GSK Pharma : Benefit of product mix offset by lower operating leverage CMP: INR1,364 TP: INR1,300 (-5%) Neutral

Revival in revenue growth delayed by COVID-19-led crisis

·         GSK Pharma (GLXO) reported an all-time high gross margin (GM) of 64%. The company has been curtailing low-margin products and focusing on key brands for the past four quarters. The benefit of these actions is now finally reflecting on the margin. GLXO remains focused on the Anti-Infectives, Dermatology, and Anti-Pyretic therapy areas through enhanced MR productivity and better engagement with healthcare professionals.

·         However, we reduce our EPS estimate by 2.4%/1% for FY21/FY22 to factor COVID-19-led weakness in Anti-Infectives and other acute therapies. We continue to value GLXO at 37x 12M forward earnings to arrive at a price target of INR1,300 (from INR1,320 earlier). Maintain Neutral .

Superior margins, led by better-than-expected earnings

·         Sales grew ~3% YoY to INR7.8b (our est.: INR8.0b), led by better traction in the Anti-Infectives, Dermatology, and Anti-Pyretic therapy areas.

·         GM improved sharply by ~460bp YoY and ~610bp QoQ to 64%, supported by a change in the product mix.

·         The EBITDA margin improved by a mere ~70bp YoY to 22.4%, weighed by lower operating leverage (employee cost / other expenses up 260bp YoY / 130bp YoY as a percentage of sales), which offset the benefit of a better GM. n EBITDA increased ~6.4% YoY to INR1.7b (our est.: INR1.4b). Adj. PAT was flat at INR1.3b (our est.: INR1b).

·         For FY20, sales stood at INR32.3b (+3% YoY), EBITDA at INR6.6b (9% YoY), and Adj. PAT at INR4.8b (+15% YoY).

Key highlights

·         Adjusting for tail-end brand rationalization, sales growth was healthy at 13% for FY20. Furthermore, key brands saw 20% growth on a YoY basis.

·         GLXO is exploring options, including the potential sale of the Vemgal site. n Most of GLXO’s top 10 products grew at a healthy rate during the quarter. Its largest product (Augmentin) grew ~20% YoY and its third largest product (Calpol) ~25% YoY.

·         Of GLXO’s top three therapies (contributing ~55% to overall sales), Pain/Analgesics posted the highest growth with 22.3%, followed by AntiInfectives (+15% YoY) and Hormones (+10% YoY). n The Menveo vaccine (launched in Dec’19) for meningococcal disease is showing robust traction, with 30% unit share.

Valuation and view      

·         With the focus on key brands, meaningful (290bp) improvement has been witnessed in the EBITDA margin over FY18–20. The benefit of a superior margin profile is expected to be counter-balanced by muted revenue growth (led by slowdown due to COVID-19) and reduced operating leverage. The earnings CAGR of 22% over FY20–22 may look aggressive on account of a significant reduction in the tax rate.

·         We reduce our EPS estimate by 2.4%/1% for FY21/FY22 to factor COVID-19- led challenges. Accordingly, we reduce our price target to INR1,300 (from INR1,320 earlier) at 37X 12M forward earnings. We maintain Neutral as the valuation adequately factors the upside.