Hualan Biological Engineering Inc:2Q17results weaker than expectation

1H results pre-announced, below expectation.

    Hualan pre-announced 1H17 results, with 0-15% profit growth in 1H17 vs.

    previous guidance of 20-35% YoY growth. Additionally, company indicated thatgovernment grant was RMB8.1mn 1H17, vs. RMB53mn in 1H16. We spokewith the company this evening, while there are multiple drivers that impacted2Q17 performance especially implementation of the two invoices, managementindicated that prices (ex-manufacturing) are largely stable, while acknowledgingpressure on this front. This is consistent with comments from 1Q17 call inlate April. We highlight that the delta in government grants in 1H17 vs. 1H16represents 11% of the profit (GAAP profit) generated in 1H16. Excluding theimpact from government grant, the mid-point of the new guidance is largely inlinewith lower end of the previous guidance. As such, we reduce our full yearrevenue/EPS estimates by 10% and 12% respectively for 2017, and 12.5%/12.5%for 2018E.

    DB view on PDTs in 2H17 and 2018.

    We believe a confluence of the factors are impacting competitive landscapeof the PDTs. The challenging elements include 1) low single digit price (exmanufacturing)erosion of albumin due to growth acceleration of importedalbumins, urge to clear inventory build-up from few domestic players especiallyHualan; 2) price erosion or discount due to pressure from 15% mark-up removal;3) implementation of two invoices which might have and will continue to lead tore-distribution of market share. The positive factors include 1) potential growthdeceleration of imported albumin due to CFDA inspection of GMP facilities ofglobal companies in 2H17, as well as potential implementation of the newgovernment policy on PDT regulations, 2) robust demand for IVIG in the mid/long term. Importantly, we remind investors that some of these elements couldbe temporary, especially impact from 15% mark-up removal and implementationof the two invoices. We believe CBPO might be less impacted as its direct salesrepresent a much larger percentage of the sales vs. Hualan (70% vs. 50% in 2016by our estimates however this ratio could change).

    Reducing PT to RMB38.0 from RMB43.5; risks.

    We lower our price target to RMB38.0 from RMB43.5. The PT is based on 34xof 2018E EPS vs. 35x we used previously. We believe that 34x is justified, as itsA-share peers are trading at 28x with 24% growth in 2018 (vs. 27% we modelfor Hualan). Risks include lower plasma collection volume, cost inflation and ASPpressure.