Post sale of its specialty business, Strides will be left with low-margin pharma division.
With the proposed sale of Strides’ speciality business — Agila Specialities — to pharma major Mylan, we arrive at a fair value of Rs 852 for the stock.
This is based on valuing the residual business at Rs 145 (seven times CY13 earnings) and assuming a one-time dividend of Rs 707 a share.
This implies a 5 per cent downside from the current levels. Investors may hence be better off selling the stock.
Agila sell off
Specialty, pharma generics and branded generics are the three key business segments of Strides. The company has presence in the specialty business through its subsidiary, Agila Specialties Ltd.
The focus here is on niche segments — oncology and controlled substances in addition to anti-biotics. Agila has a pipeline of 210 ANDAs (Abbreviated New Drug Application), of which 81 are approved.
This business reported sales of Rs 1,365 crore (including licensing income) in CY12. Operating margins for the period stood at 33.6 per cent, the highest among all segments. Agila accounts for 60 per cent and 82 per cent of Strides’ total revenues and operating profits respectively.
Strides recently signed an agreement to sell this business to US pharma major Mylan. The company will receive upfront cash of $1,600 million (around Rs 8,800 crore) on completion of the transaction. Strides is also entitled to receive additional consideration up to $250 million (Rs 1,375 crore), subject to satisfaction of certain conditions.
The company will retire all the debt (Rs 1,375 crore) after the sale and will transfer Rs 1,500 crore worth of gross assets to Mylan. The transaction is expected to be completed by end-September.
Out of the proceeds, Strides’ management intends to spend $400 million (Rs 2,200 crore) for debt repayment, employee pay outs and minority interest.
The company will retain $100 million for investing in its biotech business — Agila Biotech — currently in a nascent stage. Strides may have to pay capital gains tax and transaction charges to the tune of $350 million (Rs 1,925 crore).
One-time benefit to shareholders
Assuming that Strides manages to get the entire $1,850 million (Rs 10,175 crore) , the present value of one-time shareholder benefit, post-tax, works out to Rs 808 a share.
In the worst case, if Strides were to receive $1,600 million, the benefit may be Rs 606 for every equity share. On a base case, assuming Strides receives $1,725 million (Rs 9,488 crore), which is upfront cash of $1,600 million and 50 per cent of the additional consideration ($125 million), the benefit may be Rs 707 a share.
The management however proposes to earmark $700 million to 800 million (Rs 3,850 to 4,400 crore) pre-tax for shareholders. This may translate into a per share benefit of Rs 565-Rs 646, lower than our base case estimates. The mode of payment — dividend or share buyback — is likely to be finalised by September, upon closing of the transaction. But the management has indicated that it may distribute the idle cash that may remain after meeting the above-mentioned expenses to shareholders.
Pharma, key to growth
Post sale of Agila, Strides will be left with the pharma division, which comprises partnership-driven unbranded generic business and branded generic business in India and South Africa.
The company has partnered with pharma majors such as Pfizer, Novartis, Johnson & Johnson and Aspen for sale in the regulated markets.
In addition to strengthening its unbranded business, Strides is banking on healthy growth in the branded businesses in India and South Africa.
The management expects to generate revenues and operating profits of Rs 1,045 crore and Rs 204 crore respectively from the residual business in CY 2013.
We value the residual business of Strides at Rs 145, which is seven times its 2013 expected earnings of Rs 20.8. The total value per share on a base case is Rs 852.
Even in the best case scenario, the upside from the current levels may not be in excess of 6 per cent, while the downside in the worst case may be over 16 per cent (refer table).