BUY. Aurobindo Pharma Ltd. Pharmaceuticals RETAIL EQUITY RESEARCH. Well placed to monetise the product pipeline

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1 COMPANY INITIATING REPORT Jun-15 Jul-15 Aug-15 Sep-15 GEOJIT BNP PARIBAS Research Oct-15 Nov-15 Dec-15 Jan-16 Feb-16 Mar-16 Apr-16 May-16 Jun-16 RETAIL EQUITY RESEARCH Aurobindo Pharma Ltd. Pharmaceuticals BSE CODE: NSE CODE: AUROPHARMA Bloomberg CODE: ARBP:IN SENSEX: 26,636 BUY Rating as per Large cap 12months investment period CMP Rs745 TARGET Rs924 RETURN 24% 13 th June, 2016 Well placed to monetise the product pipeline Aurobindo Pharma (Auro) is one of the largest vertically integrated pharmaceutical companies with API (active pharmaceutical ingredient) integration for over 75% of its products. Over the past few years, the company has drastically shifted its focus from APIs business to generic formulations. US business (44% of the total revenues) to grow at 21.6% CAGR over FY16-18E on account of key launches and ramp up in production from Natrol acquisition (Nutritional products). The company is expected to launch products (including high margin products in Injectables, Controlled substances) which have a market size of USD19bn. The EBITDA margin of Actavis business (witnessed turnaround in FY16) is expected to further expand as the company shifts its manufacturing base from Europe to India. APIs integration allows Auro to roll out new products quickly thus, offsetting the impact of price erosion. We initiate Auro Pharma with a BUY rating valuing the stock at 18.5x FY18E EPS arriving at a target price of Rs924. Transformation from API driven model to generic formulations Since FY13, the company has drastically shifted its business focus from being a mere API supplier to a formulations player and started filing complex products in the US. This strategic shift in business led to significant improvement in earnings and scale up of revenues. Formulations contribution increased from 56% in FY13 to 79% in FY16 and is expected to increase to 83% of the total sales by FY18E. Contribution of US sales to surge from 44% in FY16 to 48% in FY18E The company s total filed and approved ANDAs (Abbreviated New Drug Application) grew at CAGR of 13.6% & 15.9% respectively over FY The US product basket is impressive with 398 ANDAs including 215 final approvals, 36 tentative approvals and 147 pending approvals. We expect strong growth in US market on account of ramp-up of existing products and upcoming launches (market size of USD6.7bn). Hence, we expect US business to register CAGR of 21.6%over FY16-18E. Europe: Turnaround of Actavis acquisition Auro acquired loss making Actavis Europe product portfolio in It has successfully managed to turnaround Actavis in FY16 by shifting manufacturing base from Europe to India. Auro has already transferred 32 products to its Indian facility and is targeting to shift 50% of Actavis products by FY18E. In FY16, Actavis reported mid-single digit EBITDA margin and the management has guided for a high single digit margin by FY18E. Valuations - We expect revenues and PAT to grow at a CAGR of 16% and 21.4% respectively over FY16-18E. Further, we are factoring 150 bps gain in EBITDA margin to 24.6% by FY18E on account of new launches and improved operating performance of Actavis. Hence, we initiate Aurobindo Pharma with a BUY rating with a target price of Rs924 at 18.5x FY18E EPS. Company Data Market Cap (cr) 43,592 Enterprise Value (cr) 47,570 Outstanding Shares (cr) 59 Free Float 46% Dividend Yield (%) week high week low 582 6m average volume (units in lacs) 23 Beta 1.3 Face value 1.0 Shareholding % Q2FY16 Q3FY16 Q4FY16 Promoters Public Others Total Price Performance 3mth 6mth 1Year Absolute Return 2.9 (7.4) 14.5 Absolute Sensex (0.8) Relative Return* (5.2) (12.9) 15.2 *over or under performance to benchmark index AUROPHARMA Sensex (Rebased) Y.E Mar (Rscr) FY16 FY17E FY18E Sales 13, ,685 Growth (%) EBITDA 3,206 3,942 4,587 EBITDA Margins% PAT Adj. 1,982 2,451 2,922 Growth (%) Adj.EPS Growth (%) P/E P/B EV/EBITDA ROE (%) D/E

2 Valuations Currently, Auro is trading at 18x FY17E & 15x FY18E earnings which is above its historical average (last 5yr Avg. 1yr Fwd P/E 13). Strategic shift in the business from APIs to Formulations led to re-rating of the stock since FY14. Formulations contribution increased from 56% in FY13 to 79% in FY16 and is further expected to increase to 83% of total sales by FY18E. Hence, we initiate Auro with a BUY rating with a target price of Rs924 based on 18.5x (in line with past 2yr avg. 1yr Fwd P/E) FY18E earnings. P/E one year forward EBITDA & PAT margin to improve by 150bps and 130bps respectively Return ratios trend *SD-Standard Deviation Revenue to grow at CAGR of 16% with EBITDA margin expansion of 150bps We expect Auro s revenue to grow at a CAGR of 16% driven by key launches in the US. Further, we expect 150bps improvement in EBITDA margin over FY16-18E led by high margin complex product launches & cost efficiencies due to relocation of manufacturing base from Europe to India. As a result, we expect EBITDA and PAT to grow at a CAGR of 19.6% and 21.4% respectively over FY16-18E. Revenue to grow at 16% CAGR over FY16-FY18E Healthy balance sheet The company is expected to deleverage its balance sheet on account of strong free cash flow generation to the tune of Rs2,260cr over FY17-18E. This will reduce the D/E ratio from 0.6 in FY16 to 0.2 by FY18E. Working capital cycle remains stable at 142 days in FY16 (143 days in FY15) with receivables stands at 108 days (105 in FY15), inventory stands at 242 days (239 in FY15) and payables stands at 139 days (125 days in FY15). We expect ROCE to improve by 210bps to 29.1% on account of margin improvement while ROE is declining as a result of lower leverage.

3 Investment Rationale Robust product pipeline to drive US growth at a CAGR of 21.6% over FY16-18E US generics has been the growth driver for the company over the past three years and is the largest contributor to the company's revenues and profitability. US formulations contributed 55% to the total formulations revenue and 44% to overall revenues in FY16. US business grew at a stellar 39% CAGR over FY11-16 benefitted by the company s strategy to focus on formulations instead of APIs. The US product basket is impressive with 398 ANDAs including 215 final approvals, 36 tentative approvals and 147 pending approvals (including 37 injectables). During FY16, the company filed 22 ANDAs with USFDA and received approval for 58 (49 final, 9 tentative). Of 49 approvals, 28 products have been launched. The company s total filed and approved ANDAs grew at CAGR of 13.6% & 15.9%, respectively over FY The company is expected to launch products in the US in FY17. Additionally, it has also received approval for generic Nexium (used to treat symptoms of gastro esophageal reflux disease) in April 2016 and is expected to be launched in H2FY17 (market size of USD4.2bn). Therefore, we expect US sales to grow at 21.6% CAGR over FY16-18E. Auro enjoys the benefits of API integration A large product basket and competitive cost structure (backward integration in 75% of its products) make it an ideal supplier for customers. Moreover, being the largest vertically integrated player with huge API capacity allows it to act on any shortage situation in the market. Injectables review progressing well AuroMedics (markets injectable products in USA) is experiencing a significant FDA activity with respect to the review and approvals on filed ANDAs. Further, the company has filed 79 ANDAs with USFDA under injectables segment, of which, 42 have already received approvals. In FY16, Auromedics reported sales of USD95mn (10% of US sales) an increase of 39% YoY. Moreover, it is expected that USFDA would accelerate the pending ANDAs approval process benefitting the likes of Auro owing to its huge pipeline. US Revenue to grow at 21.6% CAGR over FY16-18E Traction in Specialty products According to industry reports, the global market for cancer drugs could reach USD147bn by Sales of generic oncology drugs are expected to be around USD20bn by 2018, of which, developed markets will account for lion s share of the market. To capture this market, the company acquired 60% stake in Eugia in FY14. The company develops and markets niche Hormonal and Oncology generic formulations for the regulated markets. Currently, the company is working on 15 Oncology products. The portfolio of oncology and hormonal products are at an advanced stage with potential launches in 2017 & Increasing demand for Controlled substances The company supplies Controlled substances in the US market through its subsidiary (Aurolife) and it contributes 15% to US formulations. Aurolife continues to witness rising demand from government. The company has sixteen ANDA filings for Controlled substances (with an addressable market of USD3bn), pending with the USFDA. Natrol acquisition to compliment the US business The company acquired the assets of nutritional supplement maker Natrol Inc. for USD132.5mn in Natrol manufactures and sells quality nutritional supplements in the US and select international markets. During FY16, Natrol Inc. posted sales of USD110mn (12% of US sales) an increase of 13% YoY. Natrol acquisition has fast tracked Aurobindo s entry into the nutraceuticals markets with niche and differentiated products. Currently, the company is focusing on enhancing Natrol s product portfolio and market share. We expect Natrol business to grow at a CAGR of 14.5% over FY16-18E.

4 ANDAs pipeline ANDAs filed by Therapeutic area with total market size of USD77bn Key ANDAs pipeline Molecule Brand Sales (USD mn) Rosuvastatin Crestor 3,160 Emtricitabine Truvada 2,000 Atazanavir Reyataz 770 Tenofovir Disporoxil Viread 570 provided front end infrastructure in four segments including generics, branded products, over-the-counter products and generics tenders. Further, this has strengthened the company s presence in Western Europe (with full-fledged sales force) and has provided Auro with ready hospital market to launch its own injectable and specialty portfolio. Turnaround of Actavis acquisition After Actavis acquisition in 2014, the sales contribution from Europe has increased from 8% in FY14 to 21% in FY16. Further, the company is expected to leverage its ability to source lower cost APIs by shifting manufacturing base from Europe to India. This will significantly improve the profitability of business in the coming years. The company has already transferred 32 Actavis products to its Indian facility and targeting to shift 50% of products by FY18. Acquired business reported mid-single digit EBITDA margin in FY16 and the management has guided for a high single digit operating margin by FY18. While, Actavis acquisition will strengthen its position in key therapy areas of CNS (Central nervous system), Dermatology, Digestives, CVS (Cardio vascular system), Respiratory and Anti-infectives, it also offers huge growth potential for Auro as the penetration of generics is lower in Italy, Spain & France. We expect Europe business to grow at steady pace of 7.5% CAGR during FY16-18E on account of consolidation in the medium term. Revenue to grow at CAGR of 7.5% during FY16-18E Abacavir Epzicom 490 Palonosetron Aloxi 450 Atomoxetine Strattera 380 Paricalcitol Zemplar 300 Dexmedetomidine Precedex 150 Tygecycline Tygacil 130 Europe: Expansion through Acquisitions Aurobindo has expanded its presence in Europe by acquiring Milopharm in 2006, Pharmacin in 2007 and Actavis in Actavis business is spread over 7 countries in Europe France, Germany, Netherlands, United Kingdom, Spain, Italy, and Portugal. Actavis acquisition brought a pipeline of 1200 products and 1,250 dossier license rights. Actavis acquisition has ARVs: New launches to drive revenues & margin ARVs (Antiretroviral) business contributed 8.5% to overall revenue in FY16 and grew at a CAGR of 12% over FY Contribution of low margin ARVs business to total sales declined from 15.5% in FY11 to

5 8.5% in FY16 as a result of company s focus on US formulations. The company provides cost effective generic version of ARV products catering to more than 100 countries. Currently, the company is focusing on global tenders floated by Multi-Lateral organizations and govt. agencies. The company has filed an ANDA application for Dolutegravir 50mg (DTG) with USFDA under the PEPFAR (President's Emergency Plan for AIDS Relief) program and is currently developing a Triple drug combination (high margin products) containing DTG (Market size USD2bn in 2017). WHO announced DTG as a first line reserve drug in its 2015 HIV treatment guidelines. Currently, it has filed 38 ANDAs in ARVs segment with an addressable market size of USD4.8bn. We expect Dolutegravir launch (sales to begin in CY2017/FY2018) and increasing demand from multi-lateral organizations globally to drive revenue growth and improve margins of the segment going forward. Hence, we expect ARV business to grow at a CAGR of 25% during FY16-18E. Key ARV products 1. Efavirenz + Lamivudine + Tenofovir 2. Lamivudine + Zidovudine Tabs 3. Abacavir Sulfate Tabs 4. Lopinavir + Ritonavir Tabs 5. Efavirenz + Emtricitabine + Tenofovir Tabs 6. Zidovudine + Lamivudine + Nevirapine Tabs enhance its penetration through local manufacturing units with increased therapeutic focus on Oncology and specialty injectables. We expect RoW business to grow at a CAGR of 22.5% over FY16-18E. To sustain the current momentum in RoW markets APIs: Captive consumption to increase significantly APIs accounted for 20.5% of overall revenues and reported a growth of 6.6% in FY16 due to increasing captive consumption. Currently, the company has 376 API filings focusing on high value specialty products for regulated markets. We expect APIs business to report a muted CAGR of 7% on account of increasing captive consumption (nearly 75%). However, the company is targeting the non-beta lactam (broad class of antibiotics) segment for growth, where it can develop high value specialty products that are complex in nature. APIs to grow at a CAGR of 5.5% over FY16-18E ARVs revenue to grow at 25% CAGR over FY16-18E RoW (Rest of the World) markets: In expansion mode RoW markets contributed 5% to overall revenue and grew at 22% in FY16. The company s focused markets include Brazil, South Africa, Ukraine, Mexico and it is further expanding into select markets of Asia Pacific, Africa and Middle East. The company is planning to

6 Aurobindo Pharma Limited: Company Overview Aurobindo is one of the largest vertically integrated pharmaceutical companies with API integration for over 75% of its products. Over the past few years, the company has drastically shifted its focus from API business to formulations. Hence, the formulations share in the total revenues has increased from 54% in FY11 to 79% in FY16. The company has strong global presence with more than 80% of its revenues coming from international operations. Further, it owns a network of 19 manufacturing facilities (eight formulations and 11 API & intermediates) in India and abroad. The company has robust product portfolio with high value generics and complex sterile products. Key Risks: Escalation of Form-483 (Unit VII) and delay in key ANDA approvals. USFDA scrutiny against company s other manufacturing plants regarding CGMP (Current Good Manufacturing Practices). Further price erosion in the US business due to channel consolidation and new players. Revenue breakup (FY16) Business break-up (FY16)

7 Consolidated Financials Profit & Loss Account Y.E March (Rs cr.) FY14 FY15 FY16 FY17E FY18E Sales 8,100 12,121 13,896 16,187 18,685 % change 38.3% 49.6% 14.7% 16.5% 15.4% EBITDA 2,134 2,564 3,206 3,942 4,587 % change 147.8% 20.2% 25.1% 23.0% 16.4% Depreciation EBIT 1,821 2,231 2,813 3,430 4,024 Interest Other Income PBT 1,533 2,168 2,723 3,358 4,003 % change 309.6% 41.5% 25.6% 23.3% 19.2% Tax ,081 Tax Rate (%) 23.7% 27.5% 27.3% 27.0% 27.0% Reported PAT 1,173 1,576 1,982 2,451 2,922 Adj Adj. PAT 1,173 1,576 1,982 2,451 2,922 % change 299.1% 34.4% 25.8% 23.7% 19.2% No. of shares (cr.) Adj. EPS (Rs) % change 299.1% 34.4% 25.8% 23.7% 19.2% DPS (Rs) Cash flow Y.E March (Rs cr.) FY14 FY15 FY16 FY17E FY18E Pre-tax profit 1,533 2,168 2,723 3,358 4,003 Depreciation Changes in W.C (1,057) (842) (576) (919) (999) Others Tax paid (344) (496) (744) (907) (1,081) C.F.O 644 1,295 1,885 2,116 2,508 Capital exp. (374) (746) (1,442) (1,200) (600) Change in inv Other invest.cf (445) (663) C.F - investing (819) (1,409) (1,374) (1,135) (521) Issue of equity Issue/repay debt (700) (1,029) Dividends paid (60) (180) (146) (176) (205) Other finance.cf (94) (74) (159) (136) (100) C.F - Financing (114) (1,012) (1,334) Chg. in cash (57) (21) 397 (31) 653 Closing cash ,456 Balance Sheet Y.E March (Rs cr.) FY14 FY15 FY16 FY17E FY18E Cash ,456 Accounts Receivable 2,637 3,539 4,172 4,859 5,609 Inventories 2,368 3,611 4,088 4,628 5,264 Other Cur. Assets ,040 1,184 Investments Gross Fixed Assets 4,198 5,459 6,819 8,008 8,808 Net Fixed Assets 2,737 3,718 4,686 5,363 5,599 CWIP Intangible Assets Def. Tax (Net) Other Assets Total Assets 9,284 12,704 15,463 17,501 19,745 Current Liabilities 1,730 3,047 3,747 4,208 4,762 Provisions Debt Funds 3,769 4,451 4,576 3,876 2,847 Other Liabilities Equity Capital Reserves & Surplus 3,721 5,127 6,998 9,274 11,992 Shareholder s Fund 3,750 5,156 7,057 9,333 12,050 Minority Interest Total Liabilities 9,284 12,704 15,463 17,501 19,745 BVPS* (Rs) *: BVPS for FY14 & FY15 is adjusted for bonus shares Ratios Y.E March FY14 FY15 FY16 FY17E FY18E Profitab. & Return EBITDA margin (%) EBIT margin (%) Net profit mgn.(%) ROE (%) ROCE (%) W.C & Liquidity Receivables (days) Inventory (days) Payables (days) Current ratio (x) Quick ratio (x) Turnover &Levg. Gross asset T.O (x) Total asset T.O (x) Int. covge. ratio (x) Adj. debt/equity (x) Valuation ratios EV/Sales (x) EV/EBITDA (x) P/E (x) P/BV (x)

8 Recommendation Summary (last 3 years) Dates Rating Target 13-June-16 BUY 924 Large Cap Stocks; Mid Cap and Small Cap; Buy - Upside is 10% or more. Buy - Upside is 15% or more. Hold - Upside or downside is less than 10%. Accumulate* - Upside between 10% - 15%. Reduce - Downside is 10% or more. Hold - Absolute returns between 0% - 10%. Reduce/Sell - Absolute returns less than 0%. To satisfy regulatory requirements, we attribute Accumulate as Buy and Reduce as Sell. The recommendations are based on 12 month horizon, unless otherwise specified. The investment ratings are on absolute positive/negative return basis. It is possible that due to volatile price fluctuation in the near to medium term, there could be a temporary mismatch to rating. * For reasons of valuations/return/lack of clarity/event we may revisit rating at appropriate time. Please note that the stock always carries the risk of being upgraded to BUY or downgraded to a HOLD, REDUCE or SELL. Geojit BNP Paribas Financial Services Limited has outsourced the preparation of this research report to DION Global Solutions Limited whose relevant disclosures are available hereunder. However, Geojit BNP Paribas's research desk have reviewed this report for any untrue statement of material fact or any false or misleading information. General Disclosures and Disclaimers CERTIFICATION I, Abhishek Kumar Das, employee of Dion Global Solutions Limited (Dion) is engaged in preparation of this report and hereby certify that all the views expressed in this research report (report) reflect my personal views about any or all of the subject issuer or securities. Disclaimer This report has been prepared by Dion and the report & its contents are the exclusive property of the Dion and the client cannot tamper with the report or its contents in any manner and the said report, shall in no case, be further distributed to any third party for commercial use, with or without consideration. Geojit BNP Paribas Financial Services Limited has outsourced the assignment of preparation of this report to Dion. Recipient shall not further distribute the report to a third party for a commercial consideration as this report is being furnished to the recipient solely for the purpose of information. Dion has taken steps to ensure that facts in this report are based on reliable information but cannot testify, nor make any representation or warranty, express or implied, to the accuracy, contents or data contained within this report. It is hereby confirmed that wherever Dion has employed a rating system in this report, the rating system has been clearly defined including the time horizon and benchmarks on which the rating is based. Descriptions of any company or companies or their securities mentioned herein are not intended to be complete and this report is not, and should not be construed as an offer or solicitation of an offer, to buy or sell any securities or other financial instruments. Dion has not taken any steps to ensure that the securities referred to in this report are suitable for any particular investor. This report is not to be relied upon in substitution for the exercise of independent judgment. Opinions or estimates expressed are current opinions as of the original publication date appearing on this report and the information, including the opinions and estimates contained herein, are subject to change without notice. Dion is under no duty to update this report from time to time. Dion or its associates including employees engaged in preparation of this report and its directors do not take any responsibility, financial or otherwise, of the losses or the damages sustained due to the investments made or any action taken on basis of this report, including but not restricted to, fluctuation in the prices of securities, changes in the currency rates, diminution in the NAVs, reduction in the dividend or income, etc. The investments or services contained or referred to in this report may not be suitable for all equally and it is recommended that an independent investment advisor be consulted. In addition, nothing in this report constitutes investment, legal, accounting or tax advice or a representation that any investment or strategy is suitable or appropriate to individual circumstances or otherwise constitutes a personal recommendation of Dion. REGULATORY DISCLOSURES:

9 Dion is engaged in the business of developing software solutions for the global financial services industry across the entire transaction lifecycle and interalia provides research and information services essential for business intelligence to global companies and financial institutions. Dion is listed on BSE Limited (BSE) and is also registered under the SEBI (Research Analyst) Regulations, 2014 (SEBI Regulations) as a Research Analyst vide Registration No. INH Dion s activities were neither suspended nor has it defaulted with requirements under the Listing Agreement and / or SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 with the BSE in the last five years. Dion has not been debarred from doing business by BSE / SEBI or any other authority. In the context of the SEBI Regulations, we affirm that we are a SEBI registered Research Analyst and in the course of our business, we issue research reports /research analysis etc that are prepared by our Research Analysts. We also affirm and undertake that no disciplinary action has been taken against us or our Analysts in connection with our business activities. In compliance with the above mentioned SEBI Regulations, the following additional disclosures are also provided which may be considered by the reader before making an investment decision: 1. Disclosures regarding Ownership Dion confirms that: (i) It/its associates have no financial interest or any other material conflict in relation to the subject company (ies) covered herein at the time of publication of this report. (ii) It/its associates have no actual / beneficial ownership of 1% or more securities of the subject company (ies) covered herein at the end of the month immediately preceding the date of publication of this report. Further, the Research Analyst confirms that: (i) He, his associates and his relatives have no financial interest in the subject company (ies) covered herein, and they have no other material conflict in the subject company at the time of publication of this report. (ii) He, his associates and his relatives have no actual/beneficial ownership of 1% or more securities of the subject company (ies) covered herein at the end of the month immediately preceding the date of publication of this report. 2. Disclosures regarding Compensation: During the past 12 months, Dion or its Associates: (a) Have not managed or co-managed public offering of securities for the subject company (b) Have not received any compensation for investment banking or merchant banking or brokerage services from the subject company (c) Have not received any compensation for products or services other than investment banking or merchant banking or brokerage services from the subject. (d) Have not received any compensation or other benefits from the subject company or third party in connection with this report 3. Disclosure regarding the Research Analyst s connection with the subject company: It is affirmed that I, Abhishek Kumar Das employed as Research Analyst by Dion and engaged in the preparation of this report have not served as an officer, director or employee of the subject company 4. Disclosure regarding Market Making activity: Neither Dion /its Research Analysts have engaged in market making activities for the subject company. Copyright in this report vests exclusively with Dion. Geojit BNP Paribas, 34/659-P, Civil Lane Road, Padivattom, Kochi Toll Free Number: / , Paid Number: , id: customercare@geojit.com Research Entity SEBI Registration Number: INH