Natural Capsules Limited (524654) Earnings Call Transcript & Summary

Ladies and gentlemen, good day, and welcome to the Q2 and H1 FY '26 Earnings Conference Call of Natural Capsules Limited hosted by TIL Advisors. [Operator Instructions] Please note that this conference is being recorded. I would now like to hand the conference over to Mr. Abhishek Mehra from TIL Advisors. Thank you, and over to you, Mr. Mehra.

Welcome, everyone, and good evening. Thank you for joining this Q2 and H1 FY '26 Earnings Conference Call of Natural Capsules Limited. The results and investor updates are available on the stock exchanges. In case anyone does not have a copy of the same, please do write to us, and we'll be happy to send it over to you. To take us through the results for the quarter to take us through the results for the quarter, we have with us today Mr. Sunil Mundra, Managing Director; and Mr. Raj Kishore Prasad, Chief Financial Officer. We'll be starting the call with a brief overview of the quarter from Mr. Mundra, which will be followed by the Q&A session. I'd like to remind you all that everything said in this call that reflects any outlook for the future, which can be construed as a forward-looking statement, must be viewed in conjunction with the uncertainties and risks that the company faces. These uncertainties and risks have been included, but are not limited to what we have mentioned in our annual reports. With that said, I'll now hand over the call to Mr. Mundra. Thank you, and over to you, sir.

Thank you, Abhishek. Good afternoon, ladies and gentlemen. I extend my gratitude to each of you for joining our Q2 FY '26 earnings calls today. Your interest, your time and your confidence in Natural Capsules Limited are deeply valued. Let me begin by acknowledging the context in which we meet. The past quarter has been our industry negative layered challenges and shifting market conditions. Across geographies, regulations and tariff policies continue to shape trade flows and business momentum. First, I will walk you through our financial performance for the quarter Q2 FY '26, which has been a period of stability for our capsule business. Demand remains steady across key markets, and our results are broadly in line with the guidance provided earlier. Revenue grew 1.33% quarter-on-quarter to INR 45.80 crores, while year-on-year growth registered at 11.11%. Operating performance was impacted by external factors leading to a decline in EBITDA margins, which finished at negative 1.93%. Company reported a net loss of INR 6.99 crores and earnings per share of negative INR 6.76. Moving to operational developments. The market environment was shaped by significant regulatory shifts, tariff imposed on Indian exports to the U.S. impacted our growth initiatives, specifically affecting the demand of our capsules. Our focus during this period has been on executing capacity expansion plan and mitigating short-term impacts. The new HPMC production line is on schedule for commissioning by the end of this quarter. We believe this capacity addition will help us fulfill our customer demand for different sizes of capsules and increase our export volume as demand stabilizes and tariff issue is clarified. Turning to our API segment. The journey has faced its own set of challenges. After securing all necessary approvals from the Pollution Control Board, we aim to ramp up commercial production from Q3. However, during the scale-up process from lab to commercial level, we have encountered technical difficulties. These are common at this stage of advanced process commercialization, and our R&D and production teams are actively addressing these issues. We remain confident that once resolved, we'll be able to scale up production quickly, expand our footprint in steroidal APIs. FY '26 has proven a testing year with external forces, including tariffs, regulatory delays and technical hurdles slowing our expected growth trajectory. We are demonstrating resilience through disciplined investment in capacity, ongoing R&D efforts and strengthening regulatory compliance. These short-term headwinds do not alter our long-term strategy or the fundamentals of our business. Looking ahead, we are progressing confidently with our capacity expenditure program -- capital expenditure program. The new HPMC line remains on track for commissioning, which will enable us to serve growing market efficiently once tariff uncertainties diminish. Our API development remains promising with technical challenges being tackled actively. We believe that as external conditions improve, our businesses will regain momentum and deliver the growth and profitability aligned with our strategic ambitions. FY '26 as a whole has been a tough year. External factors have exerted meaningful influences, tariffs and capsules, delays in regulatory approvals and technical hurdles in the API plant scale-up. These obstacles have deferred the time line for growth initially set. While these factors originate outside Natural Capsules, our response is entirely within our control. We continue to invest in capacity, maintain research and development spending, strengthen compliance protocols and nurture customer relationships. With these prepared remarks, I now invite your thoughts and questions.

[Operator Instructions] The first question comes from the line of Sanjay Ladha with Bastion Research.

So my first question is on the guidance. So for the full year FY '26, we have guided INR 270 crores to INR 280 crores as a sales number. However, given the way the performance has been for the first half and the guidance for the second seems a little too low possibility of coming anywhere close to those numbers. There have been enough instances of us giving aggressive guidance and constantly not delivering the long-term profitability of the business. So can you please get great details for both the business segment, then what went wrong for each segment and we have not performed since a very long period of time. So what's happening on that side? Can you please share your thoughts on that, sir?

Yes. I understand the delay in the execution of the API facility and talking about the challenges in scale-up. Lab level to commercial level scale-up challenges are always known to us. However, we were confident that we would be able to address them given the fact that we had the technical team who had worked on these products at such commercial levels. We are still working on the same and hopeful of resolving them. In the meanwhile, we understood that Chinese companies are now producing the KSM for our API plant in much bigger batch sizes, which has reduced their cost of production and therefore, resulting in the market price of this particular item dropping. Keeping this in mind, we have now hired the service of some Chinese consultant firm to provide us technical support to improve our process to the desired level. At the same time, after 2 years, we have seen an upward trajectory on the price of some of these steroidal APIs like betamethasone and dexamethasone, where we have seen roughly around 30% increase in the price in the last 8 months. However, some other APIs like prednisolone and hydrocortisone prices are still at lower levels. So I hope I have answered your point.

Sir, so my question would be, is that guidance of INR 270 crores, INR 280 crores still achievable, what you are saying so or we are revising our guidance on that front?

Keeping in mind the tariff challenge on the capsule side, our capsule volume, which we had originally anticipated about INR 196 crores, probably we will be touching about INR 185 crores. And whereas from the API side, we are still targeting around INR 40 crores of business. So we would say that probably we'll be touching a top line of about INR 225 crores.

Okay. Sir, my second question would be on margin front. So we have recorded 20-plus EBITDA in the capsule business in FY '22. That time, we were confident that those margins were because of the technical capabilities and the new -- and this margin are the new normal margin for us. However, those margins have never returned back to us. So are there new capacities, new competition or what has exactly caused this change in the profitability profile of old capsule business? Are the competition is increasing heavily, are the prices are not supportive. So if you can throw that margin level profile as well...

Capsule margins earlier to COVID period were around 12% to 14%, 15%. During COVID period, it increased to about 20%. Post-COVID, due to excess supply chain -- this excess supply of capsules in the total supply chain and the whole pharma industry, there was a certain reduction in the demand for a couple of quarters, which led to drop in prices. Of course, there was a drop in raw material prices also. On the whole, we saw that the margins got eroded from 20% came down to 14% in FY '24 and now in FY '25 also, we are around 12%. So -- but I would say that last 5 to 6 quarters, we are consistently around 11% to 12%, 12.5% of EBITDA margin. Having said that, we have been constantly working on to improve this margin by 2 or 3 measures. One, of course, our attempt to increase the sale of HPMC capsules because that brings in better margin because of low competition. And mainly HPMC capsules are sold in international market. Unfortunately, this U.S. tariff played a spoiler. And otherwise, we would have definitely achieved at least about 200 basis point increase in the EBITDA numbers in the current year. However, we are also making attempts to sell our gelatin capsules and other capsules to other countries across the world. Last year, our exports have increased by 13%. Of course, these Q2 numbers have been a little low, but I'm hopeful that in Q3 and Q4, we will again get the momentum and exports should improve. And I think in the current year, probably we would not like to -- keeping in mind the uncertainties, we would still like to keep the guidance on the capsule EBITDA at around 12%.

But the new normal margin is 11%, 12%. Is that the understanding right?

Yes. But no, the last year, we have given a guidance that we should grow to 14% and there onwards to -- as our HPMC capacities increase, we are yet to add on one more line. So thereby, our top line revenue with these 2 lines should go to about INR 240 crores in capsule business. And bottom line, we were expecting 16% to 18% and there further to 20%. As we are adding much mature business from some of the MNC companies, some of large pharma, Indian corporate pharma, our margins were to improve. So we are still hopeful that in coming quarters, maybe another 3, 4 quarters when the things are better in terms of exports of HPMC capsule, we have added on one more line of HPMC, we should still be looking at about 16% upwards EBITDA margin.

Sir, I understand the business uncertainties comes forward given a point in time, we are, but too much aggressive guidance in terms of sales and margin hurt the investor expectation and then the business sentiment as well. If we can give the guidance in a very normal way, and we can address the guidance from the general tendency, just a request from my side. I'm not saying anything. So business dynamic is not in your hand, we understand that. And I'm sorry if things are this way, but just a request is what -- from the investor community as well.

No, no. Mr. Sanjay, I'd like to clarify that the guidance last year given was very well achievable. The 2 spoilers. One is, of course, on the HPMC capsule side, our guidance on capsule side was around INR 196 crores to INR 200 crores and on the rest was on the API side. So there, HPMC capsule, still, if everything has gone well, we would have achieved that. But because HPMC capsule, 1 quarter has been lost and maybe we are yet to get more clarity on the tariffs, we still hope to achieve around INR 182 crores. So on the API side, of course, there were some challenges on the scale-up and all that. I would say that we have always been conservative in giving guidance. But unfortunately, the business uncertainties last year, especially, they were very high because of so many geopolitical scenarios. Anyway, in future, we'll be more -- I mean, conservative again.

Sir, as you're mentioning about HPMC segment, so in that segment as well, we are anticipating further increase in margin in that segment. But now the HPMC acquisition is delayed by 1, 1.5 years. And we have finally decided to add the capacity at a time where now there is an extreme amount of uncertainty in the U.S. market, which will be a big market for HPMC business. So in this uncertainty, why are we taking this business forward or we are seeing something different and you are confident that this business will deliver much better numbers going forward as well? Or it gives a different leg or different business segment vertical for us. If you can elaborate more on that side?

Actually, the HPMC CapEx decision was taken for the line # 2 and 3 was then taken when the antidumping duty was imposed in U.S. in the month of May. On Chinese capsule imports, it was 88%. And on Indian capsule, it was 14%. So thereby, there was a big delta of 74%, and we were getting a lot of inquiries and got big orders also from some of the new distributors to whom we were not supplying. And based on that demand, we decided to start the next line, which was actually producing another different size double 0, which actually has bigger volumes of exports to U.S. So as you know, post this antidumping duty imposition, the India specific tariff was announced and because of that, the sales dropped. Now we are still hopeful of supplying these pending orders once the suspense on the duties India products get cleared and which as per the news coming in newspapers, it may happen very soon.

But sir, apart from tariff, and again, I will ask you on that front that what are the customers which we have in the U.S. are saying because the demand would be there, but tariffs will not cause you. So is the viability of the product, which we are able to make it because of the low-cost production, if the viability goes out because of the tariff or there is some other reason as well to attach to that?

Our major reason for getting this kind of positive vibes is that the tariff on Chinese goods is higher than the tariff on Indian goods. Chinese are the major competitors. And once this differential of 60% to 70% on Chinese goods is there, definitely, we have the advantage. And we still have -- we are in touch with our distributors and all of them are confident that their demand would rise again. Having said that, all these tariff business has created a kind of a slowdown in U.S. inflationary situation is seen there. Most of the neutral companies are feeling that there is a slowdown in their sales. So -- but having said all that, our exports are not that great. The market size is much bigger in U.S. And we still feel because of the competitive advantage in terms of the -- our cost, our net cost -- landed cost in U.S., we are hopeful of having reasonably better sales of HPMC as compared to the previous quarters.

So just to take a follow-up on that side is that after tariff as well, we are much -- I guess we are much competitive compared to China, the tariff situation, if at all, the tariff remains such way. We are much competitive. But again, the demand scenario looks like something else or if you can get me more clarity on that side? And attached to that, what if things go haywire on that tariff side? So does we have any backup plan attached to that if the HPMC capacity does not take off, is there any backup plan attached to that, if you can clarify on that side?

Yes. So I would say demand in nutraceutical going down is probably, yes, but I said since if we assume that the tariffs on India-specific products come down from 50% to, say, 25%, still our distributors are ready to pick up the volume of goods. And the volume of goods that we are likely to get more as compared to the Chinese supplier. So demand-wise, we do not see much challenge as such due to demand -- drop in demand of nutra products. However, keeping in mind these kind of uncertainties, we have backup plans like our exports to Brazil have gone up. There also we are pushing to increase our HPMC sales. That is number one. We can -- another backup plan is that we can convert this HPMC line into gelatin line and utilize that capacity. Of course, that would bring in lesser amount of revenue, but that possibility is also there.

Okay. Sir, but the gelatin line and the other export countries which we are focusing on, are getting good vibes that this scenario, of course, the time line has been delayed. But assuming from 2 years onwards, things will look better from here on. That's the situation we should take forward.

The next question comes from the line of [ Hardik Pasari ] with [ Artha ] Capital.

My first question is on the execution challenges that you have spoken about in the fermentation facility. For all this year, as investor, we were assured that the yields are good, and we have the right technical team who has the past experience on working on such products in China. And we are just waiting for the necessary approvals. And once we have them, we will quickly scale up. But now that we have everything in place, we are not able to scale up and now we are facing execution challenges. So my caution is that this capacity is already running almost 2 years behind the planned schedule. So we had a lot of time to figure this technicalities out. Right now, not operating the capacity after having capitalized, it is creating a huge dent on the profitability of the stand-alone business and is wiping out of the net worth of the company really, really fast. So this matter needs immediate attention. Can you please share how are you looking at this scenario?

See, as you mentioned, technical challenges in fermentation industries are well known. We are also aware of these challenges. But we were quite confident that we had a technical team who would take care of it since they had handled these products at that commercial scale of 60 kL, which we had put up. But unfortunately, what has happened is we have scaled it up to 10 kL batches at an expected level of conversion ratios. But when we took it from 10 kL to 60 kL, the conversion ratios have dropped significantly. So this is actually expected and probably this requires some more time for the bacteria morphology to be changed and then it has to suit to the higher level of 60 kL. Now your other question was why we could not foresee these challenges. We did not have access to large-scale fermenters before we got our fermenter in our control production. The fermentation capacity is very hard to come by in India. We could not get even 1 kL or 10 kL fermenter. So this was the challenge. Whereas in chemistry, we did have access by taking some of the facilities of synthesis in Hyderabad and in Bangalore itself on lease and ran our batches. So that's the reason that the uncertainty of fermentation, we are now having some issues with that. I hope I answered your question.

Yes, yes, sir. Understood. So what is the situation going ahead?

See, having said that, we are hopeful of resolving these issues at 60 kL by getting to the level of 40% to 42% conversion, still the -- it is a fact that Chinese have progressed in the last 7 years. The scientists who had joined us -- who were working in China and joined us. When they came up and joined -- our agreement with them was conversion of 40%. We are still able to achieve that at 10 kL. In 60 kL also, we will achieve it. But having said that, in China, in last 5 to 7 years, these conversion ratios have improved further. So thereby, the cost of -- the prices at which they are selling is much lesser. So we are working with Chinese consultants to see that we are able to achieve those further improvement we can see and we achieve the level at which the Chinese are operating.

Sir, can you please specify the time line by when it can be achieved?

I think we are working on that closely. Probably, we think that Q3 is now passing it's already 1.5 months over. Probably in the Q4, we expect to get a good result out of that and hope to achieve the higher levels of conversion there.

Okay, sir. Understood. Sir, my next question would be, at what level of accumulated losses does the group will start considering demerger or strategic partners for API?

That's a difficult question to answer at this point of time because that's -- at the moment, we have been seeing losses in the range of about INR 10 crores per quarter. Last 2 quarters, we have faced this because of the capitalization of all the assets, even though we have really not started the large-scale commercial production in API. So I think we still have got good equity base there, upwards of about INR 120 crores there. Yes. So we will take up that question. I'm unable to answer this at this point of time. Probably it needs a little bit of thinking at the Board level, and then we will be able to take a decision.

Okay, sir. Understood. Sir, my next question would be, if you could give some data about the company regarding the technical challenges, if that is not too confidential, what are the numbers of completed batches in fermentation? What are the levels? And what is the failure rate, et cetera? What are the metrics that you are using to measure your performance? And where are we standing on those metrics?

See, in fermentation batches, we have done up to 10 kL, I would say, at least about 10 to 12 batches consistently improving the results. But at 60 kL, we have taken up about -- because it's a large cost batch. So we took 4 batches where we found that the yields are coming less. So we had stopped that and trying to improve the yield. This is as for the fermentation is concerned.

Okay, sir. Understood. Sir, what are the -- what are your alternate plans that we have just in case if the fermentation issues persist for the next couple of quarters?

So alternate plans are like we are also exploring to do some contract manufacturing business to utilize the spare capacity until we start using them fully for our own products.

The next question comes from the line of Lakshminarayanan with Tunga Investments.

Just a few questions. Sir, if you look at the -- what percentage of our production in capsules is actually gelatin based?

Sir, I would say 95% of our revenue is from gelatin. And in terms of quantity, 95% of the volume is from gelatin, 5% is from HPMC, whereas in terms of revenue, it will be slightly higher, 10% from HPMC and 90% from gelatin.

There is -- if you look at the gelatin manufacturers are also consolidating. So how does it impact you from a pricing point of view? And second, how the pricing trends of gelatin had been for you?

In fact, gelatin prices have been softening for last 6 quarters. Last year FY '25, we saw gelatin price drop by around 4%. Current 6 months also, we have seen prices go down by quarter-on-to-quarter by at least about 4% to 5%. Yes, it's also a fact that they are consolidating the way one of the larger company has acquired 2 other companies, but we don't foresee much challenge because we do have access to imported gelatin at a reasonable price from Brazil, Argentina, Thailand. Multiple sources are available. And since we have good exports, we can import these gelatin at duty-free...

So right now, the gelatin, which you actually get, is it sourced completely domestically or you actually get it from outside also?

No, we do import. We do import at least about 18% to 20% of our annual requirement by imports.

Got it. And I mean, I also understand that there is something called soft gelatin or something where there is one where they actually send it directly to the line and there they actually kind of encapsulate it. And second gelatin comes to players like us and then we actually send it, right? So do you see the -- any changes in this particular value chain?

No, soft gelatin hard gelatin, what we manufacture is hard gelatin. Soft gelatin is different. Soft gelatin, the product -- the finished formulation is made by the company who manufactures soft gelatin. It is then in their pack. Generally, they are in form of liquids or some sort of semisolid formulations whereas we manufacture the capsule in 2 pieces and send the empty capsules to pharma companies who then formulate it by filling the powder.

And we are the second largest, as you say. So now what kind of -- can you just explain me the market structure, if there has been any changes in your market share and how many players are there?

There are some new entrants in the lower end. A couple of people in Northern India have come up. But overall, the market structure remains same. We are the second largest and have roughly about 9% to 10% of the market share.

Got it. And the top 2 people, how much you cumulatively is part of the market share?

There is a big gap between the first and the second. The first -- the market leader enjoys practically about 45% to 50% of the market share.

Got it. And how is our pricing with our end customers? How are the contracts structured? Is it -- can you just explain that whether it's long term or there is like in terms of pricing changes, how do you manage the volatility?

So there are -- we follow different pricing strategies with different type of customers. We do have our distributors internationally where we have prices fixed for almost a year also. There are some distributors where we do have annual pricing. In domestic market, some of the companies, MNCs issue quarterly orders. There are customers who -- Indian pharma companies, generally, they look for 6 monthly price fixation. They do release orders based on their intents on a monthly basis, but the price is fixed once in a 6 months. But there are a certain segment of the market, which are purely generic players. They do deal-to-deal pricing, and that segment is roughly around 15% to 20% in our portfolio.

Got it, sir. Sir, in terms of the growth which you see for the capsule industry and especially for you, purely from a capsule point of view, what kind of growth you actually envisage?

See, with the current capacity, which we plan to complete this current ongoing expansion plan, which means the 1 machine which is already in our facility, which has to be commissioned and one more line yet to come in. We envisage that probably we should do about INR 235 crores to INR 240 crores of top line revenue from capsule business.

And this capsule business grows at what pace?

See, normally, capsule business as such is growing on a consistent basis by around 6% annually in India. Internationally, it is about 4%.

Okay. And is there a -- can you actually grow ahead when you are growing ahead of the industry, more than 6%, how are you getting? Is it -- are you taking somebody's market share or it's driven by exports or a different product category you are getting in?

Yes. Obviously, see, it's such a large capacity worldwide. It is something like 1.3 billion capsules capacity worldwide. So it is a large -- we are at 20 billion. India is at 200 billion. So taking somebody's share is one. Otherwise, by improving your top line and bottom line, other way is by replacing the low-end customers by -- customers in the higher value chain, customers who give better pricing, customers in the international market by removing domestic customers and increasing our exports, we can get on to the higher revenue and higher bottom line. So across the world, there is a growth on the macro level. At company to company level, of course, we can always play between. Our capacities are always generally -- capacity utilization has always been upwards of 90%. And therefore, your question is quite valid is how do you increase your top line revenue, but that we do by substituting the customers at the low end.

You also have traceability of the raw material at your end? And are your facilities also come under the FDA kind of regulations? Or is it that is actually done by the client who you actually work with?

Our products capsules fall under the category of excipients as per the definition of USP, US Pharmacopeia. Therefore, FDA doesn't want to audit that, even though our facility is capable of getting the audit cleared. Even EU GMP also...

Sorry, sir, I think your voice -- can you repeat the answer?

Okay. Let me repeat. Our product capsules fall under the category of excipients. Excipients are the products which go into the formulation, but are not the active drugs. They are additives or they are main pharmaceutical aids, they call it as. So they -- generally, these regulatory bodies do not audit excipient factories. Their first priority is to audit the formulation companies, then the API companies. But having said that, your other question, whether the product is having traceability, yes, all our products are fully traceable right up to the batch of gelatin, which we get from our suppliers.

The next question comes from the line of Ishan Thakkar with Fort Capital.

Sir, could you please share the volume data for capsules for Q1 and Q2 as well as the volume breakup for HPMC capsule for Q2 FY '26?

Volume data for Q1 and Q2 current year, right?

Yes.

So in Q1, we -- gelatin quantitative the gross production. We produced 4.66 billion capsules in Q1 of current year and 4.74 billion capsules in the Q2 of the current year.

And how much is from HPMC capsule?

HPMC capsule. Yes, HPMC capsules in Q1 was about 969 -- about 100 million capsules. And in Q2, it was 67 million capsules.

Okay. Okay. And so are we on track to reach a capacity of 2.16 billion capsule of HPMC by end of the year?

Capacity is one, production is another thing. Capacity, of course, by adding on the second line, our -- annualized basis capacity would increase to about 1.4 billion.

Okay.

Henry, there is some echo there.