We are raising our fair value estimate for Sun Pharmaceuticals to Rs 992 per share from Rs 671, which implies a price to fiscal 2016 adjusted earnings ratio of 35 times and an enterprise value/ adjusted EBITDA of 21 times. The change in fair value is largely the result of incorporating Ranbaxy financials into our forecast starting 1 April 2014.
We believe the Ranbaxy acquisition will strengthen Sun‘s product portfolio and pipeline of ANDA filings, in addition to strengthening its distribution network in India and abroad. While there are considerable challenges that Sun will have to address with respect to the consent decree and USFDA approvals of plants, opportunities exist to expand the operating margins of Ranbaxy post-merger. These include manufacturing synergies as plants can be more optimally utilized when combined with Sun’s product base across geographies. Furthermore, change in product mix towards more complex drugs can help move Ranbaxy up the gross margin curve. We view the Ranbaxy merger as a positive, and maintain our narrow moat rating on the combined entity, as we believe both Sun and Ranbaxy have considerable competitive advantages in terms of complex drug capabilities, branded generics portfolio with pricing power and a low-cost Indian manufacturing base. Our high uncertainty rating on Sun remains intact.
We anticipate the merged entity will improve margins over our explicit five year forecast. Management has indicated $250 million of synergies starting year three of the merger, and we build this into our model as we believe this is achievable. Overall, we maintain a positive outlook on the Sun-Ranbaxy merger and believe the deal will create value for shareholders, despite being a fairly priced acquisition. We believe Sun’s past performance on successful integrations will come in handy as it looks to turnaround Ranbaxy.
To read a detailed analysis, click here.
