Management interview with ET for Q1-FY 21 results
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The free cash flow generation from 2011 to 2019 is
24.01 -29.35 -24.44 -156.63 26.08 135.11 -158.54 -456.33 7.81,
If you add up over the last nine years, one does not get a positive value. As a shareholder free cash flows are what is coming to you. The existence of a firm is " shareholder wealth maximization". It is very difficult to value a company without FCFâs. The promoter takes a hefty salary as remuneration, so one wonders what is it in for me.The only way to view this is not to pay top valuations for firms like these.
Regarding the API boom, i think we have good tailwinds, but one has to see if it sustains.China today does not have cheaper labour than India, but the government provides many direct and indirect subsidies to make their products cheaper.They also work hard and have good productivity along with less red tape When the Covid thing is over, all the pharma companies would have forgotten everything and would still look to source API wherever it is the cheapest.
Invested long time in Granules.
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Biju due to all the concerns mentioned by you, the stock still trades at 12-13 FY21 PE. Once the free cash flow starts coming, you wonât find it below 20-25 PE. An investor has to take call keeping this in mind.
Disc.- I hold from lower levels
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Discl- Invested from lower levels and added more post results.
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Surprising that none of the brokerage house forecasts are considering the equity contraction. That would bump up the EPS
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Not to forget other expenses which jumped 50cr QoQ. It includes provisions related to Metformin recall and Covid precationary expenses. Easily, 30cr would have been added into PBT.
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Dear debesht,
Keeping things simple has been one of the most important things I have learned in my investment and professional life. I have come to realize that I am incompetent to decide when I try to act while things are grey in my head. And my notes below would reflect it.
First, the data that is quoted below about Corporate Governance issue by you is in public domain, there are not two ways about it. It is what it is, and most of us are aware of it. But the key question for me is if this one data point sufficient to decide on the investment worthiness in the company. The answer is no. I would love for myself to consider more things before I reach to a conclusive point. So I would look for more data points. Here are some of the findings I have
1- Over the past many years since I started investing in Granules, I have found that promoters of Granules walk the talk (but sometimes there is little delay in action). There are many examples of it, and all you need to do is listen to earnings call over the past 3-4 years for each quarter, and find out what was said by the promoters and by when the said thing was done.
2- At one point there was question about promoters aggressively capitalizing R&D. Promoters clarified it in the earnings call, but the concern remained for some time, but now it seem to be addressed.
3- There was also concern about promoters are paying dividend while the debt is high. This is also addressed.
4- Recently there was concern what if the promoters would not participate in the buy back because the price had already crossed the buy back price(INR 200 per share). It is addressed.
5- There was concern on high percentage of shares were pledged, and this is addressed too.
I can write a few more points - the recent disinvestment (purpose behind it), if Granules is going to be sold (turned out speculation)âŚetc. Agree that not all points could be directly mapped to Corporate Governance, but some can be, and others could be extrapolated to. Now, let us try to synthesize our thoughts, and put all these points together on the table. Except for the eighteen years old issue raised by you, most of the concerns were either speculations or small in nature & now addressed. It is given that during the course of operation of a sizeable company some ripples would be there, we need to carefully watch for impact of these ripples on the operations of the company, patterns and net impact on the shareholdersâ value.
Based on my little knowledge I have come to the conclusion that even if there are some issues, those are not recurring and company has been able to grow its business, and create value for the shareholders. I am willing to live with such an investment bet.
Cheers,
Krishna
PS: I have said it earlier but it is important to repeat that my knowledge is very limited, and my mental model for investment worthiness of a company is âflawedâ at best. I am also biased in my views, and I have made (and continue to make) many mistakes. Please take my views with bowl of salt.
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I have been investing in granuels for a while now and enjoying the current ride. Although the company is gradually generating positive FCF , would like to have views of other on this on the medium term trajectory of FCF.
I agree, that the promoters are walking the talk and the recent results are good. But also I want to understand how do we find out whether the stock price is manipulated by any operator or not, seeing the sudden rally in stock prices.
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The Therapeutic Goods Administration (TGA) has extended the serious shortage substitution notice for #metformin modified-release 500 mg tablets until 31 December 2020
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Related to API manufacturing Shift to US (WSJ Article)
Kodak Lands $765mn U.S. Loan in Start of Medical Supply Chain Fix (https://on.wsj.com/3faEsey)
Onetime photography leader is shifting into production of drug ingredients using a loan provided under the Defense Production Act
Kodak is gearing up to produce ingredients for generic drugs. Eastman Kodak Co. has won a $765 million government loan under the Defense Production Act, the first of its kind. The purpose: to help expedite domestic production of drugs that can treat a variety of medical conditions and loosen the U.S. reliance on foreign sources
The onetime leader in photography sales is gearing up to produce ingredients for generic drugs, including the antimalarial drug hydroxychloroquine that President Trump has touted in the treatment of coronavirus. Meanwhile, the U.S. is aiming to shift from relying on countries such as China and India, Kodak Chief Executive Jim Continenza and U.S. officials said.
The loan is from the U.S. International Development Finance Corporation, a government agency akin to a bank, the officials said. The loan is the first of its kind under the Defense Production Act, which the Trump administration has previously invoked to speed the production of Covid-19 related supplies such as ventilators.
What strengths does Kodak bring this new endeavor, and what challenges do you think it faces? Mr. Trump in May issued an order allowing the DFC to financially support the âdomestic production of strategic resourcesâ for the coronavirus pandemic and âto strengthen any relevant domestic supply chains.â
Kodakâs loan has terms similar to a commercial loan and must be repaid over 25 years, Mr. Continenza said. He said Kodak *will produce âstarter materialsâ and âactive pharmaceutical ingredientsâ * used to produce generic medicines. âWe have a long, long history in chemical and advanced materialsâwell over 100 years,â Mr. Continenza said. He added that Kodakâs existing infrastructure allows the company âto get up and running quickly.â
The pharmaceutical focus marks a shift for the company that made a âKodak momentâ synonymous with photos. At its peak, the Rochester, N.Y.-based company was the Google or Apple of its time, employing 145,000 workers world-wide, The Wall Street Journal has reported. The company invented the digital camera in 1975 but failed to capitalize on it, and filed for bankruptcy in 2012.
Kodak is effectively changing gears. Mr. Continenza said he expects its pharmaceutical ingredients to make up 30% to 40% of its business over time
For the U.S., the benefit of providing the loan to Kodak is to reduce reliance on other countries, particularly China, for drugs, DFC head Adam Boehler said. âWe donât ever want to be in a position, because of a pandemic, because of any reason,â that a foreign entity could upend U.S. access to medicines or pharmaceutical products, Mr. Boehler said.
China is recognized as the worldâs biggest supplier of the raw materialsâknown as active pharmaceutical ingredientsâthat form the basis of medicines. That dependence on China makes shortages more likely should Chinese manufacturing be shaken, according to a 2019 U.S. government report. Chinaâs dominance is growing: The U.S. imported $3.9 billion worth of pharmaceutical raw material from China in 2017, an increase of nearly one-quarter from the prior year, according to IHS Markit.
Rear Adm. John Polowczyk, who heads the White Houseâs supply-chain task force, said domestic drug production began shifting away from the U.S. in the 1970s, largely for reasons related to cost savings. Kodakâs Mr. Continenza said he expects the loan to create around 300 jobs in Rochester, and 30 to 50 jobs in Minnesota. Peter Navarro, the White House trade adviser, said he grew concerned about the U.S. reliance on foreign countries for key materials for drug production. âThis is not about China or India or any one country,â Mr. Navarro said in a statement. âItâs about America losing its pharmaceutical supply chains to the sweat shops, pollution havens, and tax havens around the world that cheat America out of its pharmaceutical independence.â His office is currently considering around 30 firms for funding to fight the virus and protect public health, he said in the statement
Views Invited
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Are these the headwinds that have been spoken of, in the recent past, for pharma? Trump had pharma on his radar for a while now, the pandemic only catalysed his decision. Would pharma stocks in India, which have a US presence get hit hard then?
From a very simplistic point of view the questions would be
- How fast will Kodak be able to get the business running. Considering it has Govt support, that may not be an issue
- How effective will those early APIs beâŚthere will be checks
- CostingâŚacceptable ?
It is a good move for the Americans to reduce dependence on other countries, the question is, will that come at a cost which they are willing to pay for. Their drugs even currently are priced way above what the same drugs cost in countries like India.
As an egampleâŚthousands of Americans canât afford Insulin and are travelling to the Canadian border to buy it.
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Just my thoughts, there are Indian companies that sell branded generics in the US and are priced way below their own drugs, would that mean a strong tailwind for such companies?
Here are a few relevant news articles -
https://www.washingtonpost.com/politics/2020/07/24/trump-expected-sign-drug-pricing-executive-orders-friday-angering-pharma/
Effect on Indian companies -
And US pharma is up in arms already -
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GRANULES INDIA has posted strong operational performance in Q1FY21. Here I am trying to do a simple back of the envelop calculation to check valuation of the stock.
As per management guidance, they can maintain the current growth rate of 30% earnings growth and ~ 23% EBIDTA margins. The Capex was guided for next two years only (350 â 400 cr this year and 300 cr next year). As per concall remarks by Mr Chigurupati, they would match the capex to maintain the current growth rate. So, following are the estimates based on available information :-
| Year | Revenue | PAT | PAT margin |
|---|---|---|---|
| FY20 | 2599.0 | 335.0 | 12.89% |
| FY21E | 3118.8 | 405.4 | 13% |
| FY22E | 3898.5 | 506.8 | 13% |
Assumptions :
Growth 20% for FY21 and 25% for FY22
PAT @ 13%
So, with PAT of 500 cr (FY22E), expected market cap at 20 times would 10,000 Cr
Current market cap 6759 Cr. So it seems fairly valued at present.
One of the questions bothering me was the nature of its products â the base molecules (para, metf, ibu, metacarbo, guifen) are very basic / generic in nature and does not require any particular process / chemistry skills to manufacture them. This question was asked in the concall and Mr Chigurupati has answered that it is the vertical integration, unique way of manufacturing and regulatory compliance that has helped them constantly increase market share. As I understand, they play with their strength in manufacturing â high volume, low cost â translating into better economies of scale. (Ref : Concall Transcript page 14)
Other triggers and positive developments :
- At present, 11% revenue is contributed by GPI (USA) - expected to quadruple the same in next 3 years
- Focusing on limited no of new filings - 7 to 9 per year for next few years
- Entire Capex will be from internal accruals only
- Capex includes new MUPS (multi-particulate sustained relese products) block. Now, the companyâs base molecules do not require this new technology.
- The products that will be manufactured in MUPS block would be a little complex products with relatively higher margin like omeprozole, metoprolol etc.
- They are also looking at new molecules like losartan, centrizine, fexofenadine etc. to increase the product basket
- However, as per the company, on a long term basis (3-5 yrs), the 5 base molecules would still continue to contribute ~ 75% of revenues (presently ~ 85%), rest being from newly launched products.
Disc : Invested and biased.
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Another irritant from POTUS:
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Mr KP on bloombergquaint today.
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Thanks for the video. My favourite part came right at the end⌠the question posed was(paraphrasing)
âDo you think the bulls have too high expectations for the pharma industry and granules and does it worry you that people are extrapolating Q1 results for the whole year?â And Mr KP replied with
âToo much expectations are a worry since people may end up disappointed but as far as extrapolating Q1 is considered we will easily beat that all yearâ
Of all the con calls Iâve read and interviews Iâve seen over the past few weeks that was the best example of a bullish management Iâve seen so far. The main thing is It also bodes well for all of us betting on pharma atleast for the next 3 or so quarters. Having a CEO of a company just say that outright gives a lot of conviction.
Note: Please flag if inappropriate. I thought that bit at the end was gold and since the video is 18 mins long some people may have missed it . Cheers.
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2 points were made in the AGM:
- Future capex will have a lower payback period.
- Q1 ebidta ratio cannot be maintained becoz it had some revenue of previous quarter roller over.
The management was overall optimistic and shareholders expressed deep gratitude.
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Q1 ebitda was 25% & management has confirmed in concall itself that they expect it to stabilize around 23% in upcoming quarters till end of current FY.
Its brownfield & not greenfield hence payback period is lower.
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