Dr Reddy’s uses cash for growth

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The sharp jump in Dr Reddy’s Laboratories Ltd free cash flows in FY16 hinted at the possibility of future acquisitions. Relatively poor performance during the year was another reason for seeking inorganic growth.

The company’s acquisition of eight ANDAs in the US market for $350 million, or Rs.2,350 crore, is a sizeable one. ANDA is an abbreviated new drug application, a filing made by a pharma firm to sell a generic version of an innovator’s product. The corresponding innovator brands, of these eight generics, had annual sales of $3.5 billion as of April 2016. Of course, this market will shrink when these drugs actually go off-patent and the number of generic brands will determine the actual extent of erosion.

In an interview published in the The Economic Times dated 13 June, Dr Reddy’s co-chairman and chief executive officer G.V. Prasad said some of these products are complex generics and could face only limited competition. He also expects revenue from them to start accruing in 2018 and peak in 2019. Unlike an existing business, this one promises revenue only a few years down the line.

Since the time and quantum of revenue are both uncertain, it makes it difficult to value the acquisition.

A few years ago, the US generic pathway for large Indian pharma companies was more certain with a steady stream of launches leading to steady growth in revenue and profit. However, compliance-related faults have tripped the best of companies. That is affecting future business too. Dr Reddy’s is facing delays in getting new generic approvals as two of its API units and one formulation unit are under the scanner of the US Food and Drug Administration. API stands for active pharmaceutical ingredient, or the main ingredient of a drug.

This acquisition does two things. One, this is a revenue stream that investors can look forward to, in 2018 and beyond. Two, if Dr Reddy’s takes longer than expected to get its plants cleared by the US drug regulator, it becomes an insurance of sorts. Of course, the company’s shares were unaffected by this news, rising just 0.7% on Monday on BSE. Investors seem to be stuck in the present. They may cheer if Dr Reddy’s delivers on its promise of better growth in the second half of this fiscal year.