I L S L R e s e a r c h - International Leasing Securities ... Report on Square... · I L S L R e s...

I L S L R e s e a r c h

SQUARE PHARMACEUTICALS LIMITED

DSE Ticker SQURPHARMA

Bloomberg Ticker SQUARE:BD

Fair Value* BDT 230.75

Rating* Market weight

Company Fundamentals

Industry Pharmaceuticals

Price (06/11/2014) BDT 265.3

Market Cap (DSE)

BDT 147,055 mn USD 1,899.7 mn*

52-week range BDT 178.1-293

#Share Outstanding 554.3 mn

Free-float Shares 45.8%

Paid-up Capital BDT 5,543.0 mn USD 71.61 mn*

3-month Avg Turnover (BDT mn)

209.83

3-month Return 15.3% * Exchange rate: USD 1 = BDT 77.41 (as on November 06, 2014)

Key Financial Statistics (BDT million)

2014A 2015E 2016E

Sales 23,268 26,645 29,843

Op. Profit 6,145 7,345 8,429

Net Profit 4,946 5,945 6,891

Assets 31,046 33,726 35,631

LT Debt 1,184 595 596

Equity 26,749 29,771 31,394

EPS* 8.9 10.7 12.4

DPS* 3.0 7.0 10.0

NAVPS* 48.2 53.7 56.6

P/E 29.7 24.7 21.3

P/B 5.5 4.9 4.7

EV/EBITDA 16.1 12.9 11.5 * Per share data

Selected Ratios

2014A 2015E 2016E

GP Margin 44.3% 44.8% 45.3%

OP Margin 26.4% 27.6% 28.2%

PAT Margin 21.3% 22.3% 23.1%

ROA 16.9% 18.3% 19.9%

ROE 20.0% 21.0% 22.5%

Debt-Equity 6.6% 3.0% 2.7%

Payout 33.6% 65.3% 80.5%

Analyst:

Md. Tanvir Islam

[email protected]

Square Pharmaceuticals Limited (SPL), incorporated on November 10, 1964, is the market leader in the Country’s pharmaceutical sector enjoying around 19% market share. The Company is primarily engaged in manufacturing and marketing of pharmaceuticals drugs and medicines. There are three GMP (Good Manufacturing Practice) compliant production sites situated at Pabna, Gazipur and Tangail. These manufacturing units also comply with the guideline of the US FDA and European regulatory requirements.

It has one subsidiary and four associates which are involved in business of pharmaceuticals formulation, textile and hospital. Square Formulations Ltd. – a 99.96% subsidiary of SPL has started its commercial production since April 01, 2014 which will add revenue in the upcoming years. However, up to 30 September 2014, Square Formulation Ltd. has incurred BDT 553 million losses. On an average, profit from associate companies enjoyed 17.6% growth in last three years.

The firm was listed in the DSE and the CSE since 1995. In the DSE, SPL holds around 5.4% market capitalization and in the pharmaceutical sector of DSE it holds around 40% market capitalization. It is one of the fundamentally strong companies listed in the Country’s capital market.

Square Pharmaceuticals Ltd. has established a brand name in the country’s pharmaceutical industry which is one of the important factors for a drug manufacturer.

The Company invests regularly on capacity building, upgrading technological process, research and training. Such expansion efforts are mainly financed by internal resources. The Company is planning to set up a blood plasma fractionation plant for commercial purpose. Such initiative is the first of its kind in Bangladesh. It has already placed a proposal before the drug office for setting up the plasma fractionation plant.

Moreover, SPL has seasoned management and has practiced good corporate governance which ensures its journey towards success.

However, the Company is mostly dependent on import for its raw materials. Of its total value required for raw material around 84% are imported which exposes the company to foreign exchange risks. At the same time, price enhancement of utilities i.e., electricity, gas etc. will squeeze the profit margins.

We conducted a valuation on Square Pharmaceuticals Limited based on both Discounted Cash Flow methods and Relative Valuation method while assuming next 5-Year CAGR of revenue will be 10.0%. Currently, SQURPHARMA is traded at price of BDT 265.3 (as on 06 November 2014). In our valuation, the fair value of SQURPHARMA is determined at BDT 230.75.

*Disclaimer of ILSL & the Analysts and the Stock Rating definition is located at the end of this report.


Square Pharmaceuticals Ltd. 06 November, 2014

Square Pharmaceutical Limited |

2

Global Perspective

In recent times, spending on medicine and healthcare has increased globally. IMS institute for Healthcare Information projected that, in 2014 global spending on medicine will exceed one trillion U.S Dollar for the first time and expected to reach USD 1.2 trillion by 2017. In its November 2013 issue IMS Institute for Healthcare Informatics projected that, in the next five years growth in the pharmaceutical industry will split between developed pharmaceutical market and high growth pharmaceutical market or ‘pharmerging’ market.

According to IMS assessment, developed markets – North America, Europe and Japan, may grab very modest single digit growth because of combination of economic and healthcare austerity measures and the savings realized from the growing availability of lower cost generic versions of brands following their patent expiry. On the other hand, a combination of economic growth, demographic and epidemiologic changes and improved state & private insurance funding for healthcare and medicines will help many of the leading ‘pharmerging’ markets i.e., China, India, Pakistan etc. to achieve double digit growth.

Bangladesh Outlook

In case of Bangladesh, pharmaceutical industry has achieved remarkable transformation. Only 20 years back, the Country had to import around 75% pharmaceutical products while now 97% demands are met by local production. The industry contributes about 1% of the total GDP. According to IMS report 2013, the growth rates of pharmaceutical industry of the Country in the last five years were as follows –

Year Pharma Sector Growth Rate

2009 16.83%

2010 23.80%

2011 22.30%

2012 11.91%

2013 8.12%

Source: IMS Report 2013

There are some major factors which drive the pharmaceutical industry of the country to flourish. These are –

- Large local market due to high population growth which confirms sustainable demand

- Increasing income level helps the overall population to avail better medical facility

- Government put more effort on healthcare service to achieve Millennium Development Goals

- Emerging private health care sector in recent times - Extension of TRIPS issue under general transitional period until July 01,

2021 for the LDCs has enhanced the export opportunity

Global market size is expected to reach USD 1.2 trillion by 2017

“Pharmerging” market will achieve higher growth than that

of developed market

Import dependency transformed into local production

Sustainable local demand, increasing income level, export opportunity, Government and

private sector’s effort will help to flourish the industry




3

Industry Scenario

Since the Country’s pharmaceutical industry portrays many untapped potentials it is vital to apprehend the underlying features of the industry.

Expanding Market Size

Pharmaceutical Industry of Bangladesh has come a long way in the past four decades. It is now one of the fastest growing and most technologically advanced sectors in the country with an annual average growth rate of 17.2% over the last five years and 13.1% over the last decade. In 1970, the market size of pharmaceuticals sector was only BDT 3 billion which in 2014, as per IMS Report, stood at BDT 106 billion. Industry experts presume that by 2015 the market size of the Country’s pharmaceutical sector will exceed BDT 150 billion. The sector is the second highest contributor to the national exchequer and it is the largest white-collar intensive employment sector in Bangladesh generating around 115,000 jobs.

Source: IMS Report & ILSL Research

Influential players

There are more than 260 registered small, medium, large, local and multinational companies operating in the country. Out of these firms 194 are currently in operation. Top 10 pharmaceuticals companies grab around 75% market share. Meanwhile, local manufacturers dominate the industry with 90% market share while multinationals hold little over 10%. Data from Directorate General of Drug Administration (DGDA) showed that, there are total 823 drug manufacturing unit in the country of which 258 are Allopathic, 268 are Unani, 79 are Homeopathic, 201 are Ayurvedic and 17 are Herbal.

Source: UK Trade & Investment and ILSL Research

2010 2011 2012 2013 2014

64.48

80.37 89.76 97.74

105.99

Pharma Sector Market Size (in BDT billion)

Drug Int.

Aristoph…

ACME

ACI

Eskayef

Renata

Opsonin

Beximco

Incepta

Square

3.7%

4.0%

4.1%

4.3%

4.7%

4.9%

5.0%

9.0%

9.5%

19.0% Market Share of Top Ten Companies

The industry enjoyed 17.2% annual

average growth in the last five years

with current market size of BDT 106

billion

Market shares are mainly

concentrated to top companies

while local firm hold 90% market

share




4

Sustainable Growing Demand

The sustainable product demand due to higher population of the Country helps the industry to construct a strong base. In 20 years back 75% pharmaceutical products were imported while nowadays around 97% of the total demand of the Country is being met by local manufactures. The rest 3% is imported– basically specialized products like vaccines, anti-cancer products and hormone drugs. About 85% of the drugs sold in Bangladesh are generics and 15% are patented drugs.

In recent times, pharmaceuticals companies are engaging in toll or contract manufacturing. Toll manufacturing is an arrangement in which a company with specialized equipment processes raw materials or semi-finished goods for another company. This is an excellent opportunity as companies with excess volume can utilized their unused capacities whereas others can get the product without fresh investment. Around 30 drug makers engaged in toll manufacturing for their local counterparts or even multinational companies. The global market for pharmaceutical toll manufacturing is worth around USD 50-60 billion, with India being a prime destination for multinationals.

Raw Material – Relying on Import

The backward linkage of the sector is not strong enough. About 80% of the Active Pharmaceutical Ingredients (APIs) are imported. There are only a few local companies (usually the leading ones) that are engaged in manufacturing APIs. According to Directorate General of Drug Administration (DGDA), there are 2550 valid sources for importing raw materials.

All the required factors for producing API and laboratory reagents are locally available. Hence local producers are more likely to compete successfully against their international competitors as Bangladesh has significant competitive advantage in terms of cheap human resource and lower energy cost.

Meanwhile, newspaper report disclosed that, construction of 200-acre API Park at Munshiganj is in progress. A total of 42 industries would be set up under the project; expected total cost is BDT 331.86 crore. Once the park is up and running (extended deadline is June 2015) the raw material imports are expected to come down to 30%.

Effective Distribution Channel

According to DGDA, there are 101,917 drug-shops or pharmacies in the country. These pharmacies played vital role to distribute the products to the end customers. Apart from these pharmacies there are also public and private hospitals which provide medicines to the patients.

97% local demand is satisfied by local firms

Generic drugs hold 85% market

share

Contract manufacturing presents another window of opportunity

80% APIs are imported from 2,550 valid sources

Required factors for producing APIs are locally available

Construction of API Park is in progress

Distribution channels are mainly dependent on private pharmacies.




5

Drug Price – the Government’s feeble attempt

Bangladesh Government controls the drug price, to some extent, considering the public health and price affordability. However, out of 1268 generic drugs the Government controls only 117 drugs price. According to some wholesalers, more than 50% of price controlled drugs are not available in the market due to low profit margin and backdated status compared to new generation drugs.

Meanwhile, the Government does not interfere over prices of the imported generic drugs. For locally produced drugs the existing rules direct that, if a drug company wants to increase prices of medicines, it applies to the DGDA. Then a committee headed by the health secretary scrutinizes the appeal and approves it after receiving logical justification. Recent data shows that, the prices of the locally-manufactured and imported generic drugs have risen by 70% to 100% during the last two years.

Export – A Promising Window of Growth

Export is a promising but untapped segment for the Country’s pharma sector. According to DGDA Bangladesh exports drugs to 87 countries. In FY 2013-14, the Country exported USD 69.24 million pharmaceutical products which were 15.75% higher than that of FY 2012-13. According to Export Promotion Bureau in July-September of FY 2014-15, export earnings from pharmaceuticals product was USD19.80 million exceeding the strategic target by 12.44%.

The export prospects are promising due to higher demand for generic drugs throughout the world. The World Trade Organization’s (WTO) Trade-Related Aspects of Intellectual Property Rights (TRIPs) agreement permits Bangladesh to reverse-engineer patented generic pharmaceutical products to sell locally and export to markets around the world without paying patent cost. This advantage of TRIPS agreement is going to extinct in 2016. However, the general transitional period under the TRIPs has already been extended till 2021. It is expected that the facility will also be extended for pharmaceutical products.

Historical export scenario is given below –

Source: Export Promotion Bureau & ILSL Research

2009-10 2010-11 2011-12 2012-13 2013-14 2014-15(Jul-Sept.)

40.97 44.27 48.25 59.82

69.24

17.61

Pharma Products Export Scenario (in USD million)

Pharmaceutical companies mostly determine the price of their drugs

Drug price has increased by 70% to 100% in the last two years

Exported USD 69.24 million in 2013-14 to 87 countries

Extension of transitional period under TRIPs is highly anticipated




6

Regulatory Condition

The Directorate General of Drug Administration (DGDA) is the regulatory body of the Country’s pharmaceutical industry. It supervises and implements all prevailing Drug Regulations in the country and regulates all activities related to import, procurement of raw and packing materials, production and import of finished drugs, export, sales, pricing, etc. of all kinds of medicines. Currently the Country’s pharmaceutical sector is governed by the following regulations –

The Drug Act 1940

The Drug Rules 1945 and their amendments

The Drug Rules 1946 and their amendments

The Drug (Control) Ordinance 1982 and its amendments

The Drug (Control) Ordinance Amendment Act 2006 and

National Drug Policy 2005

Competitive structure of pharmaceuticals industry

To get the better understanding we analyzed the sector through Porter’s five forces model. Details are given here –

The threat of new entrants in the industry Increasing market size, sustainable product demand and economic profit opportunity will certainly fascinate new players. However, significant capital requirement, economies of scale of production, brand identity and access to distribution channels creates discouragement. Therefore, the threat of new entrants in the industry is moderately low.

The threat of substitute products Switching cost of the product is low. However, in our country people are not aware of substitute of medicine like, balanced nutrition, workout, meditation etc. Therefore buyers’ propensity to substitute the medicine is less likely. Consequently, the threat of substitute products is low.

The bargaining power of buyers For pharmaceuticals industry, substantial portion of the market is dominated by retail customers indicating buyers are not concentrated. Sometimes customer shows price insensitivity due to brand image. These features results low bargaining power of buyers.

The bargaining power of suppliers Most of the companies import raw materials mainly from China and India. Switching cost from these countries to Europe is also high. Therefore supplier concentration and high switching cost imply that the bargaining power of suppliers is quite high.

The degree of rivalry among existing competitors Population growth and export opportunity create enough room for everyone to expand operation in the industry. Although several companies are listed in the sector yet substantial chunk of market shares are controlled by few large

The Directorate General of Drug Administration (DGDA) is the

regulator of the country’s pharma sector

The threat of new entrants in the industry is moderately low

The threat of substitute products is low

The bargaining power of buyers is low

The bargaining power of supplier is quite high

The degree of rivalry among existing competitors is moderately

high




7

companies. As a result, the degree of rivalry among existing competitors is moderately high.

Square Pharmaceuticals Ltd.

Company Overview

Square Group is one of the largest conglomerates in Bangladesh. The flagship company of this group is Square Pharmaceuticals Ltd. (SPL). SPL was established on November 10, 1964. The Company is primarily engaged in manufacturing and marketing of pharmaceuticals drugs and medicines. It also produces Basic Chemicals, AgroVet Products, Pesticide Products, small volume Parental Opthalmic Products and Insulin Products through separate divisions. Since 1985, the firm has been continuously in the 1st position among all national and multinational pharmaceutical companies in the Country. Currently Square pharmaceutical is holding 19.18% of market share.

As on 31 March 2014, the Company has 738 presentations in the form of tablet, capsule, liquid, injectable, infusion etc. Some of the flagship products are Ace®, Ace Plus®, Ceporin®, Dermasol®, Ermox®, Imotil®, Tusca® etc.

Subsidiary & Associates

As on 01 April 2014 SPL had one subsidiary and four associates which are involved in business of pharmaceuticals formulation, textile and hospital. Since 01 April 2014, Square Cephalosporins Ltd. (99.48%) has merged with SPL under the approval of The Hon’ble High Court of Jurisdiction.

Current status of these firms is as follows –

Particulars Name of the Company Ownership

Subsidiary Square Formulation Ltd. 99.60%

Associates

Square Textile Ltd. 45.83%

Square Knit Fabrics Ltd. 48.84%

Square Fashions Ltd. 48.63%

Square Hospitals Ltd. 49.94%

Source: SPL Annual Report & ILSL Research

Square Pharma uses equity method of accounting in preparation of consolidated financial statement.

Production Facility & Capacity Utilization

There are three GMP (Good Manufacturing Practice) compliant production sites situated at Pabna, Gazipur and Tangail. Pabna Unit is the 1st manufacturing facility of the Company. Continual improvement, both qualitative and quantitative, was made in these plants to enhance the operational efficiency. In 2013-14, Square pharma made investment of BDT 2.32 billion in this regard which was around 66% higher than that of last year. SPL places strict emphasis on quality control by following GMP standard of WHO.

Square Pharmaceuticals is the flagship company of the Square

group

One subsidiary and four associates are involved in business of

pharmaceuticals formulation, textile and hospital

All the three manufacturing plants are GMP compliant




8

The manufacturing units have been built as per the guideline of the US FDA and European regulatory requirements. On June 04, 2014, The Director General of World Trade Organization, Roberto Azevedo visited Square Pharmaceuticals' state-of-the-art manufacturing plants at Kaliakoir, Gazipur.

Last 5 years installed capacity and actual production scenario is as follows –

Particulars 2009-10 2010-11 2011-12 2012-13 2013-14

Installed (in '000 Pcs)

Tablets 6,925,995 6,925,995 7,345,114 7,347,542 10,495,317

Capsules 838,334 897,619 933,519 1,150,922 2,219,713

Actual (in '000 Pcs)

Tablets 3,543,632 3,811,424 4,090,900 4,862,000 6,087,308

Capsules 849,071 889,987 1,170,856 1,176,601 1,193,637

Utilization (in %)

Tablets 51.16% 55.03% 55.70% 66.17% 58.00%

Capsules 101.28% 99.15% 125.42% 102.23% 53.77%

Source: Annual Report & ILSL Research

In 2013-14, the Company has almost doubled its capsules production capacity. However sales did not increase proportionately. As a result, utilization rate of capsules dropped significantly in the year 2013-14.

Shareholding Structure& Board of Directors

The firm was listed in the DSE and the CSE in 1995. In 2013-14 foreign investment increased to 15.05% compared to 9.65% in 2012-13. Meanwhile, Institution holding reduced to 10.34% in 2013-14 compared to 27.18% in 2012-13. As per 2013-14 annual report, shareholding structure of the Company is as follows –

Source: DSE Website & ILSL Research

The Company has a seasoned Board of Directors consisting of eight members including two independent directors. They are –

Board of Directors

Mr. Samuel S Chowdhury Chairman

Mrs. Ratna Patra Vice Chairman

Mr. Tapan Chowfhury Managing Director

Dr. Kazi Harunar Rashid Director

Sponsors 54%

Institute 10%

Foreign 15%

Public 21%

54% shares are held by sponsor while foreign investment has

increased to 15.05% in 2013-14

The Management is very experienced




9

Mr. Anjan Chowdhury Director

Mr. Kazi Iqbal Harun Director

Mr. M Sekander Ali Independent Director

Mrs. Nihad Kabir Independent Director

Source: SPL Annual Report & ILSL Research

Corporate Governance

Square Pharma implements effective corporate governance practices. Some of these practices are –

The Chairman and the Chief Executive Officer are different persons. The role of the Chairman and the CEO are independent and separate.

Independent directors are professionally qualified.

For the post of CFO, Head of Internal Audit and Company Secretary three separate persons, each of different specialized discipline, have been appointed with their corresponding duties and responsibilities.

Executive committee and audit committee are working within their respective responsibilities.

The BSEC’s guidelines are being strictly followed to appoint statutory auditors.

Revenue

Revenue of Square Pharmaceuticals Ltd. enjoyed growth over the years. Around 90% of consolidated income generated from Square Pharmaceuticals Ltd. In 2013-14, the Company has around 642 pharmaceutical products, 22 basic chemicals & pellets products, 61 agrovet products and 24 pesticide products. Revenue was 15.2% higher in 2013-14 compared to that of 2012-13.

Source: Annual Report & ILSL Research

Export

Currently, Square is exporting its product around 39 countries. Though the Company’s revenue from export is presently trivial, it presents lucrative opportunity in future. In 2013-14, 3.5% revenue was generated from export sales. In 2013-14, export earnings increased by 5.92% compared to last year export.

2009-10 2010-11 2011-12 2012-13 2013-14

12.97

16.97 19.80 20.20

23.27

Net Revenue (in BDT billion)

Practices good corporate governances

Enjoyed 15.2% revenue growth in 2013-14

Exports around 39 countries with a 5.92% growth in 2013-14




10

The Company expects that commercial supply to USA will commence from Q4 of 2015 on the approval of ANDAs (Abbreviated New Drug Application).

Raw Material

The Company is dependent on import for its raw materials. Of its total value required for raw materials, around 84% are imported. On the other hand, around 39% packing materials are imported.

API Unit

Square Pharmaceuticals Ltd. established its Active Pharmaceutical Ingredients (API) unit in 1992. This API unit commenced its commercial operation in 1995. Initially the plant supplied API for the internal consumption of SQUARE Pharma. From the year 1997 it started it's full-fledged production and marketing to all top pharmaceuticals within the country.

Internal Growth

Square Pharma has prolifically displayed its longings for growth. Each year the Company invests considerable amount of money to upgrade its capacity, technological process, research and training. The major part of these investments is made from internal fund sources.

Source: SPL Annual Reports & ILSL Research

Dividend Trend:

In the Country’s capital market, Square pharma is one of the stable dividend paying companies. So far, the Company has paid handsome cash and bonus dividend conjointly. However, recent trend and market consensus indicate that may be the Company will stop paying bonus dividend and switch to cash dividend only.

285 175

612 807

1,185 1,201

1,799

2,442

1,393

2,316

Last 10 Year's Investment History

Higher import dependency

API unit started full operation in 1997

Expansion tendency is exhibited through internal source of

financing

Regularly offer both cash and stock dividend




11


Financial Performance

To analyze the financial performance of the Company ratio analysis was performed for the last 3 years. We placed particular focus on liquidity position, operating efficiency, profitability scenario and leverage & coverage ratios.

Liquidity Position

Current ratio and quick ratio showed increasing trend over the years. Both the current assets and current liabilities declined to some extent yet the declining rate of current liabilities is higher than that of current assets.

Particulars 2011-12 2012-13 2013-14

Current Ratio 1.91 2.12 3.13

Quick Ratio 1.17 1.18 1.99

Source: ILSL Research

Operating Efficiency

The Company increased its operating efficiency by reducing days in operating cycle. At the same time, decreasing trend in payables payment period kept the days in cash conversion cycle stable. Meanwhile, higher growths of total assets and fixed assets compared to that of sales generated gradually declining asset turnover ratios.

Particulars 2011-12 2012-13 2013-14

Inventory Turnover Ratio 3.75 3.61 4.45

Receivable Turnover Ratio 17.67 24.76 29.47

Inventory Conversion Period (Days) 97.44 101.18 82.07

Average Collection Period (Days) 20.65 14.74 12.39

Operating Cycle (Days) 118.09 115.92 94.46

A/C Payable Turnover Ratio 13.69 42.01 115.26

Payables Payment Period (Days) 26.66 8.69 3.17

Cash Conversion Cycle (Days) 91.43 107.24 91.29

Total Asset Turnover 84.10% 77.53% 79.42%

Fixed Asset Turnover 227.35% 209.72% 195.19% Source: ILSL Research

Profitability Scenario

2005-06 2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 2012-13 2013-14

75%

50% 40% 40% 35% 30% 25% 25% 30%

20% 50%

35% 25% 30% 35% 40%

30% 15%

Last 10 Year's Dividend History

Cash Stock

Liquidity position is improving over the years

Displayed better operating efficiency

Profit Margins improved due to effective cost control measure and

good governance




12

Most of the profit margins exhibited increasing trend while ROE remained fairly stable. Reducing drift in COGS, as percentage of sales, along with effective cost control measure and good governance mainly helped to achieve the stated condition. Since the growth rate of total assets is lower than that of net profit, ROA increased over the periods.

Particulars 2011-12 2012-13 2013-14

Gross Profit Margin (GPM) 39.85% 44.02% 44.30%

Operating Profit Margin (OPM) 23.31% 25.73% 26.41%

Net Profit Margin (NPM) 18.28% 20.85% 21.25%

Return on Total Assets (ROA) 15.37% 16.17% 16.88%

Return on Equity (ROE) 20.55% 20.14% 20.05% Source: ILSL research

Decomposition of ROE

To get better insights on Return on Equity (ROE) we conducted DuPont analysis and measured the sensitivity of each component. The details are as follows

Particulars 2011-12 2012-13 2013-14

Net Profit Margin 18.28% 20.85% 21.25% Total Assets Turnover 84.10% 77.53% 79.42% Financial Leverage 1.34 1.25 1.19

ROE 20.55% 20.14% 20.05% Source: ILSL Research

As it can be seen, net profit margin increased whereas financial leverage decreased over the time. Meanwhile, total asset turnover displayed fluctuating tendency. A sensitivity analysis was steered which pointed out that, net profit margin has relatively higher impact on ROE.

Leverage & Coverage Ratios

Square Pharmaceuticals Ltd. put more emphasis on internally generated fund which is reflected on the firm’s waning leverage ratios. Due to less dependency on debt it also exhibited substantial strength to pay off its debt obligation.

Particulars 2011-12 2012-13 2013-14

Debt to Asset 13.1% 10.7% 5.7%

Debt to Equity 16.7% 13.1% 6.6%

Times Interest Earned 9.9 14.6 34.7


Technical indicators & performance in the DSE

In the Country’s prime bourse Square Pharmaceutical Ltd. holds around 5.4% market capitalization and in the pharmaceutical sector of DSE it holds around 40% market capitalization. As it can be observed, in the last one year Square pharma has outperformed DSEX most of the time. 52-week’s price rage was BDT 178.1-293. In the last 3 months, SPL’s average turnover was BDT 209.83 million. As on 06 November 2014, RSI (15) and MFI (15) of the Company was 48.35 and 42.44 respectively.

DuPont analysis of ROE is conducted

Net Profit Margin has relatively higher impact on ROE

Lower dependence on leverage

Outperformed the broad index DESX with a 52-wee’s price range

of BDT 178.1-293




13


Investment Positives

Square Pharmaceuticals Ltd. is the undisputed market leader in the Country’s pharmaceuticals sector holding around 19% market share in the domestic market.

It has established a brand name in the Country’s pharmaceuticals market.

SPL has several blockbuster drugs e.g., Ace®, Ace Plus®, Ceporin®, Dermasol®, Ermox®, Imotil®, Tusca® etc. which ensures sustainable earnings.

The Company has proven it’s longing to achieve better operating efficiency throughout its journey. That is why the Company regularly invests on capacity building, upgrading technological process, research and training. In 2013-14, the company invested BDT 2.32 billion (of which BDT 108.09 million for improving its laboratory) which was around 66% higher than that of last year.

The Company is planning to set up a blood plasma fractionation plant for commercial purpose. Such initiative is the first of its kind in Bangladesh. According to newspaper report the Company has already placed a proposal before the drug office for setting up the plasma fractionation plant.

Square Formulations Ltd. – a 99.96% subsidiary of SPL has started its commercial production since April 01, 2014 indicating higher revenue in the upcoming years.

Other associate companies of SPL, i.e., Square Textile, Square hospital, Square Fashion shows good prospect in future. Earnings from these companies will add profit.

In the National Budget 2014-15, Supplementary duty (SD) rates on 40 basic raw materials reduced to 5% concessionary rate from earlier 10% and 25%. In this case, SPL can get some benefit on its raw material import.

In Bangladesh capital market Square Pharmaceuticals is considered as one of the most fundamentally strong shares.

Around 46% free float shares ensures liquidity of the stocks.

The Company has established a handsome dividend (both cash & Stock) paying history over the years.

80

100

120

140

160

180

200

6-Nov-13 6-Jan-14 6-Mar-14 6-May-14 6-Jul-14 6-Sep-14 6-Nov-14

Last one year performance of DSEX and SQURPHARMA (Rebased)

DSEX Square Pharma

Market leader

Well established brand name

Several blockbuster drugs

Continual efforts for betterment

Plan for first blood plasma fractionation plant for commercial

purpose

Operation of Square formulation has started since April 01, 2014

Growth opportunity of associate business

Budgetary support

Exposed to foreign exchange risk

Price appreciation of utilities may squeeze the profit margins




14

Investment Negatives

Major portions (84.02%) of the Company’s raw materials are imported which exposes the foreign exchange risk.

Square Formulation Ltd. is currently experiencing lose; so far in the first six months of operation it has incurred BDT 553 million losses. Such setback is slowing down the growth pace of Square Pharmaceuticals Ltd.

Government’s decision to increase electricity price and gas price will enhance the production cost.

As an industry leader, SPL has failed to respond on TRIPs facility.

Valuations & Key Assumptions

We used different valuation methods i.e., Free cash flow to the Firm (FCFF) method, Dividend Discount Model (DDM) and P/E Multiple method to determine the fair value of Square Pharmaceuticals Ltd.

Assumptions for DCF Valuation

Revenue: 5 year CAGR (Compound Annual Growth Rate) and 3 year CAGR of consolidated revenue was 14.7% and 11.6% respectively. Since 1 April 2014, Square formulation Ltd. has started its commercial operation. By using historical 5 years average of asset turnover ratio, expected sales of Square formulation would be around BDT 2.23 billion. Moreover, the Company has exhibited its longings for growth historically. The Company also has planned to set up a blood plasma fractionation plant for commercial purpose.

Considering these facts, we assume that, the revenue of SPL will grow at the rate of from 14% in the next year and then the growth rate will decrease by 2% for next four years.

Cost of Goods Sold: Historical COGS, as a percentage of sales, revealed gradually declining trend. In the forecasting period, we continued this tendency and estimated from 55.2% to 53.2% as a percentage of sales in the forecasted years.

Selling & Distribution Expenses: Last 3 years historical average was 14.1% as percentage of sales. Assuming improved efficiency, selling & distribution expenses is expected to be slightly lower as a percentage of sales in the upcoming years.

Administrative Expenses: Last 3 years historical average was 3.5%, as percentage of sales, with declining trend. For valuation purpose we maintained this pattern with minor decrease.

Revenue growth is projected on the basis of increasing demand,

continual expansion history, earnings from subsidiary etc.

COGS is estimated from 55.2% to 53.2% as a percentage of sales in

the forecasted years

Expected to be slightly lower as a percentage of sales due to

improved efficiency

Minor improvement is expected as a percentage of sales

Effective interest rate is calculated as 10.6%

7.5% interest rate is projected with a increasing trend for other

income




15

Interest Rate: Interest rate plays insignificant role in case of SPL due to lower financial leverage. We had calculated last 3 year’s average of effective interest rate which is 10.6% and used it in valuation with upward leaning.

Other Income: Interest income will generate from loan to sister concern and cash & cash equivalents. Naturally, interest rate for other income was assumed to be lower than interest rate on loan. For valuation purpose we have projected the interest rate at 7.5% with increasing trend.

Effective Tax Rate: The marginal tax rate of the Company is 27.5%. As the company generally pays dividend more than 30% so it gets 10% tax exemption. However, last 3 years average effective tax rate was 27.7%; which we used as effective tax rate for valuation period.

Weighted Average Cost of Capital (WACC): Cost of equity was calculated by using Build up Method. We considered SPL’s operating risk and financial risk to estimate a risk premium and then added this risk premium with risk free rate. Cut off yield of 5-year T-bond was used as risk free rate.

Determination of WACC

Particulars Rate Weight

Risk Free Rate 9.59%

Equity Risk Premium 2.50%

Cost of Equity 12.09% 98.95%

Cost of Debt 10.55% 1.05%

WACC 12.04%


Terminal Growth Rate: 5 years average ROE (20.8%) and Retention ratio (66.4%) of the year 2013-14 indicated sustainable growth rate of 13.8%. However, for the valuation purpose, terminal growth rate was assumed to be 5.0% considering the Country’s prospective growth rate.

FCFF Valuation

For Discounted Cash Flow (DCF) valuation five years forecast of free cash flow to the firm (FCFF) was estimated along with a terminal value. Then Enterprise Value was calculated by discounting the FCFFs and the terminal value to present value. To get equity value of the firm net debt was subtracted from enterprise value. Then equity value of the firm was divided by outstanding number of shares and determined the Value per Share to BDT 215.14 (Annexure -3).

Build-up method is used to calculated Cost of Equity

WACC is calculated 12.04%

Terminal growth rate is assumed to be 5%

BDT 215.14 is derived from FCFF valuation

Sensitivity Analysis of Discount rate and Terminal growth rate presents

a value range of BDT 190.97-247.24




16

Sensitivity Analysis

Sensitivity analysis of DCF value per share on discount rate and terminal growth rate was checked. We considered discount rate with a range of 11.5% to 12.5% and terminal growth rate with a range of 4.5% to 5.5%. As a result, we got a value range from BDT 190.97 to BDT 247.24.

Sensitivity Analysis*

Discount Rate

Terminal Growth

Rate

11.5% 11.8% 12.0% 12.3% 12.5%

4.5% 218.69 211.05 203.91 197.23 190.97

4.8% 225.04 216.91 209.33 202.26 195.65

5.0% 231.87 223.20 215.14 207.64 200.63

5.3% 239.25 229.97 221.38 213.39 205.96

5.5% 247.24 237.28 228.09 219.57 211.66 *Amount in BDT

Scenario Analysis

The value per share from DCF method is further examined by scenario analysis. Two peripheral situations – optimistic scenario and pessimistic scenario were considered. By changing assumptions in the variables, like, Terminal growth rate, Discount rate, COGS, Administrative & General Expenses and Selling & Distribution Expenses, Interest rate for loan and investment and profit growth from associate undertakings we got BDT 162.70 under pessimistic scenario and BDT 268.67 in optimistic scenario.

Scenario Analysis*

Pessimistic Scenario Most Likely Scenario Optimistic Scenario

Enterprise Value 88,913 117,980 147,651

Add: Cash 2,901 2,901 2,901

Less: Interest Debt 1,630 1,630 1,630

Equity Value of the Firm 90,185 119,252 148,923

Share Outstanding 554 554 554

Value Per Share (BDT) 162.70 215.14 268.67

* Amounts are in BDT million except Value per share

Dividend Discount Model (DDM)

We used Dividend Discount Model – another discounted cash flow model, to determine the value of Square Pharma. It is to be noted that, Square Pharma has established long dividend history – both cash and stock. However, considering the recent trend it seems that SPL may stop declaring stock dividend in future and offer cash dividend only. The calculation is given below –

Particulars 2013-14 2014-15 2015-16 2016-17 2017-18 2018-19 Terminal

A scenario analysis with pessimistic scenario and optimistic scenario is

conducted

Scenario Analysis revealed a value range of BDT 162.70-268.67

As a growth firm, DDM valuation cannot show the real picture

BDT 212.27 is the derived value from DDM model




17

Dividend per Share (DPS)

3.00 7.00 10.00 13.00 16.00 20.00 296.19

P.V adjusted DPS

6.24 7.96 9.23 10.14 11.30 167.39

Cost of Equity 12.09%

Terminal Growth

5.0%

Value Per Share (BDT)

212.27

Relative Valuations

For conducting relative valuation we used Price/Earnings (P/E) Multiple. In this case, we used sector’s F. P/E and sector’s Trailing P/E although historically Square runs at higher P/E than that of sector’s. Historical P/E of SPL over the years, reported in DSE, given below-

Particulars 2009-10 2010-11 2011-12 2012-13 2013-14

P/E 28.13 26.60 24.31 20.86 29.93

5 year’s Average 26.0

Source: DSE website

Price/Earnings Multiple Method

Benchmark Multiple

Appropriate Variables

Estimated Value

Sector’s F. P/E 23.7 11.04 254.08

Sector’s Trailing P/E 27.6 8.92 246.20

Estimated Value (Average) (BDT) 250.14

Fair Value

To discover the fair value of SPL, each value from DCF methods and from relative valuation method were used. However, higher weights are assigned on FCFF valuation compared to relative valuation due to thoroughness of analysis. In case of DDM, least weight is given as this model could not represent the true picture as SPL still is a growth firm. Assigned weights and respective values are as follows:

Both Sector’s Forward and Trailing P/E are used.

Historical 5 year’s average P/E is 26.0

BDT 250.14 is calculated value from P/E method

ILSL Fair Value is BDT 230.75




18

Value Weight

FCFF 215.14 50%

DDM 212.27 5%

P/E 250.14 45%

ILSL Fair Value 230.75

In our opinion, the fair value of Square Pharmaceuticals Ltd. is BDT 230.75. We reached this value on the basis of detailed analysis and recent trend in the market. As on 06 November 2014, the price of Square Pharma was BDT 265.3.

Annexure: 01

Square Pharmaceuticals Limited Consolidated Statement of Comprehensive Income

Particulars 2013-14A 2014-15E 2015-16E 2016-17E

Gross Turnover 26,945,687,557 30,718,083,815 34,404,253,873 37,844,679,260

Less: Value Added Tax 3,677,274,340 4,072,963,940 4,561,719,613 5,017,891,574

Net Turnover 23,268,413,217 26,645,119,875 29,842,534,260 32,826,787,686

Cost of Goods Sold 12,960,738,683 14,708,372,435 16,324,164,456 17,792,446,964

Gross Profit 10,307,674,534 11,936,747,439 13,518,369,803 15,034,340,722

Operating Expenses: 4,162,889,868 4,591,797,253 5,089,096,362 5,538,917,780

Selling & Distribution Expenses 3,431,938,716 3,754,770,642 4,178,484,838 4,566,789,213

Administrative Expenses 730,951,152 837,026,611 910,611,524 972,128,567

Profit From Operations 6,144,784,666 7,344,950,186 8,429,273,442 9,495,422,942

Financial Expenses 177,131,396 141,469,783 101,443,154 130,753,363

Other Income 245,133,874 274,429,191 361,986,080 464,452,125

Profit Before WPPF 6,212,787,144 7,477,909,595 8,689,816,368 9,829,121,704

Allocation for WPPF 300,438,842 361,617,813 420,223,373 475,318,062

Profit Before Tax 5,912,348,302 7,116,291,782 8,269,592,995 9,353,803,642

Provision for Income Tax 1,518,801,391 1,971,415,098 2,290,912,316 2,591,269,482

Profit After Tax 4,250,580,863 5,144,876,684 5,978,680,680 6,762,534,160

Profit/(Loss) from Associate Undertakings 695,624,299 799,967,944 911,963,456 1,030,518,705

Profit for the Year 4,946,205,162 5,944,844,628 6,890,644,136 7,793,052,865

Gain/(Loss) on Marketable Securities (Unrealized) 135,723,333 115,861,558 136,453,551 157,077,925

Total Comprehensive Income for the Year 5,081,928,495 6,060,706,186 7,027,097,686 7,950,130,790




19

Profit Attributable to: 4,946,205,162 5,944,844,628 6,890,644,136 7,793,052,865

Owners of the Company 4,944,554,910 5,942,466,690 6,887,887,878 7,789,935,644

Non-Controlling Interest 1,650,252 2,377,938 2,756,258 3,117,221

Total Comprehensive Income Attributable to: 5,081,928,495 6,060,659,841 7,027,043,105 7,950,067,959

Owners of the Company 5,080,278,243 6,058,281,903 7,024,286,847 7,946,950,738

Non-Controlling Interest 1,650,252 2,377,938 2,756,258 3,117,221

Earnings Per Share (EPS) – Restated 8.92 10.72 12.43 14.05

Annexure: 02

Square Pharmaceuticals Limited

Consolidated Statement of Financial Position

Particulars 2013-14A 2014-15E 2015-16E 2016-17E

Assets:

Non-Current Assets: 23,546,701,250 24,963,296,461 25,280,370,970 25,606,525,278

Plant, Property & Equipment - Carrying Value 13,933,689,469 14,983,524,791 15,234,578,475 14,759,808,617

Capital Work-in-Progress 3,256,802,171 1,791,241,194 788,146,125 260,088,221

Investment Long Term (at Cost) 147,694,430 137,694,430 127,694,430 223,465,253

Investment - Associate Undertakings 5,364,154,708 5,900,570,179 6,549,632,898 7,335,588,846

Investment in Marketable Securities (Fair Value) 844,360,472 2,150,265,867 2,580,319,040 3,027,574,341

Current Assets: 7,499,373,281 8,762,299,777 10,350,941,367 11,648,649,805

Inventories 2,737,085,779 3,120,968,464 3,480,563,413 3,812,206,360

Trade Debtors 766,634,978 877,888,866 968,314,263 1,048,732,295

Advances, Deposits and Prepayments 671,749,541 769,233,677 846,620,451 914,869,102

Short Term Loan 1,161,185,776 1,329,696,783 1,474,339,130 1,605,359,649

Cash and Cash Equivalents

2,162,717,207 2,664,511,987 3,581,104,111 4,267,482,399

Total Assets 31,046,074,531 33,725,596,238 35,631,312,336 37,255,175,083

Shareholders' Equity and Liabilities:

Shareholders' Equity: 26,739,581,929 29,759,054,500 31,379,614,213 32,280,933,946

Share Capital 4,819,992,630 5,542,991,525 5,542,991,525 5,542,991,525

Share Premium 2,035,465,000 2,035,465,000 2,035,465,000 2,035,465,000

General Reserve 105,878,200 105,878,200 105,878,200 105,878,200




20

Tax Holiday Reserve 406,231,702 406,231,702 406,231,702 406,231,702

Gain on Marketable Securities (Unrealized) 449,255,557 565,117,115 701,570,666 858,648,591

Retained Earnings 18,922,758,840 21,103,370,959 22,587,477,120 23,331,718,929

Non-Controlling Interest

9,369,803 11,747,741 14,503,999 17,621,220

Non-Current Liabilities: 1,902,585,673 1,394,534,686 1,401,961,095 1,401,726,503

Long Term Loans -Secured 1,183,627,923 595,181,090 596,212,670 581,056,811

Deferred Tax Liability 718,957,750 799,353,596 805,748,425 820,669,692

Current Liabilities: 2,394,537,126 2,560,259,310 2,835,233,030 3,554,893,414

Short Term Bank Loans 131,104,817 98,229,758 49,052,427 456,078,464

Long Term Loan - Current Portion 461,433,822 211,517,025 205,921,504 194,876,365

Trade Creditors 217,855,755 324,596,587 378,469,445 432,729,783

Liabilities for Expenses 20,518,598 135,379,039 166,545,791 199,613,764

Liabilities for Other Finance 1,563,624,134 1,790,536,901 2,035,243,863 2,271,595,037

Total Shareholders' Equity and Liabilities

31,046,074,531 33,725,596,238 35,631,312,336 37,255,175,083

Net Asset Value Per Share (NAVPS)

48.24 53.69 56.61 58.24

Annexure: 03

Square Pharmaceuticals Limited

Valuation: Free Cash Flow to the Firm (FCFF)

Particulars 2013-14A 2014-15E 2015-16E 2016-17E 2017-18E 2018-19E

Profit for the Year 4,946,205,162 5,944,844,628 6,890,644,136 7,793,052,865 8,601,722,000 9,210,459,210

Add: Interest Expenses After Tax

128,065,999 102,282,653 73,343,401 94,534,682 141,960,718 286,045,281

Add: Depreciation & Amortization

1,181,229,254 1,807,247,025 1,826,511,105 1,738,220,439 1,598,015,588 1,435,778,834

Changes in NWC 997,578,625 (312,617,675) (342,302,894) (287,650,665) (216,366,583) (131,295,298)

CAPEX (2,143,390,808) (1,065,804,795) (895,276,028) (656,535,754) (531,793,961) (375,801,065)

Free Cash Flow to the Firm

5,109,688,232 6,475,951,836 7,552,919,719 8,681,621,567 9,593,537,762

10,425,186,961

Terminal Value 155,419,972,139

P.V. Adjusted FCFF 5,779,873,567 6,016,505,601 6,172,271,714 6,087,482,181 5,904,151,517

P.V. Adjusted Terminal value 88,019,818,517

Enterprise Value 117,980,103,097

Plus: Cash 2,901,472,640

Less: Interest Debt 1,629,720,668

Equity Value 119,251,855,069

No. of Share Outstanding

554,299,152

Value per Share 215.14




21

Disclaimer:

This document has been prepared by International Leasing Securities Limited (ILSL) for information only of its clients on the basis of the publicly available information in the market and own research. This document has been prepared for information purpose only and does not solicit any action based on the material contained herein and should not be construed as an offer or solicitation to buy or sell or subscribe to any security. Neither ILSL nor any of its directors, shareholders, member of the management or employee represents or warrants expressly or impliedly that the information or data of the sources used in the documents are genuine, accurate, complete, authentic and correct. However all reasonable care has been taken to ensure the accuracy of the contents of this document. ILSL will not take any responsibility for any decisions made by investors based on the information herein.

Analyst Disclaimer:

The person or persons named as the author(s) of this report hereby certify that the views expressed in the research report accurately reflect their personal views about the subject matters discussed. No part of their compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in the research report. Research analysts responsible for this report receive compensation based upon, among other factors, the overall profitability of International Leasing Securities Limited (ILSL). The views of the author(s) do not necessarily reflect the views of the International Leasing Securities Limited (ILSL) and are subject to change without notice.

Stock Status

Overweight: Expected to outperform the broader market averages;

Market weight: Expected to equal performance of broader market averages;

Underweight: expected to underperform broader market averages.

Not-Rated: Currently the analyst does not have adequate conviction about the stock's total return relative to the broader

market average

ILSL Research Team

Rezwana Nasreen Head of Research [email protected]

[email protected]




22

Towhidul Islam Research Analyst [email protected]

Md. Tanvir Islam Research Analyst [email protected]

Md. Imtiaz Uddin Khan Jr. Research Analyst [email protected]

Mohammad Asrarul Haque Jr. Research Analyst [email protected]

For any Queries: [email protected]

ILSL Branches:

Head office: Motijheel, Dhaka

Agrabad, Chittagong Khatungonj, Chittagong Chouhatta, Sylhet

Printers Building, 3rd Floor, 5 Rajuk Avenue, Dhaka-1000, Tel: 9577305 (Hunting), 9577839, Fax: 88-02-9577691

Ayub Trade Centre, 1st Floor, 1269/B, Sk. Mujib Road, Agrabad C/A, Chittagong-4100, Tel: 880-31-2514624-6, Fax: 880-31-2514628

BSM Centre, 2nd Floor, 119/122 Amir Market, Khatungonj, Chittagong-4000, Tel: 880-31-2866971-74, Fax: 880-31-2866975

Firoz Centre, 5th Floor, Chouhatta, Sylhet Sadar, Sylhet-3100, Tel: 880-821-710179, Fax: 880-821-710266

mailto:[email protected]

I L S L R e s e a r c h - International Leasing Securities ... Report on Square... · I L S L R e s...

Documents

Transcript of I L S L R e s e a r c h - International Leasing Securities ... Report on Square... · I L S L R e s...