China graft probes a tough tonic as pharma margins bounce

By Adam Jourdan

SHANGHAI, June 11 (Reuters) - Sales growth is picking upspeed at Chinese drugs firms, and margins are widening, in asign that the world's second-largest pharmaceuticals market maybe rebounding from a crackdown on corruption and high prices.

A Reuters' analysis of more than five dozen Chinesehealthcare companies shows sales growth bounced to 15.6 percentin January-March after falling steadily from around 30 percentin 2011. There was also stronger growth in margins and profits.

Faster growth in China is good news for local and globalfirms chasing a medicine bill estimated by IMS Health to hit$185 billion by 2018, but who have taken a hit from a series ofbribery probes that led to a $500 million fine against Britishdrugmaker GlaxoSmithKline PLC last year.

"Sales departments did slow down activities in China andhave taken their time to adapt their sales efforts," said AnandTharmaratnam, head of Asia Pacific for drug development firmQuintiles Transnational Holdings Inc. "But there are 1.4billion people here. They're going to fall ill and that's notgoing to change," he told Reuters at the firm's new regionalheadquarters in Shanghai.

Industry executives said firms had adapted their operationsto the greater levels of scrutiny on marketing and sales sincethe corruption probes; others said spending on wining and dininghad fallen, helping trim costs and boost margins.

The data - a swing from a similar analysis a year ago whichshowed a squeeze on margins and profits - offersa rare window into potentially improving prospects for globalBig Pharma in China, few of which break out local sales.

"I'd say overall things have stabilized over the last 6-9months in every dimension, and I'm personally cautiouslyoptimistic in terms of what we can see happening now in China,"GSK CEO Andrew Witty said in May.

WINING AND DINING

Beijing is helping firms through tax breaks and preferentialpricing on drugs amid a push to more widely encourage healthcareinnovation and research. Firms are also shedding staff and lessprofitable products to cut costs.

"A combination of these is helping firms improve margins,"said Guillaume Demarne, a Shanghai-based business manager at afirm helping healthcare companies to enter the Chinese market.

The Reuters' analysis showed margins widened to 6.9 percentin the first quarter after falling to 5.3 percent in 2014.Profit growth, which stagnated in 2012 and 2013, started tobounce last year and sped to 26 percent at the start of 2015.

A Shanghai-based compliance expert who works with drug firmssaid the corruption crackdown had reduced "wining and dining"between firms and local partners or regulators, hamperingbusiness in the short-term, but now helping trim costs.

"With the anti-corruption drive you've seen lower costs ofentertaining, and this has helped some firms streamline theirbusiness," another industry insider said. Both asked not to benamed as they are not permitted to speak with the media.

Investigations into healthcare have by no means ceased;China launched probes into two healthcare officials last monthand sources told Reuters earlier this year that regulators hadquietly started to probe the medical devices sector.

A Deutsche Bank report said 83 percent of industryexecutives expect drug sales growth at hospitals, the dominantsales channel for medicine in China, to accelerate this year.

WINNERS AND LOSERS

Longer-term, analysts said growth in the market was likelyto cool amid a wider economic slowdown, but the prospect ofrising healthcare demands from China's ageing population was tooenticing for global firms and investors to ignore.

This has driven up Chinese healthcare stocks to recordhighs. The CSI300 Health Care Index of Shanghai andShenzhen-listed firms is up 63 percent this year, beating thewider index's 50 percent gain.

Broader healthcare reforms are likely to benefit firms withexclusive drugs, medicines on China's essential drug list (EDL),and strong R&D pipelines, analysts said. Retail drug sales willalso benefit from a drive by Beijing to push medicine sales awayfrom hospitals.

Goldman Sachs had buy ratings on Lijun International, WuXi PharmaTech, China Medical Systems, Fosun Pharmaceutical and CSPCPharmaceutical among others.

"Medical reforms like the separation of drugs from medicaltreatment will move drug sales more into private drug storesrather than in-house hospital pharmacies," said Frank Zhao,chief financial officer at China Jo-Jo Drugstores Inc.

"This should propel growth of retail sales." (Additional reporting by Ben Hirschler in LONDON; Editing byIan Geoghegan)