Detailed Rationale

CRISIL Ratings has upgraded its rating on the long-term bank facilities and non-convertible debenture programme of Emcure Pharmaceuticals Ltd (Emcure) to ‘CRISIL A+/Stable’ from ‘CRISIL A/Stable’. Also, CRISIL Ratings has reaffirmed its ‘CRISIL A1' rating on the short-term bank facilities. 

 

The rating upgrade follows the better than anticipated improvement expected in Emcure’s operating performance, with healthy revenue growth across geographies and higher operating profitability, post demerger of low-margin US business. The US business was demerged into Avet Lifesciences Ltd (Avet), a promoter-owned company, with effect from April 1, 2021, thereby enabling Emcure’s focussed approach on growth in domestic, other regulated and emerging markets as well as focussed investments in research and development (R&D). This demerger also de-risks Emcure from intense competition and pricing pressure in the US branded generics business, and potential liability from litigations on Heritage Pharmaceuticals Inc (subsidiary of Emcure till March 31, 2021).

 

Emcure will continue to cater to the regulated markets other than the US. Strong sales growth in the domestic market, and healthy off-take from regulated and emerging markets will offset the loss of revenue from the demerger, resulting in Emcure registering lower decline in revenues in fiscal 2022, compared with earlier expectations. Besides, Emcure’s operating profitability (excluding the US business) is expected to improve to 22-23% in fiscal 2022 from 20% on a consolidated level in the previous fiscal, resulting in healthy cash generation in excess of Rs.650 crores.

 

While Avet has been demerged, Emcure has provided a corporate guarantee of USD 75 million for the former’s working capital debt, which is included in the adjusted debt of Emcure. Even so, healthy cash generation and prudent funding of capital expenditure (capex), will result in improvement in the company’s debt metrics; the ratio of debt to earnings before interest, tax, depreciation and amortisation (EBITDA) is expected at below 1.6 times in fiscal 2022 (1.90 times in fiscal 2021), while interest coverage is seen continuing above 6 times. Emcure’s debt coverage metrics are also expected to further improve going forward, supported by prudently funded capital expenditure (capex) plans. CRISIL Ratings also notes that Emcure has filed the draft red-herring prospectus (DRHP) for its planned initial public offering (IPO). Successful completion of the IPO and utilisation of proceeds to lower debt can lead to a sharp improvement in its debt metrics and will be a key monitorable.

 

The ratings continue to reflect the healthy business risk profile of the company, supported by geographic diversity in revenue, presence across therapeutic segments, experienced management team and established research and development (R&D) capabilities, and adequate and improving financial risk profile. These strengths are partially offset by the company’s large working capital requirement and exposure to intensifying competition as well as regulatory and legal risks.

Analytical Approach

CRISIL Ratings has combined the business and financial risk profiles of Emcure and its subsidiaries, collectively referred to as Emcure group, because these entities have common line of business, common management and inter-company transactions of sale/purchase.

 

Also, CRISIL Ratings has amortised intangible assets and goodwill on acquisitions over five years; profit after tax (PAT) and networth have been adjusted accordingly. The corporate guarantee extended to Avet has been treated as debt.

 

Please refer Annexure - List of Entities Consolidated, which captures the list of entities considered and their analytical treatment of consolidation.

Key Rating Drivers & Detailed Description

Strengths

Healthy business risk profile, supported by geographic diversity in revenue

Emcure group has a diversified revenue profile, with 41% of revenue coming from domestic market, 19% from emerging markets, 28% from regulated markets of North America (US and Canada) and 12% from Europe in fiscal 2021. The group has an established market position ranking twelfth (source: IMS moving average total, March 2021) in the domestic formulations market, and has a leading position in gynaecological, blood and human immunodeficiency virus (HIV) antiretroviral therapies.

 

It has increased its presence in Europe and Canada by establishing front-end marketing networks through acquisitions of Tillomed Laboratories (UK) and Marcan Pharmaceuticals Inc (Marcan; Canada). Strategic shift towards emerging markets, regulated markets of Europe and Canada, and strengthening of product portfolio in the domestic market led to healthy growth of 20% in fiscal 2021, with revenue crossing Rs 6,000 crore. Emcure group has scaled up considerably in emerging markets, whereby revenue almost doubled in fiscal 2021.

 

Proportion of sales to the US in overall revenue fell to 17% in fiscal 2021 from 41% in fiscal 2016 as supplies were disrupted following an import alert issued by the US Foods and Drug Administration (US FDA) at the company’s largest plant in Hinjewadi, Pune. Besides, restriction on launches and intense pricing pressure on existing products also affected the operating margins of the US business considerably.

 

With demerger of Avet, Emcure group’s consolidated revenue is expected to be lower by 6-8% in fiscal 2022 (compared with 10+% anticipated earlier), supported by strong growth in domestic and other markets. With new product launches and steady demand from existing markets, Emcure is expected to register revenue growth of ~6-7% over the medium term. Should the import alert on its Hinjewadi plant be lifted (pending since 2016) by the US FDA, the company can consider more products for the US market or additional contract manufacturing opportunities, which may translate into higher revenue growth.

 

Improving operating profitability, with successful demerger of the US business  

Consolidated operating profitability improved to 20% in fiscal 2021 from 14-17% in the past few years. This was on account of better product mix, scaling up in high-margin domestic and emerging markets leading to better absorption of costs, and lower marketing and travelling cost amid the pandemic. To ring-fence its performance from weak performance in the US, Emcure group, with National Company Law Tribunal (NCLT) approval, demerged its US business into Avet with effect from April 1, 2021. In fiscal 2021, excluding Avet, revenue of Emcure group was Rs 5,033 crore and operating profitability was 24.2%. Post the demerger, the operating profitability is expected to sustain at ~22-23% over the medium term, supported by focussed expansion in high-margin emerging and domestic markets, benefits of cost optimisation and no remediation cost for the Hinjewadi unit.

 

Experienced management team, accredited manufacturing facilities and established R&D capabilities

The promoter and chief executive officer, Mr Satish Mehta, is a first-generation entrepreneur with almost four decades of experience in the pharma sector. The second generation has been actively involved in the strategy and growth initiatives of the business for over a decade. Additionally, the group has a team of highly qualified professionals and scientists to support operations, strategy and other functions, and drive future growth.

 

Emcure group has 14 manufacturing facilities across India, which produce a range of pharma/ biopharma products in varied dosage forms, including oral solids, oral liquids, injectables, biologics, vaccines and complex active pharmaceutical ingredients (APIs), such as chiral molecules and cytotoxic products. Emcure group completed construction of the Sanand plant and initiated its commercial shipment to Europe and Canada in fiscal 2020. In fiscal 2021, the company invested around Rs 25 crore to acquire a plant in Surendranagar, Gujarat, which will cater to growing demand from emerging/regulated markets. The group does not have plans to undertake any major debt-funded capex. The facilities are approved/accredited by various regulatory bodies including, US FDA, MHRA (United Kingdom), Health Canada, EDQM (Europe), TGA Australia, ANVISA Brazil, HALMED Croatia, and are compliant with current Good Manufacturing Practices.

 

Emcure group has five R&D facilities with over 500 scientists. The group’s R&D focus along with manufacturing skills, developed through long track record of contract manufacturing for international pharma companies, has helped establish its presence in regulated and emerging markets. Besides, its generic formulations research in complex injectables, established expertise in chiral chemistry and focus on biopharma business demonstrate its strong R&D capabilities. Moreover, the group is developing a messenger ribonucleic acid (mRNA) vaccine for Covid-19.

 

Adequate and improving financial risk profile

Emcure’s financial risk profile had remained moderate due to sizeable debt-funded capex (over Rs 2,000 crore between fiscals 2016 and 2020) including acquisitions, and high working capital intensity, but has witnessed a strong improvement thereafter, with capex also moderating to Rs. 150-300 crore per annum in fiscals 2021 and 2022. Debt levels peaked at Rs. 2,310 crore at March 31, 2021, but due to strong improvement in operating profitability to ~20% from ~13-14% earlier, debt to EBITDA and interest coverage ratios improved sharply to 1.9 and 6.17 times, respectively, in fiscal 2021 from 3.15 and 2.68 times, respectively, in the previous fiscal. The company has also paid-off the entire Rs 349 crore outstanding deferred consideration towards the acquisition of Marcan over fiscals 2021 and 2022; this was as part of the total acquisition payout of ~Rs. 625 crore.

 

With expected improvement in profitability post the demerger of the US business and annual capex plans of Rs.300-400 crore, Emcure group’s key debt metrics are expected to improve in fiscal 2022, with debt to EBITDA expected at less than 1.6 times in fiscal 2022. Steady improvement in debt metrics is expected to continue over the medium term.

 

The PE firm, Bain Capital, invested Rs. 650 crore for 13.09% stake in the company in 2013. CRISIL Ratings is given to understand that there is no obligation on Emcure or the promoter family to provide an exit or assured return to Bain Capital on its investment, and Bain Capital will exit partly through the planned IPO. Fund raising from IPO and consequent debt reduction, if successfully completed, will lead to a sharp improvement in key debt metrics and will remain a key monitorable.

 

Weaknesses

Large working capital requirement

Operations are working capital intensive, as reflected in gross current assets of 210 days as on March 31, 2021, driven by inventory and receivables of 114 and 89 days, respectively. The group operates in multiple geographies and has a large product portfolio; hence, it needs to maintain sizeable inventory to ensure adequate supply. It majorly has a tender-based business in emerging markets, wherein it extends credit of around 180 days, resulting in large receivables. Overall debtors remained moderately high at about 89 days in fiscal 2021. Given the Emcure group’s continuously expanding geographical base and product portfolio, CRISIL Ratings believes that the working capital requirement will remain large over the medium term.

 

Exposure to intensifying competition and increasing legal and regulatory risks

Emcure group generates significant proportion of total sales through the regulated markets. While the company has demerged its US business, sales to Europe and Canada will continue to form over 25% of total sales. The generics business in the regulated markets is highly competitive and has various legal and regulatory risks. Players in the regulated generics markets are vulnerable to pricing pressure on account of entry of several cost-competitive Indian players. Furthermore, with growing competition, the group will have to make investments in R&D and brands, which may limit improvement in profitability. Furthermore, owing to the nature of products, Emcure group like many of its peers is vulnerable to litigations filed by regulators among others.

 

The regulatory risks were manifested by the US FDA action in fiscal 2016, when Emcure’s manufacturing plant in Hinjewadi received an import alert because of issues regarding supervisory failure. The company incurred remediation cost to address these issues and reinspection of the plant is pending. Sizeable outgo towards settlement of ongoing legal cases will be a key monitorable.

Liquidity Adequate

Emcure group’s expected cash accrual of over Rs 650 crore per annum in fiscals 2022 and 2023 will comfortably cover annual debt repayment obligation of Rs 275-325 crore. The company’s moderate annual capex of Rs 300-400 crore will be funded prudently mainly through cash accruals. Cash and equivalent were healthy at Rs 469 crore as on March 31, 2021, of which Rs 240 crore was transferred to Avet as part of the demerger. The fund based working capital limit, at standalone level, was utilised 80% on average during the 12 months through August 2021.

Outlook Stable

CRISIL Ratings believes Emcure’s business risk profile will remain supported by its established market position and geographic diversity. The financial risk profile will gradually improve backed by healthy cash generation and gradual debt reduction, and prudent funding of its capex plans.

Rating Sensitivity factors

Upward factors

• Revenue growth of 8-10% (excluding the US business) per annum and operating margin of over 22%-23% on a sustained basis
• Improvement in key debt protection metrics, with debt to EBITDA ratio of below 1-1.25 times on account of lower debt (including withdrawal of corporate guarantee to Avet) or prepayment from proposed IPO proceeds, or higher-than-anticipated profitability
• Improvement in the working capital cycle and build-up of cash surplus

 

Downward factors

• Lower-than-expected revenue growth or decline in operating margin to below 16-18% on a sustained basis, impacting cash generation
• Higher-than-expected debt because of large capex or acquisitions, stretch in working capital cycle or financial support rendered to the US business (post demerger), resulting in debt to EBITDA ratio above 2-2.25 times on a sustained basis
• Sizeable funds outgo to settle ongoing litigations, impacting debt metrics or liquidity

About the Company

Emcure was incorporated by Mr Satish Mehta in 1981; the company commenced operations in 1983 through its facility in Bhosari, Pune. It manufactures a range of formulations and APIs, and markets them in over 70 countries. It has 14 manufacturing facilities across India and 5 R&D centres.

 

It has presence in domestic, regulated as well as emerging markets. It also engages in contract manufacturing, enjoys the alliance of multinational corporations and has established front-end presence in several countries through its subsidiaries. It has subsidiaries in Dubai, Brazil, South Africa, Singapore, Peru and Nigeria and offices in Russia, Morocco and Shanghai. It markets formulations in key chronic therapeutic segments such as cardiology, oncology, anti-HIV and neurology; also, it has presence in acute segments such as anti-infective, pain management, dermatology, gynaecology and paediatrics. Key brands such as Orofer, Bevon, Maxtra, Metpure, Asomex and Ferium are well-established in the domestic market.

 

The promoters own 85.4% stake in Emcure, while Bain Capital holds 13.09% and remaining 1.5% is held by key employees and directors.

Key Financial Indicators(consolidated)

As on / for the period ended March 31		2021	2020
Revenue	Rs crore	6069	5082
PAT*	Rs crore	373	-4
PAT margin	%	6.1	-0.1
Adjusted debt / adjusted net worth	Times	1.60	1.96
Adjusted Interest coverage	Times	6.17	2.68

* adjusted for amortisation of intangible assets of Rs. 45 crore in fiscal 2021 and Rs. 105 crore in fiscal 2020

Any other information: Not applicable

Annexure - Details of Instrument(s)

ISIN	Name of instrument	Date of allotment	Coupon rate (%)	Maturity date	Issue size (Rs crore)	Complexity level	Rating assigned with outlook
NA	Term loan	NA	NA	June 2024	972.84	NA	CRISIL A+/Stable
NA	Working capital facility	NA	NA	NA	1064.45	NA	CRISIL A+/Stable
NA	Non-fund based limit	NA	NA	NA	676.50	NA	CRISIL A1
NA	Non-convertible debentures*	NA	NA	NA	200.00	Simple	CRISIL A+/Stable

*Yet to be placed