>CIPLA (IDFC SSKI)

Cipla’s partnership-based, geographically diversified model, with particular focus on RoW markets, and its formidable R&D capabilities have proved to be a robust and sustainable growth engine. Momentum will be further boosted by Cipla’s muchawaited entry into the EU inhaler market as also likely launch of niche partnership products in USA. Aggressive capex rollout indicates management’s comfort on future growth outlook. Coupled with significant EBITDA margin expansion of 260bp to ~26%, we expect 29% EPS CAGR for Cipla over FY09-11 (albeit on a low base) with upside possibilities. An expected decline in capex FY12 onwards would see asset turnover ratios plateau and lead to improving return ratios. Maintain estimates and upgrade the stock to Outperformer with a price target of Rs368 per share.

A winning business model: Recent alliances between Dr Reddy’s-GSK, Aurobindo- Pfizer, etc endorse Cipla’s strategy focused on R&D and manufacturing as also sales and marketing tie-ups with global companies. Cipla is among the most geographically diversified global generics companies with significant presence in multiple RoW markets including Africa, Middle East, Latin America and Australia. With future global pharma market growth likely to largely accrue from RoW markets, Cipla has created an enviable business model to participate in this opportunity.

Inhalers and US launches to drive upsides: With its diversified model yielding steady revenue growth (10-15%), the much-delayed entry into EU inhalers market as well as niche product launches in US will generate upsides. Cipla’s inhaler plans for EU (a US$3bn+ market with limited competition) are fructifying with launch of Salbutomol in UK in Q3FY10 and likely approval for its first combination inhaler in H2FY11. Cipla has partnerships for 118 drugs in the US with only 23 commercialized ANDAs so far, indicating significant potential for ramp-up in the market.

Good gets better

Better days ahead; Outperformer: The recent upswing in EBITDA margins (26% in H1FY10) appears sustainable on the back of an improving product mix and tighter cost control. Cipla’s aggressive capex intensity (Rs30bn spend over FY06-10) will likely ease by FY11, leading to improved return ratios and higher asset turnover. The management’s intent to enhance investor interaction through quarterly investor calls provides comfort and will aid re-rating. Any adverse FDA action or unfavorable court decision on contingent liabilities related to overcharging stay potential risks for the stock. Upgrade to Outperformer.

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