• Price is down 20% YTD
• Near term uncertainty
• Initiate with HOLD with FV of HK$7.55

China Healthcare Shares Dived…

Healthcare-related companies have underperformed YTD despite stellar gains seen as recent as May 2018. The MSCI China All Shares Healthcare Index is down 13.0% YTD, and down 30.4% from this year’s high in end May. While this is in line with the MSCI China Index, down 13.1% YTD and 24.8% from year’s high, it fared worse than most markets and sectors. As an indication, the MSCI Asia Ex Japan index is down 10.3% and 18.0% from year’s high.

SBP Suffered Big Hit; Centralised Procurement Hurting Outlook

Sino Biopharmaceutical’s (SBP) shares erased all gains this year and are currently down for the year. At the peak, SBP’s shares were up 51%. Since June, heavy selling brought the shares to -20% YTD. Apart from broader market weakness, sector specific factors also affected the stock.

The main reason for last week’s sharp decline was news that 33 drugs that have passed the Quality Consistency Evaluation (QCE) have been placed under the Centralised Procurement Pilot Project. 11 cities will pilot this project. Under this proposed scheme, the winner(s) will have a 70% share of the total market for that drug in these cities. This could potentially mean that these drugs will become high volume, thin margin products.

Of the 33 drugs, SBP has 4 products in the list. While the outcome and financial impact on SBP is still unclear at this moment, the likelihood is that generic drugs are headed for more price cutting pressure ahead. This environment will favor companies with more innovative and patented drugs.

Valuation Reverting Back to Historical Average

At the recent high, valuation for the stock was as high as 53x. With the recent correction, it has come down to a more reasonable level of about 31x FY18 estimated earnings. Based on the 5- year average of 28x earnings, our fair value estimate for the stock is HK$7.55.

Source: OCBC Research - 17 Sept 2018