The stock of Alkem Laboratories has rallied as much as 45 per cent since our last buy call given in August 2019, thanks to its improved earnings visibility across market segments.

Given its acute-therapy-heavy portfolio, the company had witnessed multiple headwinds during 2017-2019 — inclusion of more drugs in the National List of Essential Medicines (NLEM), the ban on fixed-dose combination (FDC) drugs, an increase in raw material prices and pricing pressure in the US business.

However, Alkem’s strong domestic presence in the high-margin acute segment, a steadily growing US business and increasing share of chronic products offer scope for further rally over the medium to long term.

At the current price, the stock trades at about 26 times its trailing 12-month earnings, which is at around 15 per cent discount to its three-year average of 31 times.

The valuation is lower than that of its large-cap peers such as Sun Pharmaceutical Industries, Dr Reddy’s Laboratories and Cipla, which are trading at 30-33 times.

Alkem’s changing product mix and launches in key therapies should translate into good growth going ahead.

Its considerable capex spends over the last three years and added field force should also rev up growth. Investors with a two- to three-year time horizon can consider buying the stock.

In the fourth quarter of FY2019-20, Alkem’s consolidated revenue grew by 11 per cent (year-on-year) to ₹2,049 crore and net profit was up by 13 per cent to ₹189 crore. The US business that grew 26 per cent (y-o-y) led the overall growth in the fourth quarter.

However, the domestic market registered a muted performance (grew by 3 per cent y-o-y) impacted by supply disruptions due to Covid-19 lockdown and deferment of sales.

The company’s operating margin improved 210 bps (y-o-y) to 14.8 per cent during the period due to lower fixed costs and employee expenses. For the full year of FY20, the consolidated revenue of the company grew 13 per cent from FY19 to ₹8,344 crore and the adjusted net profit grew 29 per cent to ₹1,138 crore.

Healthy business model

Alkem generates 63 per cent of its overall revenue from domestic business, while 30 per cent comes from the US market (as on Q4FY20).

It enjoys leadership position in key acute therapies in the Indian market such as anti-infectives, gastrointestinal, pain and analgesics and nutrient supplements. Key brands include Pan, Pan-D, Clavam, Taxim, Gemcal and Ondem — they have been market leaders in their respective category.

About 80 per cent of the domestic revenue (as on FY20) has come from acute therapies.

Of this, about a half is contributed by the anti-infective segment that grew 1.5x in FY20.

During 2017-19, the company’s domestic business was largely impacted by the inclusion of more acute-therapy brands under NLEM price control (currently, around 26 per cent of its domestic portfolio). Alkem is now focussing on building a portfolio of high-margin chronic drugsin therapeutic areas including neurology and CNS (central nervous system), dermatology, cardiac, and anti-diabetes. In FY20, the company improved its ranking in chronic therapy segments such as derma and anti-diabetes.

The firm’s stronger field force is likely to support growth of its mega-acute brands and gain share in the chronic segments.

All these should lead to a significant volume growth in the domestic business.

Steady growth in US market

Alkem has a strong growth potential in the US, given its small base. Alkem’s US revenues grew at 42% CAGR over FY16-20.

Its US pipeline has been strong, which largely focusses on chronic therapies (including 15 Para-IV filings in differentiated categories).

The management has guided for launching more than 12-15 new products in the US in FY21.

As on March 31, 2020, the company has filed 144 ANDAs (including two NDAs) with the US Food and Drug Administration, and has received 89 approvals (including 13 tentative approvals and two NDAs). Around 40 per cent of ANDAs (abbreviated new drug applications) are awaiting approval.

Currently, none of its facility is under the scanner of the USFDA.

The company also has a presence in Australia, Europe, South-East Asia, Latin America and Africa, which together contribute around seven per cent of the overall revenue (as of FY20).

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