Neuland Laboratories Ltd

Market Capitalization: 1,408 Cr	Current Price:  1,097 (31 Dec 2020)
Stock P/E: 37	Debt to equity: 0.37
Sales Growth (3Yrs): 10%	Profit Growth (3Yrs): -30%
ROCE: 7.9%	ROE: 2.3%
Promoter holding: 36.3%	Cash Cycle: 118 days
Asset Turnover: 0.67	Net Profit Margin: 3.3%

Company Overview

Neuland Laboratories Limited (Neuland) is engaged in manufacturing active pharmaceutical ingredient (API). The Company also provides Custom Manufacturing Solutions (CMS) to develop and manufacture pharmaceutical ingredients and intermediates. Its geographical segments include Europe, India, USA and Rest of the world. The Company’s API products include Alcaftadine, Aripiprazole, Bosentan Monohydrate, Dabigatran Etexilate Mesylate, Deferasirox, Enalapril Maleate, Escitalopram Oxalate, Labetalol Hydrochloride, Posaconazole, Propofol, Ropinirole Hydrochloride, Ticagrelor, Levofloxacin Hemihydrate and Ciprofloxacin Base. It caters to therapeutic categories, including ophthalmic, schizophrenia, vasodilator, fluoroquinolones, ironchelator, chronic obstructive pulmonary disease and cardiovascular. The Company also offers peptide synthesis services, including manufacture of complex amino acids, and manufacture of peptide APIs, new chemical entities (NCEs) and impurities. Neuland has 3 regulatory approved manufacturing facilities with combined capacity of 731 kl. Neuland operates in three different segments namely Prime and Specialty API’s which together form Generic Drug Substances (GDS) and Customer Manufacturing Solutions (CMS).

Business Analysis

CMS Business Entering High Growth Phase

Neuland’s CMS business is driven by technology and strong customer relationships. CMS business involves manufacturing API to customer specifications and designing and developing manufacturing processes. It also involves filing for DMF/CMC for the API and process optimization for cost competitiveness.

Neuland is looking to add in-depth technical capabilities in CMS business by investing in Quality by Design (QBD) labs, process engineering and foraying into new areas of customer solutions. To capture mindshare of customers, it is targeting molecules in later stages of clinical cycle and leveraging on portfolio expansion using a consultative approach.

Neuland has seen sharp rise in CMS Portfolio as customers entrust it to work on multiple projects. As of Q2 FY21, Neuland has 78 live projects in CMS portfolio. The heartening point to note is that apart from 15 projects that have gone commercial, Neuland has around 8 projects in Phase-3 and a further 18 which are in development phase awaiting commercialization. The company has added 3 late-stage products which are expected to be commercialised in next 12 months and 1-2 products which would be commercialised in 1-3 years.

Neuland’s revenue in the CMS segment is derived entirely from regulated markets like US, Europe, and Japan. Thus, the significant scale up in CMS projects as shown in the below table bodes well for increasing the revenue contribution from CMS segment and can lead to decent bump up in operating margins. Going forward, the revenue contribution from Speciality API, Prime API and CMS segments is likely to be 25%, 40% and 35% respectively in the next few years.

Improvement in Margins Likely

Neuland is implementing various cost optimization measures to reduce production costs and solvent consumption. To this effect, it is working on revamping the lifecycle management of the production processes and reducing lead time to produce existing products. Neuland has eased bottlenecks by increasing batch size for high volume fast-moving API’s, thus improving yields and aiding margins.

Neuland was impacted in the last few years due to its dependence on China for raw materials. However, it has made significant progress at de-risking the supply chain and reduced its dependence on raw materials from a single geography. Further, it is working on shortening the supply chain and has managed to de-risk the business by enabling second source for all raw materials sourced from China. Further, shifting of large volume products from Unit 1 and 2 to Unit 3 will lead to economies of scale and strengthen the company’s competitive advantage.

Neuland has recently commissioned Unit 3 plant which was acquired in December 2017. Unit 3 is a multiproduct manufacturing facility with five production blocks for API as well as advanced intermediates. In FY19, Neuland started the commercialisation of products (intermediate for captive consumption) from block 1 of unit 3.  Over the last year, Neuland was able to successfully complete two US FDA audits for its facilities. At present, utilization of the plant is extremely low as the company plans to scale up GDS and CMS segments from Unit 3. With additional production blocks and debottlenecking, Unit 3 will take care of the organisation’s requirements for the next 2-3 years. Capacity utilization on blended basis is around 65% and there will be gradual scale up of Unit 3 which will further accelerate the development of new products and aid improvement in margins.

Key Risks

• One of the products called fluoroquinolones are degrowing by 6-7% on yearly basis. This would mean reduced contribution from these products over long term.
• Compliance risk is very prominent in this kind of business as it will be under constant scrutiny from US FDA and other regional authorities as 93% of Neuland’s revenues are derived from regulated markets.

Key Positives

• Success of commercials products can open up large opportunity to manufacture bulk drugs and have steady revenue potential.
• Neuland has developed proprietary technology called preparative HPLC technique which delivers 20x better throughput compared to standard preparative HPLC technique and thus offers the highest quality peptides at competitive prices.
• The company’s renewed focus on cost management, reducing solvent consumption, and reducing raw material dependency from single source will de-risk the business and improve margins going forward.

Valuation and Conclusion

Neuland is a premier API player with portfolio of 75+ products across 10 therapeutic categories. It has 880+ filings till date with regulators and is currently valued at around 37 PE. It looks good medium-term bet as the expectation is that it will increase its profitability and margins on the back increased share of value-added products in CMS and Speciality API segments combined with increased capacity utilization as the Unit 3 comes onstream. Further, the measures undertaken by the company to rationalize cost and improve resource utilization will likely lead to improved margin profile and enhanced return ratios going forward.

Disclaimer: Have personal investments in Neuland Labs at the time of writing this note. Information in this blog is for educational purposes only. The articles  may contain external links , references and compilation of various publicly available articles. All copyrights and trademarks of images belong to their respective owners and are used for Fair Educational Purpose only.