) IT/Technology Hardware (PC Hardware - Panels) IT/Technology Hardware (PC Components) Materials; Conglomerates Alex YANG Yoshihiko KAWASHIMA Christine WANG Alex CHANG Chris LIN Jenny SHIH Albert HSU (886) 2 2345 3660 (886) 2 8780 5987 (886) 2 8788 1531 (886) 2 8788 1584 (886) 2 8788 1614 (886) 2 8780 1326 (886) 2 8786 2212 alex.yang@daiwacm-cathay.com.tw y.kawashima@daiwacm-cathay.com.tw christine.wang@daiwacm-cathay.com.tw alex.chang@daiwacm-cathay.com.tw chris.lin@daiwacm-cathay.com.tw jenny.shih@daiwacm-cathay.com.tw albert.hsu@daiwacm-cathay.com.tw
India Head of India Equities Strategy Deputy Head of Research; Strategy; Banking/Finance All Industries Automobiles Capital Goods; Utilities Materials Pharmaceuticals and Healthcare; Consumer Real Estate Jaideep GOSWAMI Punit SRIVASTAVA Fumio YOKOMICHI Ambrish MISHRA Jonas BHUTTA Vishal CHANDAK Kartik A. MEHTA Amit AGARWAL (91) 22 6622 1010 (91) 22 6622 1013 (91) 22 6622 1003 (91) 22 6622 1060 (91) 22 6622 1008 (91) 22 6622 1006 (91) 22 6622 1012 (91) 22 6622 1063 jaideep.goswami@in.daiwacm.com punit.srivastava@in.daiwacm.com fumio.yokomichi@in.daiwacm.com ambrish.mishra@in.daiwacm.com jonas.bhutta@in.daiwacm.com vishal.chandak@in.daiwacm.com kartik.mehta@in.daiwacm.com amit.agarwal@in.daiwacm.com
Singapore Chief Economist, Asia Ex-JP; Macro Economy (Regional) Global Director of Quantitative Research; Quantitative Research Quantitative Research Quantitative Research Regional Head of Banking/Finance; Banking; Property and REITs Banking (ASEAN) Consumer; Food and Beverage; Small/Medium Cap (ASEAN) Prasenjit K BASU Deep KAPUR Josh CHERIAN Suzanne HO David LUM Srikanth VADLAMANI Pyari MENON (65) 6321 3069 (65) 6321 3079 (65) 6499 6549 (65) 6499 6545 (65) 6329 2102 (65) 6499 6570 (65) 6499 6566 (65) 6499 6548 (65) 6499 6543 p-k.basu@sg.daiwacm.com deep.kapur@sg.daiwacm.com josh.cherian@sg.daiwacm.com suzanne.ho@sg.daiwacm.com david.lum@sg.daiwacm.com srikanth.vadlamani@sg.daiwacm.com pyari.menon@sg.daiwacm.com adrian.loh@sg.daiwacm.com ramakrishna.maruvada@sg.daiwacm.com
Regional Head of Oil and Gas; Oil and Gas (ASEAN and China); Capital Goods (Singapore) Adrian LOH Head of ASEAN & India Telecommunications; Telecommunications (ASEAN & India) Ramakrishna MARUVADA
Australia Resources/Mining/Petroleum David BRENNAN (61) 3 9916 1323 david.brennan@au.daiwacm.com
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8 July 2011
Daiwas Office
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Disclaimer
This publication is produced by Daiwa Securities Capital Markets Co. Ltd. and/or its non-U.S. affiliates, and distributed by Daiwa Securities Capital Markets Co. Ltd. and/or its non-U.S. affiliates, except to the extent expressly provided herein. This publication and the contents hereof are intended for information purposes only, and may be subject to change without further notice. Any use, disclosure, distribution, dissemination, copying, printing or reliance on this publication for any other purpose without our prior consent or approval is strictly prohibited. Neither Daiwa Securities Capital Markets Co. Ltd. nor any of its respective parent, holding, subsidiaries or affiliates, nor any of its respective directors, officers, servants and employees, represent nor warrant the accuracy or completeness of the information contained herein or as to the existence of other facts which might be significant, and will not accept any responsibility or liability whatsoever for any use of or reliance upon this publication or any of the contents hereof. Neither this publication, nor any content hereof, constitute, or are to be construed as, an offer or solicitation of an offer to buy or sell any of the securities or investments mentioned herein in any country or jurisdiction nor, unless expressly provided, any recommendation or investment opinion or advice. Any view, recommendation, opinion or advice expressed in this publication may not necessarily reflect those of Daiwa Securities Capital Markets Co. Ltd., and/or its affiliates nor any of its respective directors, officers, servants and employees except where the publication states otherwise. This research report is not to be relied upon by any person in making any investment decision or otherwise advising with respect to, or dealing in, the securities mentioned, as it does not take into account the specific investment objectives, financial situation and particular needs of any person. Daiwa Securities Capital Markets Co. Ltd., its parent, holding, subsidiaries or affiliates, or its or their respective directors, officers and employees from time to time have trades as principals, or have positions in, or have other interests in the securities of the company under research including derivatives in respect of such securities or may have also performed investment banking and other services for the issuer of such securities. The following are additional disclosures. Japan Daiwa Securities Capital Markets Co. 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8 July 2011
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Daiwa - India Generics

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Daiwa - India Generics

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Pharmaceuticals & healthcare / India 8 July 2011

Separating the men from the boys

India Generics Pharmaceuticals Sector

How do we justify our view?

(91) 22 6622 1012 kartik.mehta@in.daiwacm.com

(91) 22 6622 8412 amit.nagdewani@in.daiwacm.com

Source: Bloomberg, Daiwa * For Dec year- end companies, FY12E=2011E

India Generics Pharmaceuticals Sector

How do we justify our view?

Daiwas generic pharma universe: valuation matrix

Daiwa earnings-forecast revisions (%)

Glenmark Torrent Lupin Cadila Biocon Glaxo

India Generics Pharmaceuticals Sector

Executive summary Separating the men from the boys

Key stock calls

% chg (1.6) 0.0 (4.9) 0 0.0 0 (8.6) 0.0 (13.8) 22.8

% chg 0.0 0.0 (5.8) 1.9 0.0 0 (13.2) 0 (3.7) (11.2)

India Generics Pharmaceuticals Sector

India Generics Pharmaceuticals Sector

We prefer a bottom-up approach

Source: Daiwa Research, Bloomberg

Bull phase starts. Pharma begins to underperform

Broader market recovery phase, healthcare outperforms

Bottom-up approach key to picking real defensives in Pharma

Feb-08 BSE SENSEX

BSE HEALTHCARE INDEX

India Pharmaceuticals Sector: rationale for target PERs

Source: Daiwa forecasts Note: PER is based on recurring EPS

India Generics Pharmaceuticals Sector

The domestic market is the key

Top-5 sales MAT

Industry sales MAT

India Generics Pharmaceuticals Sector

Domestic sales growth

Manufacturer price (WAC)

Acute care likely to remain the biggest segment in India

Source: compiled by Daiwa, AIOCD - AWACS

Acute & Others

Breakdown of the India domestic market (FY07-10)

Breakdown of the India domestic market (FY10-14E)

Dermatology CNS Gynaecology Vitamins CV GI Pain Respiratory Others

20 15 AI 10 5 0 14 17 20 2 5 8 11 Market share (%)

Gynaecology Respiratory Vitamins

India Generics Pharmaceuticals Sector

India market: gainers and losers

The India market: big and becoming bigger

Comments Manpower additions New product launches In-licensing

Remarks Cipla, Ranbaxy Ranbaxy, Cipla, unlisted companies Sun-MSD

Risk-loaded business models

Daiwa generics pharmaceutical coverage universe: sector summary

Net Cash Medium

Source: Daiwa Note: * For Biocon it is biopharmaceuticals as a percent of total sales

India Generics Pharmaceuticals Sector

Source: Daiwa forecasts, PER is on recurring EPS

Source: Daiwa forecasts Note: PER is based on recurring EPS

India Generics Pharmaceuticals Sector

Sun: one-year-forward PER bands

Cadila: one-year-forward PER bands

20x 16x 12x 8x

Source: Company, Bloomberg, Daiwa forecasts

Source: Company, Bloomberg, Daiwa forecasts

Glaxo: one-year-forward PER bands

Lupin: one-year-forward PER bands