About
FDC is an Indian Pharmaceuticals company with an operating history of more than 50 years. The company is into formulations, synthetics, nutraceuticals and bio-tech with a focus on therapeutic groups of ORS, opthalmologicals, dermatologicals, Anti-biotics, Cardio and diabetes. The company has several well known brands such as electral, enerzal etc.

Financials
The company has maintained an ROE in excess of 20% for the last 10 years. In addition the company is conservatively financed with zero debt and excess cash position during the same period.

The company has maintained fixed asset turns (sales/ fixed asset) at the same levels by investing in fixed assets in line with the topline growth. The working capital turns (sales/ working capital) have improved from around 5 to 9+ levels in the last 10 years. This improvement has been driven mainly by an improvement in receivable turns (sales/ account receivables).

The net margins have improved from the 15% levels to 20% levels mainly due to drop in raw material prices.

Positives
The company has maintained a high ROE with a very conservative balance sheet. The company has maintained excess cash and financed growth with the free cash flow generated from operations.

The company has also been able to maintain a topline and bottom-line growth in excess of 15% in spite of high competition and change in the operating environment (changes in patent laws in 2005).The company announced a buy-back in 2008 and has been able to use the excess cash to reduce the number of outstanding shares.

The company has a consistent track record of introducing several new products every year and currently spends almost 3% of sales on R&D which is a crucial investment in the pharma business.
The company is conservative in other aspects of the business such as foreign acquisitions (none) or expanding in the foreign markets (exports are 10% of total turnover).

Risks
The company operates in a business characterized by a high level of competition from domestic and deep pocketed global pharma companies. Although company spends a substantial amount on R&D, global players such as JNJ spend in excess of 10% on R&D. As a result the R&D spend of the company is small by most standards and can be utilized only to develop the off patent molecules in the form of generics for the local and export market.

This is a very competitive business with low to moderate profitability and several other domestic pharma companies such as a CIPLA or Dr reddy’s have a major head start in the space (they are almost 10 times the size of FDC)

In addition the company is also into the consumer health space which is closer to FMCG than pharma products and requires a different set of skills and focus.

Competitive analysis
The industry is characterized by a large number of domestic and foreign competitors. India, China and other BRIC countries are the major growth areas now and all the major companies are now targeting India for growth. The market is already experiencing a high level of competition and activity. One indicator is the number of new product launches and corresponding marketing and sales cost.

The generics opportunity in the export markets of US, Europe and Japan is big with thin margins and high levels of competition.

In case of a drug coming off patent, the pricing typically drops off by more than 60% in the first year and by almost 80% by the third year of patent expiration. As a result these are high risk – high return, limited duration type of opportunities.

Management quality checklist

– Management compensation – Management compensation seems reasonable at less than 3% of net profit.
– Capital allocation record – Fairly good till date. The management has kept the ROE high, inspite of high cash levels. In addition the management has also used the excess capital to buy-back shares which is a sensible decision.
– Shareholder communication – Very sketchy. The mandatory disclosure in terms of the balance sheet, P&L and other schedules are as per the standards. However the company, like other mid cap companies, is very sketchy and does not provide enough discussion on the subjective parts of the business. It gives a very generic overview of the business and has not discussed the plans for the future in detail. If you compare with the annual reports of other pharma companies like Dr reddy’s, the differences are glaring. I can live without too much detail for a steel or a cement company as the numbers give a good picture, but for a pharma or IT company the subjective details are important to evaluate the future of the company. This is a big negative for me.
– Accounting practice – Seems ok. Nothing out of the ordinary
– Conflict of interest – Related party transactions seem fine. I could not find anything out of the ordinary.

Competitor analysis (top 2-3 competitors)
The main competitors for FDC are the domestic pharma companies such as Dr reddy’s, Cipla, Sun pharma and Ranbaxy. These companies are much larger than FDC and are not strictly comparable. At the same time, competition in the pharma industry is by segment. The term pharma is too broad for comparison. If one has to compare competitors, it would be by therapeutic groups such as anti-bioitics, cardio-vasculars, opthalmologicals etc.

FDC has a leading position in some segments such ORS and a few leading brands such as ZIPANT-D SR, 1-AL etc.

The net margins for FDC are comparable to the other top companies and the ROE is also in the same range of 20%+. The overall business risk to FDC is much lesser as the company has not expanded aggressively in the foreign markets. Conversely the returns and growth have been lower too compared to the other aggressive competitors such as Dr reddys, SUN pharma etc.

Valuation
A DCF calculation with a net margins of around 16-18% and 10-12% growth (both assumptions are conservative based on past history), gives a fair value of 120-140 per share. The company would be a good value below a price of 70 per share or if the company started doing far better than the assumptions in the above valuation.

Conclusion
FDC has been a conservatively managed company which has done fairly well in the past 10 years. The company has expanded mainly in the domestic markets and is now expanding slowly into exports via new ANDA filings. The company is likely to maintain a 10-15% growth in line with the market growth with some additional growth coming from exports.

As an investor, I would expect the company to give me moderate returns at low risk. I don’t think the company can be a multi-bagger in the short to medium term.

Disclosure : I have position in the stock. The above analysis is not to recommend the stock. So please do your own homework on it.

About
Mayur uniquoters is in the business of manufacturing synthetic leather. The company’s products find usage in the footwear, automotive, apparel and sports goods industry.
The company supplies to the major automotive companies in the country and abroad. The company has Ford, GM, and Chrysler as customers in the export market and maruti, Tata motors, Hero Honda and other local players as domestic customers. In addition the company is also a supplier to the replacement market.

Financials
The company has performed quite well in the last 8-10 years. The topline has grown by 20% and net profits by 25% in the last 8 years. The current year profits are a cyclically high due to lower raw material costs and exchange related gains.
The company has consistently maintained an ROE of 15%+ and has reduced its debt to 0. The company now has excess of cash of almost 15 crs on its balance sheet.
The current net margins of the company are around 9% which as stated earlier are higher than normal. The normalized profit margins can be assumed to be between 6-7%.

Positives
The company has been doing fairly well in the last few years. The company has been expanding in the export markets and is now an approved supplier to several international OEMs such ford, GM etc. The company has managed to grow inspite of the recession in the export markets.
The company is also a debt free company and can fund the required capex from the cash on the books.

Risks
The company as an OEM supplier is bound to face continued and relentless price pressure from its customers. In addition, the raw material component is around 75% of the sale price and hence the margins of the company are very sensitive to the raw material prices.

The industry is very competitive and it is unlikely that any participant in the industry can earn large profits in the long run. A ROC (return on capital) of 15% would be a good return for an efficiently managed company.

The no.1 risk is not the business, but the management’s intentions. The management awarded themselves around 800000 (around 15% of equity) warrants in 2007-2008 and exercised those warrants at market price. I consider this as a big negative.
As I have stated in the past – warrants are not free and have a value in itself. In addition, the company did not seem to be in need of capital at that time. The sole purpose of issuing the warrants seemed to be to increase the holding of the promoters (which now stands at almost 75%)

Competitive analysis
The product is characterized by minimal brand value for the end customer. The customers (automotives, apparels etc) however value quality and a reliable supplier for the synthetic leather going into their own products. As a result the brand value exists in the mind of the OEM (original equipment manufacturer) buyer.

The industry is characterized by a large number of smaller players in the unorganized sector of the market. The industry is highly competitive with thin margins and poor quality among the smaller players.

The larger companies like Mayur have an opportunity to establish themselves as reliable suppliers to the OEMs and benefit from the economies of scale at the same time.

Management quality checklist
– Management compensation: the management compensation does not appear to be high. The management (who are also the promoters) is paid around 5% of the net profits (around 80 lacs) which although not low, is reasonable.
– Capital allocation record: the capital allocation record seems to be decent. The management has paid down debt, raised dividend over time and now has cash to re-invest in the business. It will be interesting to see how the management will deploy the surplus cash in the future.
– Shareholder communication: disclosure seems to be adequate and in line with other companies.
– Accounting practice: could not see anything out of the ordinary. I need to dig deeper to find if there is anything to be concerned about
– Conflict of interest: other than the warrants, I could not see any related party transactions of concern.
– Performance track record: fairly good so far

Valuation
The company can be assumed to have a normalized profit margin of around 6-7%. As a result the net profit is in the range of 12-13 crs on a normalized basis. As the industry is highly competitive, it is difficult to assume an extended period of high returns for the DCF calculation.
A back of envelope calculation (assuming PE of 12-13) gives a fair value of 150 crs.

Conclusion
The current price is 50% of the fair value. The crucial point is not at arriving at a fair value number, but figuring out the economics and future profitability of the business. If the current numbers can be maintained, then the stock is a bargain.
The other major concern I have is the management attitude towards the minority shareholders. The warrant issue does not inspire confidence and has left a concern in my mind.
I am still halfway through my analysis and will make up my mind after I dig deeper into the company

Disclosure: I have a starter position in the company. A gain on my current position will not pay for than a nice dinner. Please make your investment decisions independently.