CMP: INR788 TP: INR875 (+11%) Buy Halol facility receives warning letter

21 December 2015 Update Sector: Healthcare Sun Pharma BSE SENSEX S&P CNX 25,519 7,762 Stock Info Bloomberg SUNP IN Equity Shares (m) 2,406.6 52-Week Range (INR) 1,201/706 1, 6, 12 Rel. Per (%) 6/0/3 M.Cap. (INR b) 1,862.0 M.Cap. (USD b) 27.8 Avg Val ( INRm)/Vol 277.0 / 0.3 Free float (%) 45.3 Financials Snapshot (INR b) Y/E MARCH 2016E 2017E 2018E Net Sales 284.0 336.9 365.4 EBITDA (Rs b) 80.7 111.2 130.9 Net Profit 43.9 68.6 91.5 EPS 18.2 28.5 38.0 EPSGr. (%) -7.4 76.2 18.3 BV/Share (Rs) 118.3 143.4 174.4 P/E (x) 43.3 27.7 20.8 P/BV (x) 6.7 5.5 4.5 RoE (%) 16.2 21.8 23.9 RoCE (%) 20.5 29.8 31.1 Shareholding pattern (%) As On Sep-15 Jun-15 Sep-14 Promoter 54.7 54.7 63.7 DII 27.6 23.8 22.8 FII 8.1 7.8 4.6 Others 9.7 13.8 9.0 FII Includes depository receipts Stock Performance (1-year) CMP: INR788 TP: INR875 (+11%) Buy Halol facility receives warning letter Early resolution is critical given that Halol remains one of the key facilities for SUNP with high single digit contribution to total sales and >15% to US sales. Even though corrective plans were already getting implemented since more than a year ago; a warning letter means additional efforts are required. Management expects resolutions to happen in less than 12-15 months from now. US FDA inspected 10-12 facilities in the past 15 months (post Halol inspection) with no major observations. This provides comfort regarding business outlook for Ex-Halol US business. Warning letter status leads to ~6% and 3% cut in FY17/18E EPS, respectively. We estimate ~15% earnings cut if warning letter converts into import alert (low probability event in our sense). Early resolution is critical- expect resolution by 1H CY17 Halol is already under quasi warning letter state as it received zero approvals over the last 15 months (since USFDA inspection in Sep-14), and corrective action plan started at this facility more than a year back. Though SUNP will have to augment its corrective measures to provide additional comfort to US FDA, we believe remediation measures taken over last few months will help the company expedite the resolution process. Management remains focused on resolving issues at this facility than looking for site transfers for key products. Having said that, since the facility has got OAI status so a reinspection will be required which could lead to some delay before it getting cleared by US FDA. Accordingly, we have built warning letter resolution at Halol by 1H CY17. Earnings impact to be limited if situation does not worsens We have cut our FY17/18E EPS by 6% and 3%, respectively as we build a delay of 3-6 months in resolution of Halol facility. Though earnings impact would be limited (as the facility was already in the quasi warning letter state since last 15 months), we expect multiples to remain range bound in the near term. We maintain our Buy rating on SUNP but with lower TP of Rs875 @ 23x FY18E PER (vs Rs950 @ 27x 1H FY17E PER earlier). Multiple triggers over the next 12-15 months- could limit the damage Though in the near term, we expect the stock to react negatively on the back of issuance of this warning letter; SUNP has multiple catalysts ahead which (if played out well) could help limit the damage. Low competition in base business of Gleevec and Xenazine coupled with faster than expected ramp-up of Keveyis, and Ximino could surprise investors positively. Apart from this, positive MK-3222 phase -3 data would be a key data point to watch in near term. Key Risk: Warning letter converting into import alert (low probability event in our sense) Given that it has been 15 months since the time of USFDA inspection at Halol, probability of an import alert is lower in our view. However, in case of an import alert, EPS cut could be in the range of 13-15%. Kumar Saurabh (Kumar.Saurabh@MotilalOswal.com); +91 22 3982 5584 Amey Chalke (amey.chalke@motilaloswal.com); +91 22 39825423 Investors are advised to refer through important disclosures made at the last page of the Research Report. Motilal Oswal research is available on www.motilaloswal.com/institutional-equities, Bloomberg, Thomson Reuters, Factset and S&P Capital.

Key takeaways from the conference call Warning letter: The company s Halol facility which was inspected in September 2014, has received warning letter from US FDA for unsatisfactory replies. The inspection had culminated into several 483 observations in OAI categories related to sterility and computer system validation. SUNP will respond to the US FDA warning letter within next 15 days. The company s response is likely to highlight the remediation steps already taken since the inspections. Warning letter doesn t include any need of system wide assessment from the third party consultant. The company also indicated that it may not see voluntary supply disruption due to remediation activities and Incremental remediation may not take 12-15 months. (Indicating warning letter resolution could be faster). Priorities post warning letters: The management has clearly notified that first priority remains bringing Halol facility under US FDA compliance. Site transfer of future approvals and existing products won t be a priority for the company. However, SUNP has already site transferred Gleevec to US based facility and has also received the final approval for the same. The company is expected to launch this product in Feb 16. Revenue exposure: Halol facility contributed 7-9% (higher single digit) of overall SUNP s sales in FY15/16. Warning letter is not likely to impact SUNP s US sales in the near term as supply can continue to US market. As a result, Halol warning letter doesn t change SUNP s FY16 revenue guidance. However, future approvals will be withheld for Halol facility till it comes back into compliance. Impact on Injectables: Almost all pending approvals for injectable products are filed from Halol facility. Even though SUNP had acquired one more injectable facility in the US (Pharmalucence), not all products could be shifted to that facility. So resolution of Halol plant remains a key for SUNP. Other inspections: The management also highlighted that most of the other US approved facilities of SUNP have been inspected by US FDA over last 15 months and they have not received any major observations from US FDA. SPARC approvals: SUNP doesn t expect to receive product approvals (Elepsia XR and Xelpros) for SPARC till it resolves Halol issues. The company is not likely to shift these products due to time consuming and cumbersome procedures for site transfers which involves stability data and validation from new facility. 21 December 2015 2

Multiple triggers over the next 12-15 months- could limit the damage Though in the near term, we expect the stock to react negatively on the back of issuance of this warning letter; SUNP has multiple catalysts ahead which (if played out well) could help limit the damage. Low competition in base business of Gleevec and Xenazine coupled with faster than expected ramp-up of Keveyis, and Ximino could surprise investors positively. Apart from this, positive MK-3222 phase -3 data would be a key data point to watch in near term. Exhibit 1: Multiple filings in specialty and novel areas Triggers Status Near term triggers Gleevec To be launched in Feb'16 Xenazine Launched in 2QFY16 Medium term triggers Ximino Launched in 2QFY16 Keveyis Launched in 2QFY16 Azasite Launched Xelpros To be launched Elepsia XR To be launched Long term triggers MK-3222 To be launched in FY19/20 21 December 2015 3

Exhibit 2: Past US FDA enforcement action on Indian companies Nature of Date of Date of Resolution in Company FDA Action Unit facility action resolution (months) Dr. Reddy's Warning Letter Srikakulam, AP API 6-Nov-15 x NA Dr. Reddy's Warning Letter Miryalaguda, TL API 6-Nov-15 x NA Dr. Reddy's Warning Letter Visakhapatnam, AP Formulations 6-Nov-15 x NA IPCA Labs Import Alert Silvassa, Gujrat Formulations 25-Mar-15 x NA IPCA Labs Import Alert Pithampur, MP Formulations 25-Mar-15 x NA Sun Pharma Import Alert Karkhadi, Gujarat API 13-Mar-14 x NA IPCA Labs Import Alert Ratlam, MP API 23-Jan-15 x NA Ranbaxy Ban Taonsa API 24-Jan-14 x NA Ranbaxy Import Alert Mohali Formulations 13-Sep-13 x NA Strides Arcolab Warning Letter Bangalore Injectable formulations 11-Sep-13 x NA Wockhardt Import Alert Waluj, India Formulations 24-May-13 x NA Jubilant Life Sciences Warning Letter Canada Formulations 27-Feb-13 x NA Dr. Reddy's Import Alert Mexico API 6-Jul-11 27-Jul-12 12.9 Cadila Warning Letter Moraiya Formulations 6-Jun-11 17-Jul-12 13.6 Aurobindo Warning Letter Unit III Formulations 23-May-11 4-Jun-12 12.6 Aurobindo Import Alert Unit VI Formulations 27-Feb-11 28-Mar-13 25.3 Sun Pharma Warning Letter Able Labs 31-Aug-10 19-Sep-11 12.8 Ranbaxy Warning Letter Ohm Labs Formulations 24-Dec-09 x NA Sun Pharma Product Seizure Michigan, Caraco Formulations 26-Jun-09 28-Aug-12 38.6 Lupin Warning Letter Mandideep Formulations 14-May-09 20-Jan-10 8.4 Cipla Form '483 Bangalore API 20-Apr-09 31-Aug-09 4.4 Ranbaxy AIP Paonta Sahib Formulations 26-Feb-09 x NA Taro Brampton, Warning Letter Formulations 5-Feb-09 25-Apr-11 27.0 Pharma Canada Ranbaxy Warning Letter Batamandi API 17-Sep-08 x NA Ranbaxy Import Alert Dewas Formulations 17-Sep-08 x NA Exhibit 3: SUNP s US FDA approved facilities Company Plant Locations Type Last Inspected US FDA action Dadra, India Formulations 1/30/2015 Y Panoli, India API 6/14/2012 Y Sun Pharma (IND) Karkhadi, India API 11/16/2013 Import Alert Tandalja, Vadodara, India 5/8/2015 Y Halol, India Formulations 9/16/2014 Warning letter Ahmednagar, India API 6/19/2015 Y Sun pharma (USA) Chattanooga, US API N/A Caraco Cranbury, US Formulations 8/27/2015 Y URL (USA) URL, Philadelphia Formulations 7/17/2015 Y URL, Aurora IL, US Formulations N/A Taro Taro, Brampton, Canada Formulations 2/28/2014 Y Haifa Bay, Israel Formulations/API 5/21/2015 Y Ohm Labs Formulations 3/19/2014 Y Dewas, India Formulations/API 2/12/2008 Import Alert Ranbaxy Toansa, India API 1/11/2014 Import Alert Paonta Sahib, India Formulations N/A Import Alert Mohali, India Formulations 12/12/2012 Import Alert 21 December 2015 4

Story in charts 21 December 2015 5

Exhibit 1: Revenue to grow at 10% CAGR Exhibit 2: EBITDA CAGR at 19% Formulations (INR b) API (INR b) 14 16 11 12 8 6 5 8 6 75 106 34 53 154 265 270 324 350 44 EBITDA (INR b) EBITDA growth (%) 63 54 41-27 14 20 32 49 69 78 81 111 131 13 3 38 18 Exhibit 3: Ranbaxy synergies to drive margins Exhibit 4: R&D expense to increase to 9% of sales Gross Margin (%) EBITDA Margin (%) 72.6 76.0 80.8 81.6 82.7 75.4 76.0 77.2 78.0 34 40 44 44 34 29 29 33 36 R&D expense (INR b) 6 7 5 5 5 5 % of sales 8 8 9 2 3 4 6 10 18 22 27 31 Exhibit 5: Rich ANDA pipeline Exhibit 6: Fixed asset turnover (x) 207 123 ANDA filed ANDA pending 597 599 478 449 377 397 152 147 138 134 158 154 Gross assets (INR b) Fixed asset turnover (x) 2.5 1.9 2.1 2.0 1.7 1.8 1.8 1.6 21 39 47 56 64 130 175 187 199 FY10 FY11 FY12 FY13 FY14 FY15 YTD Exhibit 7: EPS to grow at 25%CAGR Exhibit 8: Leading return ratios RoE (%) RoCE (%) 6 8 11 12 13 19 18 32 38 30.4 31.5 29.8 31.1 23.6 25.6 21.5 20.5 23.9 25.7 21.0 22.0 21.8 23.9 18.8 16.2 FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E 21 December 2015 6

Financials and valuations Income Statement (INR Million) Y/E March 2011 2012 2013 2014 2015 2016E 2017E 2018E Net Sales 57,214 80,098 112,388 160,044 273,742 283,958 336,883 365,387 Change (%) 42.8 40.0 40.3 42.4 71.0 3.7 18.6 8.5 EBITDA 19,566 31,947 49,063 69,257 78,075 80,678 111,238 130,931 Margin (%) 34.2 39.9 43.7 43.3 28.5 28.4 33.0 35.8 Depreciation 2,049 2,912 3,362 4,092 11,947 10,750 11,750 12,500 EBIT 17,518 29,035 45,701 65,165 66,128 69,928 99,488 118,431 Int. and Finance Charges 739 282 443 442 5,790 5,000 3,000 2,000 Other Income - Rec. 3,611 4,856 3,727 6,282 6,069 7,050 10,950 13,450 Extra-ordinary Exp 32 11 5,836 25,174 2,378 6,852 0 0 PBT 20,357 33,598 43,148 45,831 64,029 65,126 107,438 129,881 Tax 1,286 3,826 8,456 7,022 9,147 11,876 19,231 26,048 Tax Rate (%) 6.3 11.4 19.6 15.3 14.3 18.2 17.9 20.1 Profit after Tax 19,072 29,772 34,693 38,809 54,882 53,250 88,207 103,834 Change (%) 41.6 56.1 16.5 11.9 41.4-3.0 65.6 17.7 Margin (%) 33 37 31 24 20 19 26 28 Less: Mionrity Interest 913 3855 4863 7375 9488 10049 10850 12300 Reported PAT 18,158 25,917 29,830 31,434 45,394 43,201 77,357 91,534 Adjusted PAT (excl. Ex. Items) 18,158 25,917 29,830 31,434 47,415 43,906 68,563 91,534 Balance Sheet (INR Million) Y/E March 2011 2012 2013 2014 2015 2016E 2017E 2018E Equity Share Capital 1,036 1,036 1,036 2,071 2,406 2,406 2,406 2,406 Total Reserves 93,798 120,628 148,862 183,178 253,826 282,202 342,669 417,313 Net Worth 94,833 121,663 149,897 185,249 256,232 284,608 345,075 419,719 Minority Interest 8,472 11,616 16,351 19,212 28,661 38,710 49,560 61,860 Deferred Liabilities -3652-5199 -7122-9110 -17516-17516 -17516-17516 Total Loans 3,717 2,739 2,072 24,982 77,827 64,585 47,308 34,795 Capital Employed 103,370 130,820 161,197 220,333 345,203 370,386 424,426 498,857 Gross Block 39,128 46,542 56,026 63,886 130,369 175,369 187,369 199,369 Less: Accum. Deprn. 16,794 20,406 24,421 28,904 60,617 71,314 83,493 96,452 Net Fixed Assets 22,334 26,136 31,604 34,982 69,752 104,055 103,876 102,917 Capital WIP 2,355 3,447 5,626 8,415 20,386 22,425 24,667 27,134 Goodwill 10,599 13,378 24,870 33,191 57,073 57,073 57,073 57,073 Investments 22,297 22,129 24,116 27,860 27,163 27,163 27,163 27,163 Curr. Assets 61,146 90,681 113,420 177,393 297,403 297,131 368,412 457,835 Inventory 14,895 20,870 25,778 31,230 56,680 55,873 63,029 65,949 Account Receivables 11,049 19,261 27,108 22,004 53,123 52,289 57,385 62,227 Cash and Bank Balance 22,046 33,672 40,587 75,902 109,980 108,773 157,308 230,771 L & A and Others 13,156 16,878 19,948 48,257 77,619 80,196 90,689 98,887 Curr. Liability & Prov. 15,361 24,950 38,439 61,509 126,574 137,461 156,766 173,266 Account Payables 10,078 14,410 15,752 15,887 59,198 59,979 67,661 70,795 Provisions 5,283 10,541 22,687 45,622 67,376 77,483 89,105 102,471 Net Current Assets 45,785 65,730 74,981 115,884 170,828 159,670 211,646 284,569 Appl. of Funds 103,371 130,820 161,198 220,333 345,203 370,385 424,425 498,856 E: MOSL Estimates 21 December 2015 7

Financials and valuations Ratios Y/E March 2011 2012 2013 2014 2015 2016E 2017E 2018E Reported EPS 7.5 10.8 12.4 13.1 18.9 18.0 32.2 38.0 Adjusted EPS 7.5 10.8 12.4 13.1 19.7 18.2 28.5 38.0 Cash EPS 8.4 12.0 13.8 14.8 23.8 22.4 37.0 43.2 BV/Share 39.4 50.6 62.3 77.0 106.5 118.3 143.4 174.4 DPS 1.5 1.8 2.2 2.6 4.3 5.0 6.0 6.0 Payout (%) 22.1 17.2 17.5 18.7 21.8 26.4 19.1 16.3 Valuation (x) P/E 73.3 63.7 60.5 40.1 43.3 27.7 20.8 P/BV 15.6 12.7 10.3 7.4 6.7 5.5 4.5 EV/Sales 23.1 16.4 11.4 6.7 6.4 5.2 4.6 EV/EBITDA 57.8 37.5 26.3 23.6 22.7 15.9 12.8 Dividend Yield (%) 0.2 0.3 0.3 0.5 0.6 0.8 0.8 Return Ratios (%) RoE 21.0 23.9 22.0 18.8 21.5 16.2 21.8 23.9 RoCE 23.6 30.4 31.5 25.6 25.7 20.5 29.8 31.1 Working Capital Ratios Fixed Asset Turnover (x) 3.2 3.3 3.9 4.8 5.2 3.3 3.2 3.5 Debtor (Days) 70 88 88 50 71 67 62 62 Inventory (Days) 95 95 84 71 76 72 68 66 Working Capital T/O (Days) 151 146 112 91 81 65 59 54 Leverage Ratio Interest Cover Ratio 23.7 103.0 103.1 147.5 11.4 14.0 33.2 59.2 Debt/Equity (x) 0.0 0.0 0.0 0.2 0.3 0.3 0.2 0.1 Cash Flow Statement Y/E March 2011 2012 2013 2014 2015 2016E 2017E 2018E OP/(Loss) bef. Tax 19,534 31,935 43,227 44,083 75,697 73,826 111,238 130,931 Int./Dividends Recd. 3,611 4,856 3,727 6,282 6,069 7,050 10,950 13,450 Direct Taxes Paid -4,048-5,373-10,379-9,010-17,553-11,876-19,231-26,048 (Inc)/Dec in WC -286-8,319-2,336-5,589-20,865 9,952-3,442 540 CF from Operations 18,811 23,099 34,239 35,767 43,348 78,951 99,515 118,874 (inc)/dec in FA -16,500-10,585-22,501-18,580-82,570-47,091-13,813-14,008 Free Cash Flow 2,311 12,515 11,737 17,187-39,223 31,860 85,701 104,866 (Pur)/Sale of Invest. 9,367 169-1,987-3,745 698 0 0 0 CF from investments -7,134-10,416-24,488-22,324-81,872-47,091-13,813-14,008 Change in networth 8,225 5,318 4,334 6,674 37,513-750 0 0 (Inc)/Dec in Debt 2,006-978 -668 22,910 52,845-13,242-17,276-12,513 Interest Paid -739-282 -443-442 -5,790-5,000-3,000-2,000 Dividend Paid -4,213-5,115-6,058-7,270-11,964-14,075-16,890-16,890 CF from Fin. Activity 5,280-1,058-2,835 21,872 72,605-33,067-37,166-31,403 Inc/Dec of Cash 16,957 11,626 6,915 35,315 34,080-1,207 48,535 73,463 Add: Beginning Balance 5,089 22,046 33,672 40,587 75,902 109,980 108,773 157,308 Closing Balance 22,046 33,672 40,587 75,902 109,982 108,774 157,308 230,771 Note: Cashflows do not tally due to acquisition 21 December 2015 8

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