Duopharma Biotech Bhd
(Sept 6, RM1.37)
Buy with a higher target price (TP) of RM1.70 (from RM1.62): On government tenders and Pharmaniaga Bhd’s concession which will expire in November, negotiations are ongoing. Note that historically, it usually takes a six- to seven-month cycle to do the tenders (ie a lot of products, evaluation that needs to be done). With the limited time left, the management believes that the government will most likely roll over the tenders. Thus, if the government were to ask Duopharma Biotech Bhd or other pharmaceutical companies to extend the offer price by another a year, Duopharma is likely to do it given that the current exchange rate is about the same as when the last round of tenders were called. We believe this will bode well for Duopharma as about 52% of its revenue from the government will look more secure moving into 2020.

 
On the insulin tender, which will also expire in November, the management has engaged with the ministry of health to opt for the two-year extension. According to the management, the response has been quite positive and it hopes to hear something within the next 60 days (probably same time with the rest of the tenders). We remain confident of the contract renewal given its competitive pricing and the proven track record (ie delivery timing and quality). Other main products that Duopharma bid for the government tender were: i) erythropoietin product, worth RM20 million; and ii) insulin glargine, worth RM16 million over the next two years respectively.

On the upcoming Budget 2020, the management hopes that the government will reintroduce reinvestment allowance, which was not renewed in Budget 2019 (Duopharma’s tax rate at 23.5% in the first half of financial year 2019 (1HFY19) versus 20.2% in 2018). The management believes that within the next 2-3 years, Duopharma’s consumer healthcare business will be worth over RM100 million in terms of revenue (currently about RM75 million). Moving forward, the group will continue to defend its market share (No 1) in the children’s vitamin segment and tap more aggressively into the adult vitamin segment (more attractive in terms of total market potential). We are positive on the continued strong double-digit growth from Duopharma’s consumer healthcare business as this will reduce its dependence on government

On the recent news by Reuters on contract manufacturing to China, the management is not too keen on contract manufacturing due to the low margin. They will only do it if they have the capacity as it spreads out the fix cost over a larger range of products. We understand that the request for contract manufacturing is a norm (from China, Japan, South Korea, Australia and Europe as well). Note that currently, 3% of Duopharma’s revenue comes from contract manufacturing. The management reiterates that it will be more focused on marketing its own products.

The management does not oppose the price control but it believes that implementing price control will not solve the healthcare inflation. Instead, the government should promote competition in order to bring down medicine prices in a meaningful and sustainable way. As Duopharma produces affordable generic medicines, the management opines that it will not have a major impact. It believes the government will go after expensive patented drugs first.

Recall that in 1HFY19, Duopharma recorded a profit after tax growth of 35.2% to RM28.4 million ahead of its revenue growth of 15% to RM295.9 million. Generally, the management does see a reduction in consumption for the private sector, which has been happening in the past (migration of patients from private hospitals to the government sector, mostly due to the state of the economy). On the flip side, we have seen an increase in government demand and we expect overall demand for pharmaceuticals to remain resilient.

As far as third quarter of FY19 earnings are concerned, we expect earnings to be stronger by at least 25% year-on-year, due to the timing of government purchases and strong demand. At its current share price, dividend yield remains attractive at 4.2% based on FY20.

We increase our FY19/FY20/FY21 earnings estimates by 5.2%/5.2%/2.7% after increasing our sales assumptions and profit before tax margins by about 4.8% and 0.2% respectively. However, we tweak our FY19 tax rate assumptions higher to 23.5% (from 21% previously).

Following the earnings adjustments, we raise Duopharma’s TP to RM1.70 a share (from RM1.62 per share) based on an unchanged 19 times calendar year 2020 price earnings ratio.

We continue to like Duopharma for its: i) strong market share in Malaysia; ii) resilient earnings; and iii) decent dividend yield. — TA Securities, Sept 6