SOIC Business Updates| Laurus Labs, Sequent,Syngene & Vinati Organics
Hi investors. Welcome to SOIC. So, continuing with our SOIC business update, today we will analyze the quarterly result of Laurus labs, Syngene and Vinati organics and our purpose of analyzing results is to show the students of SOIC that how we can analyze the businesses through constantly changing information. There is different information in every quarter so how to absorb that information so this the meaning of SOIC business updates series, right.
Just a standard disclosure so we are not SEBI registered advisors and nothing in this video should construed as a buy or sell recommendation. Along with this we will look at Sequent scientific result and PI industries result. And we will see which of our thesis played out in Sequent scientific result as we discussed in our video, right.
So, just before starting the analysis, I will just show you our framework basically of how to absorb the new information. So, our framework is that we are constantly looking for the future ROCE and future ROIC triggers, right. Not only today’s ROCE, we look at the source of future ROCE and ROIC. If someone has not seen variant perception video and if someone does fundamental investing than the person must know the meaning of variant perception and these triggers, only than they can call themselves a fundamental investor. 1st thing that what is the source of future ROCE and ROIC? 1st source is industry cycle.
2nd is product mix change means management started a business where the product was high in margin in nature Thirdly was from operating leverage. So, there many businesses like we saw in Laurus labs case where 40% gross block was unutilized, the moment utilization started, you got an element of operating leverage due to which margins expanded rapidly. When operating leverage arrives, margin expands more than sales, profit expansion is more because the fixed cost remains fixed, right.
So, if someone wants to understand operating leverage than who can watch Laurus labs video as operating leverage is discussed in detail in that video. 4th important part is corporate actions which we saw in demerger of Seven pharma’s case, I think this was on 1st or 2nd video of the channel. 5th one is demerger which is linked to corporate actions.
Next is capex. Sometimes company announce a very big capex which is a trigger for future ROCE and ROIC that in which type of products capex is happening, whether capex is done in such lines where the margin is high or capex is happening where management at least provide incremental capital on same ROCE or same margins. Because the relation of same ROCE or ROIC with business valuation is very high.
Next one is deleveraging. We can see in Sequent Scientific case that this time deleveraging is done and cash flow from operation have increased rapidly. After that comes cost reduction.
Like in IT businesses, cost reduction have taken place since work from home have started. So, cost reduction is also very good source. Few businesses have done backward integration. Next is management change and after that is margin expansion which occurs due to product mix change and operating leverage.
Sometimes margin expansion occur due to deleveraging too because if enhanced cost is reduced than margin will be high. Margin expansion also occurs due to industry cycle. So, I think with this framework set, now we will start with Laurus labs. Just give me a moment. So, coming first to Laurus labs Q3FY21 numbers so before it came, he did a TV interview after the result and there was one thing which he said which I really liked which gives you an insight that how will Laurus labs look after 4 to 5 years. So, he said that we are seeing significant traction in CDMO projects as compared to API business.
CDMO means contract development and manufacturing services. API is their active pharmaceutical ingredient business. It is a very interesting thing that when Laurus labs started, Laurus labs was predominately known to be a one product company. People used to believe that EFP product which is your ARV API, Laurus labs had maximum markets shares in it. At that time people used to think that it is a single product company and 60 to 70 percent of their business used to come from EFP API.
But after that they developed a basket of ARV. ARV API helps to fight against HIV. They made a basket of all types of APIs then Laurus labs came into FTF by doing forward integration. They transferred from API to formulation and now they are entering into CDMO. Business is a very difficult thing.
So, what he did in last 15 years that in last 15 years he had changed track 3 to 4 times. In all of those changes, Laurus labs have been pretty successful. So, this needs to be seen very carefully. We must understand this information very carefully because management is doing things very differently due to this management is able to do expansion in different lines of businesses. So, we can see similar things in Laurus labs. Today, I will let you know that why it is important to read old con calls because what happened today in their CRAMS and CDMO business is that in 2015, the revenue of business was 101 crores means CRAMS is their higher margin business which is contract research and manufacturing services.
If someone wants to understand then you can watch our Syngene video in detail, we have explained CRAMS completely. From 101 crore, the revenue came to 385 crores in 2020. I think at this time, the fastest growing CRAMS business in country is Laurus labs business. In 1st months of FY21, it has reached close to 343 crores. When quarter 4 number will come in the end of this year, it may cross the last year’s sales growth.
But what is important here is that I will show you what they told in Q1FY21 con call. They said in Q1FY21 that as you have seen in Q4FY20, our revenue for this division means they are talking about CRAMS division was almost 150 crores because of supplies of a commercial product. And we will have similar supplies in Q4 of FY21 also, because the customer will take between January and March commercial supplies. What this means? That there was a lot of growth in their CRAMS business in Q4, we will check how much was the growth. So, the customer takes supplies from them once in every year. So, their CRAMS business where commercials supplies will come, again CRAMS revenue will grow rapidly in next quarter of Laurus labs.
If I am not mistaken, their CRAMS business revenue was 78 crores in last year Q3 and in Q4 the revenue went close to 148 crores. Due to commercialized supplies in business, 100% quarter on quarter growth comes. Similarly, in next quarter as commercialized supplies will come so quarter on quarter growth may arrive in CRAMS business. Let’s check what happened last year.
Just give me a moment. Alright investors so here we can see that in their synthesis business as we discussed in Q4 that last year in Q4 commercialized supplies came so almost 100% quarter on quarter growth arrived. This time in Q4 of FY21 means in the coming quarter also a great growth possibility can be seen because commercialized supplied will be coming.
So, this is why synthesis business seems very interesting to us. Let’s see what happens. Now, just comping back to the quarterly numbers so this is why it makes sense to read all the con calls and basically it really helps to draw a connection. I think for SOIC students this can be a very good exercise that is the management walking the talk or not, right. So, just moving forward to other companies in Laurus labs results only so the commentary was that FY23 onwards, a significant amount of growth will come from the synthesis business. As we have seen now that in Q4FY21 also, there is a change of great growth.
They are saying the same for FY23 onwards. Now, he said a very interesting thing in con call that from one product company to a basket of ARV to an FDF player to a transforming synthesis business that is Laurus Bio. The interesting thing in rich core acquisition is that is a CDMO for bio so that can also be very interesting in nature. Laurus Bio did an acquisition of rich core which we have discussed earlier and made a video on it. They make recombinant proteins in rich core. Recombinant protein is actually used as contract manufacturing in artificial meat, food and some proteins in business.
And it is interesting to notice that the grows margin is 80% over here. They said in con call that may be after 3 to 4 years we will discuss about Laurus Bio and will discuss about Laurus Synthesis business. So, this gives you an indication that where the product mix and business segment is going. If we will discuss more about Laurus Bio and Laurus CDMO after 3 to 4 years then margin profile and ROCE profile of this business will be totally different. Their revenue number can be close to 1000 to 1500 crores in 3 to 4 years.
So, this is a very educated conjecture but it is possible according to the management aggression. In 3rd part what they have done is that they have done partnership with a European client for contract manufacturing for APIs and FDF business means for formulation and APIs. Now, they do contract manufacturing in APIs in formulation too, many people are unaware of this. In FY23, they have a tie up with a European client for contract manufacturing of APIs & formulation.
Again, there is a CRAMS business here which many people don’t know that they have business in formulation and CRAMS. In last point in API business as Laurus have become biggest player in antiviral APIs in API ARV, market is saturating slowly. Laurus have already taken over many company’s market share in EFP and DTF EFP replacement is DTG, Laurus have normal process for DTG that’s why we call Laurus as process chemistry expert.
As it has already grabbed the market share so market growth is 3 to 4 percent now. Laurus is entering API business to Cardiovascular. Cardiovascular means for heart disease and Laurus is entering other space as well. In next 5 years in Cardiovascular and Diabetic space, their product mix change in terms of therapy exchange, now therapy is antiviral so therapy will move more towards cardiovascular and diabetic in next 5 years. Again, this makes it very interesting that how they are changing their business. If we look at their gross margins then what we have done is that we have shown their Q on Q and year on year gross margins so as we can see gross margins is close to 54.7%
which was at 50.6% in last year in same quarter. So, gross margin is expanding because they have done forward integration in formulation business. As they have done forward integration in formulation so the margin profile has become superior. Let’s check how the operating leverage play out.
EBITDA margin was 20.3% because fixed cost was very high and revenue was less. So, what happens in operating leverage is that once revenue starts increasing then fixed cost don’t increase due to which operating leverage plays out in such businesses. Now, because of operating leverage play out, EBITDA margin has expanded to 33.1% which I think is one of the best in pharmaceutical industry, right. If they maintain this EBITDA and incrementally invest capital at this rate then it makes it a very interesting company.
If we look at their ROCE then all the SOIC students who are watching this video, please let us know in comment section that is Laurus industry in bucket 1, bucket 2, bucket 3, bucket 4 or bucket 5. We have created criteria from bucket 1 to bucket 5 for SOIC students of valuation. So, return on capital employed is 40%, earning growth is 100 to 200 percent profit growth but when capex is 1200 crore from next 3 to 4 quarters, we think that earnings growth can come comfortably at 20, 25 or 30 percent level. So, incremental capital is invested at very high rates of returns. So, this is what we look for in a business, right. Just moving forward.
We will now discuss about Vinati organics as compared to Laurus labs and we will see that when we made Vinati organics video, we said that Vinati organics business will go to head winds. And actually, now Vinati organics business is going to head winds and what you need to remember in Vinati organics, in Laurus directional trend of ROCE and ROIIC means the incremental capital is very positive but in Vinati organics case in the incremental capital, rate of return is going to reduce because the new upcoming products are lower margin in nature. Vinati organics earn 40 to 45 percent EBITDA margin in ATBS products on back of the envelope calculation. They are earning 14 to 15 percent EBITDA margin in butyl phenols and butylated phenols. From so high rate of return business, I am coming down to low rate of return business. Direction of ROIC is negative, that is not positive as compared to the historic past due to this there are head winds in this business.
Secondly, ATBS production depends a lot upon the Shale gas production. So, again here we can see that Vinati organics sales has been relatively flat. If we compare year on year then sale have decreased.
I think sales is a function of volumes and realization. Volume may be same but realization may have decreased. If we look quarter on quarter then growth can be seen, if we look from q2 to q3. Gross margin has fallen quarter on quarter because I think crude oil prices in last quarter was very cheap.
But year on year, gross margin is more or less the same but EBITDA margins have reduced, right. The EBIT margin have also reduced and this happens because there is pre-production expense too like they are setting up a new plant. Plus, I think the margin is not sustainable, their margin will sustain after reaching 26 to 27 percent. But directional trend of ROIC isn’t positive. Its going towards negative direction. It means today ROCE and ROCE after 5 years will not be same.
PAT margin is of tax so again profit after tax more or less flattish. In an environment where other specialty chemical companies are doing well so you need to ask yourself that in terms of opportunity cost, whether Vinati organics as a business makes sense or not for you so that is up to the investor to decide. Our purpose is just to let you know the key variables. Now, juts coming forward to the key anti-thesis pointers in Vinati so we have already discussed the first anti-thesis pointer. Vinati is getting into lower margin products, right. 2nd is product concentration risk which is ATBS, where anti-thesis plays out? Many people ask that why do you inform the risks in the video? It is very important to let you know the risk because if you won’t be able to recognize the risk then you won’t be able to realize the reason for under performance of a stock.
So, there is a product concentration of ATBS here which is dependent 25 to 30 percent in oil production. Oil production is going through head winds, this is why Vinati organics is going through head winds and this is why stock hasn’t moved much. If you will find reason in business then you will get a reason in stock performance. Thirdly, there is shale production headwind about which we have discussed already.
4th reason of head wind is directional trend of ROIIC is negative. It is not positive, it is negative. So, you have to realize such things while evaluating businesses. With this I think we will come to syngene and after syngene, I will discuss the result of sequent scientific result in brief because conference calls of sequent is in the morning so I think I will just do that.
So, just a moment. Now just before proceeding to the result of sequent scientific in syngene, I would like to tell you that we have this intensive course for the students and whosever wants to learn business analysis and how you can realize the business key triggers well in advance and what are the fundamentals of value investing so we teach all these in our course. Course link is mentioned in the description below. Along with this course, at the end of this month we will also do a webinar on platform business so I see sectoral analysis which is a part of course for SOIC intensive students but what we have planned in next 6 to 7 months that we will do business analysis of 8 to 10 sectors and we are making an analysis of platform business both in international and domestic context.
So, with this we will get into the result of sequent scientific and syngene, right. So, coming to Syngene’s result 1st so syngene result is more or less on the expected lines because in syngene the business is of discovery, development, research and manufacturing. So, here there is CRO part of business and CDMO part of business. CRO means contract research organization and another is CDMO which is contract development and manufacturing organization. Again, just to show you the numbers so in Syngene case year on year revenue have 13% growth which is according to the Syngene guidance.
Moreover, year on year if we look at 9 months then there is 9% growth in nine months, if we look at total revenue then it has 12% growth because the income is decreased. If you look at EBITDA margin then EBITDA margin more or less is close to 32.1%. You need to realize a very interesting thing here that their manufacturing business for which they have a set up an API plant in Mangalore so that business is not generating more revenue as it is going through validation stage. Validation stage means that there are many regulatory agencies who are giving approval to them so there is a gestation period in pharma businesses in manufacturing. As at this time the plant is getting an approval so the pre-operating expense like the plant is set up but manufacturing has not started so the power cost, equipment cost is already started. Due to these cost, syngene market is diluting at 2% currently means pre-operating expenses are affecting this business still syngene have sustained the margin which is nothing short of extra ordinary in my view because revenue of manufacturing business has not even started.
So, syngene is actually a ticking time bomb of operating leverage means the moment revenue will start coming from manufacturing business, then again, we will able to see profitability growth more than sales growth because of operating leverage. If you want to understand operating leverage in detail then look at the first 3 minutes of Laurus labs video, we have explained the concept in detail. Moreover, PAT margin is again close to 17% here.
So, this is syngene’s case. What I want to show in syngene case is that a report came as super credit to them so they showed here that actually syngene level CRO that is contract research organization is there in China, let’s look at their growth once. There is a company named as Tigermed which is listed in China so from 2010, the 9 million revenue have increased to 406 million revenue in last decade. Just imagine, the revenue has grown by 40x.
There is one more company named as Asymchem where revenues have grown by nearly 6x in last 8 years, right. Revenues have grown by nearly 6x in last 8 years. So, again non-linearity in business. In Syngene manufacturing business or plant which is set up is for NCE so the plant is for new chemical entities but we will that after this Mangalore API plant, the next upcoming plant will have more capex towards the biologics side in Syngene. Now, biologics are larger molecules in nature and there are many entry barriers in biologics CDMO and non-linear growth in biologics CDMO is high and switching cost is also high.
Once the cell line is established and once you have started contract manufacturing for the innovator then it is next to impossible to change again in biologics. Due to this reason, they get high valuations in biologics company CDMO in the world currently. If anyone wants to understand syngene in detail then we have made a video on it where we have explained the syngene model from scrape so you can watch that so that you understand this video of result in a better way.
So, just coming to biologics CDMO. If we look at Bio CDMO then today at this time if I tell you then Samsung biologics is getting 55 times of price upon multiple means company price is Rs.55 and Rs.1 is the sale so they are getting 55 times multiple by sales now.
Syngene is currently getting 7 to 8 times. Reason is because biologics are very high entry barrier and very high switching cost business, right. So, if we look at revenue growth of Samsung biologics then from 40 million dollars, it has grown to 602 million dollars within a short span of 6 years.
Market realizes at this time; foreign institution realizes more that globally a lot of wealth creation is done in this sector. Like we see in tech businesses, wealth creation is done in amazon, right. If we look at shopify then wealth creation is done in shopify. If we look at trade desk then wealth creation is done in trade desk.
If we look at roku then wealth creation is done in roku. Similarly, in India the wealth creation is done in IndiaMart. Wealth creation is done in info edge, right. So, global trends actually coincide with the domestic trends as there is a lot of growth in biological CDMO. If syngene capex in next 3 to 4 years increase more towards biological side then expect the growth to further accelerate. It can be a long-term thesis in Syngene that Syngene will act as a platform like we discussed earlier that Syngene will be a platform for the global innovators.
In Wuxi biologics, from 54 million dollars, the sales have grown to 577 million dollars. They provide a lot of valuation to these businesses which is listed outside, right. So, again just coming to Syngene only. Just give me a moment.
Just coming to Syngene only so there are 4 types of business in Syngene. 1 is dedicated R&D Centre business they set up R&D labs for dedicated clients. Baxture is one of the clients. Then there is manufacturing business for which they have set up an API plant in Mangalore so they will do patented molecules like Suven pharma is doing.
Then there are development services which includes CRO part, discover and development services that is contract research organization. So, again Syngene is actually one of the few CDMOs which is purely integrated means which is doing CRO, CMO and along with that they are also setting up dedicated R&D. Dedicated R&D don’t help manufacturing services much because the molecule which is developed there or whatever they help through their research, the companies may have their own manufacturing units so those orders don’t come to Syngene but Syngene provides them equivalent scientist to them all the time.
For me this makes it a very interesting line of business and this just tells you that if you are giving contract to a customer since 15 to 20 years then it is a very big thing as it shows how much the switching cost is built in business. Moreover, the Mangalore API plant will not provide high revenue within 1 or 2 years but as the R&D pipeline increases, as the molecule increases in pipeline then a lot of return can come in next 3 to 5 years through Mangalore API plant. So, this is why Syngene is a ticking time bomb in terms of operating leverage like Laurus labs was 2 to 3 years before. Similarly, Syngene have reached on this stage today.
With this I will go towards Sequent Scientific result and I think that will be the last result we will be discussing today. Now, juts coming to the quarterly performance of Sequent Scientific. We recently made a video on Sequent Scientific; I think we released in January. So, the thesis is Sequent Scientific is very clear to us that margin growth will be more than top line growth. As the investment phase is over in Sequent. Now, the investment will be done in US acquisition because that acquisition will be very margin accretive in nature as US geography offer a lot of margin.
What is going to happen in Sequent Scientific case that topline margin will be close to 13, 14 or 15 percent but your margin expansion will be close to 17 to 18 percent. I think EBITDA margin is 18.2% currently. In last or same quarter, it was 15.3%. Management have beaten their own guidance. Management guide on basis of 150-to-200-point expansion but the actual expansion is of 209 so management have beat their own guidance which is not surprising for us because we find the management super conservative.
I think this is one of the better managements in India listed space. So, again the growth is very strong and if you look at the EBITDA then EBITDA has gone to 65.1 crore in this quarter. In last quarter it was 48.4 crore so there is a growth of 34.5% here. But growth is more in profit after tax because Sequent have done deleveraging means they have paid off the debt due to which finance cost have reduced. So, again very important to realize that if we discuss the story like we discussed in business that what is the criteria of SOIC of reading con calls or what are the criteria is to judge a business. What fundament investing explains you that what is value investing that you can see the picture 2 to 3 years earlier that what is the future of business then you make a portfolio of 10 to 15 businesses where you feel anything like this can happen.
It cannot happen in all businesses but if it happens in 5 to 6 businesses than value investing works its magic, right. So, this is the meaning of value investing that you are betting before the perk. You are going to go where the perk is going to be. You will seat before where the future ROCE can come as compared to the entire market. Why entire market is unable to do this? Because very few people, few institutions or few investors try to understand the business in detail. Unless you understand the business economics, you cannot bet where the perk is going to be.
It is very important to understand the business if you wish to do value investing in a true way. So, these are sequent numbers and I think moreover, if we look at ROCE expansion here than the ROCE of Sequent is close to 21%. If you see this, ROCE of the business now exceeds 21% reflecting our capital efficiency, right. When ROCE expansion started it was 2 to 3 percent but now it is 21% and after 5 years it can be 30 to 35 percent.
If you provide annual report of next 4 to 5 years of Sequent or AVOT INDIA or any FMCG business without letting me know which business it is, I won’t be able to tell you which business is which as there will be same level of returns, same level of return on equity, same level of capital employed will be there in FMCG, AVOT INDIA and Sequent. The margins will also be on same level. Sequent margins may be better so it will be very difficult for me due to this reason Sequent is like a pseudo FMCG business for us. We think it’s a pseudo FMCG business.
So, again this makes it very interesting. And just moving forward in the quarter result itself, I will just show you it to you what all is happening in Sequent case. So, let’s look at cash flow from operations in Sequent case, right.
Just look at cash flow from operations so year on year cash flow from operations have grown by 24%. In Q3 cash flow from operations was 66.7 crore which was 53.7 last year. In complete year, in 9 months cash flow from operation have reached to 168 to 170 crores. What is going to happen that cash flow from operation will be 220 to 230 crores and today market capex is close to 5400 to 5500 crores. The company provides price upon multiple between 20 to 25 times which in our view, in our valuation framework is reasonable on back of the envelope calculation. But again, this is not an investment advice, this is just a case study that how to go about analyzing businesses.
If you want to do fundamental investing than you must know how to actually analyze the business. Numbers will interact with the valuation and 4 to 5 years down the line may be cash flow from operations will be somewhere close to 500 to 550 crores. So, again there is a lot of delta in cash flow and just like paints business or FMCG business, cash flows have a long runway of reinvestment which you will not get in many of the Indian scenarios. So, again very interesting to notice. Moreover, this is geographical growth but I think before talking about this I will attend the can call in morning so it will be difficult to tell before that. Let’s look at the growth in Europe so the growth is slow in Europe because 2nd wave of COVID-19 is going on in Europe currently.
5.3% is year on year growth so if covid-19 would not have been there in Europe now then basically the growth could have been stronger. In Q4, Q1 next 2 quarters if Europe growth recover then that can again be very interesting in nature. India’s growth is very high this time. You may remember I discussed in Sequent Scientific video that Zoetis product integration with them will lead to high growth in India this time.
So, again this makes it very interesting and over here this is their business review that where all they are coming. What is the growth in formulations and APIs so again I think this is a business which will be given a premium by the market purely because of the focus it has. Pure play, animal API country, you will not get in India and China who are serving the regulated markets. NGL fine chem is in unregulated market which is also done very well. But I think going forward if Sequent is in regulated market and NGL fine chem is unregulated market then margins of Sequent 5 years down the line we think will be better than even NGL fine chem. So, again EBITDA margins have expanded and even if you look at the gross margin expansion then quarter on quarter gross margin expansion is there.
I told you 2 things in video that 2 levers will work here. 1st lever is that location wise Sequent is getting into more regulated markets. So, 1st leverage lever is geographical mix change and 2nd lever is Sequent is getting into higher margin products. Sequent have entered in injectables as injectables have more margin. It will also enter CDMO which have high margin. Again, it makes this very interesting.
There is only one risk that is there is that how will US acquisition play out. Moreover, if we look at ROCE expansion here than again to all the SOIC students, please tell us in the comments section below that what you feel according to bucket framework in which bucket the Sequent is going. This is a real case study which we have made you done in course so how you can join the real case study time will be a real insight because investment is a continuous learning. It will not come by doing 1 course, if you apply course principles again and again then it will be directionally clear that what is the meaning of valuation and what is the meaning of looking at future direction.
Why ROCE is growing and how much ROCE can grow after 5 years and how much will be the earnings growth so this is what the purpose of the bucket framework is. So, I think with this we will end the session but we enjoyed making this session. We like to teach investing because unless we learn the principles and apply on real case studies, we think that we haven’t learn anything but we are always learning and Sequent is one such business where learnings will also increase by a lot. So, thank you for joining us and do check the description below. Please post all the questions you have in comment section because next video will be based on Q&A analysis. Thank you for joining us.
Hope to see you in the next session.
2021-02-07 07:35
