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Turnaround story in the making; Upgrade to OW

New skin, new strategy. Reliance on third party pharma distributors, new product launches, a growing export base, and headcount reduction are the key pillars aimed by EIPICO’s newly appointed Chairman & MD (effective Jan-19), to revive profitability. 1Q19 was a testament to new management’s execution power, which saw local sales surge 29% vs. 24% for the market. We upgrade to Overweight from Neutral, with a revised TP of EGP110/share (+17%), stemming from c14% higher EBITDA p.a. over 2019-23e, on anticipated sales recovery (3yr CAGR of c20%). With 2019e P/E of 12x, EIPICO trades below peers’ 19x and MENA healthcare plays’ 22x.

Time to capitalise on market dynamics. We expect the retail pharma market (EIPICO’s main market, 90% of local sales) to grow at a 2019-21e CAGR of 21%, 9% of which is volume driven and the balance on pricing. EIPICO’s growing reliance on third party distributors (c50% of sales in 1Q19 vs. c15% previously) should extend its reach to new untapped areas, and incentivise sales reps, in our view. We expect EIPICO to outgrow the market, assuming a 2019-21e local sales CAGR of 23%, as it gradually regains lost market share. Unrest in EIPICO’s key export markets (Iraq, Sudan, Saudi) will yield milder export growth of 8% over 2019-21e, in our view.

Cost optimisation is focal. Management aims to trim the headcount to c5k employees in FY19 from 5.3k in FY18, seeking more efficient utilisation of resources (optimum need is 4k). We believe this will drive labour bill to grow by a moderate 13% in FY19e vs. our expectation of wage inflation of 18% (wages are c21% of cash cost). Reliance on third party distributors will accelerate growth and deliver economies of scale. However, higher distribution costs (distributors charge c8% of end-retail price) will pressure margins in 2019, yielding GPM of 47.9% (-100bps), and EBITDA margin of 30.8% (-60bps). We look for normalised RoE of 33% and EBITDA margin of 32.5% (vs. the historical run rate of c37%), by 2023e.

Mulling horizontal integration. Current facilities are running at one shift, implying limited capex needs to grow capacity for ongoing business. A new biosimilar drugs plant is under consideration by EIPICO (market size is estimated at EGP4bn, mostly imported products). Estimated capex stands at EG1bn, with sources of funding still being considered. We do not include the new plant in our model, pending clarity on execution. Managing balance sheet and rising competition are our key concerns.