Last week, Sanofi India proposed a demerger of its consumer business into Sanofi Consumer Healthcare India (SCHI). Investor reaction has been positive as the stock has returned 12 per cent in two days since the announcement. The demerger can unlock value from consumer portfolio — separate from pharmaceutical business, which can come under price control overhang.

Also driving investor interest can be the scope for arbitrage play in value discovery process. The shareholders of Sanofi India, as on the record date (yet to be announced), will be issued equity shares of the SCHI — the demerged company — in the ratio of 1:1.

Subject to shareholder and regulatory approvals, the process is expected to be completed by mid-2024. Sanofi, the French pharmaceutical MNC, holds 60.4 per cent of the shareholding and the same will be replicated in SCHI after the demerger.

Scope of the two businesses

The consumer division or SCHI generated 28 per cent of CY22 revenues at ₹733 crore. The division has strong branded portfolio, including Allegra and Avil for allergies/respiratory (accounting for around 27/12 per cent of division’s revenues) and Combiflam in pain (around 25 per cent).

All the brands are in the top 10 in the Indian Pharmaceutical Market. (IPM). SCHI can gain from increased focused attention of the global parent as it is amongst the top ten consumer health divisions for Sanofi – the international firm. The product portfolio of the MNC, the marketing and market forming ability can aid SCHI’s growth prospects as a separate entity.

Post demerger, Sanofi India will carry the ‘General Medicine’ business. This includes branded portfolio covering Diabetes (Lantus, Toujeo, Amaryl M), Cardiac (Clexane, Cardiace) and CNS (Frisium). Close to 15 per cent of the pharmaceutical portfolio operates under NLEM (National List of Essential Medicines) which restricts the pricing growth to WPI index. This is above the industry average of 11-12 per cent.

With leading brand Lantus (insulin Glargine), also included in NLEM as of September 2022, close to 40 per cent of the portfolio will be under pricing cap. According to draft guideline, 25 per cent price cut can be expected in Lantus. Sanofi India expects to maintain similar margins as arm’s length purchase adjustment from Sanofi (MNC) should offset the change. But overall portfolio growth can be much more restricted. More than half of the industry (IPM) growth has been driven by pricing growth in India.

Valuation

The demerger should unlock value for the consumer business, which should be getting higher valuation multiple than pharma business, given better growth and margins. Compared to flat growth for Sanofi India from CY18 to recent twelve months, SCHI delivered around 8 per cent top line growth.

Sanofi India delivered EBITDA margins of 26 per cent in CY22 and the consumer business may have delivered 800 basis points higher. With well entrenched brands and scope for expansion of product line supporting operations and better financials, SCHI should be valued higher.

Zydus Wellness, a similar consumer healthcare carve-out from pharma company Zydus Lifesciences, trades at 29 times EV/EBITDA compared to 18 times for pharma company. In a similar contrast, Eris Lifescience, with a largely pharma-focussed portfolio, trades at 18 times EV/EBITDA compared to Mankind Pharma (12 per cent consumer healthcare portfolio) which trades at 22 times, despite a similar end-market and growth profile (1.3-1.4 times industry growth).

At 20-25 times EV/EBITDA, SCHI could be valued at ₹6,200-7,500 crore translating to ₹2,600-₹3,300 per share. The branded portfolio growth, unrestricted by pricing cap, should account for a premium valuation. Assuming the residual business is valued at 10 per cent discount to pharma valuation range (18-20 times EV/EBITDA) given relatively higher percentage of product portfolio under NLEM, implies a valuation range of 3,200-3,500 per share.

Based on these assumptions, last week’s rally mostly captures the demerger benefits and there may not be much opportunity in the stock for now. The final value will, of course, will depend on how the value unlocking process plays out and performance of the two businesses at the time of demerger.

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