After sharp gains, API stocks are faced with few headwinds

Shares of active pharma ingredient (API) manufacturers may find the going choppy in the coming quarters. Investors are extrapolating the high growth rate of Q1 into the next year, which may not persist.

No doubt, several API players saw a pick-up in revenues in Q1. However, the growth has been largely due to the disruption in China supply chains while several global companies followed a dual-sourcing policy for APIs. Besides, global companies were noticeably stocking up in the wake of rising demand for medicines during the pandemic. This drove some pharma companies to report API revenue growths in Q1 of 5% to 49% year-on-year.

“Panic buying, dual sourcing, increase in business expansion through new products have driven demand for API products. Of this, the third is the most sustainable. Whether the first two persist over the longer term remains to be seen as companies may still see increased competition from China,” said Kunal Dhamesha, analyst, Systematix Securities.

View Full Image

Way up

Indeed, Chinese competition cannot be ignored. In some products, China has huge capacities and can still shift price dynamics to keep competition at bay. “The competitiveness of Indian players even with government incentives announced so far cannot be taken for granted. The tepid response of Indian companies to the PLI scheme, with no significant capital committed to date reflects some of the aforementioned concerns,” said Spark Capital Advisors in a note.

Another factor that has added to the optimism of API manufacturers is an expected increase in demand due to import substitution. However, this trend is not expected to reap any rewards in the next few quarters, but could likely play out in the long run if local firms can indeed cut costs.

Stocks of some API companies such as Hikal Chemicals, Divi’s Laboratories, Solara Active Pharma, Neuland Laboratories, Laurus Labs and Aarti Drugs shot up 60-394% this year. In some cases, valuations ranging from 21 to 82 times, seem stretched.

“Given no material changes in inherent profitability and long-term growth profiles in the sector, we expect valuations of API stocks to revert to reflect their capital intensity and mid-teens return on capital-employed,” noted analysts at Spark Capital Advisors.

Subscribe to Mint Newsletters

* Enter a valid email

* Thank you for subscribing to our newsletter.

Source link

Posts You May Love to Read !!

Leave a Comment