CSPC Pharma's Earnings Hit By China's Drug Price Control Measures

The generic drugs giant has warned of a 26% slide in annual profits after China's national healthcare system imposed big price cuts on qualifying medicines

Key Takeaways:

• CSPC Pharma was already on track for a tough earnings season after its nine-month profits fell 15.9%
• Another blow was the sudden departure of the firm's head of innovative drug research, Liu Yongjun, a well-known industry figure

Is the gloss coming off the crown for one of the kings of China's drugs industry?

A profit warning late last month from drugs giant CSPC Pharmaceutical Group Ltd. (1093.HK) does beg the question. After enjoying growing sales of cancer drugs and antibiotics, the company is now facing a steep drop in its full-year profits, hit by price controls for its signature products under China's national healthcare system.

After the market close on February 25, CSPC Pharma said it expected its net profit for 2024 to have fallen about 26% from the 5.87 billion yuan ($807 million) it earned in 2023. The drop was blamed on a 7% decline in takings from the finished drug business, the main pillar of the company's earnings.

Finished drugs brought in 13.55 billion yuan, 83% of total revenue, in the first half of 2024. CSPC Pharma, one of four so-called kings of the Chinese generic drugs business, also sells raw materials for antibiotics, vitamin C products and other supplements.

In the statement, CSPC Pharma blamed its earnings slide on China's centralized drug procurement process, which had slashed the prices of key products. A drug used to elevate white blood cells during chemotherapy had its price cut by 58% under the bulk deal. Another CSPC Pharma drug for lymphoma and breast or ovarian cancer was discounted by 23% in the same procurement round, the company said.

Sales of these two star products, Jinyouli and Duomeisu, have been falling since the bulk purchasing policy was gradually rolled out across Chinese regions over the past year, the company said. The revenue from oncology therapeutics therefore plunged around 28% in 2024 compared with the prior year.

Any products knocked out of the bulk bidding will not suffer big price cuts, but losing access to this centrally coordinated market would also take its toll on earnings. CSPC Pharma pointed out that sales of Xuanning, a drug for hypertension and angina, had fallen sharply in hospitals that had adopted the new system, after the product failed to be selected in a procurement round in 2023. As a result, revenue from the cardiovascular therapeutic area fell approximately 15% in 2024 from the previous year.

Pitching competitive bids for national health contracts is a key revenue factor for a company like CSPC Pharma, which produces a wide range of generic drugs. Fifteen of its products were selected in the latest national procurement round. Eight of the winning CSPC Pharma bids were the cheapest in the mix, according to details that emerged from a meeting last December of the national purchasing agency. As well as the price, the body also took the firm's high-tech manufacturing capability and in-house production of active pharmaceutical ingredients into account, judging that CSPC Pharma could deliver quality products even at the cheaper rate.

In fact, CSPC Pharma was already heading for a weak full-year result. Its operating revenue rose just 1.3% to 6.28 billion yuan in the first half of 2024, for a net profit of 3.2 billion yuan.  Given that profits for the first nine months fell 15.9%, the slide must have accelerated in the fourth quarter to justify the latest full-year projection.

Developing new drugs

In recent years, many veteran suppliers of generic drugs have been shifting their focus to emerging treatments, partly to offset central procurement's bargaining power. One of the other "four kings", Hengrui Pharmaceuticals (600276.SH), is taking the lead in moving up the value chain to produce innovative drugs. Hengrui's profits shrank for two straight years before it managed to offset the procurement squeeze in 2023. Since then, Hengrui has returned to earnings growth on the back of its novel drug business.

CSPC Pharma has also been investing heavily in innovative drug research and development since 2018, although most of the resulting compounds are still at the clinical trial stage. The candidate drugs include mRNA vaccines and targeted therapies using antibody drug conjugates (ADCs) as well as monoclonal or bispecific antibodies.

So far only three of the drugs have been approved for sale, and the new pipelines will not make up for lost revenue from discounted generics in the health program. In its half-year results for 2024, the company said it had around 60 key drugs under development, of which seven have been submitted for marketing approval and 19 are still entering the clinical stage.

The challenges have been compounded by executive changes. Last September, CSPC Pharma welcomed a new head of global R&D who had previously worked for Innovent and had built up standing in the industry. Liu Yongjun was given a brief to speed up the development program, but he left suddenly after just three months in the job, raising concerns about the pace of progress towards a portfolio of advanced drugs.

On the positive side, the company has also entered into a series of licensing deals. Most Chinese companies keep hold of the domestic market when they sell marketing rights to new or candidate drugs, but CSPC is taking a different approach. Its latest agreements transfer global rights including Greater China to its partners, suggesting the company may intend to specialize in the preliminary phase of R&D.

Global development and sales rights for a potential lipid-lowering therapy as well as experimental drugs for a variety of cardiovascular diseases were sold to AstraZeneca (AZN.US) in October last year. The deal gives CSPC Pharma up to $2 billion, including a down payment of $100 million (729 million yuan). Two months later the drug giant licensed out its global interests in a drug for cancers with a gene mutation known as MAT2A to BeiGene (6160.HK, BGNE.US). CSPC Pharma gets an upfront fee of up to $150 million, development payments of up to $135 million and further fees of up to $1.55 billion if it hits sales milestones, as well as royalties.

The income from those deals should burnish CSPC Pharma's results, but at the cost of lucrative benefits down the road if the drugs eventually go on sale. The firm currently trades at a price-to-earnings (P/E) ratio of just 10 times, far lower than the 54 times for Hengrui Pharmaceuticals. The company's stock has slipped since the profit warning, but the price remains virtually flat for the year to date.

With underwhelming earnings, CSPC Pharma will need to show swift progress on innovative drugs if it wants to inspire more confidence among investors.