Last year, there was a lot of buzz around Alembic Pharma because of the sartans opportunity and how there will be consistent shortage in US markets going forward. This was an exact replica of 2016 (the abilify shortage) when there was lots of buzz around Alembic. I never subscribed to that belief, for me Alembic’s business is lumpy in nature but is of high quality (shown in ROCEs > 20% during the pharma downturn despite R&D > 10% of sales). Now, that the buzz is gone, I revisited the story.
The main competitive advantage of Alembic Pharma is their vertical integration and their very nimble supply chain capabilities. This combined with 70%+ gross margins means they can do operating margins of 25%+ despite spending large amounts in R&D. So I was always interested in Alembic but preferred Ajanta over it (and still do) because of Ajanta’s branded business (~68% of sales) and debt free balance sheet.
Last year, I chose to buy shares of Cadila because they were reasonably cheap. Now that the valuation arbitrage in Cadila is more or less over, I switched to Alembic because now Alembic is trading reasonably cheap. For any generic pharma company with 70%+ gross margins (Ajanta, Alembic, Natco, Sun, Torrent), EV/sales of 3.5x is cheap. That’s why I made the switch. Here are my detailed valuation notes on Alembic.
Business quality
| Year | ROCE & ROE > 20% | Positive FCF | |||
|---|---|---|---|---|---|
| FY11 | Yes | Yes | Total # years | 11 | |
| FY12 | Yes | Yes | # ROCE & ROE > 20% | 10 | |
| FY13 | Yes | Yes | # Positive FCF | 7 | |
| FY14 | Yes | Yes | |||
| FY15 | Yes | No | SUM | 17 | |
| FY16 | Yes | Yes | AVERAGE | 77.27% | |
| FY17 | Yes | No | HIGH BUSINESS QUALITY | Yes | |
| FY18 | No | No | |||
| FY19 | Yes | Yes | |||
| FY20 | Yes | No | |||
| FY21 | Yes | Yes |
Promoter quality (Medium)
- Organic sales growth greater than category level growth: True for US and developed markets, False for Indian market
- Able to find new avenues to grow: Yes (Created large US sales despite being a late entrant)
- Treats minority shareholders in a fair manner: Yes (Dividend payout ~ 20% of PAT)
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Red flags:
o Promoter takes very high remuneration (~10% of PAT)
o Related party transactions are also pretty high (>150 cr.)
o Promoter entity has been previously linked in Panama papers
Projections as on 06.06.2021
By FY25
- US sales will reach $500mn (~4000 cr. at USD/INR ~ 80) implying 16.6% growth from FY21. This should be achievable given the large number of things they are trying (injectables, oncology, ophthalmology, dermatology)
- Rest of world generic sales will grow @15% from 779 cr. in FY21 to 1’362 cr. in FY25
- India sales will grow @10% from 1’497 cr. in FY21 to 2’192 cr. in FY25
- API sales will grow @10% from 955 cr. in FY21 to 1’398 cr. in FY25
- Consolidated sales ~ 8’952 cr.
- Sell at EV/sales ~ 4 (given they are mostly in generic sales and not brands), EV ~ 35’808 cr. Assuming debt free balance sheet, market cap ~ 35’808 cr. (share price: 1821)
Confidence in projection (Medium)
- Business quality (high/medium/low): High (Produces >20% ROE/ROCE and FCF over 75% of time)
- Promoter quality (high/medium/low): Medium
- Financial projections (high/medium/low): Medium (US sales of $500mn will not pan out unless they get injectables right)
- Valuation projections (high/medium/low): High (In good times, should get >4x EV/sales)
- Is it a cyclical business (Yes/No): No
Expected returns ~ 18% which comes in the 4% position size bucket.
As I had mentioned before, I am reshuffling my portfolio significantly which will probably take a few more weeks at the end of which I will start sharing the model portfolio again.