Jointown Pharmaceuticals:Well positioned for sustainable growth;initiating with Buy

Growth acceleration continues; initiating with a Buy and RMB24.4 target price.

    We expect Jointown Pharmaceutical Group (JPG) to maintain its superiorgrowth to the entire pharmaceutical sector primarily due to its focus on lowertierhospitals and a favorable product mix with over exposure to drugs withlower-margins. As the only private company among top four largestdistributors, JPG also differentiates itself from other SOEs with significant roomfor improvement on product mix, as well as higher efficiency which led tocontinuous margin improvement. We model CAGR 16-18 of 23% for revenueand 24% for EPS. We initiate with a Buy and an RMB24.4 target price.

    Well positioned to continue to capture favorable industry trends.

    JPG delivered 13%, 23% and 21% sales growth for 2013, 2014 and 2015,respectively, against growth deceleration for the sector We ascribe this to thefollowing two factors. First, JPG covered 41,200+ hospitals as of 2015 withmore than 3,200-plus tier-1/2 hospitals, while lower-tier hospitals generallydeliver higher growth. Secondly, JPG has a product mix with overexposure todrugs with lower margins, while these drugs exhibited higher growth in recentyears. We believe its favorable geographical, hospital and product exposureare important to the outgrowth in the future.

    Efficiency improvement as a low cost leader.

    Gross margin rose to 7.6% in 2015 from 6.1% in 2011 with improvement everyyear, primarily driven by a better product mix of drugs with higher margins andthe expansion to tier-1/2 hospitals. As a result, OPM increased to 2.8% in 2015from 2.1% in 2011. We model 7.7% GM and 2.8% OPM for 2018 respectively.

    Additionally, we believe JPG is better positioned for e-commerce due to themuch larger volume of drugs it delivers, while maintaining similar expenseratios vs. major competitors.

    Initiating with a Buy and target price of RMB24.4; risks.

    We base our target price on 45x P/E for 2017E EPS, in line with its historicalaverage PE of 45x after adjusting for the A-share rally in 1H15. This representsa premium to its Chinese peers which are trading at 25x 2017E EPS with 17%CAGR16-18 (vs. 24% for Jointown). We believe the premium is justified by itsoutgrowth vs. competitors and improving product mix. Key risks includeunfavorable policies and slow ramp-up of new businesses.