• Investment World
• eWorld
• Catalyst
• Mentor
• Life
• Canvas
• Praxis
• Urban Pulse
• Brand Quest

Nath Balakrishnan

Investments in R&D, a long-term positive

SHAREHOLDERS can consider reducing their holdings in the Dr Reddy's stock. Lack of near-term earnings triggers and a rich valuation underpin our current view.

The recommendation also represents a continuation of the stance held on the stock since its announcement of FY-04 results (Business Line, June 6). The stock slipped by close to 20 per cent subsequent to the earlier recommendation; it has recovered some ground thereafter. Investors can take advantage of the recent rally in the stock price to trim holdings.

Dr Reddy's is clearly in an investment mode as is manifest in the higher research and development expenditure (12 per cent of sales in the latest quarter compared to 9 per cent in the corresponding previous quarter) and an expansion in selling and general administration expenses (at 32 per cent of sales in the latest quarter compared to 27 per cent in the year-ago period).

While this is a positive from a long-term perspective, the higher expenditure can pressure operating margins in the immediate term.

In the latest quarter, a noteworthy development has been the improvement of gross margins on a year-on-year and sequential basis. This was achieved due to an improvement in the sales mix and a strong showing of branded formulations in the Russian market.

This has been on account of seasonality and is not expected to sustain. This assumes significance because Dr Reddy's derives gross margins of close to 70 per cent from its formulations business.

In the key US generic market, flagship molecules such as fluoxetine and tizanidine reported sales of Rs 41 crore, down 40 per cent compared to their sales in the year-ago period, on account of intensifying competition. Dr Reddy's has got approval to market generic citalopram that it intends to sell through its sales network. This would give it an additional revenue stream. However, with more generic players expected to step in, there could be an erosion in prices.

The other recent development of Novo Nordisk having suspended clinical trials of Dr Reddy's anti-diabetic molecule once again underscores the risks of a drug development effort. While such news may not have a significant effect on the stock price, it could dampen the sentiment towards a stock.

Dr Reddy's continues to possess one of the better patent-challenge pipelines from among Indian players targeting the US market. However, the unpredictability associated with the outcome of litigation makes the investment decision inherently riskier.

Under the circumstances, reducing exposure appears to be an appropriate course of investor action.

Article E-Mail :: Comment :: Syndication :: Printer Friendly Page

Stories in this Section
TVS Victor - It's tried and tested

Copyright © 2004, The Hindu Business Line. Republication or redissemination of the contents of this screen are expressly prohibited without the written consent of The Hindu Business Line