Morningstar | 01099 Updated Forecasts and Estimates from 09 Nov 2018
Sinopharm Group Co. announced third-quarter results that surprised to the upside, indicating that the company continues on the path to recovery from its poor first quarter. However, accounts receivable days continue to increase, so all is not clear just yet. We plan on making minor adjustments to our model assumptions, but expect our fair value estimate to remain very close to our previous estimate of HKD 35 per share. Sinopharm reported gross margins of 9.1% for this quarter, which is slightly lower than the extraordinary 9.4% of second quarter but still well above fiscal 2017’s margins of 8.3%. This is due to the higher proportion of direct sales, which has better margins than indirect sales. Moreover, this quarter saw a large contraction in SG&A expenses, falling from 4.8% in second quarter to 3.7% this quarter. The current level is similar to Sinopharm’s SG&A costs before the implementation of the Two Invoice Policy. In other words, it appears that Sinopharm has been able to successfully build out its direct sales network and enjoy the corresponding gross margin expansion with only a temporary increase in SG&A in the first half of this year. This is a positive sign, and implies that the expansion in operating margins will be reasonably long lasting. Finance costs have started to fall, falling from 1.4% of revenues last quarter to 1% this quarter, which is in line with our expectation of easing credit conditions for this sector. However, accounts receivable days continue to rise from 122 days to 131 days, which indicates that the hospitals Sinopharm serves have not begun to recover from the Zero-Markup Policy. The worst is likely behind Sinopharm, and the stock has been a good defensive play during the recent volatility in Chinese healthcare stocks. However, the shares appear close to fair value right now; while we do not think it is expensive, we believe that at this time other stocks in the sector provide greater value.Sinopharm Group is a distributor of pharmaceutical and healthcare products, and a supply chain services provider in the People's Republic of China. Through its subsidiaries, Co. is engaged in the distribution of medicines and pharmaceutical products to customers including hospitals, other distributors, retail drug stores and clinics; operation of pharmaceutical chain stores; and distribution of laboratory supplies, manufacture and distribution of chemical reagents, and production and sale of pharmaceutical products and distribution of medical device.
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