Japanese pharmaceuticals giant Daiichi Sankyo has raised Rs201.46 billion ($3.2 billion) from the sale of its entire 8.9% stake in Sun Pharmaceuticals, closing the book on its ill-fated foray into India.
Daiichi Sankyo bought a 63.4% stake in Ranbaxy Laboratories for $4.6 billion in 2008 but was shortly afterwards hit by FDA sanctions and fines for poor product safety controls at the Indian company.
The Japanese company finally threw in the towel last April and sold the Ranbaxy stake to Sun Pharma, India's largest pharmaceuticals company by revenue, for $3.2 billion plus an 8.9% stake in the enlarged entity.
Daiichi Sankyo has been waiting for the merger to be approved before it could sell the minority stake in Sun Pharma which was of no strategic relevance to the group. Its patience has helped mitigate the cost of its foreign adventure as Sun Pharma's stock has risen in value 77.5% since the merger was struck.
The resulting share sale is the second largest block to come out of India, according to data provider Dealogic, behind only Coal India's $3.6 billion offering in January.
Daiichi Sankyo's troubles with Ranbaxy has made it the poster child in recent years of Japanese companies' struggle to expand overseas out of their shrinking domestic market and their difficulties managing foreign companies. The sale of the Sun Pharma shares will finally free up Daiichi Sankyo to refresh its emerging markets and overseas acquisition strategy.
Sole lead manager of the share sale Goldman Sachs launched the share sale after Monday's close. The 215 million-share offering was priced at Rs930 per share representing the bottom of the initial Rs930 to Rs1,043 per share price range, and a wide 10.9% discount to Sun Pharma's Rs1,043.80 close on Monday.
Following a wall-cross process over the weekend, nearly 100 lines participated in the deal. The final book was made up of 60% long-only institutional investors — including sovereign wealth funds and index-focused funds — and the remainder taken up by hedge funds. Geographically, 57% of the accounts were located in Asia, 18% in US and the balance European and Indian funds, a source close to the deal told FinanceAsia.
The shares priced at the bottom of the price range more due to shaky Asian markets on Monday -- the S&P BSE Sensex Index dropped 1.95% on April 20 -- than a statement on the company’s fundamentals, the source said, pointing to Sun Pharmaceutical’s strong performance since the merger with Daiichi Sankyo-owned Ranbaxy Laboratories was struck. Since the merger announcement on April 7, 2014, Sun Pharm’s shares have risen 77.5%.
“The fact that markets in Asia were so volatile yesterday reduced the number of lines and contributed to the lower pricing,” the source said. “There was price sensitivity because of the markets, not because of the company. The reality is the stock has run up. It’s the most liquid in India. And it’s now very well held.”
The need for a big discount also reflected the fact that the deal represented a hefty 96 days trading volume based on the stock's six month average.
Speculation on Monday that Sun Pharma's largest shareholder, the Shanghvi family, planned to purchase some of the shares on offer sent the stock up 2.8% from the open to Rs1066.40 mid-day before settling at Rs1,043.80.
The Shanghvi family did not purchase additional shares, the source said. A second source close to the deal said the family now holds 54.7% of the company.
On Tuesday, Sun Pharma's shares dropped 8.78% to close at Rs952.2, but more importantly did not drop below the discounted price offered by the block.
Rising valuation
The timing of Daiichi Sankyo's divestment was dictated by the merger timetable - the deal was only approved by Indian authorities last month. Nevertheless it has come at a good time for the vendor given the stock's strong run, particularly in March when it was the BSE 30's best performing counter, up 12%.
Over the past year, it has risen 68.1% and 26.2% in the year-to-Monday's close. It is currently trading at 35.6 times 2015 earnings and 28.8 times 2016 earnings, closing the valuation gap with peers such as Lupin and Cipla.
This gap started to open up last September when Sun Pharmaceutical's Halol plant in Guajarat was issued with a Form 483 by the US Food & Drug Administration (FDA) for procedural issues uncovered during a surprise audit. The news sparked a de-rating by analysts that only really started to reverse itself at the beginning of this year.
Dr Reddy's and IPCA, which also both have outstanding Form 483's against them, are trading on p/e ratios in the mid 20's.
Lupin and Cipla, on the other hand, do not have Form 483's against them and both command higher valuations.
Lupin is trading at 33.1 times forecast 2015 earnings and Cipla at 40.55 times.
Sun Pharma's share price spike in March followed news that the FDA had approved a first drug from the Halol plant since the previous autumn's audit.
Analysts said the decision meant the likelihood of FDA action against Sun Pharma was now remote.
Mergers expand US footprint
As a result of its merger with Ranbaxy Laboratories, UBS estimates that Sun Pharma will record revenues of $5 billion in 2015, up from $3 billion in 2014. In a recent research report, it said that $2.3 billion of overall revenues will come from sales of generic drugs in the US.
These sales are the result of Sun Pharma's M&A activity in the US, where it purchased Taro Pharmaceutical Industries in 2010, followed by DUSA and URL Pharmaceuticals in 2013. The company's net cash position also means it still has an ample warchest to fund new acquisitions.
UBS forecasts that India will generate 15% revenue growth between 2015 to 2017, while the US will command a high single digit multiple. In 2014, the US accounted for 60% of overall revenues, with India taking up 23%, Asia Pacific 5% and the rest of the world 12%.
The bank believes earnings will rise 24% over the same period.
"We see strong potential for synergies for both Sun Pharma and Ranbaxy," it wrote. "In the initial two years, we believe cost reductions will be the key area and expect uptick in revenue growth over the longer-term."
UBS estimates these cost savings will amount to $300 million.
Kotak Securities also highlights the increasing optimism that has greeted Indian pharma companies' forays into the speciality segment in the US. It flags Sun Pharma's recent in-licensing deal with Merck for its plaque psoriasis drug, Tildrakizumab.
It also says brokerage houses have been debating whether to strip out proprietary product R&D when putting together their forecasts since they are NPV (Net Present Value) positive given the high chance of success.
"We disagree with this view and believe it will lead to overvaluation given Sun Pharma's large revenue and profit base," the Kotak report argued. "These R&D expenses are required for it to meet mid-teens revenue CAGR. Moreover, R&D is a strategic capital-allocation decision, which ultimately determines growth and valuations."
