Detailed Rationale

CRISIL Ratings has reaffirmed its ‘CRISIL AA-/Stable/CRISIL A1+’ ratings on the bank loan facilities of Micro Labs Limited (Micro Labs).

 

Operating income improved by 5% to Rs. 3850 crores in fiscal 2021, backed by healthy growth in the exports market. Export sales grew by about 35% year-on-year in fiscal 2021, with US being the largest contributor. However, domestic sales growth was moderate at 5% in fiscal 2021, due to lower prescription based sales amidst the pandemic. Operating profitability improved to 21% in fiscal 2021 as compared to 17% a year ago, mainly due to healthy growth in high margin export business, and lower marketing and travelling costs amidst the pandemic. The operating income growth is expected to remain healthy over the medium term, backed by steady growth in the domestic market and sustained increase in exports. Operating profitability is expected to sustain 19-20% on account of steady growth in high-margin exports.

 

Micro Labs has sold 74% stake in its subsidiary, RA Chem India Pvt Ltd (RA Chem) to PE fund Advent international (Advent) for about Rs. 770 crs in October 2020. The funds have been used partly for debt reduction, meeting working capital requirement and remaining in liquid surplus. Consequently, the company’s gearing improved to 0.23 times as on March 31, 2021 from 0.5 times a year ago. Working capital requirement is expected to remain large on account of substantial inventory and export receivables. The company plans capital expenditure (capex) of Rs 350 crore for setting up an active pharmaceutical ingredient (API) unit in Bengaluru over two years. The capex and acquisition, if any, is expected to be funded from internal accruals and liquid surplus, thereby sustaining its healthy capital structure. Gearing is expected to remain below 0.3 times and debt protection metrics is expected to remain comfortable over the medium term. Any higher than expected debt-funded capex or acquisition, or increase in investment in unrelated businesses could impact the company’s financial risk profile and will remain the key monitorables.

 

The ratings continue to reflect Micro Labs’ established position in the domestic formulations market, diversified revenues across therapeutic segments and geographies, and healthy financial risk profile backed by healthy cash accrual and strong liquidity. These strengths are partially offset by susceptibility to intense competition and regulatory changes, working capital-intensive operations, and exposure to investment in unrelated financing business.

Analytical Approach

CRISIL Ratings has combined the business and financial risk profiles of Micro Labs and its subsidiaries because of their significant operational and financial linkages. The entities are collectively referred to as Micro Labs.

 

CRISIL Ratings has adjusted the loans and advances towards unrelated businesses from the networth.

 

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

• Established position in the domestic formulations segment: Micro Labs is ranked 19th in the domestic formulations market as per All India Organisation of Chemists and Druggists -AWACS (July 2019). It has a market share of around 2% based on domestic sales. The company is among the top five players in the liver-therapy and oral anti-diabetic segments, and ranks 11th in the cardio vascular products division. It has an established market position in therapies such as anti-diabetes, pain management, ophthalmology, and central nervous system and will focus on other chronic and sub-chronic therapies to drive growth.

 

• Diversified revenue across therapeutic segments and geographies: The domestic market accounted for about 50% of revenue in fiscal 2021. Micro Labs is present in all therapeutic segments, except oncology and respiratory. The chronic care segment accounts for around 60% of domestic revenue, and anti-bacterials, diabetes and anti-hypertensives for 40%. The share of exports, which stood at about 50% in fiscal 2021, is expected to increase gradually driven by higher growth in regulated markets and institutional sales. To offset any adverse impact of regulatory changes and ensure sustained revenue growth, Micro Labs aims to maintain a balanced portfolio between chronic and acute drugs.

 

• Healthy financial risk profile: The financial risk profile is driven by a strong networth, and comfortable gearing and debt protection metrics. Networth is estimated to remain strong at Rs 3,100 crore as on March 31, 2021, and grow further with healthy internal accruals. Micro Labs utilised funds from majority stake sale in RA Chem for debt reduction, consequently gearing improved to 0.23 times as on March 31, 2021 from 0.5 times a year ago. Net cash accrual to total debt and interest coverage ratios are healthy, estimated at 1.51 times and 27 times, respectively, for fiscal 2021. Gearing is expected to remain below 0.3 times and debt protection metrics is expected to remain comfortable over the medium term. Any further investment in unrelated financing business could impact the capital structure and will remain the key monitorable.

 

Weaknesses

• Susceptibility to intense competition and regulatory changes: Despite its established presence in the acute segment (40% revenue in fiscal 2021), intense competition constrains the company’s pricing power in the domestic market. Of late, the domestic pharmaceutical sector has also been subject to increased regulatory scrutiny. About 15% of the products of Micro Labs are under the ambit of the drug price control order (DPCO), but a diversified product profile (the top five brands accounted for less than 20% of the revenue in fiscal 2021), which includes products priced below the ceiling, has improved revenue generation, and should continue to help mitigate the DPCO impact.

 

The company has to comply with regulations in its export destinations. In September 2014, the US Food and Drug Administration issued an import alert letter to Micro Labs for violation of current Good Manufacturing Practices (cGMP) at the Goa plant. While the impact was minimal as the US accounted for less than 5% of the company’s revenue and the issue was resolved post re-inspection of the plant in March 2017, the company remains susceptible to regulatory risk.

 

• Working capital-intensive operations: Micro Labs is estimated to have large gross current assets of 260 days as on March 31, 2021, on account of large inventory and export receivables. It operates in multiple geographies and has a wide product portfolio and has to maintain substantial inventory to ensure adequate supply. Given its steadily expanding product portfolio and increasing export sales, operations will remain working capital intensive.

 

• Exposure to unrelated businesses: Micro Labs started investing in real estate in fiscal 2009 through wholly owned subsidiaries, some of which are involved in projects approved by the Slum Rehabilitation Authority (SRA) in Mumbai. Direct exposure includes loans to a few developers. Total direct investments in the unrelated financing business is at Rs 1,035 crore as on March 31, 2020. The company has not received interest on some of the loans and advances because of a slump in the real estate sector. While the company plans to demerge the financing business going forward, any significant increase in investments in unrelated businesses in the interim may impact the company's financial risk profile, and hence, is a key rating sensitivity factor.

Liquidity: Strong

Liquidity is strong, backed by healthy net cash accrual of over Rs. 800 crores annually against debt repayment obligation of Rs 55-95 crores. Cash and cash equivalents is strong at about Rs 770 crore as on March 31, 2021, mainly due to majority stake sale in RA Chem in fiscal 2021. Micro Labs may use part of this liquidity for funding capex plans of Rs. 350 crores over the medium term and acquisitions; however it is expected to maintain atleast Rs. 250-300 crores liquidity on an ongoing basis. Bank limit utilisation averaged 51% over the 12 months through December 31, 2020.

Outlook: Stable

CRISIL Ratings believes Micro Labs will maintain its diversified revenue profile across geographies and its healthy cash accrual over the medium term. The financial risk profile should remain healthy, with strong networth, low gearing, and no major debt-funded capex plan.

Rating Sensitivity Factors

Upward Factors

• Sustained annual revenue growth of 15%, mainly driven by exports
• Sustained operating profitability above 20%, led by improved revenue profile
• Improvement in credit metrics, primarily related to leverage, driven by demerger of unrelated business or substantial reduction in exposure to unrelated businesses

 

Downward Factors

• Material decline in revenue growth or operating profitability falling below 15% due to regulatory issues or increased competition
• Substantial weakening in the capital structure, on large, debt-funded capex or acquisitions or increasing investment in unrelated businesses
• Weakening of financial risk profile because of increase in exposure to unrelated businesses to over Rs. 1,500 crores

About the Company

Micro Labs was set up in 1973 by the late Mr. G C Surana and is now managed by his sons, Mr Dilip Surana and Mr Anand Surana. The company manufactures and distributes pharmaceutical formulations in India and abroad and has presence in more than 60 countries. It has 13 production plants in India.

Key Financial Indicators*

Particulars	Unit	2020	2019
Operating income	Rs.Crore	4126	3774
Adjusted profit after tax (PAT)	Rs.Crore	612	319
Adjusted PAT margin	%	14.5	8.2%
Adjusted debt/adjusted networth	Times	0.51	0.54
Adjusted interest coverage	Times	17.38	13.01

    *Figures with RA Chem consolidated

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 levels	Rating assigned with outlook
NA	Cash Credit*	NA	NA	NA	210.00	NA	CRISIL AA-/Stable
NA	Packing Credit	NA	NA	NA	220.00	NA	CRISIL A1+

*Fully interchangeable with packing credit

Annexure – List of entities consolidated

Names of entities consolidated	Extent of consolidation	Subsidiary/Associate
Brown & Burk UK Ltd	Full	Subsidiary
Micro Labs GMBH	Full	Subsidiary
Micro Labs USA Inc	Full	Subsidiary
Micro Nova Pharmaceutical Industries Ltd, Nigeria	Full	Subsidiary
Micro Labs Pty Ltd	Full	Subsidiary
Brown & Burk AB (wholly owned subsidiary of Brown & Burk UK Ltd)	Full	Subsidiary
Micro Labs Holdings FZE	Full	Subsidiary
Microsynergy Pharmaceuticals FZCO (subsidiary of Micro Labs Holdings FZE)	Full	Subsidiary
Laxmi RA Holdings & Investments Pvt Ltd*	Full	Subsidiary
Indu Pharma Pvt Ltd (subsidiary of RA Chem Pvt Ltd)*	Full	Subsidiary
India SME Investment LLP	Moderate	Associate
Manne Laboratories Pvt Ltd*	Full	Subsidiary
Stern Chempharm LLLP	Moderate	Associate
RA Chem Pharma Limited (Along with Laxmi RA Holdings & Investments Limited)*	Full	Subsidiary

*Applicable till October 2020