Atul Prakash Mishra (14P136)

Mohit Maheshwari (14P149)

Namrata Kashyap
(14P151)
Sahil Garg
(14P161)
Utkarsh Patel
(14P175)

Contents
Acknowledgment................................................................................................... 4
Introduction........................................................................................................... 5
Pharmaceuticals Sector Outlook.........................................................................6
Companies taken for Analysis................................................................................7
Dr Reddy Laboratories........................................................................................ 7
Cipla................................................................................................................... 8
Lupin................................................................................................................... 9
Category of Analysis............................................................................................ 10
Investments......................................................................................................... 11
Short Term Investments....................................................................................11
Earnings Per Share (EPS)...............................................................................12
P/E (Price to Earning)..................................................................................... 12
PEG Ratio....................................................................................................... 13
Beta Value..................................................................................................... 13
Long term investment:..................................................................................... 14
Interest Coverage Ratio.................................................................................15
Debt to Equity Ratio...................................................................................... 16
Dividend Per Share (DPS)..............................................................................17
Dividend Yield................................................................................................ 18
Return on Investment (ROE)..........................................................................18
Lending................................................................................................................ 19
Short Term Lending........................................................................................... 19
Current Ratio................................................................................................. 20
Quick ratio..................................................................................................... 21
Inventory days............................................................................................... 22
Receivable days............................................................................................. 23
Payable days................................................................................................. 24
Working capital cycle..................................................................................... 25
Long Term Lending........................................................................................... 26
Debt Equity Ratio........................................................................................ 26
Interest Coverage Ratio.................................................................................27
Gross Block.................................................................................................... 28
Fixed Asset Turnover Ratio.............................................................................29

Return on Capital Employed..........................................................................30

Altman Z-Score.............................................................................................. 31
Strategy............................................................................................................... 32
Overview of Pharmaceutical Industry...............................................................32
Domestic Markets.......................................................................................... 32
International Markets..................................................................................... 33
Recent Budget Impact...................................................................................... 34
Key Growth Drivers........................................................................................... 34
Company Analysis............................................................................................ 37
Dr Reddy Laboratories Ltd............................................................................. 37
Cipla.............................................................................................................. 38
Lupin............................................................................................................. 39
Appendix.............................................................................................................. 40
Dr Reddy Laboratories Ltd................................................................................ 40
Cipla Ltd........................................................................................................... 41
Lupin Ltd........................................................................................................... 42
Bibliography......................................................................................................... 43

Acknowledgment
We would like to take this opportunity to thanks all the faculty members at
Management Development Institute, Gurgaon This project would not have
been possible without our basic understanding of Managerial Accounting
and towards this end the indelible efforts of Prof. S.K.Rai. We are also
grateful towards the Institute for providing us with excellent infrastructural
support in the forms of the Computer Centre and the Central Library.

Introduction
Financial statement analysis is the process of reviewing and evaluating a
companys financial
statements thereby gaining an understanding the financial health of the
company and enabling effective decision making for owners and
managers, prospective and present investors, financial institutions,
government entities etc. It involves analysis of past, current and projected
performance of the company.
Financial Statements are released by companies not only for acceding to
the norms set up by the exchanges on which they are listed and to follow
the rules put down by the regulator of that country but also to provide
prospective investors and financial institutions a brief insight into the
company. It helps them take decision to make investment or give loan,
both long term and short term to the company.
Financial statements are normally available in companys website,
prospectus as also the
annual and the quarterly results declared by the company. These
statements by themselves
contain a lot of numbers which are in comprehensible unless a proper
analysis of such
documents is carried out to arrive at a conclusion on the company's
financial health. The pages that follow, aim to provide a simplified
explanation of some of the basic analysis company for different objectives
of the investor/lender. The objectives include Short term and long term
investment, short term and long term lending and future strategy.

Pharmaceuticals Sector Outlook

The industry has remained largely unaffected by the economic slowdown,
especially critical pharmaceutical therapies. Various players have
diversified its global presence across regulated and emerging economies,
making it possible to sustain growth despite short-term slowdowns in any
geography.
The global spending on generics accounts for 25% of the global
pharmaceuticals spending (US$242 billion in CY11), growing rapidly in the
last few years (~12% CAGR over CY06-11). The share of the top 10 Indian
players is merely 1.1% of the total spending (~US$11 billion) and 3.3% of
the generics spending (US$7.4 billion; ex-India), indicating attractive room
for growth. Globally competitive business models with a mere 3.3% share
of the addressable market combine to provide a large and sustainable
opportunity for Indian pharma companies.
With the increasing contribution of India in US pharmaceuticals market,
USFDA has ramped up its quality checks in India and many Indian
companies has been found wanting in this regard which is substantiated
by various discrepancies found in the facilities of Ranbaxy, Wockhardt,
IPCA and others. Managing USFDA risk would increase compliance cost but
is essential for sustaining growth over longer period of times. The
companies which can manage the regulatory risk well over next few years
would be sitting at a great opportunity as the competition would be
limited due to entry barriers in US market and huge set-up cost for USFDA
compliant plants.
The opportunity size is high for Indian generic manufacturers due to lot of
drugs going off-patent in next 3 years. Developing R&D capability and
streamlining operations to international standards is critical for Indian
pharmaceutical companies to take advantages of increasing number of
off-patent drugs.
The depreciated rupee will augur well for the pharmaceutical companies
as many of them have exports forming a major part of revenue. However
companies need to hedge against large foreign loans. The increasing
litigations for instance, against Indian companies (like Ranbaxy, Aurobindo
Pharma, Wockhardt) also seems to be a matter of concern as import alerts
cause a major loss of revenue causing large aberrations.
Overall, the future looks optimistic due to huge and increasing opportunity
size.

Companies taken for Analysis

Dr Reddy Laboratories
Market Cap (As on 31-08-14): 50,267.57 cr
Sales (FY14): 13,359.10 cr
Established in 1984, Dr Reddys Laboratories (DRL) is one of Indias
pedigreed players having a firm footing in the US and other export
markets with deep rooted product and market knowledge across
therapies. Like Cipla, DRL also recognised the importance of having good
manufacturing practices (GMP) accreditation in the eighties and
eventually got USFDA approval (first of its kind approval for a formulation
facility in India) in 1987. The company owns 22 manufacturing facilities
and four developing centres across the globe. The facilities have been
approved by various agencies such as the USFDA, WHO-Geneva, UKMHRA,
TGA-Australia, MCC-South Africa, DMA Denmark, Brail ANVISA, among
others. Over the years, along with generics, the company also established
itself in the field of discovery of new chemical entities (NCEs) but with
little success.
DRLs business can be classified into three broad segments- 1) global
generics (GG), 2) pharmaceutical services and active ingredients (PSAI)
and 3) proprietary products (PP).
Global generics (76% of revenues) includes branded and unbranded
prescription and over-the-counter (OTC) products business. It also includes
operations of the biologics business.
This segment comprises formulation sales to regulated markets of the US,
Europe and emerging markets such as Russia/CIS, India and RoW.
Pharmaceutical services and active ingredients (21% of revenues) consist
of the active pharmaceutical ingredients (API) business and custom
pharmaceutical services (CPS) business. Proprietary products (PP, 1% of
revenues) consist of NCEs, differentiated formulations and dermatology
focused specialty business operated through Promius Pharma.
DRL is one of the few Indian companies to foray into new drug discovery &
development (NDDS) and new chemical entity (NCE) research. The
company started research operations in 1992 through a non profit
organisation, Dr Reddys Research Foundation, which was later merged
into the company. Despite being an early entrant, the company is yet to
taste success in it. DRL is also the first Indian company to out-license
molecules to big pharma companies. DRL has spent around 7-8% of the
turnover on R&D in the last four years
but this figure is likely to touch 10-11%, going ahead.
REVENUE BREAKUP

North America (47%)

Europe (12%)

India (15%)

Russia and other CIS

(15%)

Rest of the world

(11%)

Source: Companys Annual Report FY14

Cipla
Market Cap (As on 31-08-14): 44,305.20 cr
Sales (FY14): 10,100.39 cr
Formed by Dr KA Hamied way back in 1935, Cipla is one of the oldest
ventures set up by an Indian in the pre-independence era. With 34
manufacturing facilities spread over seven different locations, Cipla has a
gamut of therapeutic offerings ranging from simple anti-infectives to
complex oncology products. The product basket includes ~2000+
products encompassing almost all therapies and over 40 dosage forms.
The facilities have been approved by various agencies such as the USFDA,
WHO-Geneva, MHRA-UK, TGA-Australia, SUKL-Slovak Republic, APVMAAustralia, MCC-South Africa, PIC-Germany, Danish Medical Agency,
ANVISA-Brazil, INVIMAColombia, NDA-Uganda, Department of HealthCanada and MOH-Saudi Arabia, among others. So far, the company has
not faced any cGMP issues or import alerts from any regulatory
authorities.
Ciplas business model focuses on having marketing partnerships with
local companies across the globe. Most partners are large generic players
in developed countries. The company has partnership deals with ~22
partners in the US and ~65 in Europe. Cipla has also formed strategic
alliances for product development, registration and distribution of its
products. For the non-regulated markets, the company has maintained
long-standing relationships with non-government organisations and
institutions globally. However, going ahead, we may witness launches via
front-end model rather than partnership model especially in the US.
REVENUE BREAKUP

Domestic (48.7%)
Export API (5.3%)
Export Formulations
(46%)

Source: Companys Annual Report FY14

Lupin
Market Cap (As on 31-08-14): 57,746.08 cr
Sales (FY14): 8,939.38 cr
From being a global leader in anti-tuberculosis (TB) and other infectious
diseases to one of the fastest growing prescription companies in the US,
Lupin has come a long way to emerge as a leading Indian generic
exporter.
Established in 1968, the company has adapted well as per the changed
industry dynamics like other peers such as Sun, Dr Reddys Laboratories,
Ranbaxy and Cipla. During this journey, it has changed focus in therapiesfrom acute to chronic and also geographies, from
domestic driven to export oriented. It has received USFDA approvals for
two facilities - Ankaleshwar and Mandideep way back in 1989.
Besides this, the company has been fairly active in the global M&A front. It
has acquired companies in Japan (significant acquisitions), Australia,
Philippines and South Africa. Africa. Similarly, the company also acquired
small ticket but lucrative brands in the US (Suprax, Antara, Locoid lotion
and Alinia). Its latest acquisition, however, has been a complex injectable
technology based company (Nanomi) in the Netherlands. Infrastructure-11
manufacturing facilities including two in Japan seven formulations (three
USFDA approved) and four APIs (two USFDA approved).
REVENUE BREAKUP

India (25.4%)
USA (42.8%)
Japan (11.5%)
Others (20.3%)

Source: Companys Annual Report FY14

Category of Analysis
Investments
1) Short Term Investment
2) Long Term Investment
Lending
1) Short Term Lending
2) Long Term Lending
Strategy

Investments
Short Term Investments
Short Term investment means investment for less than 1 year where aim
is to book profits in short term by finding undervalued shares.
Following parameters are considered in short term
1.
2.
3.
4.

EPS
P/E
PEG
Beta

Earnings Per Share (EPS)

EPS for Cipla is not consistent while EPS for other 2 companies (DR Reddy
and Lupin is consistently increasing). EPS for Lupin has increased by over

100

from

FY12

to

FY

14.

Earnings per Share for last 5 years .

P/E (Price to Earning)
The P/E ratio expresses the relationship between the price per share and the
amount of Earnings attributable to a single share. i.e., the P/E ratio tells us how
much an investor in Common stock pays per rupee of current earnings.

PE Ratio = Market Value per share / Earning per share

Sector PE ratio = 27.53
Investors compare a companys PE ratio with historic and sector PE ratio. A low
PE ratio is considered to be a undervalued share but high PE ratio doesnt always

imply a overvalued share. All 3 shares have PE ratio less than sectors so growth
is important. PEG ratio should be looked at instead of PE.
PEG Ratio
PEG ratio of Lupin is less than Dr Reddy lab and cipla which implies than Lupin is
undervalued.
Beta Value
Describe correlated volatility of an asset compared to benchmark

Negative beta, is a rare condition where the price of the stock moves in
reverse direction to the market movement.
Zero beta, is another rarity, where the price of stock stays same over time
irrespective of market movement.
A beta of less than 1 means that the security will be less volatile than the
market.
A beta of 1 indicates that the security's price will move with the market.
A beta of greater than 1 indicates that the security's price will be more
volatile than the market

Overall View :
Lupin seems to be the most viable option as its the least volatile stock with
beta value of 0.37 and at the same time it looks to be most undervalued with
PEG ratio of 1.14. EPS for Lupin has increased by more than 100 % in last 2
years.
So Lupin looks like a low risk high return stock and is worth a try for short term.

Long term investment:

Long term investments can be viewed as investments for 3-10 years. We taken
into account risk and return to analyze stocks for long term
Risk Factors
Interest Coverage Ratio
Debt Equity ratio

RISK FACTORS

Return Factors
DPS
Dividend yield
ROE

Interest Coverage Ratio

A ratio used to determine how easily a company can pay interest on outstanding
debt. The
Interest coverage ratio is calculated by dividing a companys EBIT of one period
by the company's interest expenses of the same period:

There is an alarming decrease in interest coverage ratio of cipla from 61.61 to

13.89. Lupin is very comfortable in this front with coverage ratio of 107.25

Debt to Equity Ratio

It defines the financial leverage of a company.A high debt/equity ratio generally
means that a company has been aggressive in financing its growth with debt.
This can result in volatile earnings as a result of the additional interest expense.
Also this signifies high risk as the company does not have enough funds to pay
off its debt.

Lupin and Cipla are comfortably placed as far with debt to equity ratio of .08
and .12 respectively but Dr Reddy lab has significantly high ratio of .53

RETURN FACTORS

Dividend Per Share (DPS)

DPS is the dividend given to shareholders per share. High dividend implies
company is making profits and is willing to share it with shareholders.

DPS is highest for Dr. Reddy Labs while it is consistently 2 Rs. for Cipla. DPS is
consistently increasing for Lupin. Though DPS for DR. Reddy is highest share
price for it is also high compared to other 2 shares so dividend yield is better
measure of companys dividend performance

Dividend Yield
Dividend yield is defined as dividend paid/Price of stock. A financial ratio that
shows how much a company pays out in dividends each year relative to its share
price
Dividend Yield = Dividend Paid/Price of Share
Among 3 companies dividend yield is highest for Dr. Reddy lab

Return on Investment (ROE)

It is the amount of net income as a percentage of shareholders equity. Return on
equity measures a stocks profitability by revealing how much profit a company
generates with the money shareholders have invested. So higher the ROE, better
is the performance of the company.
Return on Equity = Net Income/Shareholder's Equity

ROE is lowest for cipla which is an area of concern. It is constant for Dr. Reddy
lab while its consistently increasing for Lupin after 2012.
Final Verdict :
Lupin looks to be a favorite bet for long term looking at both risk and return
factor. Dr Reddy looks to be close 2nd while presently Cipla doesnt look like a
right company to invest in for long term.

Lending
Short Term Lending
The short term lending is to provide capital to the company for short
duration usually less than a year. These loans are generally used by the
company to meet working capital needs but in some cases can be used
for other purposes as well. The analysis of short term lending is aimed at
finding how much return on investment can be realized in short run. A
bank will thus lend money only to those companies which are running
their business efficiently and are in a position to give good returns. It is
imperative to analyze why the company is borrowing money and what will
be the application of funds. We must find out whether the company will
apply the funds to pay back loans (principal or interest) or to raise fixed
assets or to increase current assets. The parameters taken into
consideration
are:1. Current Ratio
2. Quick ratio
3. Inventory days
4. Receivable days
5. Payable days
6. Working Capital Cycle
Current
Ratio
Quick Ratio

Company
Cipla
Dr Reddys
Lupin
Cipla
Dr Reddys

Inventory
days

Lupin
Cipla
Dr Reddys

Receivable
days

Lupin
Cipla
Dr Reddys

Payable
days

Lupin
Cipla
Dr Reddys
Lupin

Working
Capital

Cipla
Dr Reddys

FY 10
3.71
2.22
2.45
2.43
1
.46
1.61
98.15
69
.95
73.51
101.66
60
.58
85.24
76.38
18
.29
86.9
4
123.43
112.
24

FY 11
3.98
2
.36
2.57
2.35
1
.60
1.71
110.02
77
.86
75.77
86.05
85
.74
79.29
67.60
21
.52

FY 12
3.09

FY 13
3.70

FY 14
3.32

2.72
2.32
1.82

2.69
2.54
1.98

3.07
2.93
1.65

1.96
1.47
96.18

2.01
1.65
105.24

2.30
1.95
104.63

72.27
89.29
80.77

66.60
73.78
73.57

66.09
68.86
59.22

94.34
89.24
75.62

97.59
82.79
61.27

90.85
79.69
62.61

19.71

22.26

23.82

87.35
128.47
142.
08

105.09
101.33
146.90

83.59
117.54
141.93

70.38
101.24
133.12

Cycle

Lupin

71.
80

67.71

73.44

72.99

78.17

Current Ratio

The formula is: Current ratio = current assets/current liabilities

The higher the current ratio, the more capable the company is of paying
its obligations. A ratio less than 1 suggests that the current assets are less
than current liabilities and hence the company would be unable to pay off
its obligations if they came due at that point. While this shows the
company is not in good financial health, it does not necessarily mean that
it will go bankrupt.
4.5
4

3.98
3.71

3.7

3.5

3.32

3
2.5 2.45
2.22

2.57
2.36

3.09
2.72

2.69
2.54

3.07
2.93

2.32

Cipla
Dr Reddys

Lupin

1.5
1
0.5
0
FY 10

FY 11

FY 12

FY 13

FY 14

Analysis

Here the current ratio for all companies is high which signifies that current
assets are not properly utilized. Cipla has highest while Lupin has lowest.
All the companies have more currents assets than obligations which is a
positive sign. However, low utilization of resources could be a matter of
concern

Quick ratio

The formula is: Quick ratio = Current assets inventories/ current

liabilities
Ideally, quick ratio should be 1:1. A quick ratio higher than 1:1 indicates
that the business can meet its current financial obligations with the
available quick funds on hand. A quick ratio which is lower than 1:1 may
indicate that the company relies too much on inventory or other assets to
pay its short-term liabilities. Many lenders are interested in this ratio
because it does not include inventory, which may or may not be easily
converted into cash.
3

2.43
2.5
2.35
2

1.5

1.61
1.46

1.71
1.6

2.3
1.96
1.82

2.01
1.98

1.95

1.65

1.65

1.47

Cipla
Dr Reddys
Lupin

0.5

0
FY 10

FY 11

FY 12

FY 13

FY 14

Analysis
Higher quick ratio is also not desirable because it indicates that company
needs to employ high current assets in the business. However, high quick
ratio is generally good for business if one takes into perspective the short
term borrowing capability of the business. Here all the three companies
have quick ratio above 1 but lupin amongst the three is the only one
which is maintaining the stable while other Ciplas has declined from 2.43
to 1.65 and Dr Reddys has gone up from 1.46 to 2.3 .

Inventory days

Inventory Days is an efficiency ratio that measures the average number

of days the company holds its inventory before selling it. Lower Inventory
days is desirable.
120
105.24

110.02
100

104.63
98.15

96.18
89.29

80
73.51
69.95

77.86
75.77

73.78
72.27

66.6

68.86
66.09

60

Cipla
Dr Reddys
Lupin

40

20

0
FY 10

FY 11

FY 12

FY 13

FY 14

Analysis
Inventory days of Cipla has increased which indicates that the sales
growth is financed by credit and better terms to the customer rather than
product pull. But the increase in days is not very high and is in reasonable
range.
Dr. Reddy has seen marginal improvement in inventory days due to better
working capital management.
There has been drastic improvement in inventory days in last three years
for Lupin which indicates that sales growth has come from product pull
rather than push strategy which indicates stronger visibility.

Receivable days
120

100

101.66

85.24
80

94.34
85.74
86.05
79.29

89.24
80.77

97.59
82.79

90.85
79.69

73.57
60

60.58

59.22

Cipla
Dr Reddys
Lupin

40

20

0
FY 10

FY 11

FY 12

FY 13

FY 14

A measure of the average time a company's customers take to pay

for purchases,
equal
to accounts
receivable divided
by annual sales on credit times 365.

Analysis
Receivable days indicate the credit terms provided by the company to
push sales. On this count, Cipla is the best company as it has been
proficient in getting the money quickly from the debtors.
However, all 3 companies are improving their receivables which are a
good sign for a company financing their operations.

Payable days

A company's average payable period. Days payable outstanding tells how

long it takes a company to pay its invoices from trade creditors, such as
suppliers
120

100
86.94
76.38
80

105.09
87.35

83.59
75.62

67.6

61.27

60

70.38
62.61

Cipla
Dr Reddys
Lupin

40
18.29
20

0
FY 10

21.52

19.71

22.26

23.82

FY 11

FY 12

FY 13

FY 14

Analysis
Higher payable days are good for a company as this reduces the amount
of capital to be employed in the business and improves the overall return
ratios of the business.
Lupin has higher payable days indicating better terms with its creditors as
compared to the other two.

Working capital cycle

Average number of days a firm takes to convert working capital into sales
revenue. Less the number of days, more efficient is the use of working
capital.
Working capital Cycle = Average working capital x 365 sales revenue.
The easiest way to explain it is in terms of the number of day difference
between when you pay for things and when you get paid.
160

142.08

140
123.43
112.24
120

128.47

141.93
117.54

101.33

100
8071.8

146.9

67.71

133.12

101.24

73.44
72.99

78.17

Cipla
Dr Reddys
Lupin

60
40
20
0
FY 10

FY 11

FY 12

FY 13

FY 14

Analysis
For Dr Reddys the no of days in working capital cycle is high. Though it
has been decreasing but still it needs improvement. Cipla is having very
fluctuating working capital cycle and after a sharp increase in FY 13, it has
been brought down to Previous levels in FY 14. Lupin is having a stable
trend and is having the lowest working cycle among all of them.
Overall Analysis
On the basis of Working Capital Cycle, Lupin is the best as the cash
conversion cycle is the lowest among all the 3 peers. So as a financier, if
one has option to chose one amongst the 3, one will select Lupin Ltd for
short term lending.

Long Term Lending

The purpose of long term lending is to analyze the company for steady
gains over longer period of time. The main aim in analyzing is to minimize
the risk and maximize the profits over the longer period of time. Following
ratios are considered for this:

Debt Equity Ratio

Interest Coverage Ratio
Gross Block
Fixed Asset Turnover Ratio
ROCE

Debt Equity Ratio

It is a measure of a company's financial leverage. It indicates what

proportion of equity and
debt the company is using to finance its assets.
D/E = Total Liabilities/ Net worth
A low debt-equity ratio implies that a company needs to be more
aggressive with its growth debt. It further suggests that the company is
not leveraging itself optimally to achieve growth in return on equity funds.
A high debt-equity ratio means that although the company is following
aggressive growth path through debt funds, its bottom-line will be
affected due to the interest expense accrued because of the debts.

0.70
0.65
0.60
0.50
0.44
0.39
0.40

0.59
0.50

0.35

0.53
Cipla

0.36

Dr Reddys

0.30
0.20

0.11
0.10
0.00 0.00
FY 10

Analysis

Lupin

0.19

0.09
FY 11

0.00
FY 12

FY 13

0.12
0.08
FY 14

Lupin has lowest Debt/Equity ratio which indicates it to be best company

to finance for the long term on this parameter. Cipla is also having low but
it is increasing year by year which is not good.

Interest Coverage Ratio

Interest Coverage Ratio = EBIT/Interest Expense

It is used to infer how easily a company can cover its debt expenses. The
lower the ratio, the company has a higher debt expense. When a
company's interest coverage ratio is 1.5 or lower, its ability to meet
interest expenses may be questionable.
Interest Coverage Ratio for all the three companies
120.00
107.25
100.00
80.00
61.62
60.00
46.20

49.08
47.31

FY 10

Dr Reddys

47.92

Lupin

38.76
34.72

40.00
29.35
16.69
20.00

Cipla

19.37

23.12
21.89
13.90

15.78

FY 11

FY 12

FY 13

FY 14

Analysis
Interest Coverage ratio is highest for Lupin indicating it is very safe to
finance Lupin with debt indicating Cash flow from operations are more
than enough to finance interest costs.
Even Dr. Reddy and Cipla has high coverage ratio and are good for longterm financing but Lupin seems to be the best bet.

Gross Block

Gross block gives us the total value of all of the assets that a company
owns without accounting for depreciation.
Gross Block for all three companies
10,000.00
9,000.00

8,672.15

8,000.00
7,000.00
6,000.00

6156.4

6446.8

5,000.00

4844.8
4,241.10

4,000.00
2,897.26
2613.39
3,000.00

2964.34

5214.4
4,626.90
3982.44

5,317.52
4339.31

7185.9
Cipla
4884.76 Dr Reddys
Lupin

2,000.00
1,000.00
FY 10

FY 11

FY 12

FY 13

FY 14

Analysis
Gross Block of all the 3 companies has increased and Cipla has followed
aggressive approach in increasing the Gross Block compared to others
which can affect its asset turnover ratio.

Fixed Asset Turnover Ratio

Fixed Asset Turnover = Sales/ Fixed Asset

It is a measure of a companys efficiency to generate net sales from fixed
assets investments
For all three companies
4.00
3.50
2.97
3.00
2.812.53
2.50

2.81
2.21
2.04

2.88
2.58
2.18

3.21
2.94

3.36
2.88

2.29
Cipla

2.00

Dr Reddys
1.55

1.50

Lupin

1.00
0.50
FY 10

FY 11

FY 12

FY 13

FY 14

Analysis
Fixed assets turnover of Lupin is very high which indicates Asset light
business model. Dr.Reddy also has high ratio indicating good economics of
the business as a whole. Cipla reduced its fixed asset turnover ratio
indicating that the increase in gross and net block has not yet reflected in
sales of the company.

Return on Capital Employed

ROCE = PAT/ Debt+Equity+Reserve

It is a ratio that indicates the efficiency and profitability of a company's
capital investments
Analysis

0.30

0.25

0.24

0.200.18

0.21
0.19
0.16
0.14

0.15

0.16
0.15
0.16

0.16
0.15

0.16

Cipla
Dr Reddys

0.12

Lupin

0.10
0.07
0.05

FY 10

FY 11

FY 12

FY 13

FY 14

High ROCE of Lupin indicates better capital efficiency in the business. Also
RoCE of Dr. Reddy and Cipla are high indicating enough returns to finance
long term debt.

Overall Analysis
Lending profile of the Lupin is the best as the Future Cash Flows are
expected to be higher per unit of Capital employed. Even in case of Lupin
and Cipla, Cash Flows are enough to finance the debt, so all the 3
companies are credit-worthy.

Altman Z-Score

Altman Z-Score is the output of a credit-strength test that gauges a

publicly traded manufacturing company's likelihood of bankruptcy. The
Altman Z-score, is based on five financial ratios that can be calculated
from data found on a company's annual 10K report. The Altman Z-score is
calculated as follows:
Z-Score = 1.2A + 1.4B + 3.3C + 0.6D + 1.0E
Where:
A = Working Capital/Total Assets
B = Retained Earnings/Total Assets
C = Earnings Before Interest & Tax/Total Assets
D = Market Value of Equity/Total Liabilities
E = Sales/Total Assets
A score below 1.8 means the company is probably headed for bankruptcy,
while companies with scores above 3.0 are not likely to go bankrupt. The
lower/higher the score, the lower/higher the likelihood of bankruptcy.
Company
Dr Reddy Laboratories Ltd
Cipla
Lupin

Altman Z-Score (FY14)

6.28
10.64
14.74

Analysis
All the 3 companies have Altman Z-score higher than 3 which suggest that
all the 3 companies are good for lending as they are not likely to go
bankrupt.

Strategy
Overview of Pharmaceutical Industry
The Indian pharmaceutical industry, sized at USD 34 billion (including
exports) in 2013-14, has remained on a strong growth trajectory, over the
past few years. The industry is marked with high fragmentation and
relatively low drug prices, as compared with the regulated markets.
The Pharmaceutical companies in India are one of the major exporters in
the international markets. So we segment it into the domestic and
international markets to better understand critical value drivers.
Domestic Markets

The domestic market is about $10.9 billion (or Rs 660.7 billion) and
constituted around 1.1 % of the global pharmaceutical market in value
terms. This is because of lower drug prices and lesser penetration of
healthcare, vis-a-vis developed markets, such as US and Europe.
Over 100,000 drugs, across various therapeutic categories, are produced
annually in India. The domestic formulations industry is highly fragmented
in terms of both, number of manufacturers and variety of products. There
are 300-400 organised players and about 15,000 unorganised players.
However, organised players dominate the formulations market, in terms of
sales. In 2013-14, the top 10 formulations companies accounted for 42.2
per cent of total formulation sales. Share of top 10 MNC pharmaceutical
companies has reached close to 20 per cent as on March 2014.
India is primarily a retail-based branded generic market with 80%
dispensed through pharmaceutical outlets. By 2020, it is expected that
the retail segment will continue to dominate but the consumption in
hospital settings will rise to 25-30% of the market share due to growth in
medical infrastructure.
A growing population, increasing healthcare awareness, and rising per
capita income enabled the domestic formulations market to post a 13.3 %
CAGR over the last five years. Domestic formulation sales grew by 6 %
(YoY) in 2013-14. Due to poor sanitation conditions, infectious (acute)
diseases are predominant in India. Mass therapies such as anti-infectives
and gastrointestinals will continue to grow at a steady pace, due to the
increasing penetration of such drugs in rural areas, which lack proper
sanitation facilities and are thus more prone to acute ailments.

The incidence of chronic ailments, characterised by prolonged exposure,

has been increasing with the emergence of lifestyle diseases in India, due
to changing work pattern of the working population, higher stress levels,
and unhealthy eating habits.
Mckinseys analysis shows that the Indian pharmaceuticals market will
grow to USD 55 billion by 2020 driven by a steady increase in affordability
and a steep jump in market access. At the projected scale, this market will
be comparable to all developed markets other than the US, Japan and
China. In terms of volumes, India will be at the top, a close second only to
the US market.
With the chronic segment growing significantly, domestic industry is
expected to generate even higher value growth over the next few years
which provide an interesting opportunity for the industry.
International Markets

Exports, which contribute about 60 % to the Indian pharmaceutical

industry, have been the key growth driver for revenues of Indian
formulation and bulk drugs players.
Over the past few years, Indian pharmaceutical players have been
increasingly tapping opportunities in global generics markets, especially
the US and Europe. Meanwhile, mid-sized and small-sized players have
targeted semi-regulated markets of Africa, Asia and Latin America to
enhance their distribution network before exporting to regulated markets.
The improving penetration in pharmerging markets is also a huge
opportunity where 63% of the expenses are likely to be filed under the
head of generic products.
For bulk drugs manufacturers, a burgeoning generic market and cost
reduction measures by global pharmaceutical companies present a huge
opportunity in regulated markets. Backed by cost-competitiveness, welldeveloped process chemistry skills and the largest number of drug master
filings globally, India is well-placed to tap export opportunities in regulated
markets.
Significant exposure to international markets also exposes these players
to risks, such as volatility in currency rates, overall market performance
and outsourcing plans of key players in the target destinations, regulatory
risk etc. In terms of capital expenditure too, large players score over
smaller formulation and bulk drugs firms, as the latter have a fewer
number of US FDA-approved plants, which significantly reduces their
capex requirements but this is well compensated by better realisations for
bigger players. Large players, which garner larger proportion of sales from
regulated markets, accordingly enjoy better profitability and returns.

Recently, there has been increased scrutiny by USFDA. Managing USFDA

risk would increase compliance cost but is essential for sustaining growth
over longer period of times. The company which can manage the
regulatory risk well over next few years would be sitting at a great
opportunity as the competition would be limited due to entry barriers in
US market and huge set-up cost for USFDA compliant plants. India has 2nd
highest number of USFDA compliant plants after USA, hence it is well
equipped to take advantage in future.
Even after considering the high risks entailed with compliance, US and
other regulated markets remain a key area of growth due to the sheer size
of the market. With increasing number of drugs going off-patent in the
next few years, there is enough opportunity for Indian generic
manufacturers to capture market share and grow in their niche segments.

Recent Budget Impact

Bringing technical testing of newly developed drugs on human

participants, under the services tax gamut, would only have a
marginally negative impact. Costs of human clinical trials may rise
slightly; however, large pharmaceutical companies, which typically
spend 6-8 per cent of revenues on R&D activities, may not see a
significant impact on their overall bottom-line. This is because most
players are majorly into abbreviated new drug applications (ANDAs),
which only require bio-availability and bio-equivalence (BA/BE)
studies as opposed to human drug trials
The budgetary announcement to create new drug testing
laboratories and strengthen 31 existing state labs, is a key policy
move, aimed at further supporting state and food regulatory labs.
As such, large pharma companies are already making efforts to
meet regulatory compliance, both at international and domestic
plants, especially in light of the recent US FDA scrutiny. The
government move could now possibly usher a more stringent
domestic regulatory environment for smaller manufacturers
Exempting anti-retroviral drugs from customs and excise duties,
under the National Aids Control Programme, is expected to help
lower cost of these drugs, used in HIV treatment. However, this is
not going to impact Indian manufacturers significantly as these
drugs account for less than 1 per cent of the overall pharmaceutical
market, estimated at Rs 660 billion as of 2013-14

Key Growth Drivers

Rising incomes of the middle class
1. Growing middle class with higher purchasing power
Domestic demand will be driven by rising middle class population. Indias
population is currently 1.2 billion and is projected to rise to 1.6 billion by
2050 a 45.5% increase. Besides, India has a huge middle class population
which has grown rapidly. If the economy continues to grow fast and
literacy rates keep rising, around a third of the population (34%) is
expected to join the middle class in the near future. The middle class
population is rapidly acquiring the purchasing power necessary to afford
quality western medicine due to an increase in disposable income.
The Indian population spent 7% of its disposable income on healthcare in
2005; this number is expected to nearly double, to 13%, by 2025. By
2020, 34% of Indian population is forecasted to be in the middle class

which will further drive demand.

2. Changing Lifestyle and disease profile

There is a trending change in the disease profile with the changing
lifestyle. Traditionally, the acute disease segment held a significant share
of the Indian pharmaceutical market. Due to issues relating to public
hygiene and sanitation, this segment will continue to grow at a steady
rate especially in semi- urban and rural areas. Due to changes in lifestyle
there is an onset of lifestyle related conditions, there is a growth in the
chronic diseases segment. India has the largest pool of diabetic patients in
the world, with more than 41 million people suffering from the disease.
With increase in affluence, life expectancy has risen and the growing size
of the Indian geriatric population will be a key driver in the growth of
chronic segment.
3. Increase in Health Care Insurance
Around 80% of Indias healthcare expenditure is financed out of pocket.
This limits the propensity of Indians to spend on healthcare, particularly in
lower and middle income groups which comprise around 95% of
population. The government runs a health insurance scheme called
Rashtriya Swasthya Bima Yojna (RSBY) that provides insurance cover for
workers. Increased health insurance coverage will benefit generic drug
manufacturers by increasing the markets affordability for medicines.
4. Portfolio diversification
Besides plain-vanilla oral generics, many large cap Indian pharmaceutical
companies are also expanding their capabilities in niche areas like
parenterals (injectables), nasal, ophthalmics and trans-dermal delivery
systems which offer growth opportunities. While they cover perhaps only
20% of the market, they offer higher margins and limited competition for
an extended time, and hence are catalysts for sustainable growth.
Investment in drug delivery systems has so far not had a big impact on
growth levels, largely because the segment represents a minority share of
global pharma sales. However, with blockbuster expiries in oral
formulations in regulated markets, increasing emphasis on biologics (most
of which are injectables) this missing link in some companies could

prove costly for future sustainable growth in generics. The generic market
in injectables should increase going forward.
The growth in injectables is expected to outpace that in oral preparations
as a result of:

Increasing emphasis on shift towards specialty segments like

oncology, hormones and blood-related disorders
Growth in segments like biologics, therapeutic proteins and
vaccines, all of which are injectable
Limited pricing pressure in injectable generics as against plainvanilla orals

Injectable oncology patents will start expiring post 2015, just when the
opportunity in orals may register a huge decline. The US and EU together
account for 90% of the regulated markets in injectables and the US
represents nearly half the share in non-biologics injectables. A limited
number of players will compete in this market, which should improve
margins. Entry barriers are high as the segment involves building a large
and complex product portfolio across various therapeutics, based on
multiple technology platforms and delivery mechanisms. Recent
acquisition of Orchid from Hospira and deals by Pfizer with Aurobindo and
Claris LifeSciences indicate scarcity value in injectables.
Generic opportunities in smaller share delivery systems like nasal, topical
(dermal), otic and ophthalmics are expected to grow. Despite their low
numbers in terms of sales, they can offer significant competitive
advantage in terms of establishing a niche portfolio. Some of these
systems, like nasal sprays, are not new to generics although they have
started gaining prominence owing to significant opportunities in generic
inhalers.
Also the quality of pipeline of top Indian companies is gradually
strengthening, comprising of higher Para IV filings, specialty products and
niche complex chemistry molecules.

Company Analysis
Dr Reddy Laboratories Ltd

Operational Strategy
1) Short Term
Current Ratio has been pretty steady over the last 3 years increasing
incrementally. Current Ratio in FY14 stood at 1.96 which means that
current assets are high compared to current liabilities. Inventory
Management cycle has also been steadily decreasing which is a good sign.
Debtors turnover has been high over years. Overall Working Capital Cycle
has decreased from 146.9 to 133.1 which indicates company has got
better terms with increase in sales and efficient working capital
management.
2) Long Term
Fixed Asset Turnover has been high and steady over the past 3 years
indicating company has been using the capital efficiently. Interest
coverage ratio is higher than 20, indicating their is enough headroom for
the company to grow inorganically as well as organically through
Greenfield expansion.
Financial Strategy
Company can afford to undertake debt financing for growth and distribute
profits as dividends to further improve the return ratios. Currently, the
company has high interest coverage ratio and manageable Leverage ratio
suggesting good credit worthiness for near term.
Dr Reddy Laboratories has shown strong revenue growth over the last
decade. Also its capital efficiency (RoCE) and profitability (PAT% to Sales)
have steadily improved over the last 5 years. Its business has grown due
to its limited competition products maintaining their market share.
Therefore it should remain focused on building this steady pipeline of
limited competition products which would help them in ensuring base
revenue. Its business has grown in other countries like Russia while
maintaining consistent growth in OTC business. Pharmerging markets
should be an area of focus since it is expected to account for the majority
of the absolute growth.

Cipla

Operational Strategy
1) Short term
Current ratio for Cipla is greater than 3. It has come down to 3.32 in FY14
from 3.7 in FY13. It understands that it needs to utilize its assets in a
better way. Inventory days is also much higher than it peers and measures
have to be taken to reduce it. Overall working capital cycle is fluctuating
and has come down to previous levels after a high in FY13. It needs
improvement since it is higher than its peers.
2) Long term
A look at the Fixed Asset turnover tells us that Cipla needs improvement
on that front as well. It has decreased in Fy14 to less than half of its peers.
The company needs to devise a strategy for asset utilization to drive sales
growth. Fixed asset investment has to be efficient as this would help in
achieveing the desirable long term sustainable growth rate.
Financial Strategy
Cipla has been managing debt well. From zero D/E ratio in FY12 it has
been able to control its debt to a very manageable level in Fy14 signifying
management focus towards efficient and leverage free based approach to
growth. Cipla has significantly increased the gross block through debt
financing but the utilisation has not yet reached peak levels. Cipla should
wait for normalisation and consolidation of the business before going for
next wave of expansion.
Cipla should formulate strategy that revolve around the risks that it could
encounter in the future like
1. Fluctuations in currency and hurdles due to excessive government
regulation
2. Implementation of the new drug pricing policy in India

Lupin

Operational Strategy
1) Short term
Current Ratio has been pretty steady over the last 3 years increasing
incrementally. Current Ratio in FY14 stood at 2.92 which means that
current assets are high compared to current liabilities. Inventory
Management cycle has also been steadily decreasing which is a good sign.
Debtors turnover has been high over years. Working Capital cycle has
returned to a low level after a high in FY13.
2) Long term
Fixed Asset turnover has increased significantly over the last three years
signifying that the company is utilizing its asset well. Net Profit has
increased in sync with its sales thereby giving the impression that the
company has been able to manage its expenses well over the period.
Financial Strategy
The company has low D/E ratio. Its almost debt free resulting in very high
interest coverage ratio with respect to its peers. Lupin can follow a
strategy of debt fuelled growth and use leverage to make significant
investments in intellectual property such return on capital employed is
maintained at the current levels.
Lupin believes it is witnessing a phase of a shift in margin profile. This is
due to a shift in product mix and operating leverage. LPC is looking at
acquisitions to
a) strengthen presence in the US branded space,
b) new technology platforms and
c) enter new geographies

Appendix
Dr Reddy Laboratories Ltd

Cipla Ltd

Lupin Ltd

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