Detailed Rationale

CRISIL Ratings has upgraded its long-term rating on bank facilities of Micro Labs Ltd (Micro Labs) to ‘CRISIL AA/Stable’ from ‘CRISIL AA-/Positive’, while reaffirming the short-term rating at ‘CRISIL A1+’.

 

The upgrade factors in sustained improvement in the group’s business risk profile, along with its healthy financial risk profile and strong liquidity position. Revenue has recorded a compounded annual growth rate (CAGR) of 8% over the five fiscals ending March 31, 2023. It is likely to grow by ~11-13% in fiscal 2024, supported by healthy rise in exports. The group has maintained a steady-state profitability of 21-22% over the past 2-3 fiscals (22% in fiscal 2023). The margin is likely to remain steady during fiscal 2024. Going forward, the group is likely to register 10-12% growth in revenue, supported by its established market position and regular product launches.

 

Financial risk profile remains strong, with adjusted networth projected to be over Rs 6,000 crore as of March 2024. Liquidity position has been strong with unencumbered liquid balances of over Rs 2,000 crore as on March 31, 2023. The group envisages a capital expenditure (capex) of Rs 700-800 crore annually and is also evaluating inorganic growth opportunities. The capex and acquisition, if any, will be funded largely through internal accrual and liquid cash surplus. The group also has no plans to increase its exposure in the real estate business and if any, the amount will not exceed Rs 1,200 crore. However, the company plans to invest and lease out land parcels to real estate developers to earn regular lease payments; investments in land parcels are unlikely to cross Rs 200 crore and will be funded through the available cash surplus. Going forward, any major debt-funded capex and/or substantial increase in investment in unrelated businesses over the estimated threshold could impact financial flexibility and will remain a key monitorable.

 

The above-mentioned strengths are partially offset by the large working capital requirement and exposure to investment in unrelated financing business, intense competition, and regulatory changes.

Analytical Approach

CRISIL Ratings has combined the business and financial risk profiles of Micro Labs and its subsidiaries, given significant operational and financial linkages. The entities are collectively referred to as the Micro Labs group. 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: The Micro Labs group ranks among the top 20 companies in the domestic formulations market and has a market share of around 1.7% as per the All-India Organisation of Chemists and Druggists-AWACS data. It has an established market position in therapies such as anti-diabetes, pain management, ophthalmology, and the central nervous system. Continued focus on chronic and sub-chronic therapeutic segments, along with diversification into newer therapeutic segments, will drive growth.

 

• Diversified revenue across therapeutic segments and geographies: The domestic market accounted for about 48% of the group’s revenue in fiscal 2023. The group is present in all major therapeutic segments, except oncology and respiratory. The chronic care segment accounts for around 50% of its domestic revenue. To offset any adverse impact of regulatory changes and ensure sustained revenue growth, the group aims to maintain a balanced portfolio between chronic and acute drugs. Apart from the domestic market, the group has presence in several regulated and semi-regulated markets. Exports formed 52% of the revenue in fiscal 2023, and the share has gone up to 55% in the first ten months of fiscal 2024, driven by healthy growth in regulated markets and institutional sales.

 

• Improved operating performance: Overall revenue has grown by 10.2% in compounded terms over five 2018 to 2023. Going forward, the group is likely to report 10-12% growth in revenue, supported by its established market position and regular product launches. Operating margin has been steady in the range of 20-23% over the past two fiscals and stood at 22% in fiscal 2023. Backward integration and cost optimisation measures and better economies of scale should support the margin profile going forward.

 

• Sustained healthy financial profile: Financial risk profile remains strong, with adjusted networth projected to exceed Rs 6,000 crore as on March 31, 2024. The company has utilised part of the proceeds from the sale of RA Chem to reduce debt over fiscals 2021-23. Consequently, adjusted gearing was low at 0.08 time as on March 31, 2023. Going forward, with capex plans to be funded largely through internal accrual, gearing is likely to remain negligible under 0.1 time. Net cash accrual to total debt and interest coverage ratios were healthy, at 2.17 times and 68 times, respectively, in fiscal 2023. While the company has substantial exposure towards its non-core business (Rs 1,113 crore as on March 31, 2023), CRISIL Ratings believes this is unlikely to increase further. Any sizeable increase in investment in the financing business could impact the capital structure and will remain monitorable.

 

Weaknesses:

• Exposure to unrelated businesses limiting the financial flexibility: The Micro Labs group started financing real estate projects a decade ago, and its direct exposure includes loans to few developers. Direct investments in the unrelated financing business increased to Rs 1,113 crore as on March 31, 2023, from Rs 779 crore as on March 31, 2021, and may remain at similar levels in fiscal 2024. Furthermore, the group does not plan to increase its exposure to the real estate business beyond Rs 1,200 crore. However, it may continue to make land purchases and lease out the parcels to developers to earn regular lease payments; investments in the said land parcels should also be within Rs 200 crore annually and shall be funded through the liquidity surplus. The group has recently made a land purchase of Rs 125 crore as on December 31, 2023. While the group plans to demerge the financing activities over the medium term, any significant increase in investments in the interim could impact the financial risk profile and hence, will be a key rating sensitivity factor.

 

• Susceptibility to intense competition and regulatory changes: Despite the group’s established presence in the acute segment, intense competition constrains its pricing power in the domestic market. Pricing flexibility remains constrained as 15-18% of its products fall within the ambit of the Drugs Price Control Order (DPCO). However, a diversified product profile (the top five brands accounted for less than 25% of revenue in fiscal 2023), which includes products priced below the ceiling, should help mitigate the impact. Addition of more drugs under DPCO by the regulator could lower realisations and impact revenue growth. Also, the Micro Labs group has to comply with regulations in export destinations and remains subject to inspections by the US Food and Drug Administration and other regulators.

 

• Large working capital requirement: Gross current assets are likely to be around 269 days as on March 31, 2024, driven by large inventory and export receivables. The group operates in multiple geographies, has a wide product portfolio, and maintains substantial inventory to ensure adequate supply. Given the steadily expanding product portfolio and increasing export sales, operations will remain working capital intensive over the medium term.

Liquidity: Strong

With cash accrual of over Rs 1,000 crore expected per annum and sufficient unencumbered liquid surplus of over Rs 1,800 crore, against modest debt obligation of Rs 40-50 crore over the medium term, the liquidity profile should remain strong. Cash and liquid investments stood at Rs 2,249 crore as on March 31, 2023, supported by sale of RA Chem. Micro Labs may use part of this liquid surplus to fund its annual capex of Rs 700-750 crore, along with acquisitions, if any. Bank limit utilisation averaged 33% over the nine months through September 2023.

Outlook: Stable

Micro Labs will continue to benefit from its diversified revenue profile across geographies. The financial risk profile should remain healthy, aided by low gearing, adequate cash accrual and absence of any major debt-funded capex plan.

Rating Sensitivity factors

Upward factors:

• Sustained high double-digit revenue growth of 17-20%, with steady-state profitability maintained at current levels, supported by improved product portfolio and geographic diversification
• Improvement in credit metrics, primarily capital structure, driven by demerger of unrelated business and/or substantial reduction in exposure to such businesses

 

Downward factors:

• Sluggish revenue growth and decline in operating margin below 15%, on account of regulatory issues or increase in competition
• Substantial weakening of capital structure, driven by large, debt-funded capex or acquisitions, or increase in investment in the financing businesses

About the Group

Micro Labs was incorporated by the late Mr GC Surana in 1973 and is now managed by Mr Dilip Surana and Mr Anand Surana. The company is wholly owned by the Surana family. The company manufactures and distributes pharmaceutical formulations in India and abroad and is present in more than 60 countries. It has 13 manufacturing plants in India.

Key Financial Indicators

Particulars	Unit	2023	2022
Operating income	Rs crore	5,676	5,051
Adjusted profit after tax (PAT)	Rs crore	1,127	1,338
Adjusted PAT margin	%	19.8	26.5
Adjusted debt/adjusted networth*	Times	0.09	0.14
Adjusted interest coverage	Times	67.56	90.05

*Networth adjusted for loans and advances towards unrelated businesses

Any other information: Not applicable

Annexure - Details of Instrument(s)

ISIN	Name of the instrument	Date of Allotment	Coupon Rate (%)	Maturity Date	Issue size (Rs. Crore)	Complexity Level	Rating assigned with outlook
NA	Cash credit*	NA	NA	NA	236	NA	CRISIL AA/Stable
NA	Packing credit	NA	NA	NA	464	NA	CRISIL A1+

*Fully interchangeable with packing credit