Pharma on recovery path becomes a darling of mutual funds

MUMBAI: Mutual funds are lining up products to invest in pharma stocks that have been battered in the past three years. Mirae Asset and ICICI Prudential have already launched their NFOs in the space, while Aditya Birla Sun Life has applied with market regulator Sebi to start one.

Fund managers believe that share valuations of the pharma sector are cheap, with their protracted underperformance over the past three years leaving room for significant potential upside.

Over the last couple of years, the pharma industry has been hit both at home and overseas. There was intense pressure on companies to reduce prices due to increasing competitive intensity at home: Similarly, buyer consolidation in the US market and FDA inspections prompting the stoppage of US sales from Indian plants hurt performance overseas.

This led to sharp erosions in the stock prices of frontline companies, with leaders such as Sun Pharma, Lupin, and Dr Reddys’s losing as much as 70 per cent. However, analysts believe the worst may be over.

“Larger players are exiting unviable products and pricing has bottomed out. There is a good pipeline of complex generics and specialty products,” said Vishal Manchanda, Research Analyst, Nirmal Bang Institutional Equities. He believes investments in large cap pharma companies could give returns to investors over 2-3 years.


The current valuations in the sector have priced in the prevailing concerns. Despite the tough times, many companies have continuously invested in R&D. This will likely pay off in the coming years, coupled with improvement in margins and profits.

“On the US FDA front, we expect sector positive news over the next 3-4 quarters,” says Mrinal Singh, deputy CIO, equity, ICICI Prudential Mutual Fund.

This positive sentiment is reflected in the revenue growth of the industry. Analysts estimate that after a year, revenue growth for pharma companies jumped to double digits (10.8 per cent) on a year-on-year basis after low singledigit growth during the period of transition toward GST. They believe that for the next two to three years, pharmaceuticals companies are expected to record superior earnings growth, at a minimum of 15 per cent CAGR for the next two to three years.

“Both domestic-focused and international-focused pharma companies are placed well now. Domesticfocused pharma companies have been able to deal with GST and demonetisation well,” said Sailesh Raj Bhan, Deputy CIO, Reliance Mutual Fund. “In international markets, the pricing pressure on generics sold in the US has eased out… We think the worst phase of the business is over for both domestic-focused and international-focused companies.”

The number of investible companies in the pharma ancillary space has increased over the last couple of years, with the listing of hospitals, diagnostic companies and health insurance companies. More such companies in the health club and gymnasium space could list in the future.

“As incomes go up, people tend to spend more on healthcare and diagnostics, making this a secular theme to invest for the next many years,” said Vrijesh Kasera, Fund Manager, Mirae Asset Management.

Hence, analysts do not rule out the possibility of re-rating of pharma companies in the coming quarters to justify superior earnings growth in the next two to three years, even though their present valuations may reflect their near-term earnings estimates.

Investors could use a staggered approach. “Use the SIP route to invest in this segment with a three-year time frame in either the NFOs or an existing fund,” said Rupesh Bhansali, head (distribution), GEPL Capital.

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