1. SUN PHARMA:In-line; ramp-up of specialty portfolio – WIP

(SUNP IN, Mkt Cap USD14.9b, CMP INR440, TP INR515, 17% Upside, Buy)

–      Revenues driven by India/ROW: SUNP’s sales increased 16% YoY to INR79.5b (in-line) in 2QFY20, mainly driven by strong growth in India and RoW sales. India sales were up 35% YoY to INR25b (32% of sales), led by the robust outperformance to industry and partially led by a low base. RoW sales were up 49% YoY to USD161m (16% of sales), led by organic growth and the integration of Pola Pharma Japan. However, the business was dragged to some extent by flat YoY US sales (30% of sales) at USD339m, with Taro posting sales of USD161m (+1% YoY). Emerging Markets (EM) sales were up 3% YoY at USD201m (18% of sales).

–      Inferior product mix offset by controlled cost: Gross margin contracted 280bp YoY (+130bp QoQ) to 71.5%, mainly due to the change in the product mix and the distribution transition in India. EBITDA margin shrank at a lower rate of 80bp YoY to 20% (our estimate: 21%) due to controlled opex with lower employee/R&D cost (-110bp/100bp YoY). EBITDA was up 11% YoY at INR16.1b (in-line). Adj. PAT increased marginally by 3% YoY to INR10.6b (in-line) due to a higher tax rate.

–      For 1HFY20, revenue/EBITDA/PAT were up 16%/15%/19% YoY to INR162b/INR34b/INR24b.

–      Concall highlights: (1) Global specialty sales were flat QoQ at USD91m. Higher Ilumya sales were offset by seasonality in Absorica and Levulan on a sequential basis. (2) With respect to Absorica, SUNP intends to launch a lifecycle extension product in 4QFY20. (3) gLialda would be launched in the near term in the US market. (4) Specialty R&D formed 24% of total R&D spend for the quarter.

–      Valuation view: We raise our FY20/21 EPS estimate by3%/2% to INR18/INR22 to factor in robust growth in domestic formulation, increasing traction in the specialty portfolio and the reduced interest outgo. We continue valuing SUNP at 22x 12M forward earnings to arrive at a TP of INR515 (prior: INR490). We remain positive on SUNP on the back of its better-than-industry growth in the domestic formulation market, enhanced efforts toward building the specialty portfolio and healthy ANDA pipeline for US generics. Maintain Buy.

  1. HPCL:Reported GRM poor, EBITDA misses estimate

(HPCL IN, Mkt Cap USD6.7b, CMP INR310, TP INR364, 17% Upside, Buy)

–      Lower-than-estimated GRM (incl. inventory) and marketing margin resulted in reported EBITDA of INR24.4b (-19% YoY; -17% miss) in 2QFY20. Total inventory gain stood at INR530m (refining gain at INR660m, while marketing loss at INR130m). Adj. EBITDA for the quarter was up 38% YoY at INR23.9b.

–      During the quarter, forex loss stood at INR1.2b versus INR8.9b in 2QFY19. PBT was at INR16.2b, and the tax rate at 34.9% as the company is in the process of evaluating the new reduced tax rate option. PAT declined 4% YoY to INR10.5b.

–      For 1HFY20, reported EBITDA was down 42% YoY at INR38.9b and PAT declined 34% YoY to INR18.6b. Total inventory loss was at INR4.8b versus a gain of INR36.1b in 1HFY19, which led to adj. EBITDA of INR43.7b (+40% YoY).

–      Refining throughput was down 4% YoY at 4.6mmt but up 16% QoQ after the shutdown at its Mumbai refinery. High sulphur crude processing declined to 54.8% from 63.7% in the year-ago period.

–      Core GRM of USD2.5/bbl missed our estimate of USD4.7 (2QFY19: USD2.7). Reported GRM was at USD2.8/bbl (our estimate: USD4.4; 2QFY19: USD4.8).

–      Marketing sales volume grew 3% YoY to 9.4mmt. Implied gross marketing margin incl. inventory was at INR4.5/lit (our estimate: INR4.9; 2QFY19: INR4.4).

–      Pipeline throughput stood at 5.05mmt (2QFY19: 5.25mmt).

–      Operational highlights: As of the quarter end, HPCL’s debt stood at INR297.6b, up ~9% from INR272.4b as of 31st Mar’19.

–      Current other financial assets reduced by INR42.3b, while net debt (excl. other financial liabilities) has increased by INR17.0b since end-FY19.

Valuation and view

–      In the current lower crude price environment, we expect structural changes in the pricing of LPG and kerosene, which may bid farewell to all under-recoveries in the petroleum sector.

–      Also, low oil prices and a stable INR would ensure that marketing margins remain healthy, benefitting HPCL the most.

–      We cut our FY20/21 consol. EPS estimate by 21%/8% in light of the weak GRM outlook amidst global weakness in refining margins and increase in the tax rate to 33.3% for FY20/21, as the company is still in the process of evaluating the option of lower tax rate.

–      We lower our GRM forecast to USD3.1/bbl (from USD4.0) for FY20 but keep it unchanged at USD6.2 for FY21. We raise our marketing margin estimate for FY21 to INR4.4/lit. (from INR4.1), but keep it unchanged at INR4.3 for FY20.

–      HPCL trades at 9.7x consol. FY20E EPS of INR31.9 and 1.4x FY20E PBV. We value HPCL at 1.5x FY21 PBV to arrive at a target price of INR364, implying an upside of 17% to the current market price. Reiterate Buy. Key risks to our recommendation are increase in net debt due to huge capex outlay and project execution at Vizag expansion/upgradation.

  1. UPL:Yet another quarter of strong performance by LATAM

(UPLL IN, Mkt Cap USD6.2b, CMP INR580, TP INR553, 5% Downside, Neutral)

–      Lower-than-expected operating performance: UPLL (including Arysta) reported overall revenue of INR78.2b (v/s est. INR76.3b) in 2QFY20, up 84% YoY. However, on like-to-like basis (including Arysta in 2QFY19), revenue grew 11% YoY (volume growth: 15%, price: -1%; exchange: -3%). Reported EBITDA stood at INR15.4b (v/s est. INR18.1b; +11% YoY on like-to-like basis), up 83% YoY. The miss was due to lower-than-expected gross margins, owing to product and geography mix changes. Adj. PAT was up 6% YoY at INR3.6b (v/s est. INR5.9b). 1HFY20 like-to-like revenue/EBITDA grew 9%/11%.

–      LATAM sustains growth; muted show in North America, Europe and ROW: LATAM delivered revenue growth of 24% YoY in 2QFY20 – the fifth consecutive quarter of 20%+ YoY growth. However, North America (NA) and Rest of World (ROW) declined 1% and 4%, respectively, owing to competitive pressure (in NA) and severe drought conditions in South East Asia. Consolidated gross margins were dented due to (a) lower revenue contribution from Europe/US regions, which yield higher margins, (b) product mix changes, and (c) currency depreciation. According to management, cost and revenue synergy from the Arysta acquisition stood at INR1.9b in 2QFY20.

–      Key concall takeaways: (i) Maintained guidance for 8-10% revenue growth and 16-20% EBITDA growth in FY20, and (ii) Gross debt as at Sep’19 stood at INR309b v/s INR293b in Mar’19; UPLL maintains its debt reduction guidance of USD500m in FY20.

–      Valuation view: Factoring in the miss to our earnings estimates in 2QFY20, we have cut our annual PAT estimates by 13%/6% for FY20/FY21. High debt remains a key concern owing to the Arysta acquisition; significant rise in net D/E from 0.4x in FY18 to 1.8x in FY19. We value the stock at 13x FY21E EPS (~15% discount to its five-year average trading multiple, primarily due to its highly leveraged balance sheet) and arrive at target price of INR553. Maintain Neutral.

  1. INDRAPRASTHA GAS: Strong volume growth continues; beat on EBITDA/scm

(IGL IN, Mkt Cap USD3.9b, CMP INR393, TP INR355, 10% Downside, Neutral)

High volume growth, combined with an expansion in EBITDA/scm, resulted in an EBITDA jump of 27% YoY to INR3.9b (our estimate: INR3.7b) for 2QFY20. PBT stood at INR3.7b with a DTL reversal of INR81.6m. PAT was at INR3.8b (v/s INR1.9b in 2QFY19).

–       The company has recognized provision for income tax on the revised rates, resulting in a reduction in current tax expense to the extent of INR614m.

–       For 1HFY20, EBITDA stood at INR7.3b (+20% YoY) with EBITDA/scm at INR6.2 (v/s INR5.8 in 1HFY19). PBT was up 20% YoY at INR6.8b, while PAT increased 34% YoY to INR4.9b due to the adoption of the lower tax rate.

–       EBITDA/scm for the quarter stood at INR6.5 (v/s INR5.7 in 2QFY19), supported by the CNG price hike of ~1.4-1.5/kg taken by IGL during the quarter amid an increase in the pipeline tariff. Also, spot LNG prices averaged lower YoY/QoQ at USD5.1/mmbtu (v/s USD10.4 in 2QFY19 and USD5.4 in 1QFY20). EBITDA/scm is the highest since 1QFY17.

–       Strong CNG/PNG volume growth: Total volumes were in line with our estimate at 6.58mmscmd (+12% YoY) in 2QFY20.

–       CNG sales volumes were up 12% YoY to 4.92mmscmd, while PNG sales grew 12% YoY to 1.65mmscmd.

–       PNG domestic grew by 23% YoY and industrial/commercial by 15% YoY.

–       For 1HFY20, total volumes stood at 6.4mmsmcd, with CNG volumes at 4.8mmscmd and PNG volumes at 1.6mmscmd, each up 12% YoY.

Valuation and view

–       As expected, IGL has maintained volume growth of ~12%. This consistency has helped it outperform the Nifty by 20%/30% over the last 3M/12M.

–       We reiterate our belief in volume trajectory, led by growth in NCR, inter-city travel on CNG, the higher conversion to CNG due to BS-VI implementation and the contribution from newer GAs. However, we remain concerned about the regulatory landscape, which might challenge IGL’s monopoly in Delhi.

–       We model volume growth of ~10/11%, EBITDA/scm of INR6.2/6.0 and ROE of ~25/21% for FY20/21.

–       The stock has rallied ~10% in the last 30 days and now trades at 24.5x FY21E (v/s its long term average of 16.0x).

–       We value IGL at 20x FY21 EPS of INR16.0 (and add contribution from JVs) to arrive at a fair value of INR355. Reiterate Neutral.


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