Highlights

From the information gathered in our recent company visit, we remain positive on its business strategy and industry outlook, both domestically and regionally.

Local pharmaceutical market ended FY13 with an estimated size of RM6.0bn and is expected to grow resiliently in FY14 with mid-single digit rate on the back of stronger demand.

Tender outcome for drugs under the concession agreement (refer to report dated 23rd Sept 2013 titled “Sturdy Public Demand Growth”) which supposed to be due for price revision by end of Jan 2014 has been postponed till mid FY14.

Historically, the every 3-year bidding exercise would result in lower ASP; however, Pharmaniaga expects this round of tender would be an exception with generally higher ASP. This is chiefly due to the incorporation of higher cost of doing business including petrol, electricity, minimum wage and etc. This eventually bodes well for its logistics and distribution division which earns a markup for their services.

With the absence of the novation agreement amortization (untill Jan 2014) coupled with higher efficiency, profit margin is expected to see a significant boost. FY13 saw a full year provision impact amounted to ~RM28.4m (or 49.8% of PAT).

Pharmaniaga is confident to turnaround the newly acquired Indonesian plant (Errita) which suffered losses in FY12 and FY13. The losses were mainly due to shutdown of production lines in order to give way for upgrades in compliance to Good Manufacturing Practice (GMP) standard. GMP is mandatory following Indonesia’s participation in PIC/S (Pharmaceutical Inspection Co-operation Scheme) which will allow its drug products to be recognized and accepted globally.

With minimal upgrade remaining (CAPEX ~RM6m), Errita’s production will be ramped up with existing drug portfolio. Proven drug recipes from Pharmaniaga will be shared and registered in Indonesia (usually takes 2-3 years) and will enlarge Errita’s product range, serving as longer term catalyst.

Focus has now shifted to its JV in Kingdom of Saudi Arabia (KSA) with Modern to develop a greenfield manufacturing plant. Target to commercialize in 2017.

Other FY14 guidance: CAPEX of ~RM85m, R&D expenses of RM6m and PhIS (Pharmacy Information System) investment ~RM30m.

Catalysts

Gaining market share in non-concession and private sectors, synergistic benefits from acquisition, favorable FOREX, continuous effective operational strategy.

Risks

Political / regulatory / competitive / FOREX risks, failure / delay in drug delivery under CA, compliance to production standards / contamination and drug patent disputes.

Forecasts

Unchanged.

Rating

BUY, TP: RM5.30

Positives - Synergy from acquisition, quarterly dividend, secured business outlook thanks to CA.

Negatives - FOREX, high level of stock and gearing.

Valuation

Reiterate BUY with a higher fair value of RM5.30 (+2.1% from RM5.19) after rolling over our valuation to FY15, based on unchanged P/E multiple of 14.5x.

Source: Hong Leong Investment Bank Research - 18 Mar 2014