SHAREKHAN SPECIAL
Q4FY2007 Pharma earnings preview
Key points
- We remain positive on the Indian pharmaceutical sector on account of the continued domestic growth, steady contributions from exports and synergies arising out of integration of acquisitions. Further, the increased focus on drug discovery and collaborative research with the global players enhances the medium-term earnings visibility for the sector.
- In line with the business trend, the growth of the domestic market moderated to around 9% in Q4FY2007 from over 15% in the previous couple of quarters. But the ramp-up in the formulation export segment continues to be robust and the successful integration of acquisitions (viz Ranbaxy Laboratories’ Terapia, Wockhardt’s Pinewood and Nicholas Piramal’s Morpeth) would drive the revenue growth for the sector. Further, Dr Reddy’s Laboratories’ 180-day exclusivity for Ondansetron would also boost the overall industry growth. We expect the pharmaceutical companies under our coverage to report a revenue growth of 20.3% in Q4FY2007.
- With a greater number of players entering the generic space in the USA and the European Union, pricing pressures are likely to continue. But thanks to the cost-cutting efforts, improvement in the product mix and larger thrust on branded formulation business by the local players, stable margins are likely to be ensured. The pharmaceutical companies under our coverage are expected to report a 420-basis-point expansion in the operating profit margin (OPM), leading to a 30% growth in their net profit in Q4FY2007.
- Research and development (R&D) was the highlight of the fourth quarter as Indian pharma space witnessed impressive developments on the R&D front. Sun Pharmaceuticals de-merged its R&D unit into a separate entity called Sun Pharma Advance Research Company and unveiled its new chemical entity (NCE)/novel drug delivery system (NDDS) pipeline (comprising four NCEs and four NDDS). Alongside, Ranbaxy Laboratories has expanded its collaborative research partnership with GlaxoSmithKline Plc (GSK), as per which the Indian company would identify the new chemical leads and take them up to Phase-II proof of concept study. The Ranbaxy Laboratories-GSK alliance would focus on therapies like anti-infectives, metabolic disorders, respiratory and oncology. As per the deal, Ranbaxy Laboratories could receive over $100 million in potential milestone payments for a single product. We expect further positive news flow on the innovative R&D front from Lupin, Dr Reddy’s Laboratories and Glenmark Pharmaceuticals in the coming quarters, which would act as a strong growth trigger in the medium to long term.
Q4FY2007 Banking earnings preview
We expect the interest income on advances in the last quarter to show a strong growth on the back of above 28% year-on-year (y-o-y) credit growth and the full impact of the hike in the prime lending rates (PLRs) effected by the banks in the fag end of December 2006 or early January as well as in mid-February 2007.
However, the cost of funds may have an upward bias, thereby putting some pressure on the margins of the banks with lower current and savings deposit account (CASA) balances as the deposit costs, especially the bulk deposit rates, have moved up sharply. However, the one-time cash reserve ratio (CRR) income that banks are expected to get in this quarter with retrospective effect should help them to tide over the increased deposit costs.
STOCK UPDATE
Tata Consultancy Services
Cluster: Evergreen
Recommendation: Buy
Price target: Rs1,508
Current market price: Rs1,285
Q4FY2007—fist cut analysis
Result highlight
- Tata Consultancy Services (TCS) has reported a growth of 5.9% quarter on quarter (qoq) and 38.2% year on year (yoy) in its consolidated revenues to Rs5,146.4 crore. The sequential revenue growth was largely driven by a 6.42% growth in the volumes and a 1.33% improvement in the billing rates and productivity. On the other hand, the appreciation of the rupee adversely impacted the revenue growth by 1.87% sequentially.
- The earnings before interest and tax (EBIT) margins declined by 47 basis points to 25.6% sequentially, largely due to the adverse impact of the appreciation in the rupee.
- The other income stood at Rs89.8 crore and included one-time extraordinary income of Rs66.3 crore from the sale of stake in Sitel. Excluding the one-time income (adjusted for tax), the consolidated earnings have grown at a disappointing rate of 1.1% qoq to Rs1,116.8 crore, which is much lower than the consensus estimates of around Rs1,185 crore.
- In terms of the outlook, the company reiterated that the demand environment continues to be robust and it expects to maintain the margins in FY2008 (at the level of 24.9% reported in FY2007). The company doesn't give any specific growth guidance. However, it has indicated that the gross employee addition would be higher than 32,500 reported in FY2007.
- The key operational highlights for Q4 are: addition of 43 clients; healthy growth of 9.3% qoq in the Top 10 clients; closing of two large deals worth over $50 million each and one deal worth $35 million; attrition rate at a comfortable level of 10.6% and a slowdown in banking, financial services and insurance (BFSI) and manufacturing industry verticals.
- Given the lower-than-expected performance and the steep appreciation in the rupee, we would review our FY2008 estimates and introduce the FY2009 estimates in the detailed report. We maintain our Buy call on the stock with a price target of Rs1,508.
MUTUAL GAINS
Sharekhan's top equity fund picks
We have identified the best equity-oriented schemes available in the market today based on the following 3 parameters: the past performance as indicated by the returns, the Sharpe ratio and Fama (net selectivity).
The past performance is measured by the returns generated by the scheme. Sharpe indicates risk-adjusted returns, giving the returns earned in excess of the risk-free rate for each unit of the risk taken. The Sharpe ratio is also indicative of the consistency of the returns as it takes into account the volatility in the returns as measured by the standard deviation.
FAMA measures the returns generated through selectivity, ie the returns generated because of the fund manager's ability to pick the right stocks. A higher value of net selectivity is always preferred as it reflects the stock picking ability of the fund manager.
MUTUAL FUNDS: WHAT’S IN—WHAT’S OUT
Fund Analysis: April 2007
An analysis has been undertaken on equity and mid-cap funds' portfolios, indicating the favourite picks of fund managers for the month of March 2007. Equity funds comprise of all diversified, index, sector and tax planning funds, whereas mid-cap funds include a universe of 18 funds such as Reliance Growth, Franklin India Prima Fund, HDFC Capital Builder, Birla Mid-cap Fund etc.