Pharma stocks corrected in line with the bellwether index (average 10 per cent) since October 19, 2021, with some stocks (Lupin, Zydus Lifesciences and Strides Pharma) undergoing higher corrections of around 30 per cent. The trailing valuations have been flat during this period, excluding the three mentioned above) as investors were willing to pay a premium for the declining stock prices. US pricing pressure and raw material cost inflation have been a negative in this period for all the players, but a few players managed it comparatively better based on domestic growth and pipeline strength. The next one or two quarters can be similarly difficult on costs and on the US market side.

Post-Covid, companies have consistently commented on incrementally higher pricing pressure in the US market which could either be a continuation of increased competition and buyer consolidation in US (persisting structural factors) or due to increased stocking during Covid (transitory if the latter is true). A weak flu season in the US also did not help.

Companies with a strong suite of products – Cipla, Sun or Natco Pharma – fared better than others in US revenue growth. But across companies (with domestic presence), domestic growth has been holding up US losses as patient footfalls have returned and a good monsoon season perked up demand, sustaining sales even above the high Covid base of the last two years. Emerging markets have mirrored domestic trends.

On the vaccine front, expectations followed higher investment but the delays and flattening of Covid curve crashed the same, primarily for Zydus Lifesciences, Dr. Reddy’s and Aurobindo.

On the margin front, companies have faced increasingly higher raw material costs in the last 9 months. But owing to each company’s individual strengths – Divi’s through backward introduction, Sun and Cipla through portfolio strength and Zydus Lifesciences through cost cutting measures - they were able to absorb a part of the cost inflation, while others had a sizeable impact on margins. The return of sales and general administration costs (held back in last two years) has impacted the net margins as well but has been buffered by lower R&D costs in some cases (owing to operational challenges in conducting trials). Biocon and Divi’s are on a high capex mode which will drive higher interest costs.

Oil price impact

The current spike in oil prices and by-product chemicals will trickle down to pharma companies in the short term, adding to the cost inflation of the last 6-9 months. Indian markets, which historically operate on 5-6 per cent annual price growth, may find it difficult to pass on prices and retain market shares, while US markets are already reeling under price competition. Amidst all this, companies’ pipeline strength will be a differentiating factor.

What’s in store
Raw material cost spike in the short term
Post-Covid growth in domestic portfolios
Increasing number of launches or limited competition launches in US

There is a higher likelihood that companies can deliver either high-value launches (gRevlimid, respiratory, speciality, biosimilars or 180-day exclusives) or deploy a large basket of products in the US and Indian markets to offset the same. The return of FDA inspections is another overhang on launch strategy along with companies with exposure to Russia and CIS countries , primarilyDr. Reddy’s.

Sun, Cipla and Divi’s among the large-caps are positioned well owing to earlier investments and may continue the same, while others’ response to immediate challenges will be based on pipeline investments of the past fructifying.

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