Divi's Laboratories Ltd

NSE:DIVISLAB

Earnings Call Transcript 2021-Q3

[Operator]

Ladies and gentlemen, good day and welcome to Earnings Conference Call of Divi's Laboratories Limited Q3 of Financial Year 2021.[Operator Instructions] Please note that this conference is being recorded.I now hand the conference over to Mr. M. Satish Choudhury.Thank you. And over to you, sir.

[M. Satish Choudhury, Company Secretary & Compliance Officer]

Good afternoon to all of you. I'm Satish Choudhury, Company Secretary and Chief Investor Relations Officer of Divi's Laboratories Limited. I welcome you all to the earnings call of the company for the quarter ended 31st December 2020.From Divi's labs, we have with us today Dr. Murali K. Divi, Managing Director; Ms. Nilima Motaparti, Whole-time Director, Commercial; Mr. L. Kishore Babu, Chief Financial Officer; and Mr. Venkatesa Perumallu, General Manager, Finance and Accounts.During the day, our Board has approved results for the quarter, and we have released the same to the stock exchanges as well as updated the same in our website. Please note that this conference call is being recorded and a transcript of the same will be made available on the website of the company. Please also note that the audio of the conference call is the copyright material of Divi's Laboratories Limited; and cannot be copied, rebroadcasted or attributed in press or media without specific and written consent of the company.Let me draw your attention to the fact that on this call our discussion will include certain forward-looking statements, which are predictions, projections or other estimates about future events. The estimates reflect management's current expectations of the future performance of the company. Please note that these estimates involve several risks and uncertainties that could cause our actual results to differ materially from what is expressed or implied. Divi's labs or its officials does not undertake any obligation to update publicly any forward-looking statements whether as a result of future events or otherwise.Now I hand over the conference to Dr. Murali K. Divi, Managing Director of the company, for opening remarks. Over to you, sir.

[Murali Krishna Prasad Divi, Managing Director & Director]

Good afternoon to all of you. I welcome you all for the earnings call of Divi's Laboratories. I hope that all of you and your families are safe and well during this still existent pandemic.We all must be proud that India is producing vaccines for COVID-19 and vaccination program is under progress. Let us hope for buildup of antibodies and thereby benefiting the population. Though vaccination is under progress, we still need a prophylactic or a drug that can be used to stop virus or reduce viral load. 2,500 crores of CapEx have been implemented since 2018, and we have seen growth and should see further improvements in sales in the near future. The new major fast-track ] consumptions ] of this project is proceeding very well. One stream has already just started production and additional streams are under completion. Apart from this, we are also venturing in a big way into contrast media APIs.Over the last few months, we have completed the validations of several active pharmaceutical ingredients in both the generic and custom synthesis side of the business. The new molecules we have developed on the generic side of the business, we believe we have an edge in the technology, lower raw material costs and high purity of the product. We have started several initiatives in our research activities. One initiative of particular interest is our drive towards green chemistry. We are a group of dedicated scientists at both these facilities who are revisiting the chemistry of our existing products to see possibilities of process efficiency and improve the and lowering the costs. The end goal is to minimize waste, maximize profits and move towards greener chemistry.Now I ask Nilima to brief on operations. Thank you.

[Nilima Motaparti, Whole]

Hello. And welcome, everyone, to Divi's labs earning call to discuss the unaudited results for the third quarter ended 31st December 2020. I hope that all of you and your families are safe and well during this still existent period. We appreciate you joining us today on this call to discuss Divi's Q3 performance.Firstly, I would like to summarize the current COVID situation in India and impact of it from a global perspective. 1 year of pandemic and I must say we still have been facing the effects of it on a daily basis. However, most of us have adjusted to the new normal and figured out emerging solutions to carry out our daily lives and business, as it is unpredictable of what the future shall hold. Nevertheless, there has been a decline in the number of COVID cases in India over the past few weeks, and we can hope that the pandemic may be on its last leg. And it might not witness a second wave, something that other countries have been grappling with. As a result of the second wave in a few countries, there have been travel restrictions and lockdowns in few parts of Europe. Container shortages, blank sailing, lockdown in Hubei and a few parts of Northern China have impacted in disruption of supply chain and thus affecting the logistic management, leading to [ really delays ], congestion and higher freight rates across the globe. While the impacts of these have been minimal on our business, we only hope that, with the ongoing COVID-19 vaccination drive and certain promising molecules on the horizon, the world may return back to normalcy, enabling normal business travel.Speaking at an organizational level. Ever since the outbreak of the COVID, our main focus has been on the health and safety of our employees. And we are ever grateful and continue to applaud our employees' dedication and persuasion during these uncertain times. In addition to the safety of our employees, our focus was always in streamlining our operations, maintaining the steady supply chain and focused execution of strategic investments, which has enabled us to continue uninterrupted supply of APIs to the global market.Moving on to our Q3 FY 2021 financials.On operations, I'm happy to state that we have achieved a consolidated total income of INR 1,721 crores during the quarter, reflecting a growth of 20% over the corresponding quarter of previous year. Profit before tax for the quarter amounted to INR 642 crores, a growth of 32%. We earned a profit after tax INR of 471 crores during the quarter, reflecting a growth of 31% year-on-year.Staff costs for the quarter includes an incentive of INR 34 crores paid to the employees in appreciation of their relentless work during the COVID-19 pandemic. We have capitalized assets of INR 1,011 crores for the 9 months period, of which capitalization this quarter have been INR 181 crores.As of the end of the current period, we have cash on book, INR 2,064 crores; receivables, 1,499 crores; and inventories, 9,915 crores.Rupee has been quite volatile for the last 9 months. We have a ForEx gain of INR 2.5 crores for the quarter and a ForEx loss of INR 8 crores for the 9 months period.Exports for the quarter accounted to 85%. We continue to have normal business distribution across regions. Europe and U.S.A. accounted to 68% of our revenue. There has been a modest increase in domestic sales, which accounted to 15% for this quarter. Product mix for generics to custom synthesis is 60% and 40% of the revenue, respectively.Constant currency growth for the quarter have been 11%, and 22% for 9 months period. Our nutraceutical business for the quarter amounted to INR 145 crores, and INR 439 crores for the 9 months period.

[M. Satish Choudhury, Company Secretary & Compliance Officer]

Thank you, madam. With this, we would request the moderator to open the lines for Q&A.

[Operator]

[Operator Instructions] First question is from the line of Damayanti Kerai from HSBC Securities.

[Damayanti Kerai, Analyst, Healthcare and Hospitals]

Sir, can you a bit elaborate more on your new venture into contrast media API, where you just mentioned some projects are already validated? So how soon you can start commercialization of some of these products.

[Murali Krishna Prasad Divi, Managing Director & Director]

We are [ offering the ] contrast media iopamidol. We have been producing for the last several years. And with the opportunities in the other contrast medias and getting into the scale, the possibility is that we could be thousands of tonnes of these materials. The advantage once you go into the large-scale league is that the iodine can be purchased with the right price. iodine can be totally recycled. And iodine can be efficiently used because, the contrast media, the majority of the costs is iodine. So in a small-scale manufacturer or a medium-scale manufacturer, it's difficult to recover the iodine from the organic to the inorganic stage. We were able to do that with -- and achieving the engineering to commercially recall all of our iodines that is going into the waste streams so that our costs will be minimal. We achieved that in the iopamidol, the same thing now we are -- we have started implementing in the other contrast media compounds. And we are confident that we should be able to get a reasonably good size of the market with the advantages of new technology of recovering iodine, with the benefits of already having experience of making the contrast media. And there are very few players in the contrast media in the world.

[Damayanti Kerai, Analyst, Healthcare and Hospitals]

That's helpful. So my second question is on progress in, Kakinada. A few weeks back, we heard about some local disturbances. So how has been progress there?

[Murali Krishna Prasad Divi, Managing Director & Director]

I think you are aware that we have received all the required statutory approvals for starting Kakinada, Unit-III. During our initial startup of work, there have been some concerns raised by the hatchery association. Though these concerns have already been addressed during our public hearings, there still seems to be some apprehension about what Divi's labs means. Presently, the government of Andhra Pradesh has put in a committee, and the state pollution control board is in discussions with them to address their concerns. We believe these will be resolved very shortly and we'll continue our work.

[Damayanti Kerai, Analyst, Healthcare and Hospitals]

Okay. Sir, so broadly, once we get update here, the construction and other updates should continue normally because all other approvals are in place, right?

[Murali Krishna Prasad Divi, Managing Director & Director]

That's correct, but what I would like to here say is that we are not losing any business because of the delay, what happened in Kakinada. As you know, the Unit-I and Unit-II are on 500 acres each, and we still have plenty of plans and clearances to grow. We're also -- keeping all this in mind, we have also built additional production blocks also to cater to this requirements of new businesses. So it is -- so we are not losing business. At the same time [indiscernible] the company is clear that we will start production -- sorry, construction.

[Operator]

[Operator Instructions] And the next question is from the line of [ Cyndrella Thomas Carvalho ] from Centrum Broking Limited.

[Cyndrella Carvalho, Analyst of Pharmaceuticals]

Congratulations on good set of numbers. Sir, if you could help us understand the gross margin improvement in a little granularity level will be very helpful.

[Murali Krishna Prasad Divi, Managing Director & Director]

Thank you for your comment. I think it's not the volume mass. It is the quality of the mass is the most important thing. I think what it means is that how good is the process, how profitability is the business. I think that's what it matters. While we are building the volumes, while we are expanding our capacity, it is very important that we do improve margins and not compromise on the margins. Now how did we achieve this lower material cost and higher margins? It's not an overnight situation. It is the introduction of new technologies, new designs of equipment by our engineering department and backward integrations of our [ world ] generic compounds and processing -- continuous process improvement. This is a combination of all these. And at every opportunity -- though we make sure that what improvements can be done in making more margins and minimizing waste and achieving more products. I think this is always the focus right from planning, designing, the research and execution. This is the results you are seeing, that in the API industry across we have been looked at differently that the margins are different. And I think, going forward, we are quite confident that we should be able to maintain good margins.

[Cyndrella Carvalho, Analyst of Pharmaceuticals]

That's very helpful, sir, and very elaborative. Sir, just coming back to our recent CapEx. How should we look at the current utilization of the recent brownfields that we have already commercialized to an extent? And what was the approximate entire contribution this quarter?

[Murali Krishna Prasad Divi, Managing Director & Director]

The investment. I think, if we look back, we started investing heavily from 2019. If you take 2018/'19, our sales was about 5,000 crores and our PBT was 1,800 crores. Our tax was about 1,300 crores. So we started investing from then. In 2019, we invested about [ 876 crores ]. In the last 9 months, we capitalized [ at about ] INR 1,000 crores. And we'll be completing the remaining 500 crores, 600 crores soon. As in all these -- or some of them are for debottlenecking. Some of them are for [indiscernible]. It should be assurance of supply. Some are for introducing new technologies. Some are for making our own intermediates. Now not only we are free from supply threats from China. It's also resulted in -- as I said, on the normal cost savings.Now we already achieved then the good margins. Now you have seen this in 9 quarters -- 3 quarters, 9 months. We already achieved INR 5,100 crores. [ What otherwise ], it was a full year of income. And INR 1,975 crores of PBT and INR 1,467 crores of PAT. This is for the 9 months and you can extrapolate to see the growth. And this is just the beginning of the growth. And I think, in the coming quarter, the last quarter of this year, as well as when the -- from the first quarter of the next year onwards, you will see the growth come because it does take time, yes. We did qualify several generic APIs which have a lot of opportunity. We have one set of good generic APIs with -- starting from naproxen, dextromethorphan, gabapentin, all these compounds where we became leaders in the market. Now we have selected [ the next big 10 ] generic products, just became generic, are becoming generic; and that is where we completed qualification of some of them and are waiting for approvals to take the market.

[Operator]

The next question is from the line of Prakash Agarwal from Axis Capital.

[Prakash Agarwal, Executive Director of Pharmaceuticals]

Sir, I joined the call a little late, apologies, but I just wanted to understand the sustainability of the gross margins and the EBITDA margins, as these are the new normal, like 41%-plus and at the EBITDA level. And will these -- I mean in a couple of quarters we have seen that given the volume and the margin tailwinds. So are these sustainable over 1, 2 years, 3 years time frame given there is a significant amount of investments? So the volume is visible, but on the margin front, if you could just help understand the sustainability at these levels of gross margin and EBITDA margin, sir.

[Murali Krishna Prasad Divi, Managing Director & Director]

I am more confident on the margin than the of sales, the reason being we are technology people, technology -- and the company is technology-driven company. So we are winning all these margins based on the technological improvements we have made to the process and completing them. It's not just enough to develop a laboratory process or designing a laboratory process. It is very important to translate that into the designs of the equipment in the plants and the installation and making sure that any [ teething ] troubles are removed during the production process. This is where [ we're exposed ]. We have people experts for the last 20 years. This is where the retaining the employees is important. We are able to retain more than a few thousand employees for the last 10, 15, 20 years. As a result, we see always everybody striving towards how to bring down the costs. That's one target always. So these dedicated employees drive the costs down, and I am very confident personally that we should be able to maintain the margins in spite of last quarter's CapEx; in spite of introducing a number of products, both generics and also in the custom synthesis. And I think we have good days ahead of us.

[Prakash Agarwal, Executive Director of Pharmaceuticals]

Very helpful. Secondly, sir, on the CapEx journey we started 1.5 years back of INR 18 billion, how much of that has been achieved? And then we also had announced the new round of CapEx, so where we are in that as well, if there is a CapEx update, sir.

[Murali Krishna Prasad Divi, Managing Director & Director]

The new round of CapEx, I have not discussed till now. The CapEx I've talked about is the CapEx plan since 2018. And there's '19 and '20, until now up till March. Now the investments made, the -- there is, first of all, debottlenecking. Or it is for assurance of supplies, backwards integration. They're all complete. And there will be -- quite some of them have been qualified already yielding capacities and improved sales. And several more are yet to happen because we are waiting for the clearances of the agencies, whether it's U.S. FDA or Europe, because some of them are involved with changes in the process which we need a clearance. The scale of clearance is not an issue, but if you want a higher yield, if you want some conditions to the changed, the clearance needs to come, which will come very soon.Now talking about the 400 crores of investments. The fast-track projects I have mentioned last time which came all of a sudden as opportunities, they're extremely -- getting completed. This is what I said in my starting remarks, that 1 of the stream already is [ we've built into the ] production, 400 crores of investments. And a few other -- 2 other streams are yet to be commissioned. And the other products investment is happening, and the production will start somewhere in the first half of the next year.

[Prakash Agarwal, Executive Director of Pharmaceuticals]

Okay, perfect. And lastly, custom versus generic, sir, what has been the percentage for the quarter and likely to be for next year?

[Nilima Motaparti, Whole]

Can you repeat your question again, please?

[Prakash Agarwal, Executive Director of Pharmaceuticals]

So normally we give a breakup of the custom synthesis business and generics. What was for the quarter? And how is it likely to be next year?

[Nilima Motaparti, Whole]

It's about 60% to 40%. So the generics to custom synthesis. And...

[Prakash Agarwal, Executive Director of Pharmaceuticals]

60%, 40%, you said.

[Murali Krishna Prasad Divi, Managing Director & Director]

What -- it varies [ between -- I'll say, just in case: It is ] 40%, 60%. It could be generics. It could be custom synthesis. I think, in this particular quarter, the generic seems to have taken a lead compared to the custom synthesis. You may [ want to analyze ], "There is more custom synthesis. That's why there is more margin," but I'm sorry to say that it's the reverse in we had a higher generic. And the profit margins are also higher. I don't think we can link it back to a -- really.

[Prakash Agarwal, Executive Director of Pharmaceuticals]

Understood, but what was the percentage? Since we give it every quarter. If you can share that number.

[Murali Krishna Prasad Divi, Managing Director & Director]

I think, as Nilima said, it's about 60% generic and 40% custom synthesis.

[Operator]

The next question is from the line of Girish from Bank of America.

[Girish Bakhru, VP in Equity Research & Research Analyst]

Dr. Divi, just on the carotenoids business. I think it's been growing pretty well and almost reaching 10% of the top line. If you could give some color on what's the overall market share now the company has in the overall market. And is the mix similar to like generics, in carotenoids, where 68% is from Europe and U.S.?

[Murali Krishna Prasad Divi, Managing Director & Director]

The carotenoid business, more than 95% is Europe and U.S. We don't have -- we have very little business in India. And the market for nutraceuticals in this carotenoid is still -- is about [ 1 billion ]. It's still growing. More -- we have been qualified by majority of the customers and [ customer in the feed ] business of the salmon and other fish industry. And in the nutraceuticals, so the human, it just starts -- the business got just started. We are looking the current business is about 600 crores on an annual basis. And we have just expanded 100% in capacity. This is part of the expansion we have taken up 1 year ago, and we are geared up to produce 100% more than what we are doing. This is based on the business we can foresee.

[Girish Bakhru, VP in Equity Research & Research Analyst]

And just to add on that, if you can you give some color on whether the margins in nutraceuticals would be almost like generics business.

[Murali Krishna Prasad Divi, Managing Director & Director]

The margins are -- I think, will be just about the same and the -- because the business is distributed into 3 companies still, the DSM, the BASF and Divi's. That is where the majority of the business is. And looking at the competition today, if any one of them drops, that's the prices are going to be sky high, but we are happy with where we are. And the margins are similar because we are very unique compared to the other 2 manufacturers, that everything is integrated. For them, the API is made somewhere. It is sent to another country for making the beadlets, then it is sent for consumption somewhere. Here everything is happening at Unit-II under one roof. The API is produced where the beadlets are produced and exported. This gives an advantage to contain the costs.

[Girish Bakhru, VP in Equity Research & Research Analyst]

That is very helpful. And just the second question was on the contract (sic) [ contrast ] media market. Overall, do you have a number how big the market will be? And how many products are you, let's say, envisaging to do? And if you could also give some color on competitive landscape there.

[Murali Krishna Prasad Divi, Managing Director & Director]

The contrast media is about anywhere between a $4 billion to $6 billion business because nowadays, with the affordability, every day, you are seeing people in queues, having the contrast being done for one thing or the other. Common public are able to go in, and they are able to afford. So the consumption of the contrast media has increased tremendously in the last 2 years or 3 years. And it's a question of till now there are only very few companies survived in this industry because, number one, iodine dependency; number two, how somebody can recover the iodine and reuse. Otherwise, the -- this is not viable. This is where we have broken that [ hype ], and we think we are going to play a major player. We will be the major player in it.

[Operator]

[Operator Instructions] The next question is from the line of [ Santan ] from Pinebridge Investments.

[Unknown Analyst]

Congratulations on a great set of results. If you could just elaborate on your plans on green chemistry. And if you can just give us some idea as to where we are and what are our goals in terms of slightly more detail as to how we expect to get more from our processes and reduce our wastages. If you can give some [ new ] quantitative data on these, it will be helpful.

[Murali Krishna Prasad Divi, Managing Director & Director]

Excuse me. I missed the first sentence. Can you please repeat?

[Unknown Analyst]

Yes, sir. So I heard your comments on green chemistry and I understand we are very efficient, so I just wanted some further details, I mean, in terms of what we are doing in terms of green chemistry. And what are our goals in this area?

[Murali Krishna Prasad Divi, Managing Director & Director]

Okay.

[Unknown Analyst]

Or what is the potential we expect to see?

[Murali Krishna Prasad Divi, Managing Director & Director]

Yes, yes, yes. Green chemistry involves conserving materials that can neither be created nor destroyed because they're limited. So once we say that -- now we keep consuming. The [ raison d'etre is different ]. That's why the prices keep going up. So what we are doing here is that developing some efficient technologies. That means, if there is a mass, if there is a 10 kilograms mass, we will make sure that our wastage is minimal. And all -- the materials we had to make a product, majority of it goes to creation of that, not that we live with 50% yields and losing some 50% into the waste streams without recovery. First, our conversions should be higher, 70%, 80%, 90%; and the remaining, we should be able to recover, recycle, reuse. So with these new technologies, it is possible that we should be able to work on atom chemistry and be highly efficient. And this is possible only when no critical mass. If we just are producing 500 tonnes of naproxen or [ 50 to 30 ] tonnes of dextromethorphan, 200 tonnes of gabapentin, it's not possible, but with -- at the scale we operate, it is possible to make investments of hundreds of crores to make sure that our yields are the highest. Our recoveries are the highest. Our wastes are least. And the chemistry is becoming more and more greener by converting less energy, conserving -- less solvents, less emissions, less wastage to the treatment plants. This is what it will become more and more green.

[Operator]

And the next question is from the line of Shyam Srinivas (sic) [ Shyam Srinivasan ] from Goldman Sachs.

[Shyam Srinivasan, Equity Analyst]

I'm just looking at the generic API business. I'm removing, say, custom as well as the nutraceutical number that were shared. So that's about 51% of the total business, has seen good growth at the first 2 quarters, Dr. Divi said, but we have started seeing it slow down. And I'm just trying to understand from some of the other competitors that probably the demand that we saw in the first half of this year or even the 9 months is probably starting to plateau or maybe fall. So what are you seeing from a generic API maybe even a competitive standpoint? We are hearing that at least trade data seems to be showing that Chinese API exports are also picking up tremendously. So just your thoughts on the generic API, please.

[Murali Krishna Prasad Divi, Managing Director & Director]

The -- I understand what you are saying, that when you say generic APIs, it's a vast area. Are we talking about antivirals? Are we talking about pain killers? Are we talking about antibiotics? Are we talking about fermentation products? So the products where China is quite strong, in antibiotics, in fermentation, in some of the antivirals and others, yes, probably the completion is happening. And when China comes back, probably there will be pricing pressures as well as competition pressures, but we are in products where we have been the leaders prior to the COVID. And since then, we expanded. Since then, we have made our processes more efficient, cost efficient, quality -- higher quality and with all regulatory. So we have not -- and also we have transcended further by going backward integration to make sure that we are not being dictated by anybody about supply of the material either on the increasing costs or as a shortage.So we don't foresee at least in the near future, and that's about in the next 2, 3 years or next 4 years, any issue at all to our generic business because of 2 reasons. One, it's not that easy to create the capacities, huge capacities, we have in generic -- our products; for somebody to invest and get into production, number one. Two, even if somebody does, it takes 3, 4 years to get the approvals from the big -- from the regulatory authorities. That will take time. So somebody has to make a large investment; wait for 2, 3 years after completing the plants for the sales, so somebody should have the staying power of 3 to 5 years after borrowing money. The good thing for us is we don't borrow money. We use our reserves wisely, and this is where we are more efficient. And we are continuously investing into the process development to make sure our pencils are sharp.

[Shyam Srinivasan, Equity Analyst]

Got it, sir, very helpful. My second question is in your opening remarks you've talked about the next 10 molecules that you are targeting. So the concern probably is that maybe the mature molecules are now slowing down. Like you disclosed top 5 is, what, about 45% of revenues in your annual report. Sir, is there comfort that the next 10 molecules can slowly replace or offset some of the slower growth that comes from the top molecules?

[Murali Krishna Prasad Divi, Managing Director & Director]

I do not think so. I don't think so, the reason being that, once patients are used to, let's say, ibuprofen, they come -- they continue to use ibuprofen. Though we are complete in ibuprofen -- and by the way, we increased our capacities like 5,000 tonnes, but ibuprofen demand did not go down. It's still 15,000, 20,000 tonnes; and still growing. So I think, when a new product comes, you still have some advantage of either in some therapeutic additional advantage, but the original traditional generic API which was useful for the last 20 years is not going to disappear. Now they're all still growing because these are going to be very, very safe. So they are still growing. We have seen that in all of our generics. Now the new generics or recent generics or the future generics with the large volumes, there are not many. There are, let's say, about 10 of them. Some of them, yes, 1 or 2 of them, are in the same therapy segments where we already have a generic product, but this is a little specialized, yes. It's the difference between having oxygen monitor or oxygen -- [ you do a nose box and incubator ]. People needing incubators, they have to go to the incubator. People just needing oxygen support, they need that.So in generic, again, what we are looking at is that -- the spotlighted products with volumes which are similar to our generic compounds. I think this is where we have Mr. Kiran Divi, the CEO, has chosen. There's a personal interest and -- how we have targeted them. And we developed the process, qualified the process for several of them. And they are under regulatory submissions. And we should see the growth in the coming years along with our generic products growth.

[Operator]

And the next question is from the line of Alankar from Macquarie.

[Alankar Garude, Analyst]

Sir, congrats on the strong performance. Sir, firstly, broadly how has pricing for your API portfolio, generic API portfolio, moved in the last 1 year? And what are your expectations going forward?

[Murali Krishna Prasad Divi, Managing Director & Director]

Pardon...

[Alankar Garude, Analyst]

Sir, my question is broadly how has pricing for our generic API portfolio moved in the last 1 year? And what are your expectations going forward?

[Murali Krishna Prasad Divi, Managing Director & Director]

I think it's 2-way things that's happening. In general, what I can -- in general, up-and-downs, it keeps happening, some of the generics. The demand is about the same. I think it all depends upon some shortage of raw materials at some place, some certain requirements elsewhere, improper planning. That fluctuation will be there, but because given in the -- not only big pharma the generic -- majority of our customers is long-term long contracts. It's not spot business where you try to sell 10 tonnes somewhere at a high price or 5 tonnes at -- disposing at a lower price. That's not our business model. Our model has been that we are [ dependent ] supplier and big -- assured to -- our customers. So the customers find long-term, very long-term, contracts, whereby I think we are not afraid of the fluctuations of pricing.

[Alankar Garude, Analyst]

Fair enough, sir. And my second question is traditionally we have been very strong in high-tonnage products, but over the years, gradually, slowly and steadily we are seeing the tonnage requirements for new molecules coming down. So for the custom synthesis business, do you see this as a very long-term risk? And is there any need to tweak our business model in the future?

[Murali Krishna Prasad Divi, Managing Director & Director]

Well, I don't think we need to change our business model, number one. Two, the reason is that, when we entered into this business 25 years ago, most of the big pharmas had more than -- 3 to 5 manufacturing sites for APIs in different countries. Today, most of don't -- most of them do not have even a single API manufacturing unit. Yes, you are right. When we entered, every big pharma must hit, coming out with several APIs, at least 3, 4, 5, every year with decent volumes from their discovery bag. Now there are more small-volume products coming out and the larger-volume products are [ 1 or 2 ]. Yes, there is a reduction, but you also cannot find too many API manufacturing sites which can accommodate such large volume requirements of equipment. This is where we are very uniquely positioned, that they also don't have much choice to go than to go to your preferred supplier like Divi's having a relationship for 20, 25 years; and on-time supply; all the time, quality maintained; and decent priced. I think this is where the strength still is. Yes, we are also prepared. We have built multi-purpose small-volume plants at both sides so we are prepared if there are more opportunities. If we need to take 10 molecules of few hundred kilos, we are ready to do that. We also have such designed manufacturing blocks right now.

[Operator]

The next question is from the line of [ Chirag ] from DSP Investment Managers.

[Unknown Analyst]

So there is a 167 crore increase in inventory in the quarter. Is this related to the custom synthesis [ asset part ]?

[Nilima Motaparti, Whole]

[indiscernible].

[Murali Krishna Prasad Divi, Managing Director & Director]

The increase in inventory, 167 crores, is not -- is -- see, every third quarter, if you go back to the historical, every big pharma, every generic house in U.S., Europe, everywhere, they want to maintain lean. And they don't want any huge stops on December 31st. It's a generalizing thing. Maybe it could be the impacts. I think -- let me...

[Nilima Motaparti, Whole]

And also some of the capitalization that we have done, a few -- the 2 [ ACVs ] that have come into operations. I think that -- the reflection of the inventories from there, that you are seeing [ the right ].

[Murali Krishna Prasad Divi, Managing Director & Director]

What Nilima is saying is that we have 2 [indiscernible] [ BCV ] [indiscernible]. They started activities. They started qualifications. [ They started their just ] commercial productions; also need a lot of raw materials; built up inventories; and even the API produced in 1 case and -- in 2, 3 cases; and stopped there because -- until we get the clearance from the regulatory agencies, minor or major, I think we need to hold. Some of them or much are reflected into the stock, yes. So what Nilima said is right, [ in addition to ] what is generalized is that in Q3 year-on-year.

[Unknown Analyst]

Sir, will this relate -- or will this lead to higher sales in Q4 because this material will be sold?

[Murali Krishna Prasad Divi, Managing Director & Director]

As I mentioned, that one is Q4 -- I think we don't want in -- all of you to look at us on quarter-on-quarter, please. Please look at us on the investments we've made. And I've mentioned that you will -- yes, you will see some increase in Q4, but I think you should wait for the bigger [ case ], which is going to be more attractive, in the beginning of the -- or end of the year, the next -- during next year and follow-on. I think -- that's where I think is the [ KP ].

[Unknown Analyst]

Understood, sir. Fair point, sir. And the second question was on CapEx for FY '22 and '23, sir. Any plans formed up?

[Murali Krishna Prasad Divi, Managing Director & Director]

I think we mentioned that -- last time that the [ next year ] CapEx is to the Kakinada, 600 crores; and whenever we start Krishnapatnam as a backup for Kakinada. Then otherwise, I think very much we are not seeing [ or much access ]. There are few buildings we built then, production buildings, in, yes, 1995. Those buildings, I think, are not comparable with the modern systems of automation, modern systems on mechanization, modern systems of gadgets, requiring more manpower than the newer buildings, so we may -- this year, we may make a call and say, well, let's go and invest in creating the -- modernizing these blocks. I think, if at all, that may happen. Otherwise, we are not planning.

[Operator]

The next question is from the line of Tushar Manudhane from Motilal Oswal.

[Tushar Manudhane, Research Analyst]

Sir, firstly, on the contrast media aspect, why you have highlighted the market size. Could you also elaborate on the volume-wise? Is it like going to be high-volume products or low-volume products?

[Murali Krishna Prasad Divi, Managing Director & Director]

I think I already covered it. I mentioned that these are high-volume products because -- you know that the contrast media is given anywhere from 20 grams to 80 grams to -- in each of the individuals to get a good picture of [ how is inside bonds to any everything else in ]. And so this high-dose and high-volume business. And it's growing also very much in the developing and under-development countries along with the developed countries.

[Tushar Manudhane, Research Analyst]

And sir, secondly: So we have been for many years into these iodine-based APIs. Any thoughts on the gadolinium-based APIs in this, yes -- or in this subject itself?

[Murali Krishna Prasad Divi, Managing Director & Director]

We have looked at the gadolinium compounds in the past when the [ innovator was discussing ]. It was quite a long time ago. I'm talking about 15 years ago, but we haven't reconsidered them unless -- as I said, it has to pass the [ COO ] before it comes to me to look at the technology. So our marketing vice president and [ COOs ], they need to look at those and revisit. Right now it is not in my radar.

[Tushar Manudhane, Research Analyst]

And just lastly, on with respect to this contrast media and the new molecules in the API which you alluded to. They would require [ fresh industries, right, as and when it is commercializing ]?

[Murali Krishna Prasad Divi, Managing Director & Director]

The investment is already planned and allocated. The projects are under progress. Some validations have been completed; and some products, they have been even submitted. So it's a combination. It is between the investment plans already done.

[Operator]

The next question is from the line of Anubhav Aggarwal from Crédit Suisse.

[Anubhav Aggarwal, Associate]

Just one question on your custom synthesis portfolio. I just wanted to check. Over next few years, just as an idea, how many products can come off patent? Is it a risk to us? Or that's a very small part of the portfolio for us.

[Murali Krishna Prasad Divi, Managing Director & Director]

We have -- we -- since we started this custom synthesis, I have been mentioning that we cannot talk about the products; the ratios; how many in Phase I, Phase II, Phase III. We have been -- not been doing that. And I think we would like to be that way so that we -- the commitments we've made with the big pharmas by signing the confidentiality agreements can be honored better. So we don't disclose that, how many projects and which phase and which company, which regions or which therapy segment.

[Anubhav Aggarwal, Associate]

Yes, sir. So I appreciate that. I actually did not want any product detail. I was just asking a very high level that -- but not even asking how many molecules you have right now there, but is there a risk to the overall profitability of that segment that, over next 2, 3 years, certain molecules go off patent and that will impact us in terms of growth?

[Murali Krishna Prasad Divi, Managing Director & Director]

Oh, I'm sorry. I got your point that -- even though [ per patent expiring will have seen ] some of the compounds, they did not go down. In fact, this growth still is being there. I think, the newer molecules, they have much tighter impurity profiles. And for the generic industries [ overnight ], to develop such costs, such impurity profiles with strict quality is getting tougher. We are seeing there is a resistance in the market, in the medical community that -- for neurological, for example, they don't want to change from the traditional tablets of the big pharmas to a generic because even a little variation in the impurities can cause enough of disturbance in the brain, to the neurological. So they still would like to -- the same thing in several others. You will have seen recently the impurities of these, the [indiscernible], where the whole world went into upside-down in the [indiscernible], in the [ anti-ulcer ] compounds. So the generic industry could not [ venture ] to enter with these impurities. [ There are now several large rules ] and whatnot.So we are not seeing -- if your quality is good and if your impurity profile is good, if you are in green chemistry, if you are [ RM ] efficient, if you have a manufacturing scale of the world scale, I think you'll have a bright future. But if you are happy with the original products of 1995, what the big pharma gave you, it's like enjoying a grandparents' -- whatever they gave us, then I think it's not possible [ we can have some might ]. But we have been always improving and we are confident that we will have good opportunities in this custom synthesis business without compromising in margins.

[Operator]

The next question is from the line of Surya Patra from PhillipCapital.

[Surya Narayan Patra, VP & Pharma Analyst]

Yes. Sir, just I -- pardon me that I -- if possible, they could be repetitive in the question that I'll be asking because I joined a bit late-ly. So just wanted to have a sense on the margin and the gross margin scenario for the quarter as well as for the future period. See, yes, whether the gross margin expansion is led by, yes, improved product mix. Or it is a cost aspect what has supported the gross margin expansion. Or it is a realization. Can you give some sense on this one, sir?

[Murali Krishna Prasad Divi, Managing Director & Director]

In fact, if you look at the expenditures side: We have paid 1 month salaries as an incentivization of 34 crores to the employees because of their excellent devotion and performance during the pandemic period. Now that also went into the expenditure in spite of that. Now the margins have improved because of, number one, majority of [ it has ] -- leads on the low -- on the improvement of the processes, improvement of the green chemistry at -- and efficiency, whereby our costs of manufacture, the material costs, have come down substantially. That's where the majority of this. Yes, the price of the product, the sales price, may have, in some products, slightly increased, but to compensate that, some of the very basic materials like solvents, some of the alkali, some of the reagents have gone up substantially in the last 2 quarters. It's not the Chinese impacts. It's a general impact. It has happened. So that much have compensated, if any, benefits we received in the increase in some of the marginal prices for our APIs.

[Surya Narayan Patra, VP & Pharma Analyst]

Okay. Sir, having seen a kind of a sharp improvement in the overall margin beyond [ 40% ] for this current financial year despite of this COVID situation. So going ahead, we will be seeing new projects -- or newer plants will be commissioning, getting commissioned. And the -- another costs would also be there and all that. So[Technical Difficulty]

[Operator]

Surya Patra, we are not able to hear you. Are you there? Surya Patra, we are not able to hear you.Sir, we don't have the participant anymore. Ladies and gentlemen, that will be the last question for today. I will now hand the conference over to Mr. M. Satish Choudhury for closing comments.

[M. Satish Choudhury, Company Secretary & Compliance Officer]

Thank you all for joining us today for the earnings call of Divi's Laboratories Limited. In case you need any further clarification, please reach out to our investor relations.Thank you.

[Operator]

Thank you very much. On behalf of Divi's Laboratories Limited, that concludes this conference. Thank you for joining us. You may now disconnect your lines. Thank you.