Event update: SUN Pharma (Neutral) - Initiates measures to address investor concerns

Event

Sun Pharma has initiated measures to address investor concerns on certain governance related issues. This is in line with the announcements made by the company in the Dec 3, 2018 conference call

Key highlights

• Domestic formulations distribution to be transitioned from Aditya Medisales (AM) to a wholly owned subsidiary of Sun. This change to be effective from Q1FY20 onwards. Notably, AM has been the distributor for Sun’s domestic business for several years now but it had been classified as a related party only from FY18 onwards. This move should help to assuage these concerns
• Unwinding of the ~$345m “loan and advance” due to Atlas Global Trading (Atlas) to be undertaken in FY19 itself. Notably, this loan and advance item appeared in the balance sheet in FY18 and this has been one of the key investor concerns. The company has now decided to opt out of this arrangement with Atlas. The assets / liabilities associated with this transaction will be transferred to one of Sun’s subsidiaries. Therefore, this loan / advance will get eliminated along with the corresponding provision for drug supply carried in the book
• Initiated steps to induct S R B C & CO LLP, its statutory auditors, as auditors of subsidiaries that are currently audited by Valia & Timbadia.
• Matter pertaining to Loans or Guarantees to Suraksha Realty. The company has stated unequivocally that it does not have any financial transactions with Suraksha Realty. It has not provided any loans or guarantees to Suraksha Realty

Valuations & view

These developments, while on expected lines, are positive for Sun Pharma. While the uncertainty around the contents of the whistleblower complaint regards Sun Pharma promoter group’s broader business dealings and its potential impact on Sun Pharma will likely continue to linger till the regulator rules on the same, these measures should help to assuage key concerns on issues directly impacting the listed entity. These positive developments, not withstanding, we believe Sun will need to undertake more efforts to enhance the transparency / disclosure of its business practices to regain investor confidence. On the business front, while Sun’s medium-term growth story is exciting, at 17x FY21E earnings, we see limited upsides given the volatility in its base business along with significant growth uncertainties inherent in any early stage speciality business. Maintain Neutral rating. Newsflow on whistle-blower issues along with pick-up in key speciality assets will be the key monitorable going forward.