Seeking Alpha
Profile| Send Message|
( followers)  

With an aging population and rising living standards, the healthcare sector in China is positioned for a healthy long-term growth. For example, since 2000 pharmaceutical product sales have been increasing at least 10% every year in China while the globally they've only increased between 5% to 9%. It is projected that China will become the world's third-largest prescription drug market in 2011.

One industry that has been lagging, but in my opinion will catch up and show tremendous future growth is the chain pharmacy industry. In this article, I will share my reasoning, and do a comparative analysis on a few Chinese chain pharmacies listed in the US.

Why Chain Pharmacies?

In the US and some other western countries, chain and independent pharmacies are the main channel for pharmaceutical product sales. For example, in 2009 2.9 billion prescriptions were filled by chain and independent pharmacies in the US (out of 3.9 billion total prescriptions).

However, Chinese customers have a different preference when it comes to where to buy their medicines. Traditionally, prescriptions are almost exclusively filled at hospital-operated pharmacies, of which most are state-own, public entities. When the country finally opened the healthcare sector to private enterprises, the pharmacy retail industry was seen as most likely to be privatized. However, its early growth was mired by rampant counterfeits.

In the last decade, the government has been implementing various polices to regulate the industry. With the emergence of big chain pharmacies which have the financial means to implement strict quality control on the products they sell, the industry is gradually wining back their customers. In 2007, retail pharmacies accounted for 22% of the total pharmaceutical sales in China, while hospital-operated pharmacies still accounted for 62%.

In addition to the growing economy as a whole, and the aging population, there are other factors that will drive the growth of the chain pharmacy industry:

  1. Convenience over going to hospitals

Like the strategies of US companies CVS caremark (NYSE:CVS) or Walgreen Co. (NYSE:WAG), chain pharmacies can build their stores in locations that are easily accessible to their customers, typically shopping malls or places close to residential areas.

  1. Price advantage over hospitals

The hospital system in China is very different from that of the US; traditionally pharmacy has been a bigger profit-generator for hospitals than direct patient care. Higher overhead cost in hospital-operated pharmacies also drives prices higher.

  1. Growing trust towards more established and bigger chains

Some US-listed Chinese Pharmacy Chains

The current retail pharmacy market in China is typical of the early stage of a growing industry, as it is very fragmented market with many small players. It’s been estimated that there are at least 2000 retail pharmacy chains with over 120K stores. Obviously, the industry will undergo serious consolidation in the next decade or so with fewer and bigger chains emerging as more dominant players.

Currently, the biggest player is Nepstar Chain Drugstore (NYSE:NPD) with approximately 2500 stores. Compared with CVS’s 7025 stores, NPD still has a lot of room to grow. In 2009, it reported an annual sale of $325M with net income of approximately $20M (EPS=0.2). (See its 2009 annual report here.) With a market cap of approximately $500M as of May 18, 2010, NPD seems to be undervalued. Below is a table comparing the financials of several US-listed Chinese pharmacy chains.

Symbol

Price*

Market Cap (M)

2009 Rev ($M)

Net Inc ($M)

P/E

Store #

NPD

4.74

497

325

20

23

2559

OTC:BFAR

4.53

225

124

20

11

360

OTC:CYXN

0.52

30

47

5

3.5

93

CJJD

4.7

63

44

7

10

22

CVS

35.2

47900

98729

3696

14

7025

* all prices are quoted at market close on May 18, 2010

It appears that NPD is actually somewhat over-bought compared to its smaller peers. Both Biopharma Asia (OTC:BFAR) and China Jo-Jo Drugstores (NASDAQ:CJJD) are fairly priced. China Yongxin Pharmaceuticals (OTC:CYXN) is the most attractive of the group in terms of valuation; however the company had some questionable private equity transactions lately. See my recent instablog here for details. Furthermore, its 2009 revenue was down approximately 20% from that of 2008. The management hasn’t given any outlook for fiscal year 2010 yet. I believe the low-valuation for CYXN represents the market’s doubt on its ability to grow sales.

Disclosure: No positions

Source: Chinese Chain Pharmacies: Healthy and Growing Industry