Dr. Reddy's Laboratories Limited (500124) Earnings Call Transcript & Summary

Good afternoon, everyone. I am Neha Manpuria, JPMorgan's India pharmaceutical and health care services analyst. Welcome to the JPMorgan Healthcare Conference Emerging Market Track. Thank you for being here. We'll start off the present -- India Track with Dr. Reddy's. We have Mr. Erez Israeli, the CEO of the company, presenting to us today. Over to you, sir.

So thank you, Neha. Thank you all. Thanks for all the people for coming. We know that we have the after lunch slot. It's not always easy. So we appreciate all the people that made the effort and came to see our presentations. We are competing against lunch and against a beautiful view outside, and we'll do our best to share with you our story and hope that you like it as well. And before we start, also another wish, happy New Year for all of you and your families wherever you are. So on the normal safe harbor statement, all we want to add that, naturally, we are in a quiet period. We are having our earnings in about 2 weeks' time, and we'll not share information about the third quarter of the fiscal, naturally. And we'll not speak any of guidance or anything like that when we will come to the Q&As. This is a slide that we have almost every presentation. And amazingly so, it's always relevant, and it's relevant more than ever. So Dr. Reddy's was founded in 1984 with the same purpose: to give access to affordable and innovative medicines. This is -- was true then, and this is true now. What we added with the time is the sense of urgency about to do it faster. And what we are emphasizing today, it's about the partnership. We are in a mode of partnership in certain things that we will do ourselves, and I will share it when I will discuss the strategy. And we are happy to collaborate in area that we don't have the skills, the capability to go to market. I see in the rooms partners and partners to be, so thank you for coming. And we appreciate the partnership, and we are committed to be great partners to anyone that will collaborate with us. We are on a transformation journey. We are in a transformation journey for almost 2 years now. And people, when we meet, don't always understand what exactly the transformation journey means, and we will try to discuss that. In the past, and those of you that are following on us for many years knew that there was a period of time in which we used to focus on relatively small numbers of assets with our complex generics or specialty products or biosimilars, primarily for the U.S. market. So significant portion of the capital allocation, let's say, up to FY '18 went to United States. This was, if you wish, high-risk, high-reward type of a strategy. Unfortunately, for us, for some of this asset, we got more of the risk and less of the reward. And we decided to deal with that. So this was one intervention. The second intervention, we acknowledged that we had execution issues. Some of it was visible, for example, the compliance issues in FY '15, and some of it was less visible. And the main transformation journey was to deal with these 2 issues: one, the focus of the company; and the second, the execution. And everything that I will speak is a combination of both. So first, if you wish, is about the strategy, and I'll speak high level. In few minutes, we'll dive into some of the spaces. So what exactly are we doing in each one of the spaces is, if you wish, the take home message, we are creating much more opportunity, and the company is addressing much more potential space and potential value with less risk than it used to be in the past. So more opportunity and less risk. What is the nature of more opportunities and less risk? One is the fact that we are leveraging our assets. So if we used to develop for the United States, we are now developing for any country -- every country potentially in the world. Doesn't matter if we will sell it or we'll give a partner to do that. The R&D, if it used to be a time for the United States, now it's time for the earliest market out of all the list of countries that we want to focus on. Cost and coverage of countries, how many countries we want to do. So leverage of countries and an example for that, and we will give more details, the China. The China space that we are very proud, and we are the first company that got an approval for a generic product in GEA, and we participate a bit. This is olanzapine that we disclosed that information in September. It's basically to take a U.S. asset that can meet certain specification for China and to leverage it for China. Now for the same products, we have now, not one market, but more than one market. And this is the leverage and just one example. The second more opportunity of less risk is that you are having a synergy between the relevant spaces. We are going for more spaces, but each one of them has a synergy. So if we'll take, for example, the API, the API used to be -- we had some third-party sales, some back integration, relatively low level. Now if we increase -- or if we are taking the API capability, that were core foundation for Dr. Reddy's in the past. And now building on it, we can have more third-party sales because we also enjoy the fact that we have back winds from the changes in China. We can increase the back integration of our generics, and we can sell also services to other CDMO, et cetera. So the same base, the same labs, the same people, but you're addressing much, much bigger scale of a business. And so it's another example of that, for the low risk, we too will take care, for example, the specialty example that we had. The products were really, really good. They are still good. What we did not have, we did not have an adequate go-to-market in the United States. So in that spirits of more opportunity with less risk, let's give it to somebody that have this adequate system. The patient will enjoy it. We will enjoy it. The company that acquire the products will enjoy it, and it's a win-win, win-win situation. And with that, we have more opportunity and less risk for the organization. This help us also, for example, to pay all the debt. I think, to the best of my knowledge, we are the only company that is specialized in generics that had no debt today. And we are even running to a very good problem of what to do with the money going forward, and probably we will address that as well. So just to show you the journey in the last -- and this is 6 quarters. So again, we cannot speak about the seventh quarter, which ended in December. But if any of you will take this a period of time, so you can see the growth in sales, but you can see the growth in EBITDA. This is a focus on being more efficient, better execution, get rid of stuff that we should not have been in and change the priorities. You can see that we accelerate the numbers in FY '20. And that's basically direction of the companies. This is while -- way, way better balance sheet. And for those of you that analyze the balance sheet, you can see the progress that we made. You can also see it in the -- in terms of returns and the metrics that you normally see, a very, very strong cash generations, very different, strong generation FY '19. See the first half of FY '20, you can see the EBIT. The ROCE went up from 8% to 21%, and this is not enough for us. I see way bigger numbers in the future. The net debt to equity, this is through to the end of September. We actually -- it's a hopeless situation, as we speak. And we gave a TSR of 39%. Not bad for a generic company, I think. I don't know if we are the best in the industry, but sure one of the best. And we will continue to focus on -- there is actually still a lot to do. Here, we chose 2 parts, and I would like to elaborate because, again, it goes back to more opportunity and less risk. What do we mean by that? In the R&D, we spend less because we are more productive. We are attacking project-by-project and see what is the adequate investment we need to do for each. And if we need to spend 2, we should not spend 3, and it's very simple. And if we can do something with 5 people, we should not do it with 10 people. This is true to R&D. This is true to the SG&A. And we -- of course, we put the relevant programs accordingly. It doesn't mean that we will not invest more as we grow. We will invest adequately in what we do, but whatever we do, it needs to be at least a class or best-in-class or among the best-in-class. In all of these areas, we are focusing on, and we'll continue to do it also in the future. People ask us about are you getting out of the U.S., are you defocusing the U.S., et cetera? And I would like to address that, so people will appreciate what we do. Indeed, if you look at the capital allocation, as I mentioned before, there are much less dedicated capital for the United States, and that's obvious, as we are leveraging it. Each one of the spaces that you see in this slide is connected to each other. We are -- in the end of the day, the same infrastructure, the same product base, give or take, the same site, the same cadre of people, the same talent, the same software, et cetera. There is a synergy between each one of the spaces above. At the same time, each one of them requires unique capability in order to be competitive in this space. And I will give some examples, but what I would like, if you can remember from that, that we have certain spaces that allow us actually to generate the cash relatively in the short term. And these are the stuff that on the left part of the slide. These are the main cash generator today. The stuff in the middle will help and actually generate a lot of cash in the midterm as well, and we are building it at the same day. All of it, again, is connected. Nothing can be done without the ability to serve the cash generations on that part. India. India became our #1 space in terms of management focus, not necessarily the biggest. And nothing to take from the United States. I will report specifically on United States in the next slide. But India, for us, it's a home-base market. It's a market that is growing between single digits and double digits, depends how you count it. It's a market with a huge unmet need, speaks perfectly to our purpose. It's a market in which you can sell not just product but also concepts. It's a market in which private companies like us, like some of our colleagues in India, have the responsibility to take care of the health of the people because some people and most people don't get or enjoy the health care system, for example, that exists in America. And this is very important to us, speaks very, very well into our purpose. We will continue to develop specialty products. But we will do it in a way that we will partner it in the relevant places that we don't have the go-to-market. And we will do it in a way that it will be self-sustained. We don't want to take money for one space and invest it into another. At the same time, we do have great capability in both areas of what you call repurpose product. That's what we call specialty or 505(b)(2) if I'm using the lingo in the United States, and also product discovery in places like oncology or immuno-oncology. We have actually great science, and we want to continue to leverage that. And what we do right now is various models we can divest, we can license out, we can have a partnership model. So areas like API, like biosimilars, like specialty, like discovery, like some of the custom services will be a partnering model by itself. And many of our global spaces will be with partners. If there are countries that we are better than others, happy to take products from others and sell it to increase our capability in markets that somebody else is stronger, we are happy to give the product to the one who is stronger. And on top of it, each one of these spaces is a huge opportunity to grow. So our strategy suggests that we can grow and we will grow in each one of these spaces. Each one of them has a very different time frame, a different base, different level of capability. There are places that we are more mature, there are places that we are less mature, but each one of these spaces will grow. And because now we have the financial capacity, we can add to it complementary and inorganic as well. And this is something that a tool that was not available to us before we closed the debt, as we discussed. And if to be specific, for example, addressing the question what do we do in United States. What we -- first of all, we have about 100 and, I believe, somewhere between 120 and 130 products, plus about 100 that are pending. And we want to reach 350 products at least in the United States. Each one of them needs to be competitive. The main focus is cost. And we want to be in a situation that we will get the relevant ROCE, EBITDA, which are much higher than the numbers that -- at least aspiration-wise, much higher than the numbers I shared before. And when you have that, and I believe that the market is recovering and will be even better in the future, at least for a portion of this pipeline, there will be an upside. You never know in generics, especially United States, will give you upside. I never saw in the 25, 26 years that I'm dealing with the U.S. market any product that the scenario was exactly as was predicted. That's the nature of the market. But if you have enough product, some will give you upside. So it's a proportion of high level of EBITDA, ROCE and upside. That's what we want to do in the United States. We are staying in United States, for those of you, but we don't have now dedicated allocated resources for the U.S. as used to be in the past. Okay? In terms of China, we are 20 years in China. I know that now people are looking into China. It's interesting for them. The little I know about China, I've been more than 60 times to China to know that I know nothing. And it's not something that you just go do. It's not working like that. After 20 years, there is a lot of to learn for us. In China, we have now 4 channels. We have the branded. This is what we do with our partners with KRRP. We have the GEA that this is the new development. Once China introduced the GEA, it allows -- it allowed us to participate in both selling high-quality products directly to the hospitals that are buying it and replacing this loss of the off-patent of the innovator. And in the procurement, the centralized procurement that was recently developed in China, and there were 3 rounds, and it's still work in progress. They are changing the rules from a B2B until it will be stabilized. So this is still evolving. And the last but not least, we are selling services. We are selling services, API, formulation, et cetera. I believe that China is going to be an amazing space for us, and we're actually investing now a lot to build the capability to exploit it. I mentioned India before. I want to reemphasize on that also now. First, we moved from 16 to 13, but we will be top 5, and we are committed to that. We want to leverage our brand. We want to leverage our reputation. We want to leverage the skills of our people and to ramp up in the TAs that we are and the new TAs that we added. We added recently quite a few TAs, and our field force is more productive. And in the last couple of quarters, we are beating the market in terms of growth, and we are growing even faster in profits. On the proprietary, already mentioned that. Our quality journey is getting better. We actually -- the only thing is that we are waiting since June for the FDA to come and inspect CTO-6. And this is the last thing that is happening to us. It can come any day. We know it's going to be unannounced. And in all the rest, we addressed and we'll continue to be very committed to compliance and to quality. And this is, naturally, a very, very important part of us as well as being very sustainable. We are very proud of our sustainability activities and the environment that there is actually a lot of activities that are related to that. We are committed to continue this journey. This is just, if you wish, the mid-first part of the transformation. We did not finish. We are very energetic about it. We will continue to drive TSR, and we will continue to bring solution for our customers. And we're committing to you to -- hopefully, you'll find us interesting for those of you who wants to invest in us. So thank you for listening to me, and I think we have still time for some questions.

Since this is being webcast, sir, if I may kick it off. What's the update on NuvaRing? I know it's an often asked question, but I'm asking from the perspective of a competitor already launching this product ever. So risk of impairment sometime in the future?

Thank you for that. So first, the status of NuvaRing. We had a CRL that we got, and we are going to address it in a few months. And as for impairment or stuff like that, we do a trigger-based impairment testing for all of our products, all -- for all the intangibles. And also, in this case, we will do it also for NuvaRing. And whatever will come out accounting standards, we'll apply also for this quarter and the next quarters to come.

Any questions? If I may ask, sir, one more?

Please.

Given we are net cash, what is our focus when it comes -- or priority when it comes to capital allocation? Would it be India or India and U.S. or have any other preference order in mind?

Our preference is India and the branded markets, as the business model is more sticky. And we can get -- it speaks better to our purpose and speaks better to what we want to do long term in the future. We decided to continue to be very conservative in that respect. We will not take that in the case of acquisitions of more than 2x EBITDA, which in our case in our current scale, it's about $1 billion to $1.2 billion. That's where we can feel comfortable, but this will come only with the right investments, if will come. We will stay organic growth organization. So the main use of capital allocation will be for internal growth for innovation, for R&D, for driving our skill, driving our capability, digital -- digitize and bring more products. That's the best use of our time and money.

Questions? I think…

Thank you so much for listening, and have a great day.