A diversified drugmaker with an edge over rivals

Manufacturers have been plagued by supply chain and quality control issues, leaving many patients around the world without easy access to their prescriptions. Intense price competition, especially in the US, has also driven profit margins down and forced some producers out of the business altogether. 

When you put all of these things together, the generics market doesn’t sound particularly investable. However, there are corners of it that are better protected against shocks and less vulnerable to competition. London-listed Hikma Pharmaceuticals (HIK) occupies one of them.

Carving out a niche

Oral and other non-injectable generic medication generated roughly a third of revenue at Hikma last year. 2023 was particularly lucrative for this part of the business thanks to the launch of an authorised generic (AG) version of the drug Xyrem. Originally developed by Dublin-headquartered Jazz Pharmaceuticals (US:JAZZ), the narcolepsy treatment enjoyed more than two decades of patent protection before Hikma’s copycat came to market in January 2023. 

While another group launched its own AG six months later, this hadn’t impacted market share as of December 2023. According to Jazz, Xyrem AGs have generated sales of more than $200mn thus far, and analysis by broker Liberum suggests Hikma’s drug accounts for the majority of this total. However, the fast-moving nature of the generics business means that the company won’t enjoy an advantage for long. 

Other drugmakers will be able to produce their own Xyrem copycats from 2025, meaning sales of Hikma’s version will inevitably fall. Any drop-off in volumes will also impact margins, as the fixed costs of manufacturing are spread across a lower number of products sold. It’s therefore crucial that the company brings new products into the portfolio to compensate for the earnings trough. 

Hikma doesn't typically make its own version of Big Pharma’s latest blockbuster drug – that tends to be the province of industry giants such as Teva Pharmaceuticals (IL:TEVA). “Hikma’s strategy is to target more niche products, typically with peak sales of $100mn–$200mn,” notes Liberum analyst Seb Jantet.

“A lot of its expertise is in inhaled drugs, which are a lot more complicated to manufacture than a simple pill, because you’ve got to deal with the device issues.” 

By targeting niche medicines with specific production requirements, Hikma should theoretically be shielded from relentless price and volume pressures. The company is also trying to expand its contract manufacturing business, through which it uses its own drugmaking facilities to produce products on behalf of clients. This type of work now accounts for around 10 per cent of revenue in Hikma’s generics business.

A shot in the arm

However, the group's two other businesses – branded and injectables – are what truly offer it some protection from volatility.

The latter makes generic injectable medications for use in hospitals and other medical settings and has long been Hikma’s highest earner. These kinds of products are notoriously tricky to produce, as they require carefully controlled environments and strict adherence to safety procedures to prevent contamination. In other words, there is a very high barrier to entry and Hikma’s experience here gives it a distinct competitive advantage.

Management has guided for full-year revenue growth of 6-8 per cent in this division, as well as robust operating margins of 36-37 per cent. North America has historically been the key market for Hikma’s injectable products and its sales in the region increased by 4 per cent to $808mn in 2023. However, growth there was far slower than in Europe and the Middle East and North Africa (Mena), where sales were up 7 and 10 per cent, respectively. The group is clearly focused on expanding the global reach of its injectables unit, with nearly $100mn of its $169mn of capital expenditure going towards production sites in Algeria and Morocco last year.

Hikma also launched 67 injectables products in Europe last year, compared with 28 in North America and 25 in Mena. Would-be investors should be aware that while an increased presence on this side of the Atlantic may boost top-line figures, other metrics may not move decisively upwards. “The margin will come down over time as you have a larger proportion of revenue that comes from Europe,” Liberum notes.

Higher input costs and pricing pressures have already put the division under some strain and Jantet said earlier this year that margins are now heading towards 35 per cent. This is by no means an existential threat, however. The business is still more profitable than fellow injectables specialists, such as Fresenius Kabi, a branch of German healthcare group Fresenius (DE:FRE), which reported an operating margin of just over 15 per cent in the first quarter.

A question of valuation

Stifel analysts are also expecting to see some growth in the branded division’s core operating margin following Hikma’s positive Q1 update. It was previously thought this number would be broadly flat, but sales of the company’s various treatments for chronic illnesses have proved stronger than anticipated. The unit supplies both patented drugs and branded generics to consumers in the Mena region, where Hikma now claims to be the second-largest pharmaceutical player in sales terms.

Any firm with a significant presence in this part of the world is likely to face questions around its ability to withstand geopolitical unrest. Although it grappled with a handful of major headwinds last year, including the cessation of operations in war-torn Sudan and the devaluation of the Egyptian pound, Hikma’s branded division saw sales growth of 3 per cent. This resilience is due in part to demographic changes in the Mena countries, where fast-growing populations are in need of treatments for long-term health conditions.

“Historically this was a business that focused on antibiotics and acute treatments,” said Stifel analyst Max Herrmann. “Now it’s getting more into oncology products and chronic treatments – and it has grown rapidly as it broadened its product offering.”

While Hikma is unlikely to set pulses racing, therefore, it is far more than a prescription drug manufacturer. It is also a specialist in tricky injectable medicines with a foothold in fast-growing emerging markets.

This varied remit does make it difficult to value the business, however. 

At present, Hikma trades on a forward price/earnings multiple of around 12 times for the current financial year and an EV/Ebitda multiple of around nine times. This is lower than the multiples attached to many of its London-listed pharmaceutical peers, which trade on around 14 times projected earnings, according to FactSet broker consensus. But groups such as AstraZeneca (AZN), with their costly research and development requirements and patent-cliff pressures, aren’t the most logical comparators for a company such as Hikma. 

Conventional drugmakers often see major share price movements on the back of clinical trial data readouts, be they positive or negative. Hikma’s stock, on the other hand, tends to be moved by the group’s financial results. While the generics market can be volatile, therefore, Hikma’s returns tend to be more predictable than those of other pharma groups – and this stability is ultimately what makes it appealing.