The top China healthcare investment trends in 2020, according to investors – KrASIA

Chinas healthcare sector is known to be less sensitive to business cycles than others, and is therefore seen by many investors as the golden sector for investments. In 2020, many specializations within healthcare have garnered further attention as a result of various policies including reforms on centralized drug procurement, quality consistency evaluations for generic drugs, reforms in insurance systems, the pilot of Diagnosis Related Groups (DRGs) in major cities, and the diversification in payment methods.

Meanwhile, many companies suffer from cash flow problems and delayed due diligence processes as an unexpected COVID-19 disrupts the market. What changes will take place this year in Chinas healthcare sector? Which segments are investors eyeing? And, how will the coronavirus impact the market? KrASIA spoke with over 10 institutional investors about their views.

With national policies supporting technological innovation and the STAR Market providing IPO opportunities for innovative enterprises, innovation capabilities have become a touchstone for companies. Investors are bullish about innovative medical devices and globally-tested innovative drugs, where high returns are expected. Driven by favorable policies such as the set-up of a hierarchical medical system and reforms on healthcare insurance, primary care, and commercial health insurance will see more investment opportunities. Also promising are aesthetic medicine and medical services, which are considered as consumer services.

We are optimistic about four segments in 2020. The first is innovative medical devices. Innovation is key as Chinas medical device industry has reached a turning point to unlock future growth.

Second, is globally-tested innovative drugs. The sector will have very few players as barriers to entry are high to develop new drugs, but its still an interesting field that has huge potential.

Third, is the application of AI in various industries. AI will continue to be integrated into many industries since its proven to have a great impact.

Finally, SaaS and cloud computing. Applications will also spring up as the technology advances.

Qiming Venture Partners is unique in that 50% of our investments go to TMT (Technology, Media, and Telecom) and the other 50% to healthcare. We analyze the opportunities with an understanding of individual industries and we invest in partnership with other leading companies.

With national policies supporting technological innovation and encouraging IPOs of qualified domestic firms on the STAR Market, entrepreneurs and investors are promised a bright future. I believe that both the valuation and the economic environment for Chinese start-ups are changing for the better. Many founders have been significantly underestimated in terms of their potential to run great companies and there will be more opportunities for investment in 2020.

At Eight Roads, we aim to expand our presence to cover the entire industry chain, with main focuses on these four sectors: new drug discovery and development, medical devices, medical information technology, and medical services. Its our long-term strategy, but we also need to make necessary adjustments as the market develops. For example, we are paying closer attention to medical demands at the grassroots level and conducting research on how to create inclusive healthcaresolutions to satisfy those demands. An example is Bang Er Orthopedic, a firm in our portfolio offering high-quality medical services to third- and fourth-tier cities. Another example is Fucunbao, a company specializing in healthcare payment solutions for suburban and rural residents.

We will continue our focus on life sciences and precision medicine, especially innovative technologies such as molecular diagnostics, mass spectrometry platforms and their applications, synthetic biology, contract development and manufacturing organization (CDMO) for innovative drugs, genome editing, immunotherapy, cell therapy, as well as novel drug screening platforms.

Overall, we wont shift our focus in 2020. But we will pay more attention to innovative therapies and drug screening technologies while maintaining a balance in our portfolio between diagnostic and therapeutic technologies. The underlying logic of our strategy is that we invest in innovative companies driven by state-of-the-art technologies rather than those driven by new business models. We believe that technological breakthroughs will create new markets as well as change the business environment of existing markets to a certain degree. Therefore, wed like to give more attention to future-oriented companies with pioneering technologies.

The innovative medicine sector will profit from favorable policies and regulations, including the recent progress in the registrant system for medical devices, the reform of the National Medical Product Administration (NMPA), and the acceleration of drug approvals by the China Center for Drug Evaluation (CDE). Meanwhile, with Chinas basic research gradually strengthening, the continuing import of international talent, and the domestic contract research organization (CRO) and CDMO industries developing, innovative drug development will see greater success. We are positive about the future of innovative medicines in China.

This year, we are still confident in top and mid-market aesthetic medicine companies with competitive advantages. The aesthetic medicine sector is insensitive to business cycles, and except for the short-term impact from the recent COVID-19 outbreak, we are not seeing any negative influence on the sector from external factors. On top of that, we have also been focusing on ophthalmology and plastic surgery, both medical service segments providing consumer services. In 2020, there will be changes in the healthcare sector. We think the first window of opportunity has passed for the PD-1 technology and biologics, and thats why were starting long-term value investing in platform technology companies with their own provider-independent address space and distinguishing technologies. As for the company valuations this year, we conclude that there will be divergences: mediocre projects might see lower valuations while core and high-quality projects wouldnt see too much change.

The medical service sector has its unique life cycle and so do companies in this sector. A medical service company can survive and develop for one to two years on one fundraising. If the company is efficient in operation and cash flow management, it will not need more fundraising for a relatively long period.

As a result, investment focus will not shift too fast on traditional medical services, including those considered as needs and those as consumer services. In 2020, we are still positive about specialty medical services, such as cardiology, neurology, orthopedics, ophthalmology, otorhinolaryngology (ENT), aesthetic medicine, and stomatology.

In addition, since the medical service sector is largely influenced by policies, some segments within the sector are noteworthy in 2020 thanks to several policies announced in 2019. These include the drug bulk-buying programs which have been piloted in 11 cities, the decision on quality consistency evaluation for generic drugs, the pilot of Diagnosis Related Groups (DRGs) in major cities, and the promotion of diversified payment methods.

1. Companies relying on hospital profits are more affected by Chinas healthcare cost-control policy. They will need to streamline their operations or join medical groups with similar assets for shared supply chains. In this way, they will effectively lower the two ratios, namely the ratio of drug sales to total revenues and the ratio of consumable sales to total revenues, as required by the law.

2. Medical service companies relying mainly on medical insurance income will come under revenue and cost pressures in the short-term as a result of the healthcare reform. However, they will see great investment opportunities in the long run as more efficient service provisions and optimized cost structures lead to scaled business, increased revenue, and stable growth.

3. With payment methods ever more diversified, companies providing health insurance services will remain popular among investors in 2020.

While companies in many industries are struggling as the coronavirus outbreak disrupts the market, the healthcare sector is benefiting from the disaster. Test kits and devices, drugs, consumables, and smart medical services will become investors favorites this year.

Also, a number of companies are suffering from disrupted fundraising plans and facing problems such as tight cash flow and a delay in work resumption. Nevertheless, healthcare as a golden sector for investments will remain popular among investors. The worst we expect is merely a slowing down in the due diligence process. Many investors maintain that the coronavirus is a test of company competency, and the market will give all companies their test scores after the epidemic passes.

The epidemic will have a long-term impact. It will be a long time before the economy recovers due to the nationwide quarantine. Prominent changes in business models may be seen during the period.

The market trend of a heavily regulated medical sector will be largely influenced by the reforms imposed by the state and local governments after the epidemic passes, which adds to the uncertainties in entrepreneurship and investment.

It is foreseeable that investors will stay conservative at least in the first half of the year and start-ups are subject to various levels of impact. However, the market segments might become more concentrated, with leading companies taking up even larger market shares.

We will make adequate adjustments to our investment strategy. Our main concern will be whether the original business logic has been influenced or even transformed by the substantial change of the market environment. We will treat it as a thought experiment that involves iterative improvement. Apart from that, our long-term strategy of value investing will essentially remain unchanged, but we cant rule out the possibility of increasing our investments in outstanding companies of different segments.

The COVID-19 outbreak may slow down the investment pace of most institutional investors. Once the epidemic is kept under control, projects recovering first are those that have passed the evaluation stage and are moving to the delivery. Projects without sufficient funds are likely to face rising operating pressure and will have to accept valuation discounts in return for faster financing, while projects with sufficient funds will face more challenges from delayed R&D and sales. However, fund managers are also under pressure as the law stipulates that closed-end funds must operate for at least five years. A need for increased returns may urge them to invest in high-quality projects in the second half of the year.

The epidemics short-term impact on the secondary market has already been apparent: publicly traded companies are showing impressive performances in sectors such as in-vitro diagnostics (IVD), third-party inspections, medical devices, and protective supplies.

In terms of the primary market, we are interested in companies long-term value and competitiveness as well as short-term value and performances.

To be more specific, first, were paying special attention to areas related to COVID-19 testing, such as consumables and chemicals, because the testing is crucial for COVID-19 diagnosis. Second, were very interested in projects related to life support, for example, those of medical apparatuses and imaging equipment. We will focus on projects in this field that have clinical potential, patented technologies, and long-term value. Third, the smart healthcare sector has some investment opportunities that will increase in the long run.

As an institutional investor focusing on the healthcare sector, we will keep an eye on investment opportunities in the short term. However, our strategy is more about long-term investments through industry research rather than trend-chasing.

Overall, the coronavirus is a test of company competency. It helps us to spot promising companies that can contribute to the fight against the disease. Besides, the government will focus more on public health and access to healthcare. We will also closely monitor this trend, as it will bring a wave of opportunities for the healthcare sector and cause changes in the entire industry as well.

In response to the outbreak of COVID-19, we will invest in sectors related to national strategies, such as advanced biotech and virus prevention and control. Of course, the epidemic has affected the work pace of institutional investors. For example, the progress of our investments will surely slow down in Q1 and Q2. Some of the ongoing fundings and due diligence processes will be delayed. But we expect things to gradually return to normal from May onward.

Novel vaccines will be promising. By novel vaccines, we are referring to vaccines for COVID-19, SARS, flu, and the like. These vaccines require advanced technologies and a long time to develop, but they bring large rewards. The epidemic has triggered mass panic and led to a surge in the demand for flu vaccination and other voluntary vaccinations. For that reason, we think companies with access to innovative adjuvant technologies will be good long-term investments.

All in all, the unexpected incident will not reshape the investment logic in healthcare. Judging from how the 2003 SARS pandemic affected China, economic activities will normalize as uncertainties gradually diminish. As the demand for healthcare is inelastic to prices, it will recover fast once the epidemic passes, and investments in the healthcare sector will be back on track.

The underlying logic of healthcare growth remains unchanged in the long term. The cooling-off period brought by the epidemic is a good opportunity for leading institutional investors to invest in high-quality companies.

This article was first published in 36Kr, the parent company of KrASIA.

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The top China healthcare investment trends in 2020, according to investors - KrASIA