Sun Pharma: Governance issues, margin pressures expected to weigh on stock

The Sun Pharma stock has declined 19 per cent from its highs touched earlier this month, on a muted performance in the September quarter and corporate governance-related issues. 

Analysts believe that pricing pressures, marketing costs in the US, and the sluggish performance in India are key negatives on the operational front. In addition, related party transactions, highlighted by foreign brokerage Macquarie, will keep the stock under pressure.

The company has, however, clarified to the exchanges that the issues mentioned in a recent brokerage report are in pubic domain and some of them are dated at least 10-15 years old. 

Moreover, the company maintains that it has complied with all regulatory and legal provisions. 

Despite the clarification, the stock was down marginally even when the broader markets were in the green with gains of 1.3 per cent.

While some of the regulatory issues related to its Halol plant are behind the company, brokerages were disappointed by the lack of a secular uptrend in its core markets in the September quarter. 

Analysts at Nomura have highlighted that the India market growth in low teens (adjusted for channel inventory reduction), a slowdown in emerging markets growth, and the sequential fall in US sales, were all negative surprises. 

Excluding Taro, Sun Pharma’s US business declined by 19 per cent over the June quarter due to the lack of a specialty launch as well as price erosion in its core generic portfolio.  

The key risk, according to them, is the rise in research and development spends, speciality-related overheads, and higher amortisation (as was the case in Q2). 

This is expected to put margins under pressure in the second half of FY19, and therefore impact earnings. 

While the company has lined up 4-5 branded products over the next year and a half, including a couple of large opportunities, analysts point to the intense competition in these drugs, which could entail large scale investments to gain market share. If it is not able to quickly grab share, the break-even time frame is expected to stretch more than expected.

Despite the correction, investors should be cautious as near-term headwinds could translate to further downsides for the stock.

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