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Healthy China 2030 reforms: A balance of opportunities and risks for investors

These reforms are transforming the country’s drug innovation and healthcare ecosystem, offering enticing opportunities for investors although there are some risks to watch out for.

Supported by an ageing population, rising disposable income and commercial insurance, healthcare spending in China remains robust and we expect it to grow at a 10% compound annual growth rate (CAGR) over the next 10 years.

The recent years’ reforms are enabling more innovative drugs and therapies to be approved faster than ever before.

China now has an increasingly competitive medical devices and biotech sector but it mainly services the country itself.

Over the next five-to-ten years, we expect a much greater emphasis on R&D and a strong domestic market to enable more Chinese healthcare companies to expand and move onto the global stage.

With the focus on policy intervention to offer accessible and affordable healthcare innovation, there are growing numbers of investment opportunities in the pharma, medical devices and healthcare service sectors.

This includes companies that have demonstrated strong R&D and domestic distribution capability, some of which are also increasingly internationally competitive. Some key examples are Shandong Weigao, Wuxi biologics and Mindray.

Shandong Weigao is China’s largest single-use medical consumables brand and the largest domestic orthopaedic implants and devices producer.

Weigao enjoys unrivalled scale and distribution capability in China with extensive product offering across all pricing points.

With its product leadership and cost efficiency, its long-term growth is supported by providing import substitutes in the high-end consumables segments, such as an advanced infusion set for insulin treatment and interventional radiology (treatment using imaging technology to guide minimally invasive procedures).

We consider Weigao to be a reasonably valued, steady compounder.

Wuxi Biologics is China’s largest biologics contract development and manufacturing organisation (CDMO) and one of the largest globally.

Its unique business model of ‘follow-the-molecule’ from concept to commercialisation, strong R&D and proven reputation as a reliable service provider are key drivers behind its long-term growth.

This business model provides a total solution for clients which is more cost and time efficient and enables Wuxi to capture more value, including potential revenue sharing in the case of a successful commercial drug launch.

Wuxi has emerged as a global biotech service platform, already capturing a more than 30% market share of all biologic molecules entering clinical trials in 2020 and this market share is still expanding.

For example, Wuxi Biologics won more than 80% of global investigational new drug (IND) applications for Covid-19 mAbs.

Mindray is China’s most established medical devices company. Its focus on R&D and strong commercialisation capability are the key support to its leading market position.

It is also the only Chinese company ranked among the top 50 global medical device companies according to Qmed and is an example of a domestic company winning share from multinational corporations domestically and internationally.

In 2018, the Hong Kong Stock Exchange’s new guidance, known as Chapter 18A, started to allow pre-revenue biotech companies to apply for IPOs.

This has meaningfully increased the pool of investment candidates for equity investors and provided these innovative companies with an important venue for funding.

However, there are perils lying in wait for investors too.

Although there are many young biotech firms that have interesting drug development pipelines and clinical trials underway, not all will be able to generate meaningful revenues and profits.

As such they could be a loss-making investment. One prominent example is Ascletis Pharma, which is the best local Chinese company in the hepatitis C virus (HCV) space.

Supported by the low treatment ratio in China and its significant lead ahead of its domestic peers, Ascletis Pharma successfully listed in Hong Kong in 2018 with one commercial stage product and six pipeline products.

The fate of the company took a sharp turn for the worse when Gilead’s competing treatment regimens won a place on the national reimbursement list by offering a significant price cut of more than 80%.

With its HCV franchise significantly impaired, Ascletis’ growth prospects changed dramatically, resulting in a more than 60% share price decline from its IPO by December 2019.

Smaller pharma companies who do not have a strong R&D capability and resources can also fall in this camp.

For innovative drugs, the risk of price cuts driven by fierce competition can also present a risk especially when the market overestimates the future revenue potential. An example is PD-1 drug pricing in China.

Investors tapping into the boom of healthcare reforms in China need to do their homework and understand the potential risks associated with companies operating in this space.

Despite these dangers, select Chinese healthcare companies not only have the potential to generate meaningful returns over the long-term from solid R&D capability and large-scale cost advantage, but also provide a reasonable entry price, which should make all the difference in the end.

Baijing Yu is portfolio manager of the Comgest Growth China fund

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