1H22 revenue preannounced to grow 39-42% YoY
Pharmaron announced 1H22 results: Revenue may grow 39-42% YoY to Rmb4.57-4.67bn, attributable net profit may rise 0-8% YoY to Rmb564.8-610.0mn, non-recurring gains or losses from fair value change of equity investments may total about -Rmb80mn, recurring net profit may climb 10-18% YoY to Rmb641.8-688.5mn, and adjusted non-IFRS net profit may increase 19-27% YoY to Rmb775.2-827.3mn. The firm’s preannounced revenue is in line, but the profit missed our expectation, as overseas operating costs rose due to inflation in Europe and the US, domestic COVID-19 resurgence weighed on its clinical business in 1H22, and the firm’s profit came under pressure as this business is still in its infancy. Moreover, gains from the investment in low- and medium-risk principal protected bank wealth management products fell sharply.
　　Trends to watch
　　Capacity expansion of small molecule CDMO on track. The Shaoxing Phase I project (200cbm) began operating in early 2022, and Pharmaron estimates the remaining 400cbm will start operating in 2022. The firm completed the acquisition of production facilities in Cramlington in the UK in January 2022, adding over 100cbm of reactor volume for cGMP active pharmaceutical ingredient (API) from trial production to commercial production. In May 2022[1], the firm entered into an asset purchase agreement with Noramco to acquire its API production base in Coventry, Rhode Island in the US. This base offers cGMP API manufacturing services from trial production to commercial production.
　　The firm’s clinical contract research organization (CRO) business saw short-term profit fluctuations due to resurgence of COVID-19 as it continues to integrate and improve the clinical segment. We believe that the firm’s profit margin for the clinical CRO business may come under pressure in 2Q22, due to upfront investment at the early stage of development and the impact of the COVID-19 resurgence on business delivery. In February 2022, Pharmaron Clinical completed the integration of Enyuan Pharmaceutical Technology (Beijing), strengthening its capabilities in pharmacometrics. On May 27, 2021, the firm established a clinical subsidiary to begin integrating its clinical business and building an integrated clinical development platform.
　　Large molecule, cell and gene therapy services growing rapidly. The firm acquired Absorption, a US company, in 2020, and completed the acquisition of Allergan Biologics Limited, a UK-based advanced manufacturing base of biologics under AbbVie, in April 2021. The firm’s revenue and profit from the large molecule, cell and gene therapy services in the US are growing rapidly, but other businesses are still seeing losses as they are in their infancy. We expect this segment to ramp up in the future.
　　Financials and valuation
　　We lower our 2022 and 2023 net profit forecasts 5.5% and 5.9% to Rmb2.07bn and Rmb2.72bn, due to overseas inflation and the firm’s reduced wealth management income, and also as the profit is under pressure because new acquisitions of assets overseas and its clinical business segment are still in the early stages of development. Pharmaron A-shares are trading at 55.7x and 42.4x 2022e and 2023e P/E, and H-shares are trading at 36.9x and 28.1x 2022e and 2023e P/E. Considering systematic adjustments in the pharmaceutical sector in 1H22, we maintain OUTPERFORM for A-shares but cut our target price 22.2% to Rmb130.00, implying 56.8x 2023e P/E with 34.2% upside. We maintain OUTPERFORM for H-shares, but cut TP 25.4% to HK$100.00, implying 37.5x 2023e P/E with 33.7% upside.
　　Risks
　　Forex fluctuations; disappointing capacity development; fluctuations in orders; uncertainty in new drug R&D; disappointing new business expansion.