This article first appeared in The Edge Financial Daily on June 8, 2018

Pharmaniaga Bhd
(June 7, RM4.05)
Maintain neutral with an unchanged target price (TP) of RM4.20: Despite the recent change in the federal government we understand from Pharmaniaga Bhd that at this juncture, the concession agreement to supply medicines to the health ministry (MoH) is still intact and business is as usual as the company is governed by the MoH’s policies. That said, we do not discount any price revisions on the supplies in the future due to the current financial situation of the government. However, we take comfort in the fact that the government has announced that it will relook into increasing the annual budget allocation to the MoH from the current 4.5% to 6% or 7% as this would potentially mean more business for the local pharmaceutical players.

To recall, under the goods and services tax (GST) system 2,900 drug brands listed in National Essential Medicine List (NEML) were exempted from the GST. This only make up about 25% out of 12,000 drug brands registered in Malaysia with the balance of 75% still subjected to the GST. According to industry players, depending on the quantum, the reintroduction of the sales and services tax (SST) could potentially lead to an increase in the price of medicines. Furthermore, it is yet to be known if the medicines listed under the NEML will continue to be exempted or otherwise.

We are expecting the reintroduction of the SST to have minimal impact on generic drug manufacturers in Malaysia. For the two largest generic drug manufacturers in Malaysia, Pharmaniaga and CCM Duopharma Biotech (CCMD), the largest purchaser of generic drugs (70% of the country’s total medicines) is Malaysia’s MoH. Currently, sales to the MoH make up 90% and up to 60% of Pharmaniaga’s and CCMD’s revenue respectively. Therefore, we opine that the revenue coming from the government will potentially remain intact with a potential increase due to the reintroduction of the SST.

Key risks to our earnings forecasts would be better- or lower-than-expected government concession orders and better-than-expected cost reduction.

All in, we are maintaining our “neutral” recommendation on Pharmaniaga with an unchanged TP of RM4.20. Our TP is derived via pegging our financial year 2019 forecast (FY19F) earnings per share  (EPS) of 29 sen at an unchanged FY19F target price-earnings ratio (PER) of 14.3 times, which is -1 standard deviation lower than the average of its historical five-year rolling PER. We think this is fair, given that we believe procurement of drugs and medical supplies going forward from the MoH will continue to be moderate as it tries to manage the ballooning healthcare costs in the public hospitals.

That said, we take comfort in the fact that both its private sector business as well as Indonesian operation have been contributing well to the group’s overall revenue, which we think will bode well for the company in terms of future earnings contribution. In addition, we take comfort in the fact that the government has announced that it will relook into increasing the annual budget allocation to the MoH as this would potentially mean more business for the local pharmaceutical players. — MIDF Research, June 7