TurnoverWe cut our FY22 earnings forecast by 9% but maintain our TP of RM0.64. We are concerned about PHARMA’S slow moving vaccine inventory. On the other hand, the flu bug going around currently seems to have boosted the demand for its medicines while its Indonesian operation has turned the corner. Maintain MP.

Key highlights.We came away from a plant visit cum meeting feeling cautious. The key highlights from the event are as follows:-

1) PHARMA now holds 10m doses of Sinovac COVID-19 vaccines in its inventory, having sold 2m doses in 1QCY22. It is hoping to unload the inventory to export markets with low vaccination rates, such as certain African nations, in 2H 2022. We estimate that the inventory carries a market value of RM400-600m.

2) On a brighter note, we understand that PHARMA currently enjoys strong demand for cold, fever, and cough medicines, and children medication in private clinics and hospitals due in part to a rise in cases of common flu and influenza-like illnesses (ironically, due to increased contacts within the population after the lifting of pandemic restrictions) as well as limited raw material due to supply chain disruptions arising from the intermittent COVID-19 lockdowns in China. Specifically, the average utilisation rate of its oral solid dosages (OSD) plant has jumped to 80% from the usual 60%. Nonetheless, the impact on its earnings will be insignificant as these products only make up <3% of total revenue and it expects the supply situation in the market to normalise by end-Aug 2022.

3) PHARMA expects its Indonesian operation to stay profitable during the remaining quarters in FY22; having already turned profitable in 1QFY22 with a PAT of RM3.8m (the unit had been in the red for several quarters prior to 1QFY22). The turnaround has been driven by operational efficiency gains through on-going inventory optimisation efforts and aggressive payment collection. Specifically, it has managed to keep tabs on fast moving SKUs and reduce slow moving stocks and lowering working capital requirements.

4) PHARMA sees the need to beef up its logistics capacity. It is on the lookout for either an existing FMCG operator, or an established pharmaceutical logistics player, to be merged with its existing logistics unit by end 2022.

5) It has stock for 3-6 months of raw material active pharmaceuticals ingredients (APIs), of which market prices have sky-rocketed in recent months. Typically, this key input accounts for an estimated 30% of total cost. PHARMA may be bracing for margin squeeze as selling prices are normally sticky on the way up under the concession signed with the government.

Forecasts. We cut FY22 net profit forecast by 9% (to reflect lower sales of vaccines) but keep our FY23 numbers.

Maintain MP. No change to our TP of RM0.64 that is based on 11x FY23E EPS, at a 25% discount to peers’ average due to its smaller market capitalisation. There is no adjustment to TP based on ESG for which it is given a 3-star rating as appraised by us. We like PHARMA for its recurring earnings backed by concessions signed with the government and it is in the midst of finalising the logistics and distribution contract extension agreement with the Ministry of Health Malaysia, slated to be completed by 4QCY22 and a high dividend yield of 6%. However, we do not expect FY22 to chalk up positive earnings growth since most of the vaccines delivery has been completed.

Key risks are: (i) non-renewal of concessions with the government; (ii) unsold Covid-19 inventory; and (iii) increased competition from both local and overseas players.

Source: Kenanga Research - 21 Jul 2022