Mega Genomics Eyes Hong Kong IPO To Ride Growing Popularity of Genetic Testing

Key Takeaways:

• Mega Genomics is looking to list about 11.9 million shares at HK$18-HK$22 apiece in Hong Kong on June 23
• Although the company’s net profit didn’t grow last year amid pressure on margins, it remained profitable unlike listed competitors New Horizon Health and Burning Rock Biotech

By Molly Wen

The popularity of genetic testing is growing fast in an increasingly health-conscious China. For Mega Genomics Ltd. (6667.HK), this trend presents an apt opportunity to raise fresh funds in an IPO.

The genetic testing company, which is backed by health check center chain Meinian OneHealth (002044.SZ), is looking to raise as much as HK$260 million ($33 million) by listing about 11.9 million shares at HK$18-HK$22 apiece in Hong Kong next Thursday.

The plan seems to be going quite well. A number of cornerstone investors, including Maccura Biotechnology(300463.SZ), are set to snatch up more than 80% of the shares on offer. And the other shares open to the public were oversubscribed by 4.6 times at the end of Wednesday.

Investors may see good potential in Mega Genomics as its services are attracting a lot of customers in China nowadays. Genetic testing can be used for any number of purposes. It can track your ancestors or reveal whether your potential talent. Or of course, it can detect health risks. All you need to do is to collect a saliva sample at home and submit it to a testing company. And you receive a report laying out results in detail.

Mega Genomics, which was founded by Yu Rong, the Chairman of Meinian OneHealth in 2016, is focused consumer genetic testing and cancer screening services, with the former accounting for about 60% of its revenue and the latter making up the rest last year. The company had a 60% share in the consumer genetic testing market in China in 2020 in terms of the number of tests, although the figure falls to about 34% when based on revenue, according to its IPO prospectus.

Relationships with clinics are crucial for Mega Genomics because even if a test flags a health risk, it still needs to be validated by a medical professional. Mega Genomics collaborates with with more than 1,400 healthcare institutions, more than half of which are physical examination centers, in hundreds of cities across China.

Ties to Meinian OneHealth have been a boon to Mega Genomics. Even after two rounds of financing that diluted ownership of existing shareholders, Meinian OneHealth holds a 16.39% stake, with Yu owning another 10%. Taking advantage of Meinian OneHealth’s vast network of physical examination centers, Mega Genomics derived nearly half of its revenue from Meinian OneHealth, although the proportion declined a bit in the past few years.

All of these worked well for Mega Genomics – until 2020, that is. Its revenue jumped more than 60% to 203 million yuan ($30 million) that year from 2019, while its net profit more than doubled to about 79 million yuan on the back of higher-margin consumer genetic testing.

Worsening margins

Mega Genomics’s revenue growth slowed last year, with its net profit nearly unchanged.

One problem was the company’s margins worsened, with a key culprit being its Covid-19 testing operations. The number of Covid-19 tests the company conducted increased substantially last year but because of a government mandate to cut prices for such tests, margins for this business dropped last year.

Also, Mega Genomics faces stiff competition, with about 20 companies fighting for market share in consumer genetic testing. This means marketing is crucial for Mega Genomics, but it requires hefty spending, which, again, can eat into margins. Last year, the company spent nearly 23 million yuan for sales and distribution, roughly double its R&D expenditure. Mega Genomics plans to 30% of funds it raises from its Hong Kong IPO for sales and marketing.

To overcome these difficulties, Mega Genomics is looking to shift its focus to cancer testing. This makes sense because tests for non-medical purposes, such as ancestry tracing, are unlikely to yield repeat customers.

Expansion in cancer testing won’t be smooth sailing either as Mega Genomics will face an uphill battle to take market share from companies like New Horizon Health (6606.HK) and Burning Rock Biotech BNR.

However, both New Horizon Health and Burning Rock Biotech are unprofitable, with a huge valuation gap. New Horizon Health shares are trading at a price-to-sales (P/S) ratio of 32, which dwarfs 3 for Burning Rock Biotech, though a large part of the difference is probably because of generally soured sentiment toward Chinese stocks listed in the U.S.

The midpoint of Mega Genomics’ target price range of its Hong Kong IPO gives it a P/S ratio of about 17. But given that the company is profitable, with a firm business relationship with Meinian OneHealth, investors may find its stock at this valuation quite attractive.