2021 results in line with market expectation
　　United Laboratories announced its 2021 results: Revenue rose 10.6% YoY to Rmb9.7bn and core net profit grew 18.6% YoY to Rmb1.28bn. In 2H21, revenue increased 11.6% YoY to Rmb4.98bn, but core net profit fell 15.1% YoY to Rmb556mn mainly due to rising selling and R&D spending. As the firm recognized an impairment loss of Rmb297mn, its net profit is 9.6% lower than our expectation, but core net profit is 8.0% higher than our forecast. The 2021 results are in line with market expectations.
　　Trends to watch
　　Stepped-up efforts to expand to lower-tier markets amid the centralized procurement of insulin products: In 2021, revenue from　human insulin gained 4.4% YoY to Rmb869mn and glargine insulin products advanced 37.4% YoY to Rmb553mn; revenue from insulin aspart and insulin aspart 30 combined reached Rmb12.2mn. In the sixth batch of the centralized drug procurement, the firm’s bidding prices of human insulin, glargine insulin and insulin aspart were about Rmb27-29 (down 32%), Rmb67 (down 57%) and Rmb41. These prices will become effective in May 2022. After winning bids, United Laboratories’ inventories at distribution have dropped to one month from three months. The firm plans to increase sales volume of human insulin and glargine insulin products by 10% and 80% in 2022. It has stepped up efforts to develop grassroots markets. The management team expects lower-tier markets to see faster growth than large cities, and the proportion of grassroots markets’ contribution to total revenue is expected to rise to 65% in 2022 from 55% in 2021.
　　Prices of intermediates have increased and remain in an upward　trend. In 2021, revenue from intermediates increased 18.9% YoY to Rmb1.7bn and API grew 9.6% YoY to Rmb3.97bn. According to Wind data, prices of penicillin industrial salt surged 123.7% YoY to Rmb212.5/BOU and 6-APA advanced 54.6% YoY to Rmb340.0/kg in February 2022. United Laboratories expects prices of intermediates to stay high in 2022.
　　Innovative drugs and veterinary medicines to become new earnings　growth drivers: R&D spending rose 37% YoY to Rmb465mn in 2021, and management expects it to continue rising in 2022. At present, United Laboratories has expanded to the fields of diabetes, endocrinology, autoimmunity and ophthalmology, and 9 Class I new drugs are under　development. Insulin aspart 50 has been approved for clinical trials in May 2021, and the firm submitted a clinical trial application for semaglutide in June 2021. In 2021, revenue from veterinary medicines rose 76% YoY to Rmb387mn. Management provides guidance that capex and revenue of the veterinary medicine business could reach Rmb500-600mn and Rmb600-700mn in 2022. We believe United Laboratories can enter the high-margin economic veterinary medicine and pet drug markets based on its experiences in antibiotics and insulin markets.
　　Financials and valuation
　　To reflect rising R&D and selling expenses, we lower our 2022 EPS forecast 3% to Rmb0.74 and our 2023 EPS forecast 10% to Rmb0.77. The stock is trading at 4.8x 2022e and 4.6x 2023e P/E. Given our positive view on the firm’s new growth drivers such as innovative drugs and veterinary medicine, we maintain an OUTPERFORM rating and TP at HK$6.24, implying 7.2x 2022e and 7.0x 2023e P/E and offering 50.7% upside.
　　Risks
　　Disappointing R&D progress; slowing sales growth of insulin products; falling prices of intermediates