Pharmaceutical sector- achieving an edge by managing risk

The last couple of years the market has been gung-ho about all the sales growth coming from pharma company exports to USA. In fact any company that had low share of sales to the US market had a dramatically different (lower) valuation band compared to the companies with greater presence there (USA). In spite of the greater earnings stability of the former (low US market share companies) from a regulatory perspective. In addition:

·         Retail pharmacy chains are far more consolidated (with a few large players making up majority of the market) in USA, than anywhere else in the world, hence you are playing a lowest cost game with group of large and knowledgeable buyers.

·         The consolidated nature of retail pharmacy chains, in a way also reduces barriers to entry.

·         Unless of course a company has  a first to file which gives it six months of selling exclusivity and some head start in the market as a brand. Even then there are always USFDA data or manufacturing audits that can upset the apple cart, when the company is rushing to be the first and could make some mistakes(i.e  inadvertently take short cuts) .

In face of such clear risks, buying the most popular pharma growth story, comes with its risk ,as the stock of one of largest market cap company’s clearly showed with a correction of  almost 30% ) from the top of March 2014 to now (due various concerns like a possible growth slowdown and a rare special audit ordered by the USFDA). Another large cap company in the sector similarly had its stock fall 21% in one month on adverse USFDA observations.  Factoring these business risks appropriately, depending on the company under consideration, therefore buying only when there is a margin of safety tends to protect downsides, and puts you and your portfolio in a favourable situation with respect to returns in a business cycle  of 5-7 years.

Dinesh da Costa, CFA

www.zarainvestmentadvisory.in

Please note information given above is not a recommendation to invest, but an educational illustration.

Please leave your comments by emailing at dineshd@zarainvestmentadvisory.in  or if you have a Google account by clicking on the link below                 

Risk management is paramount

Approximately a year and a half back a few of us fund manager friends were sitting around discussing our portfolios over tea, of which I wanted to highlight a particular interaction. We happened to talk about the software sector and one of us remarked upon my portfolio namely the extra-large holding of a stock we can call “I”. One top performing fund manager immediately compared it to other large capitalisation stocks in the sector, saying it was a non-performer for many years and that the management had no clue what it was doing. He further added it was preferable to buy a stock; we shall call “T” as its management was more aggressive and seemed to know what it was doing. After trying to explain, on his insisting of the rightness of his point, I kept my silence.

Forward to today the stock “I” has become the new darling of the market having returned almost 50% in the time period, while the stock “T” returned approximately 12%. The point I am making is, at a price, risk is minimal in a stock. A particular stock may also do better than another in the short term purely because it has a higher risk model which is currently delivering growth, but such growth may be at high risk, as we have seen with the US FDA notices to many popular Indian pharmaceutical companies. What makes you money is not whether the company is good, bad or ugly, but whether the price you buy it at, gives you a margin of safety, considering the present business model and its risk. Therefore exposing your portfolio to unnecessary risks in pursuit of returns, will most likely not deliver reasonable returns in a 5 to 7 year horizon.

Dinesh da Costa, CFA

Please note the information given above is not a recommendation to invest, but an educational illustration.
www.zarainvestmentadvisory.in

Please leave your comments by emailing at dineshd@zarainvestmentadvisory.in  or if you have a Google account by clicking on the link below             

How it will be?

I write this first short blog to temper your expectations of what to expect from the posts. Zara will post on high finance (Global & India), general views on markets, whatever adds to quality of life and enriches it i.e book summaries, links to intelligent thought( as we define it). It’s going to be about education and wealth creation (money, mind and body).That’s what Zara Investment Advisory stands for.

Here's wishing you a great year

Dinesh da Costa, CFA  

Zara Investment Advisory

www.zarainvestmentadvisory.in