S&P: Jubilant Pharma Ltd. Rated Preliminary 'BB-'; Notes Rated Preliminary 'BB-'; Outlook Stable
The rating on JPL reflects the company's exposure to the highly competitive and regulated generics markets, modest size, and limited product pipeline. Its presence in niche segments, limited competition, fair profitability, limited investment needs, and commitment to deleverage with internal cash flows strengthen its credit profile.
We assess JPL and Jubilant Life Sciences Ingredients as a combined group under parent Jubilant Life Sciences Ltd. (JLL), which has 100% shareholding in both entities. We believe JPL is a core and strategic subsidiary of JLL with a common name and linked reputation. JPL is the key driver for JLL's credit profile as it forms more than 60% of JLL's assets and cash flows; which we expect to further increase over the next two to three years. Shared treasury operations, a similar capital structure, and management's strong long-term commitment to invest further in JPL strengthens the importance of JPL to the JLL group. We equate the rating on JPL with the group credit profile on JLL. Our rating score snapshot reflects the credit assessment for JLL group.
Compared with its peers, JPL's relatively small revenue base and market shares in the key North America market constrain its business position. JPL's product slate is small and pipeline is narrow--in both its solid-dosage and radiopharma business; two key growth and profitability drivers. Its generics business is small with about 25 commercialized products and another 27 awaiting approvals. The company's radiopharma business derives a significant majority of its revenues from three to four products, with one key product pending approval. This exposes the company to the risk of competition and regulatory delays. Declining patent expiries, fierce competition, and price reductions characterize the generics pharma market to which JPL and other generics companies are exposed, requiring ongoing investment in research and development (R&D) and dependence on new product launches.
We believe JPL's good position in niche market segments in active pharmaceutical ingredients (API), and radiopharma segment help partly offset the limitations of size and competition in its generics business. The company's presence in some smaller but less competitive generic segments helps protect its margins. JPL's fast-growing radiopharma business, which has strong EBITDA margins, is targeting a niche segment with limited competition. We expect JPL's EBITDA margins to stabilize in fiscal 2017 and improve in fiscals 2018 and 2019 on the back of new product launches, an improving product mix, and the benefits of operating leverage. JPL faces the challenge of regularly commercializing new and better margin products in the U. S. to derive economies of scale and avoid the earnings volatility it saw in 2015, largely as a result of regulatory action and low capacity utilization.
We expect JPL to maintain its increasing commitment to quality and regulatory compliance; without which its credit quality could materially weaken. The company has resolved warning letters from the U. S. Food and Drug Administration (USFDA) received regarding its two contracted manufacturing facilities in the U. S. The warning impacted production, led to a temporary loss of clients, and resulted in weaker-than-expected financial performance in fiscal 2015. Regulatory vigilance, especially from the USFDA, is strong and we have seen many Indian generics companies suffering from regulatory warnings that impact production, resulting in product recalls and significant litigation and remediation costs. JPL's recent regulatory inspections of its facilities have not resulted in any adverse action.
JLL's life sciences ingredients (LSI) business provides some diversity to JPL's pharma business and we expect it to contribute a third of the group's cash flow. Industry headwinds and operational issues affected this business segment over the last two to three years, but we do not expect this to recur. We expect the LSI business to maintain fair profitability and to have limited investment needs.
We expect revenue growth and improving margins to support JLL's deleveraging and for the group's debt to EBITDA to fall below 3.0x sustainably (from 3.5x in 2016). We expect JPL's radio pharma business to grow meaningfully, with existing products gaining market share and new products contributing incrementally. Radiopharma will likely contribute about half of pharma business cash flows over the next two to three years. Furthermore, continued good margins in the API business and an uptrend in launches of new solid-dosage products will help cash flow growth such that JPL's EBITDA could reach Indian rupee (INR) 12 billion to INR13 billion annually over the period.
In addition, we expect limited capital expenditure (capex) needs and prudent working capital management to sustainably generate free operating cash flows. We also expect JPL to steer clear of material acquisitions (despite ongoing industry consolidation to pursue growth) and deliver on its commitment to deleverage. We also see its capex needs moderating as the company focuses on improving utilization of existing capacity.
The stable outlook on JPL indicates our expectations that the company will continue to receive product approvals at a healthy rate and commercialize them (especially radiopharma products) over the next 12 months. We expect JLL to continue to generate positive FOCF and manage prudently its working capital and investments to help deleverage, such that its debt-to-EBITDA ratio sustainably approaches 3.0x over the next 12-18 months. We expect the company's liquidity to remain adequate over this period.
We may lower the rating on JPL if revenue growth lags our expectation due to slower new product approvals or lower revenue from such products. We may also lower the rating if we see working capital needs, capex, acquisitions, or shareholder remuneration divert cash flow away from the stated purpose of debt reduction such that the currently expected leverage profile appears unattainable. A debt-to-EBITDA ratio remaining above 3.5x at JLL will be a downgrade trigger. We could also lower the rating if the company's liquidity turns less than adequate due to its material dependence on short-term debt.
We may raise the rating, although this is unlikely over the next 12-18 months, if: (1) JPL's business profile improves materially as reflected in its revenue, products, and cash flow; (2) cash flow from revenue growth help JLL deleverage, such that its debt-to-EBITDA ratio is sustainably below 2.5x and its ratio of FOCF to debt improves to 15%; and (3) management adheres to a leverage profile and prudently manages growth investments or shareholder returns needed to maintain adequate liquidity.