Investment Summary

In 18H1, the company realized revenue/profit attributable to shareholders growth of 27.88%/21% yoy. In future, the company will increase investment in smart city pharmacy and build an complete mobile healthcare system involving online and off-line medical institutions and patients, which is expected to continuously promote TCM decoction pieces sales. Meanwhile, the distribution business of medical instruments will keep notable growth given intensifying sales channel. We predict the 18E/19E EPS to be RMB1.04/1.24 and adjust TP to RMB25.97, “Buy” rating. (Closing price at 24 Sep 2018)

Business Overview

18H1 Results. The company achieved revenue/ profit attributable to shareholders/ attributable profit excluding non-recurring items of RMB16,959mn /2,604.6mn /2,581.96mn, implying yoy growth of 27.88%/21%/20.3%, respectively. We see financial costs dramatically increased by 68.5% due to rising interest expenses for bank loan and bonds. Selling expenses rose given selling expenses to revenue ratio up from 2.35% in 17H1 to 2.92% in 18H1, while administration fees to revenue ratio dropped by 0.46ppt to 3.94% due to improving management efficiency.

TCM decoction pieces benefiting from smart pharmacy business. TCM decoction pieces recorded revenue of RMB3826.8mn, up by 41.88% due to rapid expansion of smart pharmacy network, with GPM up by 3.53ppt to 36.4%. The company announced in July that it will invest RMB7.7bn to build 15 city pharmacy centers, 48 central pharmacies and 5 satellite pharmacies within three years. It aims to build a business model of smart pharmacies (“移動醫療+城市中央藥房”), which serves patients` hospital visiting and medicines, combines the medical institutions online and offline, thus forms a complete commercial system. On one hand, the platform directly accesses to the hospital information system to collect and transfer patients` prescriptions. On the other hand, the mobile healthcare platform provides patients with services including appointment registration, visiting guidance, online payment, drug distribution and other ancillary services. Also the smart pharmacies provide one-stop service involving prescription examination, dispensing, TCM decoction production, home delivery and so on. In near future, the company will implement the smart pharmacy project in Guangzhou, Shenzhen, Beijing, Shanghai, Chengdu, Puning, Kunming, Chongqing, Guiyang, and actively start the construction of more central pharmacies in Xiamen, Meihekou and other cities. In 18H1, the company acquired Hubei Yikangjia Pharma and Guangdong Huayuan Shitiande Pharma to quickly enter into blank area of distribution business, and further boost sales and profitability of TCM decoction pieces business.

Medical apparatus and instruments kept high growth. This sector achieved sales of RMB1345mn with notable yoy growth of 67.76%. It mainly focuses on high-value consumables and small & medium-sized equipment, covering areas such as orthopaedics, surgery, five sense organs, diagnosis, etc. After acquiring two medical instrument companies, Kangmei established new distribution institutions in Nanjing, Anhui and Shanghai and consolidated the local market shares. At present, the company has covered about 90% of China market. In the future, it will add investment in the development of smart distribution, intelligent cold chain distribution, large data samples and other aspects, to strengthen related industry integration and profitability of its business.

Continuing hospital investment. After investing in Meihekou central hospital, Kaiyuan central hospital and Tongcheng people's hospital, the company will invest in medical service institutions in Liuzhou Guangxi and Tongliao Inner Mongolia. It is expected to invest RMB1.3bn (taking 67% of shares) in Tongliao city to build a new hospital and RMB192.7mn in Liuhe county to build a central hospital to further integrate local medical resources, which will further expand the company's hospital business network.

Investment Thesis, Valuation & Risk

We give target price of RMB25.97. We estimate 18E/19E net profit to be RMB5.16bn/6.19bn with EPS of RMB1.04/1.24. Risks include: smart pharmacy business fails expectations; rising raw material prices; hospital investment business fails expectations; policy risks.

Financial Data

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