Securities Analysis. China healthcare sector. Shanghai company visits takeaways. Outperform. Equity Research

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Beverly Amie Wilkinson
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Equity Research Securities Analysis China healthcare sector Shanghai company visits takeaways We recently visited the manufacturing sites and offices of five healthcare companies in Shanghai: - 3SBio

1 Equity Research Securities Analysis China healthcare sector Shanghai company visits takeaways We recently visited the manufacturing sites and offices of five healthcare companies in Shanghai: - 3SBio (1530 HK, BUY): manufacturing facility of Sunshine Guojian in Zhangjiang - Haohai (6826 HK, BUY): manufacturing facility of EGF and HA in Songjiang - Rici (1526 HK, BUY): medical examination center and clinic in Jingan - Yestar (2393 HK, Not rated): IVD department of Shanghai East Hospital and an ICL in Hongkou District - Fudan Zhangjiang (1349 HK, Not rated): office in Zhangjiang Below are the key takeaways for the visits. Outperform Cyrus Ng, CFA Tel:(852) cyrusng@cmbi.com.hk Amy Ge Tel: (852) amyge@cmbi.com.hk China Healthcare Sector 3SBio Inc. Manufacturing capacity ready for CDMO business. The manufacturing facility currently operates five antibody production lines with a total annual capacity of over 8,000 liters. Six new antibody production lines with a total annual capacity of 30,000 liters are currently under trial run and the total capacity will reach 38,000 liters. The Company would reserve 23,000 liters for Yisaipu and pipeline products and we believe the remaining 15,000 liters would mainly for contract development and manufacturing organization (CDMO) business. Management believes its solid track record and experience in commercializing products like Yisaipu would be its core strength over other CDMOs. For the acquisition of CDMO business of Therapure Biopharma, Management expects the deal to be completed by the end of Management keeping sales growth targets. For existing products, with the inclusion into the new National Reimbursement Drug List (NRDL), Management is targeting 20-25% revenue growth rate for TPIAO and Yisaipu for 2018 amid mild ASP pressure expected. For EPIAO, ASP pressure of 5-10% is expected as it may be hit by secondary price negotiation. As such, Management only target midsingle digit growth for rhepo (EPIAO and SEPO together) business. Byetta target to enter more Provincial Reimbursement Drug List (PRDL) and Bydureon expected to receive approval in 1Q18. While competitor Victoza (liraglutide) has been included in the latest NRDL, Byetta was not included. Management pointed out that Byetta has been included in the PRDL of 9 provinces and the Company is targeting the product to be included in 15 provinces, and finally, to be included in the NRDL. Meanwhile, Management expects the long acting version, Bydureon, would get approval in 1Q18 and add momentum to the growth of the product line. Audit results for trastuzumab expected in 1Q18. The Company has appointed a third-party clinical study audit firm to perform an audit of all the clinical sites and the 341 patients clinical data. The audit results are expected to be out in 1Q18 and by then, the Company will decide if the data is enough for resubmitting a NDA to the CFDA for the product. PLEASE READ THE ANALYST CERTIFICATION AND IMPORTANT DISCLOSURES ON LAST PAGE

Since then, the Company sees significant surge in demand for the product.

2 16 Nov 2017 Figure 1: Sunshine Guojian Figure 2: Haohai Songjiang factory Haohai Biological Technology Wound care product to surf on the NRDL. Healin, the rhegf product of Haohai, has been included in the latest round of NRDL with the limitation on work related injury being lifted. Since then, the Company sees significant surge in demand for the product. Currently the utilization level of EGF production line is at around 70% and the Company believes the current capacity would not be enough in meeting future demand. As such, the Company plans to add another fully automated line in 1H18. Janlane to maintain premium pricing. The Company launched its second generation hyaluronic acids (HA) product Janlane in 1Q17. Unlike the first generation product Matrifill which focuses on shaping, Janlane would be mainly for dynamic filling. As such, Matrifill would be the primary product and be priced at a competitive pricing, Janlane would more be a supplementary product with premium pricing. At the early stage development, the Company will focus on selling Janlane to higher end hospitals. Setting up an investment fund to look for early stage opportunity. In early November, the Company announced the investment of Rmb890mn in an investment fund and accounted for 98.9% of total contribution. The fund will mainly look for early stage companies with unique technologies that may fit well into the Company s strategy. We believe it would take time for the investment projects to mature and therefore, the investment should have limited impact to the profit of the Company. PLEASE READ THE ANALYST CERTIFICATION AND IMPORTANT DISCLOSURES ON LAST PAGE 2

3 Rici Healthcare Aggressive expansion plans ahead. Facing aggressive expansion strategy from major competitors, Rici has also set a more aggressive expansion plan ahead: to open new medical examination centers respectively in 2018 and 2019, whereas the Company currently only has 32 medical examination centers in operation. As such, the total capacity of Rici s medical examination business will increase by more than 1.4 folds by the end of Cooperation with Ping An (2318 HK) to add growth momentum to medical examination business. The Company announced in early November to form a JV with Ping An Health Technology Fund in conducting medical examination business. The Management expects the cooperation with bring several benefits to the Company s business: (1) increasing exposures and referral from Ping An Good Doctor platform. Management targets to account for 60% the platform s medical examination sales. (2) increasing proportion of retail clients and thus improving the overall utilization rate and operating efficiency of the business. (3) to open up the national medical examination market. We believe the cooperation with a leading insurance company will indeed help Rici in expanding its business. New hospitals to make contribution from 2018 onwards. Two new O&G hospitals would commence operation in 4Q17 in Shanghai and Changzhou. We expect these two hospitals will begin to contribute to the topline from 2018 onwards. Besides, the Company targets to open 4 more new specialty hospitals in 2018 and 2019, together with the expansion of its Class III hospital in Nantong, we will expect repaid revenue growth from the hospital business. More time is needed. In spite of the strong business and revenue growth resulted from the aggressive expansion plan, we may also expect heavy pre-opening expenses, marketing expenses and depreciation cost related to the heavy investment in the coming years. Due to the scale of the investments, the mentioned cost will bring heavy pressure to the profit performance of the Company in 2018 and We believe Rici is still laying foundation for a long term business and expect return to materialize after the investments. Fudan Zhangjiang Sales of Libod adversely affected by two invoice system. The Company said the slower than expected growth of LIbod was mainly due to the implementation of the two invoice system. 2 nd and 3 rd tier distributors reduced their inventories due to the system. Together with more aggressive promotion strategy from competitor (Duomeisu from CSPC), we believe the Company is planning for new sales and marketing for the product. Mild growth expected from ALA ahead. As a product launched for more than 10 years, Management expects mild growth of low-teens region for the product going ahead. On follow up development, the Company would like to extend the implications to the treatment of HPV infection and moderate to severe acne. Management said it would be relatively difficult to recruit patients for HPV infections and expects a longer time frame for development. For moderate to severe acne, the Company expects the launch in three years. Target to launch one high end generic each year. Apart from the development of innovative drugs, the Company targets to launch one generic with high entry barrier and for major disease each year. We believe this would be a positive strategy for smoothing the growth of the Company in between the launch of potential blockbusters. PLEASE READ THE ANALYST CERTIFICATION AND IMPORTANT DISCLOSURES ON LAST PAGE 3

China. Roche is the market leader in IVD industry in China. It has delivered over 20% revenue growth since 2012 and currently covered over 75% of class III hospitals in China.

4 Yestar Healthcare One of the leading IVD distributors for Roche Diagnostics in China. After series of acquisitions, Yestar has become one of the largest distributors for Roche Diagnostics in vitro diagnostic (IVD) business and accounted for over 15% of revenue of Roche Diagnostics in China. Roche is the market leader in IVD industry in China. It has delivered over 20% revenue growth since 2012 and currently covered over 75% of class III hospitals in China. We believe Yestar business can continue to deliver strong growth backed by the strong brand and technology from Roche Diagnostics. A halt for M&A for consolidation. Since late 2014, Yestar acquired 6 distributors of Roche Diagnostics and became one of the major distributors for Roche. The distribution network of Yestar currently covers 9 provinces and includes Shanghai, Beijing, Guangzhou and Shenzhen and we believe it should have covered the major cities. We believe the Company may halt further acquisition for a round of consolidation of current business first. Opportunity from policies. With the potential launch of two invoice system for IVD industry, many smaller distributors would be forced out of business. As a first tier distributor for Roche Diagnostics, Yestar would have significant opportunity from taking over market share from smaller distributors or acquisition of small distributors. Besides, the promotion of hierarchical diagnosis and treatment system will generate more demand from lower tier hospitals. The control of drug revenue on hospitals may also promote the demand for medical services like IVD. Therefore, we believe recent policy changes will bring significant growth opportunity for IVD industry. The rise of independent clinical laboratory (ICL). In Sep 17, an ICL with 39% owned by the Company commenced operation in Shanghai. ICL accounted for 35%, 50% and 67% of IVD market in the US, Europe and Japan, whereas it only accounted for 5% in China. The Company sees significant growth potential in the business and expects the industry to deliver a CAGR of 22% in the next 10 years. Management expects the ICL to breakeven in the second year of operation and achieve a net margin of 30-40% when in full operation. This new ICL would serve as a testing stone for the Company in the ICL market. Figure 3: Clinical laboratory at Shanghai East Hospital Figure 4: Fully automated production line at ICL PLEASE READ THE ANALYST CERTIFICATION AND IMPORTANT DISCLOSURES ON LAST PAGE 4

5 Disclosures & Disclaimers Analyst Certification The research analyst who is primary responsible for the content of this research report, in whole or in part, certifies that with respect to the securities or issuer that the analyst covered in this report: (1) all of the views expressed accurately reflect his or her personal views about the subject securities or issuer; and (2) no part of his or her compensation was, is, or will be, directly or indirectly, related to the specific views expressed by that analyst in this report. 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CMBIS Ratings BUY HOLD SELL NOT RATED : Stock with potential return of over 15% over next 12 months : Stock with potential return of +15% to -10% over next 12 months : Stock with potential loss of over 10% over next 12 months : Stock is not rated by CMBIS CMB International Securities Limited Address: Units , 18/F, Bank of America Tower, 12 Harcourt Road, Hong Kong, Tel: (852) Fax: (852) CMB International Securities Limited ( CMBIS ) is a wholly owned subsidiary of CMB International Capital Corporation Limited (a wholly owned subsidiary of China Merchants Bank) Important Disclosures There are risks involved in transacting in any securities. The information contained in this report may not be suitable for the purposes of all investors. CMBIS does not provide individually tailored investment advice. This report has been prepared without regard to the individual investment objectives, financial position or special requirements. 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TCL Communication (2618 HK) Painful transition period. Buy (Maintain) Target Price HK$2.33 Up/downside +28.5% Current price HK$1.

TCL Communication (2618 HK) Painful transition period. Buy (Maintain) Target Price HK$2.33 Up/downside +28.5% Current price HK$1. Securities Analysis (Equity) TCL Communication (218 HK) Painful transition period 1H12 profit warning. TCL Com announced profit warning on 15 Jul and expected to record a significant drop in 2Q12 net profit