The Zhitong Finance App learned that against the backdrop of high base figures for some products in the 2022 Q4 and 2023Q1 pharmaceutical sector, the bank is more optimistic about digesting undervaluation and investment opportunities with the logic of going overseas. The bank recommends: 1) undervalued traditional Chinese medicines with a high margin of safety, and distribution (including pharmacies) related targets; 2) leading companies that continue to break through in innovative pharmaceuticals overseas and segments in hospitals; 3) segment leaders (APIs, medical devices, CXO, etc.) where overseas business accounts for a relatively high share of overseas business and where overseas revenue continues to grow.
The main views of Zheshang Securities are as follows:
Traditional Chinese medicine: Driven by policies and incentives, the market value of the Chinese medicine industry is expected to continue to rise. In December 2023, the new medical insurance catalogue lifted corresponding restrictions on the use of some traditional Chinese medicine OTC products and traditional Chinese medicine injections, and related products are expected to achieve good sales growth in 2024; the state requires central enterprises to play an important role in economic growth in 2024. Some central enterprises took the lead in issuing equity incentives in January 2024, and other central enterprises and state-owned enterprises are expected to follow suit, thus driving up performance and market expectations. From 22Q4 to 23Q1, the traditional Chinese medicine industry is in a period of high performance base due to COVID-19. The performance growth rate of some companies may slow down in the short term, and stock prices of companies that sell outside hospitals and are not benefiting from COVID-19 are expected to be prioritized.
CXO: Funding is picking up, and we are ready to move forward. Overseas clinical demand is still strong and may be picking up before clinical trials. Domestic investment and financing in 2023Q1-Q3 has returned to the 2017 Q1-Q3 level, and the world has returned to the 2018-2019 level. 2024H1 investment and financing may now turn around. The amount of IPO financing for YTD US Healthcare in 2023 has gradually rebounded markedly. The bank is optimistic about the leaders in the segment. Even if investment and financing fluctuate in the short term, the leading segment still has obvious advantages in bargaining power, and the pattern of strong players will not be broken in the short to medium term.
Innovative drugs: marginal improvement, commercial improvement. Under the influence of collection and health insurance, the suppression gradually bottomed out. The proportion of large varieties in stock that have not been collected has decreased, and the generic drug business is expected to bottom up. The decline in simple contract renewals was moderate, and medical insurance payment prices for innovative drugs were clarified. Innovation: Academic conferences are opportunities, and product power is the underlying logic. Major academic conferences such as ESMO and ASCO are only opportunities. The underlying logic is to break through local innovation and improve product strength. Outlook: Commercialization is still accelerating, and cashability is still strong. IND and NDA reviews and approvals returned to high growth from January to October 2023. By the end of October 2023, 48 Class 1 innovative drugs are still in the NDA state, and the 2018-2022 IND variety is expected to see explosive growth in 2025-2029.
APIs and generic pharmaceuticals: Profitability rebounded month-on-month in Q3, historically low in the quarter, and expectations are improving. The average gross profit margin for the 2023Q3 single quarter was 38.5% (+2.99pct year on year, +2.26pct month on month), and the average net profit margin for the Q3 single quarter was 11.6% (-0.58pct year on year, +1.6pct month on month). Judging from the absolute value of the average gross margin and net margin level of the sector, the 2023Q3 gross profit margin and net margin have returned to relatively low levels since 2017 Q1. The bank expects future profitability to enter an upward trend in the context of raw material costs, stable exchange rates, and the gradual implementation of formulation/CDMO flexibility. The intensity of capital expenditure has declined, and we are optimistic about the flexibility of the production capacity release period. The absolute value of capital expenditure for 2023Q1-Q3 is YOY -18.89%. This is also the first time since 2018 that capital expenditure declined year-on-year in the first three quarters. In a situation where the specialty APIs sector affects the profitability of the industry due to factors such as upstream costs, formulation terminal prices, inventory cycles, and exchange rate fluctuations, the bank advises investors to pay attention to companies with marginal changes in business. The strategic proposal focuses on the performance flexibility brought to different companies by the accelerated internationalization period, the breakthrough period for forward-integrated formulations, and weight loss drug raw materials/formulations.
Upstream scientific services: The boom has basically bottomed out, and the effect of fee control is showing. The bank believes that 2023Q4 is a critical period for the domestic upstream economy to bottom out, wait for an inflection point, and gradually improve integration and transformation. Product innovation and overseas fulfillment are still the main short-term highlights. Looking at chemical reagents, upstream demand recovered slightly month-on-month, competition for homogenization of supply-side products has basically come to an end, and volume and price have stabilized. Q4 is the peak season of the year. Combined with the lower base in 2022, the bank believes that the year-on-year growth rate is expected to increase compared to Q3. Looking at biological reagents and consumables, considering the 2022 base figure, performance pressure is high. However, the results of fee control since the beginning of the year have gradually become apparent, and the profit side is expected to exceed expectations. In terms of equipment, due to the impact of the investment and financing environment, there is still some pressure on performance. However, with the gradual improvement and implementation of integrated platforms, most equipment companies are expected to go through the cycle, and their performance will gradually smooth out.
Pharmaceutical distribution: Demand in hospitals is gradually recovering, and the increase in the concentration of leaders is expected to accelerate. The biggest marginal change in the 23Q4 distribution sector is the gradual recovery in hospital demand, and distribution leaders are taking advantage of commercial channel advantages to undertake more overseas MNC product sales outsourcing. The bank believes that the distribution sector is an important connector between the supply side and the demand side of the pharmaceutical industry, and it is also an important sector pioneered by the new medical reform. The leading pattern in the distribution industry is basically stable, and concentration increases or continues to accelerate under policy impetus and economic conditions. Combined with the deepening of medical reform, higher requirements for refined management and informatization, and the gradual implementation of various leading distribution industries, the growth and profitability of the sector is expected to continue to improve. The bank recommends focusing on distribution leaders with increasing market share and continuous expansion of capacity boundaries and service capabilities.
Vaccines: After the demand for COVID-19 vaccines declined, sales volume of conventional vaccines and the development of major vaccines progressed. In the field of adult vaccines, shingles vaccine import agents and domestically produced rabies vaccine products are on the market. The domestic 9-valent HPV vaccine is in the advanced clinical stages; the focus is on the marketing volume of new products and vaccine companies with major vaccines in the pre-marketing stage.
Medical services: The market believes that the recovery of consumer goods is lower than expected, and consumer demand is in a fluctuating cycle, but the bank believes that demand for rigid medical care is still growing rapidly during the recovery cycle, and hospitals during the expansion period maintain strong operating flexibility; ophthalmology hospitals > dental hospitals (implant collection is affected) > mature general hospitals.
Pharmacy chains: (1) Short-term influenza tests are high, and the growth rate of the same store is improving. Due to the high incidence and advance of influenza, the bank believes that it is expected to bring about elastic demand and drive same-store growth; (2) Mid-term: Accelerate the circulation of electronic prescriptions, accelerate integrated implementation, and strengthen diversion entrances. Since November 2023, Guangdong, Fujian, Shanxi and other provinces have promoted the circulation of electronic prescriptions. The bank believes that 2024 is expected to lead to a greater increase in demand for prescription drugs as the circulation of electronic prescriptions accelerates and the overall implementation continues to accelerate. (3) Long-term: The increase in concentration continues. Leading pharmacy chains are still in a period of accelerated store expansion, there is plenty of room for market share to increase, and the certainty of long-term growth has not changed. Referring to the expansion period of the number of Japanese drugstore chains (about 30 times PE) and the acceptance period of leading pharmacy prescriptions (up to 44 times PE), the value of Chinese pharmacy chains is expected to be revalued.
Innovative equipment: New product iterations help hedge against the impact of collection, and some companies continue the rapid growth trend. The innovation-driven effect in the device sector is obvious. R&D and commercialization of innovative devices are progressing rapidly, and the payment side is expected to anticipate policy improvements for innovative devices. At the same time, electrophysiology, orthopedics, etc. have gradually completed collection and supply, and the collection of large categories of high-value consumables has basically been completed, and approval of innovative products has been accelerated. The pace and volume expectations of innovative products in 2024 may become an important driver for stock prices, recommending companies that clear collection risks and continue to release new products. In addition, fluctuations in tendering in 2023Q3 have a short-term impact. As the gradual recovery of hospitalizations in 2023Q4 is expected to bring about a recovery in performance, the logic of accelerating domestic production of high-end products and continuing overseas expansion brought about by China's continued high-end equipment has not changed. The acceleration of overseas expansion and the gradual resumption of admissions are expected to be driven by stock prices.
IVD: On December 8, 2023, Anhui Province issued the “25 Provinces (Districts, Corps) 2023 In-Vitro Diagnostic Reagent Centralized Procurement Notice”. The collection results are better than market expectations and are more friendly to domestic IVD leaders. The bank believes that China's IVD industry, especially in the field of chemiluminescence, is entering a period of accelerated domestic substitution with the rapid expansion of collection policies. The market position established by foreign investors such as Roya Besi in China is being broken as the product quality and service capabilities of domestic enterprises continue to improve. The one that overtook the car at the corner A historic opportunity.
Risk warning
The risk of policy changes, the risk of failure in the development of new drugs, and uncertainty about the effectiveness of sales reforms.