Shanghai Pharmaceuticals’ Results Beat Our Forecast

Narrow-moat Shanghai Pharmaceuticals Holding 02607 reported full-year results that beat our expectations due to lower-than-expected selling, general, and administrative expenses. Revenue for the six months and full year was CNY 120.3 billion and CNY 232 billion, respectively, or 8.8% and 7.5% year-on-year growth. These were within 0.2% of our top-line forecast. However, core operating profit (calculated with other income, cost of sales, SG&A, research and development, and credit losses) for the year was 3.65%, or 2 basis points worse than last year and 31 basis points better than our forecast. The stable margins in spite of 2022′s challenges reinforces our view that SPH will continue to exhibit steady earnings.

Our fair value estimate remains unchanged at HKD 20.30 per H share. Since our last note, when we highlighted the value in Chinese medical distributors, SPH’s H shares have rallied 37% and are now a 19% discount to our fair value. We think there is modest value in SPH due to its reasonable dividend yield of 3.3%, its stable earnings outlook, and its high-quality receivables. We have a slight preference for Sinopharm due to its more focused business model and higher dividend yield, although this preference is more muted compared to six months ago, due to Sinopharm’s superior price performance, as it has rallied over 50%.

In the second half, year-on-year growth rates for each segment (including inter-segment sales) were 7.2%, 8.5%, and 16.7% for manufacturing, distribution, and retail pharmacies, respectively. These are in line with our expectations, as we predicted a modest improvement in the second half after the first half was adversely affected by the Shanghai lockdown. Although the company’s SG&A expenses were better than our forecast, this was partially offset by higher-than-expected credit losses, which were 0.16% of total revenue and much higher than the three-year average of 0.04%. Although the amount is small, it is a figure worth monitoring.