Financial Performance of Pharmaceutical Companies 157All firms decreased their debt levels except for DRL. Glaxo, for example, decreased its debt by 45 percent.
DRL, on the other hand, increased its borrowing by 317 percent. In other words, DRL relies more on debt
finance than other firms. Low debt levels result in less financial risk because of lower probability that cash
flows will be inadequate to meet debt service obligations. However, maintaining low debt levels results in
loss of tax shields arising due to interest payments. In addition, managers of such firms can afford to be
complacent because of lack of contractual payments on debt.
As far as profitability is concerned, except for Sun Pharma and DRL all other firms experienced a decline
in profitability as measured by PAT/Sales (percent). The increase in profitability in the case of Sun Pharma
is due to a decrease in interest and Selling and Distribution expenses. Though DRL experienced a decline in
cash flow from operations (unlike other firms) its cash flow from investing increased. The gap between the
two was met by issuing debt. The summary of cash flow from operations, investing and financing activities
for all firms in 2001, is given here:
(Rs crore)
Glaxo Ranbaxy Cipla Sun DRL
Cash flow from operations 212.09 252.16 134.75 50.58 147.68
Cash used in investing activity –8.78 –5.57 64.4 44.76 57.25
Cash from financing activity –25.13 –129.85 4.48 –8.05 –20.07
All firms generate cash flows in excess of that required for investing. Consequently the cash flow from
financing is either low or negative.
As an assignment answer the remaining questions.
Stock Market Performance
One way to test whether your analysis is right is to see the company’s stock market performance. If we
assume that the stock market processes all publicly available information then the stock price of a company
is the best indicator of its performance. Exhibit 7.8 presents the stock price movements of all the companies.
We can see (Exhibit 7.8) that all companies have experienced declines in stock price in the last one year,
which suggests that the market has revised its expectations about the prospects for the industry and the
companies. Sun Pharmaceutical, for example, has experienced an almost 50 percent drop in price. What
explains the valuation of a company? In other words, how do investors figure out whether a stock is a good
buy at a given price? Analysts look at several indicators like P/E, P/BV, P/Cash flow and PEG ratios in
selecting a stock. One commonly used measure of value is the (P/E)/(EPS growth rate) or the PEG ratio.
For whatever reason the P/E ratio of high growth companies equals their compound annual growth rate in
EPS. If we (arbitrarily) assign a PEG ratio of, say, 1.0, multiplying it with the company’s EPS growth rate
gives a theoretical P/E multiple. The P/E multiple can be used to derive a price given the company’s EPS.
Likewise, a company’s PEG ratio may be compared to that of its competitors to see whether the ratio is low
or high. Although there is no theoretical basis, analysts around the world continue to use it.
As an assignment calculate the following ratios: Price per share/Earnings per share, Enterprise value/
EBITDA, Market value of equity/Book value of equity, and Price per share/Cash flow per share. See if there
is a correlation between changes (improvements) in EBITDA margins over a three-year period and the stock
price performance. Use the data (Exhibit 7.9)—the EBITDA margins for the companies during 1997 and
1998—to calculate the same for other years.