Cipla Ltd. INR 542. India Equity Institutional Research Pharma. Muted quarter; outlook remains robust. Target Price (INR): 646. Potential Upside : 19%

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1 India Equity Institutional Research Pharma RESULT UPDATE Cipla Ltd. INR 542 Muted quarter; outlook remains robust BUY Result highlights Cipla s Q3FY16 Net Sales, EBITDA and PAT were below our estimates. Total income grew by 12% YoY to INR 31bn on account of robust export formulation growth of 28% YoY driven by robust performance in South African and Emerging Markets. Domestic business posted de-growth of 0.4% on account change in distribution policy. EBITDA stood at INR 4,537mn down 18% YoY and 43% QoQ. EBITDA margin stood at 14.6% contracting by 542bps YoY. PAT stood at INR 3,432mn up by 5% YoY on account of lower tax rate which was the net of MAT Credit resulting in an effective tax rate of 3.2%. EPS for the quarter stood at INR 4.3 EBITDA impact breakup EBITDA margins for the quarter stood at 14.6% impacted by a number of moving parts during this quarter. The impact of change of distribution policy had an impact of ~2.5%; a normalized base of Esomeprazole during this quarter which remains at theses sustainable levels going forward; higher R&D expense for the quarter at 8% of sales as compared to 6% in the corresponding quarter of the previous year as R&D expenses are up 85% YoY; Currency headwinds in the emerging markets of South Africa especially ZAR resulting in an impact of 0.7% and ramped up investments in biologics and consumer healthcare impacted margins by 1%. Excluding these impacts, the EBITDA margins would have been at 18% levels. One time impact of change in distribution policy Domestic business was impacted due to distribution policy changes resulting in minute decline of 0.4% YoY to INR 11.9bn. Excluding the impact of the distribution policy change, growth would have been ~11%. ORG growth rate for the quarter is at 18% vs. market growth of 16% and the company has enhanced its market share from 5.24% to 5.46%. Companies Rx business constitutes 82% of the overall domestic portfolio of Cipla with Gx business in the domestic market facing pressure. Gx market during the quarter has grown by 8%. Excluding the impact of the distribution policy change Cipla s Rx Domestic business has grown 13% YTD and Gx Domestic business has de-grown by 9% YoY. New introductions contribution in Rx business has increased from 3% in Q1FY16 to 3.6% in Q3FY16. The management does not expect this impact to be present going forward. Awaiting gseretide approval in UK The company is awaiting approval for gseretide MDI in UK markets, as the management has highlighted that the file is under active review. The company has ~15% market share in inhaler space in smaller European markets which can ramp up to 30% in next months. Major boost will come when the company will launch in UK where market size is around USD 400mn. Mylan and Sandoz are present in the market. We believe Advair MDI space will be a low competition market with other players- Sandoz, Orien, Chiesi & Mylan. The company has 10 combination inhalers in pipeline targeted for US/EU launches. Valuation: Cipla is focusing on restructuring its business model with 2-3 years strategy. Launch of combination inhalers in EU/US will be a significant opportunity for the company to drive earnings in long term. We expect North American revenues to grow at 61% CAGR over FY15-18E on account of our expectation of an FY17E integration of InvaGen and Exelan into Cipla and ramp-up in Cipla s own front-end model in US. We expect overall export formulations to grow at a healthy 24.4% CAGR over FY15-18E. We revise our rating to BUY on account of attractive valuation post recent corrections and value the company on SOTP valuation with the base business of the company at 20xFY17E EPS of INR 28.4 and Inhaler portfolio at INR 78 to arrive at a target price of INR 646 Key Financials Particulars FY15 FY16E FY17E FY18E Revenues 108, , , ,602 EBITDA 21,617 30,889 36,886 42,679 Adj. PAT 11,808 18,746 23,329 27,645 Adj. EPS P/E (x) EV/EBITDA (x) RoE (%) Target Price (INR): 646 Potential Upside : 19% Market Data Shares outs (Mn) 803 EquityCap (INR Mn) 1607 Mkt Cap (INR Mn) Wk H/L (Mn) 752/535 Volume Avg (3m K) 1152 Face Value (INR) 2 Bloomberg Code Market Info: CIPLA IN SENSEX NIFTY 6976 Price Performance Shareholding pattern (%) Particulars Sep15 Jun15 Mar15 Promoters FIIs DIIs Others Total Source: BSE Analyst: Hemanshu Srivastava hemanshu.srivastava@krchoksey.com KRChoksey Research is also available on Bloomberg KRCS<GO>, ThomsonReuters, Factset and Capital IQ February 11, 2016

2 Q2FY16 Result Snapshot Profit & Loss account INR mn Q3FY16 Q2FY16 Q3FY15 QoQ (%) YoY (%) Net Sales 30,273 33,617 26,247 (10) 15 Other Operating Income ,408 (13) (44) Total Sales 31,066 34,524 27,655 (10) 12 Total Operating Expenditure 26,528 26,630 22,116 (0) 20 Materials Consumed 12,338 12,169 9, % of sales Employee Costs 5,862 5,859 5, % of sales Other Exp 8,328 8,602 7,164 (3) 16 % of sales EBITDA 4,537 7,894 5,538 (43) (18) EBITDA margin (%) Other Income Interest Expense (54) (49) Depreciation & Amortisation 1,375 1,340 1, PBT 3,726 6,311 4,282 (41) (13) Exceptional Items PBT (Incl. Exceptional Items) 3,726 6,311 4,282 #DIV/0! Tax 120 1, (93) (87) Effective tax rate (%) PAT 3,606 4,499 3,337 (20) 8 Share of Associates Minortiy Interest Net Income 3,432 4,312 3,279 (20) 5 Net Margin (%) EPS (20) 5 Quarterly financial Performance INR mn Change in Estimates FY16E FY17E FY18 #DIV/0! Old New %Chg Old New %Chg Old New %Chg Revenue 123, , , , , ,602 4 EBITDA 28,677 30, ,447 36,886 (1) 42,840 42,679 (0) EBITDA Margin (%) PAT 16,564 18, ,425 23, ,402 27, EPS (INR) Forward PE band chart Source: ACE Equity, KRChoksey Research 2 KRChoksey - Institutional Research

3 Exports formulation sales trend Domestic formulation sales trend Quarterly API sales trend Split of Top 50 R&D projects by Market Split of Top 50 R&D projects by Delivery form Split of Top 50 R&D projects by Therapy 3 KRChoksey - Institutional Research

4 Con-call highlights: Domestic business was impacted due to distribution policy changes resulting in minute decline of 0.4% YoY to INR 11.9bn. Excluding the impact of the distribution policy change, growth would have been ~11%. ORG growth rate for the quarter is at 18% vs. market growth of 16% and the company has enhanced its market share from 5.24% to 5.46% Rx business constitutes 82% of the overall domestic portfolio of Cipla Excluding the impact of the distribution policy change Cipla s Rx Domestic business has grown 13% YTD and Gx Domestic business has de-grown by 9% YoY. New introductions contribution in Rx business has increased from 3% in Q1FY16 to 3.6% in Q3FY16 The company has increased its market share in MDI segment and continues to build potency in its HepC portfolio with HepCvir & Ledipasvir/ Daclatasvir combinations The company has identified Derma, Urology, Gastro and Pediatrics as a strategic focus area going forward. Cipla has forged partnerships with Cutisera in cosmetology segment, Nasovac S in Vaccines and Reteplase in Antithrombolytic. South African markets have witnessed strong sales growth of 43% on YTD basis in local currency to ZAR 2,596mn on account of robust sales in private market & tender business. Tender business accounts for ~30% of the Cipla s South African market at ZAR 779mn till YTD Dec-15. Cipla has taken price increases in the range of 5-10% on its portfolio as permitted by the government to counter the depreciation of South African Rand. Cipla has rolled out all of the molecules in-licensed from Teva witnessing strong traction in Copaxone and has introduced vaccines through its exclusive license with Serum Institute of India. The company is looking for more inlicensing deals in South Africa and India. Cipla has invested in a distribution centre facility in order to double the existing capacity and enhance its competitive edge in the market. Cipla has a healthy market share Seroflo across both MDI and DPI segments. North American markets have grown by 138% YTD including one-offs on account of gnexium (Esomeprazole) contribution. The management is booking revenues from profit sharing agreement with Sandoz for gpulmicort Respules (Budesonide respules) on a quarter lag. This quarter saw miniscule contribution from profit share of gplumicort Transaction of InvaGen Pharma and Exelan Pharma s acquisition is expected to be completed by Q4FY16E. The management has guided towards filign of 3-4 ANDAs per quarter going forward mainly in the bucket of derma, ophthal, respiratory and injectables later followed by oncolytics. Europe has grown by a whopping 38% YoY in YTD Dec-2015 with a strong growth in B2B markets. Cipla has launched Mometasone in Belgium; Fluticasone in Italy & Spain and Ipratropium Salbutamol Respules in Romania. International markets have posted healthy growth of 20% YoY on a YTD basis in local currency terms on account of robust momentum in front-end markets, stable performance in partner markets and a slower off-take in Cipla Global Access. API has grown 33% YTD to INR 5,750mn in 9MFY16 from INR 4,270mn in 9MFY15 Cipla has 200+ projects under development in their R&D pipeline, with top 50 projects addressing a market size of USD 50bn based on innovator sales; Total R&D spend is 6.6% of sales for YTD Dec The management expects R&D spend to be in range of ~8% going forward. Cipla is awaiting reply from US FDA for the Form 483 for Indore facility As of Dec-2015; Cipla has a total of ANDAs pending approval with a majority of almost 2/3rd being partnered owned. As per the management not a significant number of pending approvals are from Indore Cipla s gseretide file in UK is under active review with the dialogue ongoing with the authority. On the biosimilars front, one of the molecules has established a Proof of Concept and the management expects to take this further into development with the managements focus on filing in the emerging markets as of now. The management has guided towards 100bps improvement in margins over FY15 The management has initiated program to reduce internal complexities and enhance base business profitability through initiatives such as portfolio rationalization, pricing improvement and cost optimization. Capex for Q3FY16 stood at 6.6% of sales. Debt to equity ratio is at 0.13 Outstanding forward contracts as a hedge for receivables as of Dec-2015 are ZAR 735mn at 4.85 Working Capital loans of USD 200mn acting as natural hedge to the receivable 4 KRChoksey - Institutional Research

5 Consolidated Financial Statements Income statement INR mn FY15 FY16E FY17E FY18E Net Sales 108, , , ,602 Operating Expenses 91, , , ,770 Operating Profit 16,987 24,846 29,868 34,832 Other Operating Income 4,630 6,044 7,018 7,847 EBITDA 21,617 30,889 36,886 42,679 Depreciation 5,047 5,464 6,027 6,440 Other Income 1,656 1,898 2,424 2,650 EBIT 18,225 27,323 33,283 38,888 Interest Paid 1,683 2,199 2,265 2,265 Pre-Tax Profit 16,543 25,124 31,018 36,623 Non-Recurring Items Pre-Tax Profit 16,543 25,124 31,018 36,623 Tax (current + deferred) 4,000 5,779 7,134 8,423 Net Profit 12,542 19,346 23,884 28,200 Adjusted Pet Profit 11,326 18,246 22,804 27,120 Prior Period Adjustments Minority Interests Preference Dividend Net Income 11,808 18,746 23,329 27,645 Balance Sheet INR mn FY15 FY16E FY17E FY18E Equity Share Capital 1,606 1,606 1,606 1,606 Reserves & Surplus 107, , , ,491 Total Shareholders Fund 109, , , ,097 Minority Interest 1,805 1,805 1,805 1,805 Non- current liabilities Long Term Borrowings 17,423 17,423 17,423 17,423 Deferred Tax Liabilities 2,846 2,846 2,846 2,846 Other LT Liabilities & Provisions Current Liabilities Short-term Borrowings Trade Payables 15,772 16,583 18,792 20,807 Other Current Liabilities & Provisions 10,842 9,604 11,068 12,155 Total Liabilities 157, , , ,133 Non- current Assets Fixed Assets 75,105 79,642 78,615 78,174 Non-Current Investments 6,398 8,898 11,398 13,898 Other Non-Current Assets Current assets Current Investments Trade Receivables 20,043 23,910 28,442 31,806 Inventories 37,806 48,136 55,592 61,562 Cash & Bank Balances 5,643 (2,995) 5,529 20,673 Short Term Loans & Advances 12,710 16,553 19,691 22,019 Other Current Assets Total Assets 157, , , ,133 5 KRChoksey - Institutional Research

6 Cash Flow Statement INR mn FY15 FY16E FY17E FY18E Pre-tax profit 16,543 25,124 31,018 36,623 Depreciation 931 5,464 6,027 6,440 Change in Working Capital (5,466) (18,469) (11,452) (8,562) Total Tax Paid (4,244) (5,779) (7,134) (8,423) Other Operating Activities Cash flow from operations 7,764 6,340 18,459 26,078 Capital Expenditure (6,654) (10,000) (5,000) (6,000) Change in Investments 688 (2,500) (2,500) (2,500) Other Investing Activities (2,793) Cash flow from investing (8,759) (12,500) (7,500) (8,500) Free Cash Flow (995) (6,160) 10,959 17,578 Equity raised/(repaid) Change in Minorities 828 (500) (525) (525) Debt Raised/(repaid) 4, Dividend (incl. tax) (273) (1,879) (1,879) (1,879) Other Financing Activities Cash flow from financing 5,492 (2,378) (2,404) (2,404) Net Change in Cash 4,497 (8,538) 8,555 15,174 Ratio Analysis Particulars FY15 FY16E FY17E FY18E Per share INR Adj. EPS CEPS BVPS DPS Valuation (x) P/E P/BV EV/EBITDA EV/CE PEG Return ratio (%) EBIDTA Margin PAT Margin RoE RoCE Leverage Ratios (x) Long Term D/E Net Debt/Equity (1.9) Total debt/market capitalisation (%) Interest Coverage Current ratio Growth Ratios (%) Income growth EBITDA growth PAT growth (12.0) Turnover Ratios Asset Turnover (x) Working Capital/ Sales (x) Inventory Days Debtors Days Payable days KRChoksey - Institutional Research

7 Cipla Date CMP (Rs) TP (Rs) Recommendation 11-Feb BUY 06-Nov ACCUMULATE 14-Oct ACCUMULATE 17-Aug HOLD 8-Jul ACCUMULATE 30-May ACCUMULATE 9-Apr HOLD 13-Feb ACCUMULATE 14-Nov HOLD Rating Legend Our Rating Upside Buy More than 15% Accumulate 5% - 15% Hold 0 5% Reduce -5% 0 Sell Less than -5% ANALYST CERTIFICATION: I, Hemanshu Srivastava (B.E and MBA) research analyst, author and the name subscribed to this report, hereby certify that all of the views expressed in this research report accurately reflect my views about the subject issuer(s) or securities. I also certify that no part of our compensation was, is, or will be directly or indirectly related to the specific recommendation(s) or view(s) in this report. Terms & Conditions and other disclosures: KRChoksey Shares and Securities Pvt. Ltd (hereinafter referred to as KRCSSPL) is a registered member of National Stock Exchange of India Limited, Bombay Stock Exchange Limited and MCX Stock Exchange Limited. 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