高盛 中国医疗行业研究报告 2011-3

March 23, 2011 China: Healthcare: Medical DevicesEquity ResearchSmall fish in a big pond: initiating on medical devices； Buy Yuyue Medical device sector set for strong growth off a low base The industrial output from Chinas medical device industry has grown at a CAGR of 28.5% between 2002 and 2009, pushing up to 9.4% its contribution to total healthcare production, even if this is still far below the 42% share held by global peers (on average). Local players account for 80% of the mid-/low-end medical device companies, which in turn make up 65% of Chinas medical device market. We believe mid-/low-end medical devices will see the fastest growth and therefore see considerable potential for local players. Top picks: Home-use, mid/low-end medical devices and implants We think the fastest-growing segments within medical devices will be home-use medical devices, mid-/low-end devices and implants. We expect home-use devices to grow at a CAGR of 30%-35% between 2010-13E, and we see mid-/low-end devices and implants growing at a CAGR of 25%-30%.Three investment themes in our top picks Chinas home medical device market is characterized by its small size and relatively disordered scattering over a large number of players. We see successful players gaining market share through dynamic channel distribution and brand strength. There is a need for product upgrading in the mid-/low-end device segment, and a big shortfall in supplies. We think market potential will determine future growth. Locally-made implants will gradually replace imports, and we see technology and R&D strength having a direct impact on the competitive outlook. Buy Yuyue, Neutral on Shinva and Lepu We prefer Yuyue, where we foresee a 2010-13E net profit CAGR of 42%. Yuyue should benefit from sustained high growth in the home-use medical device market. It aims to increase exports after meeting domestic demand, and we see long-term growth potential in its newly launched high-value consumables. We think there is considerable potential for Shinvas key disinfection/sterilization equipment over the next 5 years, with a further boost to growth from the non-PVC soft bag I.V. solution line, a high-value-integrated solution package and expansion through M&A. Lepu will continue to build its high-value business on its heart disease expertise, and should further increase its penetration in the stents market thanks to its technological lead in China. We think Shinva and Lepu are fairly priced and initiate on them with a Neutral rating. YUYUE (002223.SZ, BUY): VALUATIONS, PROFITABILITY Source: Company data, Gao Hua Securities Research estimates. MEDICAL DEVICE FIRMS UNDER COVERAGE Source: Gao Hua Securities Research estimates. 1-YEAR PRICE PERFORMANCE OF NEWLY COVERED COMPANIES Source: Gao Hua Securities Research estimates. Fengqi Qian +86(21)2401-8929 Beijing Gao Hua Securities Company LimitedThe Goldman Sachs Group, Inc. does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. For Reg AC certification, see the end of the text. Other important disclosures follow the Reg AC certification, or go to /research/hedge.html. Analysts employed by non-US affiliates are not registered/qualified as research analysts with FINRA in the U.S. Wei Du, Ph.D +86(21)2401-8928 Beijing Gao Hua Securities Company LimitedThe Goldman Sachs Group, Inc. Global Investment Research2009 2010E 2011E 2012EEPS (Rmb) 0.7 0.6 1.0 1.4EPS YoY (%) 8.4 -1.5 60.2 36.3Gross margin (%) 38.2 39.1 40.3 40.7Net margin (%) 18.7 18.2 19.4 19.5CROCI (%) 33.7 36.0 43.6 44.7ROE (%) 22.8 24.6 28.6 32.0PE (X) 59.0 59.9 37.4 27.4PB (X) 12.5 11.8 9.8 7.9Company Ticker RatingPrice(3-18)12-m TPPotential upside /downsideYuyue 002223.SZ Buy 38.4 48.6 27%Kehua 002022.SZ Neutral 16.9 19.9 18%Lepu 300003.SZ Neutral 28.3 28.3 0%Shinva 600587.SS Neutral 29.4 26.6 -10%0%50%100%150%200%250%3/5/2010 5/5/2010 7/5/2010 9/5/2010 11/5/2010 1/5/2011 3/5/2011Yuyue Shinva LepuMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 2 Table of contents Investment view: Initiating on Yuyue with a Buy 3Sector overview: Small fish in a big pond 5Top picks: Home-use, mid-/low-end medical devices and implants 8Theme 1: Home-use medical devices channel and brand are key 13Theme 2: Mid-/low-end devices focus on market potential 16Theme 3: Implantable medical devices driven by tech and R&D 18Valuation: We use EV/GCI vs. CROCI/WACC as our primary valuation methodology 22At a glance: analysis and comparisons 26Yuyue (002223.SZ, Buy): High growth, high premium 27Shinva (600587.SS, Neutral): Organic growth plus M&A 32Lepu (300003.SZ, Neutral): Chinas heart disease specialist 35Appendix: Global medical devices peers financial comparison 39EXPECTED NEWS FLOW/EVENTS DATE EVENT COMMENT April 12, 2011 Yuyue 2010 annual report Earnings to post strongest growth among A-share medical device firms April 2011 Shinva 1Q2011 results To watch for progress in potential acquisitions April 2011 Lepu 1Q2011 results Main concerns on businesses of heart valves and pacemakers 3Q2011 Launch of Yuyues blood glucose meter Another blockbuster product of Yuyue 3Q2011 Kick-off of bidding for high-value consumables Potential price cuts for Lepus stent Source: Company data, Gao Hua Securities Research estimates. Prices in the body of this report are as of the market close of March 18, 2011. The author would like to thank Li Yu for his invaluable contribution to this report. March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 3 Investment view: Initiating on Yuyue with a Buy We are initiating on the China medical device industry and believe the sectors growth will outpace that of the wider healthcare industry over the next 10 years with a CAGR of 25%+ in terms of output value. Home-use medical devices, mid-/low-end devices and implants are our top picks among all the sub-segments. We initiate coverage on three medical device makers, with a Buy rating for Yuyue (002223.SZ) and Neutral rating for both Lepu (300003.SZ) and Shinva (600587.SS). We favor three subsectors within medical devices Among the medical device subsectors we see the fastest growth coming from home-use medical devices, mid-/low-end medical equipment and embedded medical devices. We expect home-use devices to grow at a CAGR of 30%-35% between 2010-13E, and we see mid-/low-end devices and implants growing at a CAGR of 25%-30%. Home-use medical devices: The market penetration of home-use medical devices in China is well below 10%, and we therefore see substantial potential for improvement. We see sustained rapid growth in the segment due to an ageing population, increasing per capita income, and lifestyle shifts. Mid-/low-end medical equipment: Grassroots medical institutions are major consumers of mid-/low-end medical equipment. We see relatively rapid growth in this sector thanks to government efforts to upgrade devices and make up for shortfalls at the grassroots level as well as direct demand from the institutions to replace old equipment and make up for shortfalls. Implantable devices: Multinationals still dominate the market, but locally-made products are beginning to replace those made by overseas makers. We see impetus for rapid growth because of the ageing population, a greater ability among the general public to afford these devices (along with higher reimbursement quotas), better surgical capability in China, and technological innovation. Stock selection within the medical device segment Medical devices are widely diversified, and there are differences from company to company in terms of the criteria necessary for competitiveness. Our best-quality choices are mostly the leading players of each sub-segment. These companies are best positioned to target the nationwide market with their distinct strengths. Currently, there are only a few A-share medical device manufacturers, but we view them all as leading players. Listed below are investment themes upon which we have based our top picks for the three sub-segments: Home-use medical devices - Distribution channels and brand strength. In the home-use medical device segment, there are a number of small firms that focus on specific regions. However, Yuyue is our top pick because it has nationwide distribution channels and one of its main areas of strength is its brand recognition throughout the country. Mid/low-end medical equipment Substantial market potential. Domestic firms are key players in this segment, and market share expansion requires a good price/performance ratio and outstanding bidding abilities. Future growth will depend on the segments market potential. Our estimates suggest that there is more market potential for disinfection and sterilizing equipment than there is for high-frequency X-ray machines, and we think Shinva is a better choice in this segment. March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 4 Implantable medical devices - Technology and R&D dominate growth. Growth in this segment largely depends on technological improvements and R&D. Competition between manufacturers also depends on their technological and R&D capabilities, which are also essential for domestic firms to take over market share from overseas firms. We believe Lepu is a good choice under this theme for its strength in cardiac medical devices R&D capability. Our top pick: Jiangsu Yuyue Medical Equipment (002223.SZ), Buy We expect 2010-13E sales revenue to grow at a CAGR of 38.8% with net profit at 42.0%. We see Yuyue being the biggest beneficiary of rapid growth in home-use medical devices. Yuyue is constantly expanding its market share through its formidable sales strength, and we think its venture into high-value consumables will lend support to its medium- and long-term growth. Accelerated overseas sales should also expand its global market share. We think its growth since listing is very impressive and believe it will grow into a leading player in the domestic medical device segment if it sustains its high growth over the next few years. Our 12-month target price is Rmb48.60, implying 27% upside potential. Our EV/GCI vs. CROCI/WACC framework suggests that Yuyue is still undervalued. Shinva Medical Instrument (600587.SS), Neutral We expect 2010-13E sales revenue to grow at a CAGR of 29.2% and net profit at 35.8%. We believe Shinva is the top player in the domestic disinfection and sterilizing equipment market. Shinvas organic growth mainly comes from its sustained rapid rise in the use of sterilization equipment, a full-capacity kick-off at its non-PVC soft bag I.V. solution line, and contribution from high value-added integrated solution packages. We expect the company to focus on expansion through M&A in the next five years, and think the company is already accelerating its M&A pace under pressure from its biggest shareholder. Our 12-month target price is Rmb26.60, implying 10% downside potential, as we think the stocks valuation is justified under our EV/GCI vs. CROCI/WACC framework. Lepu Medical Technology (300003.SZ), Neutral We expect 2010-13E sales revenues to grow at a CAGR of 30.9% with net profits growing at 29.4%. We take a favorable view of its focus on cardiac devices. Stents are the only category of implants that are seeing foreign-to-domestic substitution, and Lepu is expanding its market share through its formidable technological strengths. The company has lately won approval to sell its polymer-free DES and is leading its peers in this aspect. As the top domestic player in cardiac devices, it is expanding into more high-value businesses in this area. Our 12-month target price is Rmb28.30, which we think is justified under our EV/GCI vs. CROCI/WACC framework. We think the shares could come under downward pressure in reaction to fears of a decline in stent prices. March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 5 Medical devices industry: risk factors Chinese government starting to tighten price controls on medical devices. Volatile raw material (e.g. steel) prices could impact the cost base. Exhibit 1: We initiate on Yuyue with a Buy rating Overview of healthcare names within our A-share coverage *Indicates the stock is on the Conviction List. For important disclosures, please go to /research/hedge.html. Source: Gao Hua Securities Research estimates. Exhibit 2: Our Yuyue estimates are higher than consensus； Shinva and Lepu are below consensus Our estimates for the three medical device firms newly added to our coverage vs. consensus Source: Wind, Gao Hua Securities Research estimates. Sector overview: Small fish in a big pond Chinas medical device sector is experiencing a high-growth period off a low base. We expect the sector to outgrow the healthcare industry as a whole in the coming ten years, with a corresponding rise in its share of industry-wide industrial output. In particular, we foresee sustained high growth in domestic players that currently have a combined 80% share of the mid/low-end medical device market, as this segment accounts for 65% of Chinas overall medical device market. We think the segments 65% share in the overall market is unlikely to decline over the next three years given circumstances unique to China. EPSCAGRImpliedP/E (X)PEG(X)PB (X) ROEGrossmarginEBITmarginNetmarginCROCI10E 11E 12E 10-13E 10E 11E 12E 11E 11-13E 11E 11E 11E 11E 11E 11EBuyZhongheng 600252.SS Buy* 177 32.5 47.4 46% 0.8 1.5 2.1 66% 43 21 16 31 0.7 9.1 52% 69% 39% 31% 48%Yuyue 002223.SZ Buy 97 38.4 48.6 27% 0.6 1.0 1.4 48% 60 37 27 47 1.1 9.8 29% 40% 21% 19% 44%E-Jiao 000423.SZ Buy 267 46.2 58.8 27% 0.9 1.5 1.9 44% 52 30 25 39 2.0 9.9 35% 59% 30% 29% 154%Sanjiu 000999.SZ Buy 219 22.4 28.5 27% 0.8 1.1 1.3 26% 30 21 17 26 1.0 4.5 23% 61% 23% 20% 32%Baiyao 000538.SZ Buy 395 56.9 71.0 25% 1.4 1.9 2.4 28% 39 31 24 38 1.2 7.2 26% 34% 12% 10% 59%Huahai 600521.SS Buy 50 16.7 18.9 13% 0.3 0.5 0.8 55% 52 32 22 37 0.8 5.1 17% 39% 12% 18% 20%NeutralKehua 002022.SZ Neutral 83 16.9 19.9 18% 0.5 0.6 0.7 27% 37 27 23 32 1.4 6.5 27% 53% 35% 32% 61%Hisun 600267.SS Neutral 166 37.0 39.8 8% 0.7 0.8 1.2 33% 57 45 32 48 1.0 4.1 9% 29% 5% 7% 12%Kunming 600422.SS Neutral 43 13.7 14.4 5% 0.3 0.4 0.6 47% 50 33 23 34 0.9 5.0 16% 34% 8% 6% 18%Hepalink 002399.SZ Neutral 513 128.2 133.5 4% 3.0 4.4 3.5 8% 43 29 37 30 7.4 5.1 19% 44% 40% 34% 103%Lepu 300003.SZ Neutral 230 28.3 28.3 0% 0.5 0.7 0.9 30% 53 42 33 42 1.5 9.4 24% 84% 59% 54% 58%Hengrui 600276.SS Neutral 352 47.3 47.2 0% 1.0 1.3 1.6 27% 47 36 30 36 2.1 8.1 25% 82% 24% 20% 34%Tasly 600535.SS Neutral 192 39.3 37.5 -5% 0.9 1.1 1.3 23% 46 36 31 34 3.6 8.0 24% 33% 11% 10% 25%Shinva 600587.SS Neutral 40 29.4 26.6 -10% 0.4 0.6 0.9 39% 43 46 34 41 1.4 5.0 12% 23% 6% 5% 15%SellBeijing SL 002038.SZ Sell 140 55.6 42.8 -23% 1.1 1.3 1.4 15% 51 43 39 33 3.3 9.9 25% 80% 59% 59% 40%NHU 002001.SZ Sell 212 31.8 20.6 -35% 1.5 1.5 1.7 6% 21 22 19 14 1.9 5.6 28% 51% 40% 29% 34%Average 198 8% 0.9 1.3 1.5 0.3 45 33 27 35 2.0 7.0 24% 51% 27% 24% 47%Median 185 6% 0.8 1.1 1.4 0.3 46 33 26 35 1.4 6.8 25% 47% 24% 20% 37%Price(3/18)12-mTargetPricePotentialUpside/DownsideEPS P/E (X)Company Ticker RatingM.cap(RMBbn)Gaohua forecast Consensus Difference(%) Gaohua forecast Consensus Difference(%)Yuyue 002223.SZ 1.03 0.98 5.3% 1.40 1.35 3.6%Shinva 600587.SS 0.64 0.67 -4.3% 0.87 0.96 -9.3%Lepu 300003.SZ 0.68 0.70 -3.3% 0.85 0.96 -11.2%Company TickerEPS 2011E EPS 2012EMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 6 Rising share of medical device sector in healthcare industry There was rapid growth in the output value of the medical device sector between 2002 and 2009 (CAGR of 28.5%). This was much higher than the CAGR of 20.9% in the healthcare industry, and raised the segments share of the overall healthcare industry output value to 9.4% in 2009 from 6.7% in 2002. However, we still see significant upside compared with medical device segments 42% share of the healthcare sector globally. Therefore, we expect the medical device sector to outgrow the industry as a whole in the coming ten years, with an output value CAGR of around 25% vs. a 22% CAGR of the overall industry in 2010-19E (estimate by SFDA Southern Pharmaceutical Economic Institute). Exhibit 3: Medical device sector outgrowing the overall healthcare industry Yoy growth in the medical device sector vs. the wider healthcare industry * Export revenue growth in the medical device sector declined to 1.5% in 2009 due to the financial crisis, while the sector had an export exposure of around 30% in terms of industrial output. Source: CEIC, Gao Hua Securities Research. Substantial potential for local players Mid- and low-end medical devices take up around 65% of Chinas medical device market. High-end medical device producers and implantable device producers hold the remaining 35% of the market, where the leaders are mostly listed companies. Domestic players have little presence. Multi-national players dominate the high-end medical device market with a total share of around 70%, while local players dominate the mid-end and low-end market with a total share of around 80%. We think the market share dominated by mid-/low-end medical devices is unlikely to contract mainly because: We expect continued rapid growth in home-use medical devices and mid-/low-end medical devices. We expect the home-use market to grow at a 30%-35% CAGR in 2010-13E, and the mid-/low-end market to grow at a 25%-30% CAGR. We are seeing rapid growth in the implantable device market, while the market for high-end medical devices is growing at a slower pace as demand is driven mainly by the product replacement cycle and procurement by county-level hospitals. We therefore see significant potential for local players as the market remains dominated by mid-/low-end products. 0%5%10%15%20%25%30%35%40%45%02004006008001,0001,2002002 2003 2004 2005 2006 2007 2008 2009 2010 1-11MMedical device production value (Rmb bn)Medical device production value YoY (%)Pharmaceutical manufactures production value YoY (%)March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 7 Exhibit 4: Between 2010-13E, we see the fastest growth in home-use medical devices, mid-/low-end medical devices, and implantable medical devices Segments within the medical device sector Source: Company websites, Gao Hua Securities Research estimates. Exhibit 5: Home-use medical device sector only accounts for 5%-10% of the market Market share breakdown for the five segments in FY2010 Exhibit 6: We see the fastest growth in 2010-13E being in the home-use medical device market Our 2010-13E revenue growth estimates for the five segments Source: Gao Hua Securities Research estimates. Source: Gao Hua Securities Research estimates. Category Subsegments Key products Global suppliers Domestic suppliersMarketshare2010-13Erevenue CAGRDaily care Omron (Japan),Rehabilitation Invacare (USA),Daily monitor Johnson & Johnson (USA) Andon (002432.SZ)DiagnosticHigh-frequency X-ray machines, ultrasoundmachines, electrocardiograph, biochemistryanalyzers, etc.Wandong (600055.SS),Yuyue, Kehua (002022.SZ),Mingyuan (0322.HK), GoldenMeditech (0801.HK)Sterilisation Disinfection and sterilizing equipments Shinva (600587.SS)Treatment Medical oxygen concentrators, etc. YuyueCardiac Pacemakers, stents, occluders, etc.J & J, Medtronic (USA), Boston Scientific(USA), St Jude (USA)Lepu (300003.SZ), MircoPort(0853.HK), Jiwei (Weigao)Orthopaedics Trauma, spinal, joints.Stryker (USA), Synthes (USA), medtronic,Zimmer (USA)Weigao, Trauson (0325.HK),Kanghui (KH)Other implants Intraocular lenses, cochlear, mammoplasties, etc. Allergan (USA), Abbott Lab (USA) Hainan Haiyao (000566.SZ)One-time use Syringes, infusion sets, needles, blood bags, etc. Becton Dickinson (USA) Weigao (1066.HK)Surgical bandages, gauzes, surgical sutures, staplers, etc. Johnson & Johnson Weigao, YuyueOthersIndwelling needles, prefilled syringes, blood-collection tubes, medical gloves, etc.Becton Dickinson, Sysmex (Japan)Weigao, Improve (300030.SZ)Blue Sail (002382.SZ), Winner(WWIN)DiagnosticColor ultrasound machines, digital X-ray machines,CT, MRI, SPECT, PET, endoscopes, automaticbiochemistry analyzer, etc.Monitoring Monitoring machines.Treatment Radiotherapy, dialysis machines, etc.Fresenius Medical Care,Nikkiso (Japan)ShinvaHigh-endequipmentsSiemens (Germany), philips (Holland),GE(USA), Olympus (Japan)Mindray (MR)15% 20% 15% 20%Consumables 20% 20% 25%Home usemedicaldevicesWheelchairs, Haulage chairs, hearing aid, blood-pressure meters, stethoscopes, thermometer,oxygen concentrators, blood glucose meter, etc.Yuyue (002223.SZ)5% 10% 30% 35%Implantabledevices15% 20% 25% 30%Mid/low-endequipmentsN.A. 35% 40% 25% 30%Homeusemedicaldevices,510%Mid/lowendequipments,3540%Implantabledevices,1520%Consumables,20%Highendequipments,1520%0% 5% 10% 15% 20% 25% 30% 35%High-end equipmentsConsumablesImplantable devicesMid/low-end equipmentsHome use medical devicesMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 8 Top picks: Home-use, mid-/low-end medical devices and implants Within the overall market for medical devices, we foresee the fastest growth in home-use, mid-/low-end and embedded devices. We estimate a 30%-35% revenue CAGR for home-use devices in 2010-2013E, and 25%-30% for both mid/low-end devices and embedded devices. Home-use medical devices We see the Chinese market for home-use medical devices as still at the initial stages of a period of potential rapid growth going forward. Available statistics show that Chinas per capita spending on home-use medical devices was less than Rmb7 in 2009, much lower than Rmb90 in the U.S. and Rmb75 in Japan, and we think this suggests substantial potential for future increases. The penetration rate for home-use medical devices in China is very low due to the base effect of the countrys mammoth population. Mercury sphygmomanometers have the highest penetration rate among home-use products. However, statistics show that annual sales of sphygmomanometers in China amounted to less than 5 mn units in 2009) compared to 160 mn patients with hypertension. The U.S. sells more than 10 mn units a year with 50 mn people suffering from hypertension, highlighting the big difference in the penetration rate. A survey by the Ministry of Health in 2009 shows that only 10% of diabetic patients in more developed coastal regions are using blood glucose meters at home. We therefore conclude that Chinas penetration rate for home-use medical devices is below 10%, and this should offer considerable potential for future improvements. Exhibit 7: Mercury sphygmomanometers have the highest penetration rate in the Chinese market, but it still lags far behind the United States Comparison of mercury sphygmomanometer use among hypertension patients in the U.S. and China Source: U.S. Agency for Healthcare Research and Quality, Gao Hua Securities Research. We think home-use medical devices will see rapid growth, because: 1. Ageing population should drive demand for such products. Chinas population is ageing at an accelerated rate. According to United Nations estimates, elderly people will account for 17.2% of Chinas total population by 2020, and the number of elderly people will exceed 400 mn by 2050, or more than 30% of the total. As elderly people are more prone to suffer from chronic diseases, such as diabetes and hypertension, we expect them to be more reliant on home-use rehabilitation devices (e.g. oxygen generators), daily-use monitoring instruments (such as sphygmomanometers and blood-glucose monitors), and other daily nursing products (such as wheelchairs and hearing aids). 516010500 50 100 150 200 Blood pressure meter sales volume in China (mn unites)Hypertension patients in China (mn)Blood pressure meter sales volume in America (mn unites)Hypertension patients in America (mn)March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 9 2. An expected increase in per capita income will lift peoples spending power. We also believe that Chinas relatively low per capita income is one of the key factors that have held down the penetration rate of home-use medical devices in the country. At the same time, per capital income has been rising more than 10% annually since 1990 in both the urban and rural populations, and 2008 per capita disposable income among the urban population rose to Rmb16,000 with a rise to Rmb4,760 for the rural population. We think this rise in income will allow Chinese people to afford more than just the basic necessities of food and accommodation, and they could use this money on home medical devices. Exhibit 8: Chinas urban per capita disposable income grew at a 13.9% CAGR in 1990-2008 Change in urban per capita disposable income Exhibit 9: Chinas rural per capita net income grew at an 11.4% CAGR in 1990-2008 Change in rural per capita net income *Growth for a period that goes beyond a year is indicated in CAGR. *Growth for a period that goes beyond a year is indicated in CAGR. Source: The National Bureau of Statistics, Gao Hua Securities Research. Source: The National Bureau of Statistics, Gao Hua Securities Research. 3. A shift in lifestyle will stimulate demand for the products. In China, the growing middle class population has awakened health awareness and close attention to quality of life. We think this should promote demand for products such as body fat meters, pedometers, massage tools and electric toothbrushes. Meanwhile, people with chronic complaints have become more willing to undertake therapy at home, and we also see more people taking preventative action against diseases as people pay more attention to self-diagnosis and health care. This could also push up demand for home-use medical devices. Mid-/low-end medical devices Chinas domestic enterprises have an 80% share of the countrys mid/low-end medical device market, and they supply the majority of basic and indispensable medical devices at a 30%-50% discount to imported products. We expect domestic enterprises to continue to have an edge in most bidding thanks to this price advantage and improving technological performance, although GE, Philips, and Siemens have introduced strategic plans to offer a wider product range in order to satisfy the need for mid-/low-end products. Grassroots institutions are major markets for mid-/low-end medical devices, such as stethoscopes, sphygmomanometers, thermometers, blood-glucose monitors and disinfection and sterilizing equipment. We see attractive market potential for high-frequency X-ray machines, Type-B ultrasonic diagnostic sets, electrocardiographs, biochemistry analyzers and others, as this kind of equipment is standard at medical institutions above the rank of township-level clinics. 23%8%12%14%02,0004,0006,0008,00010,00012,00014,00016,00018,0001990 1995 2000 2007 20080%5%10%15%20%25%Disposable income per capita for urban households (Rmb) YoY (%)18%7%9%15%05001,0001,5002,0002,5003,0003,5004,0004,5005,0001990 1995 2000 2007 20080%2%4%6%8%10%12%14%16%18%20%Net income per capita for rural households (Rmb) YoY (%)March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 10 Exhibit 10: Configuration of key equipment at various grassroots-level medical institutions *Basic configurations: diagnostic couch, stethoscope, sphygmomanometer, thermometer, blood glucose meter, sterilizing pan, medical kit for home visit, medical trolley, first-aid kit, oxygen supply equipment, acupuncture equipment, and cupping apparatus. Source:”Planning for Construction and Development of Rural Health Service Systems”, “Basic Standards for Urban Community Health Service Centers” - Ministry of Health, Gao Hua Securities Research. Medical equipment configurations at Chinese grassroots-level institutions have not been at a sufficient level to service the population, resulting in substantial replacement demand and a shortfall in medical device supplies. Considerable replacement demand: 15% of medical devices currently in use at grassroots-level medical institutions were made during the 1970s with 60% or so made before the mid 1980s. Many of these need to be replaced as medical devices normally have a life span of 5-10 years. Big product supply shortfall: Medical equipment supplies are inadequate at Chinas grassroots-level institutions. According to statistics from the Ministry of Health, the shortfall averages at 30% for more than 2,000 county-level hospitals and could be as high as 50%+ in western regions. Similar medical device shortfalls also exist at township-level clinics. The ministry asserted in 2009 that it would take measures to offset these shortfalls, and we think this should bring rapid growth in the market for grassroots-level medical devices. Grassroots institutions are gradually replacing existing devices and adding new ones, which should lead to organic growth in the industry. Coupled with government efforts to make up for medical device shortfalls at the grassroots level, we expect rapid growth in mid-/low-end medical devices. Based on government plans announced in 2006 for a boost to investment in grassroots-level medical institutions, we estimate Rmb16 bn of government spending on medical devices in 2011-13E. Our assumptions are that government-funded renovation of county-level hospitals, township hospitals, and township health centers will be completed before end-2013, and renovation of community health centers before 2020. Primary hospitalsCounty hospitalsCounty TCM hospitalsCounty Ob-gyn hospitalsTownship hospitalsTownship health centresCommunity health centresX-ray machines, type-B ultrasonic diagnostic sets, electrocardiograph,biochemistry analyzers, anesthesia machines, sterilizing pans, etc.Basic instruments.Core instrumentsCT, color ultrasound machines, monitoring machines, digital X-ray machines,dialysis machines, automatic biochemistry analyzers, etc.Color ultrasound machines, electrocardiograph, digital X-ray machines,semiautomatic biochemistry analyzers, etc.Gynaecologic therapy instruments, fetal ECG monitors, post-natal recoverytreatments, etc.Type-B ultrasonic diagnostic sets, electrocardiograph, biochemistry analyzers,oxygen providers, disinfection and sterilizing equipments, etc.March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 11 Exhibit 11: We estimate that government spending on medical devices at grassroots-level institutions will be Rmb16 bn in 2011-13E Calculation of government investment in renovation of various grassroots-level medical institutions starting 2006 *Total investment at around Rmb37 bn, excluding investment in township-level clinics that could not be completed before end-2013. Source: The Ministry of Health, Gao Hua Securities Research estimates. According to our calculation of planned government investment for grassroots-level medical institutions in 2006, 2008, 2009 and 2010, aggregate government spending on replacing and offsetting medical device shortfalls totaled Rmb21 bn as of end-2010. We estimate a total investment of Rmb37 bn would be needed before end-2013, which means that investment in 2011-13 would be Rmb16 bn. We expect the pace of investment in 2011-13 to be similar to that of 2006-10, leading to growth in sales of more than 10% CAGR for mid-/low-end medical devices. Implantable medical devices Implantable medical devices have hit a rapid growth stage in China. Domestic versions of products such as stents and orthopedic products are replacing imported ones, but products like pacemakers are still dominated by multinationals. Currently, domestic manufacturers supply around 73% of stents and about 40% of orthopedics products. In addition, we believe sales at domestic firms are growing at faster than the average rate of global peers, and they should be able to further expand their market share. Chinese firms are researching moves into implantable devices such as pacemakers and artificial cochlea, which should help enhance their competitiveness. We think domestic firms should be able to expand their market because of: 1. Competitive pricing. Domestic implantable medical devices are normally priced 30%+ lower than imported ones. We see technological improvements at the Chinese producers allowing them to further catch up to imported products, and we think this will make domestic products more appealing to price-sensitive consumers. 2. Higher reimbursement. Quotas for reimbursement of domestic implant products are always higher than those for imported ones, although reimbursement policies vary by city. Therefore, patients tend to choose domestic products over imported ones due to reimbursement concerns, which should also help to promote the use of domestic products. Primary hospitalsHospitals needreconstruction (unite)Government investment plan in medicalequipment (Rmb 000 per hospital)Total investmentforecast (Rmb bn)County hospitals 2,176 5,000 108.8County TCM hospitals 2,728 2,000 54.6County Ob-gyn hospitals 3,020 1,000 30.2Township hospitals 37,999 300 114.0Community health centres 29,228 150 43.8Township health centres 647,966 10 64.8Total 723,117 41.6March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 12 Exhibit 12: Domestic manufacturers gradually gaining domination in the market for stents Market share of domestic stent producers Exhibit 13: Domestic producers gradually gain share of the market for orthopedics products Market share of top three domestic orthopedics firms *All stents on the Chinese market were imported before 2004. *The top three firms account for around 40% of sales at domestic orthopedics firms Source: Surgical Implants Professional Committee of the China Association for Medical Devices Industry, Gao Hua Securities Research. Source: Company data, Gao Hua Securities Research. We expect revenue from implantable devices to growth at 25%-30% CAGR in 2010-2013E due to the following factors: 1. Ageing population. The elderly population is a major consumer of implantable devices. Ailments such as heart disease and osteoporosis are normally more prevalent among elderly people, and we therefore expect population ageing to stimulate demand for implantable devices. 2. Higher affordability and reimbursement quota. Chinas per capita expenditure on health care has been rising by more than 15% annually since 1995. In addition, out-of-pocket expenditure has been reduced thanks to widened coverage of medical insurance and resulting higher reimbursement quotas for implant surgeries (e.g. cardiac) and implants used in such surgeries. Exhibit 14: Government and personal expenditure on health care gradually rising year by year Growth in expenditure on health care from government, urban residents and rural residents Source: The Third and Fourth National Health Services Survey, Gao Hua Securities Research. 59%65%70%73%0%10%20%30%40%50%60%70%80%2006 2007 2008 200913.3%15.5%16.9%0%2%4%6%8%10%12%14%16%18%2007 2008 20090%10%20%30%40%50%1995 2000 2005 2006 2007 2008 2009Government healthcare expenditure YoYHealthcare expenditure for urban households per capita YoYHealthcare expenditure for rural households per capita YoYMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 13 3. Increased surgical capabilities. The majority of Chinese patients requiring cardiac and spinal surgery cannot be effectively treated because domestic doctors lack the sophistication to carry out this surgery. However, we believe more patients could be treated in the future, spurring growth in implantable devices as doctors accumulate surgical experience and sophistication. We also see a rise in the number of doctors qualified to carry out this type of operation. 4. Technological innovation. As they improve their innovation capacities, we believe leading domestic players such as Lepu, Weigao, Microport, Trauson and Kanghui should be able to produce implantable devices that are more competitively priced than imported ones. In turn, we see this driving use by consumers. Theme 1: Home-use medical devices channel and brand are key The technology barriers to the home-use medical devices industry are not very high. Required core technologies include medical science, electronics, and automation, but the business model can be easily duplicated, and the market is currently filled with a large number of small-scale companies. Huge demand in China has allowed for rapid growth, but judging by current industry trends, it is clear to us that market share will be eventually dominated by fewer companies. We have noticed in recent years that leading companies like Yuyue are taking a bigger share of the market. Apart from the superior quality and competitive pricing, we see channel distribution and brand strength as important factors for success. Following this theme, we prefer Yuyue, a leading company in the home-use medical device industry. Exhibit 15: Yuyue appears to be taking a larger market share in its main products Yuyues market share in oxygen concentrators, wheelchairs, mercury sphygmomanometers and stethoscopes *Data for 2006 is from the companys prospectus. The remainder is Gao Hua Securities estimates. Source: Yuyues prospectus, Gao Hua Securities Research estimates. 0%10%20%30%40%50%60%2006 2007E 2008E 2009E 2010EOxygen concentrators WheelchairsMercury blood pressure meters StethoscopesMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 14 Channels determine success Sales channels for home-use medical devices include pharmacies, hospitals, supermarkets and the sales outlets connected to the manufacturer. All these channels require proactive building and careful maintenance. As these are affordable instruments, consumers usually choose to go to nearby stores to purchase these products, meaning that the manufacturers need to proactively enhance their nationwide sales network to increase market share. Mature channel distribution takes a long time to establish, and we see three key requirements for their successful creation: 1. Control over distributors. Domestic medical device makers rely heavily on distributors to sell most of their products. It is therefore very important to have control over distributors. Both parties need to cooperate long enough to build trust, but producers specifically need to provide a variety of products to meet distributor needs (i.e. to enhance their sales). This ability to provide a wide variety of products with sufficient profit margin is the most effective means of exercising control over distributors. Yuyue offers over 40 products with more than 300 specifications. One distributor is allowed to sell all categories of these products, and the relatively low ex-factory prices leave considerable margin for distributors. Yuyue has established a solid relationship with its distributors over the years and exercises very effective control over them. 2. Product promotion and consumer training. Home-use medical devices have already been commoditized, so it is very important to train outlet sales people and to send senior sales staff to educate consumers or promote specific products. This requires substantial effort over the long term. For many years Yuyue has been regularly dispatching senior sales staff for promotion and training at its outlets. It also conducts an annual road-show for its products, but since 2008 it has been focusing more on its own OTC sales team. To date, over 800 dedicated sales counters have been set up to improve product penetration. 3. After-sales service. Manufacturers need to have an established after-sales network in order to ensure prompt maintenance of devices after sale as well as allowing for easy customer feedback. This is an important way of establishing customer loyalty and keeping products competitive. Manufacturers need reliable after-sales to increase market share in situations where product differentiation is difficult. Yuyue has three after-sales service centers, over 150 after-sales service points, and 800 toll-free telephone lines, increasing its ability to promptly address after-sales service issues and offer added value to consumers. Exhibit 16: Yuyues sales network exceeds those of its peers Sales network comparison, Yuyue vs. Andon Source: Company data, Gao Hua Securities Research. Category Yuyue AndonChannel typesDrug stores, hospitals, dedicatedsales countersDrug stores, supermarkets,regular chainsCovered cities All 34 provinces in China 150 citiesCovered hospitals/ drug stores/supermarketsMore than 10 thousand NACovered dedicated salescounters/self-run shopsMore than 800 dedicated salescounters22 self-run shopsDealers/agents More than 450 dealers 140-150 agentsAfter service3 after service centers, 150 afterservice stations, 800 hot lines8 after service stationsMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 15 Brand guides consumers Retail accounts for most sales of home-use medical devices. According to the China Nonprescription Medicines Association, 75% of consumers choose branded products when buying medicines at pharmacies, despite higher prices. Most domestic home-use medical devices makers do not have long-standing histories, and Yuyue appears to benefit from the fact that it has been on the market for over 10 years. In this market, consumers appear to have strong loyalty to brand names they trust. The domestic home-use medical device market is filled with makers, but only a few of them own popular brand names. These include Yuyue, Johnson (blood glucose meter), Omron (electrical sphygmomanometers, blood glucose meters), Jiuan (electrical sphygmomanometers, blood glucose meters), Shanghai Medical Instrument (stethoscopes and sphygmoman-ometers), Hubang Medical Appliances (wheelchairs), Zhejiang Longfei (oxygen concentrators), etc. Most of these companies have relative brand strength in only one or two particular products, but Yuyue has very strong brands throughout its product range. Yuyues sphygmomanometers and wheelchairs have been given the “China Famous Brand” award by the General Administration of Quality Supervision, Inspection and Quarantine. This is a first for the China medical devices industry. This year, Yuyue was awarded the title of “Most Recommended Brands by Sales Staff” for its end-market popularity. Its consumer base exceeds 50 mn, and we expect the Yuyue brand to give it a key advantage over rivals in the future. Exhibit 17: Yuyues core products all rank first in the market Market share and ranking of Yuyues home-use products *All data Gao Hua Securities Research estimates. Source: Gao Hua Securities Research estimates. Products 2010E revenue (Rmb mn) 2010E market share (%) RankingOxygen concentrators24655% 1Wheelchairs 108 23% 1Mercury blood pressure meters 90 53% 1Stethoscopes 25 53% 1March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 16 Theme 2: Mid-/low-end devices focus on market potential Local companies are the main competitors in the mid-/low-end medical device market, and also the biggest beneficiaries from product upgrading by medical institutions and a general lack of supply for basic medical devices. In order to increase market share, device makers need to offer good prices/performance and standout bidding practices and these are areas in which the leading companies in the sub-sector have a clear advantage. However, we believe growth at these flagship companies depends more on the markets overall potential. In this section, we will focus on two products closely associated with listed companies producing mid-/low-end medical devices (see Exhibit 10): disinfection/sterilization equipment and X-ray machines. On this investment theme, we think Shinva is best positioned, which is at the leading edge in disinfection and sterilization equipments segment. Disinfection and sterilization equipment The largest buyers of disinfection and sterilization equipment are pharmaceutical manufacturers and hospitals, followed by some cosmetic factories, food manufacturers and labs. Domestic products now enjoy a bigger market share of 75%； China imported Rmb350 mn worth of this disinfection and sterilization equipment in 2010, or about 25% of the market. Shinva enjoys over half of the market among domestic manufacturers, and holds the absolute leading position in the market for this product category. 1. Market potential in the pharmaceutical production industry for disinfection and sterilization equipment New GMP (i.e., pharmaceutical standards set by the government) focus on sterile manufacturing and setting higher sterilization standards for pharma companies. A sample survey by the GMP drafting group suggests hardware upgrading is needed in more than 60% of Chinas 5,000 pharmaceutical companies, which could bring surging demand for disinfection and sterilization equipment. Our rough estimates suggest that this new GMP will create a disinfection and sterilization equipment market worth Rmb2.23 bn, and Rmb2.07 bn of this should go to Shinva, boosting its CAGR in its disinfection and sterilization equipment business to c.15% between 2010-15E. Exhibit 18: We estimate new GMP will create a Rmb2.07 bn market for Shinvas disinfection and sterilization equipment Our calculation of Shinvas new market following the implementation of new GMP Source: State Food and Drug Administration, China Association for Pharmaceutical Equipment, Gao Hua Securities Research estimates. Items Data SourcePharmaceutical manufacturers in China 5,000 SFDAManufacturers to be eliminated after new GMP put in force 500 SFDA forecastInvestment per factory Rmb15 mn GMP team forecast% of disinfection and sterilizing equipment 10% Our forecast based on statisticsManufacturers need new equipment 33% Shinva Medical forecastShinvas market share 93% China Association for Pharmaceutical EquipmentShinvas incremental market size Rmb 2.1 bn (5,000-500)*15*10%*33%*93%/1,000March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 17 2. Market potential for hospital-use disinfection and sterilization equipment Operating rooms in hospitals and basic medical institutions are the biggest potential market for disinfection and sterilization products. Operating rooms: In recent years there has been a rapid increase in the size and bedcount of Chinese hospitals. Based on our assumption of 1 operating room per 25 beds in general hospitals and 1 per 40 beds in TCM hospitals and clinics, we forecast the creation of almost 8,200 new operating rooms in 2009, and this could greatly boost procurement of sterilization equipment. Medical reform requires more medical resources, and we see further growth in the number of operating rooms, leading to sustained growth in the market for disinfection and sterilization equipment. Exhibit 19: A large number of new operating rooms should boost procurement of sterilization equipment Our estimates for annual increases in Chinas operating rooms in recent years Source: Ministry of Health, Gao Hua Securities Research estimates. Basic medical institutions: Sterilizers are the most basic type of equipment used at medical institutions (see Exhibit 10). There are currently 720,000 grassroots medical institutions under development, and most county clinics need sterilizers. We forecast the addition of about 600,000 sterilizers in China as a result of improved services at basic medical institutions before 2020. Based on an average Rmb500 per unit, we estimate sterilizer sales will increase Rmb300 mn, a relative small amount. Shinva has an estimated 50% share of the basic medical institutions market, but an increment of Rmb150 mn over ten years would provide only a limited boost to Shinvas annual growth in the disinfection and sterilization equipment segment. X-ray machines X-ray machines now used in hospitals are mainly high frequency machines (price range of Rmb50,000-80,000) and digital systems (Rmb600,000). Basic medical institutions are the primary purchasers of high frequency X-ray machines, while large hospitals prefer digital systems. There are also limited purchases by some county clinics in developed regions. Hospitals at the national level and above are primary purchasers of high frequency X-ray machines. We can see from the below exhibit that purchases by basic medical institutions were more or less finished by 2010, and there are now fewer than 9,000 grassroots medical institutions in need of high frequency X-ray machines. We therefore foresee a decline in centralized purchases. We can also see procurement falling from 12,000 units in 2009 to 5,000 in 2010. We predict the level of procurement in 2011E will be limited at 3,000-4,000 units. 1,6503,3012,8593,824 3,7887,2158,19201,0002,0003,0004,0005,0006,0007,0008,0009,0002003 2004 2005 2006 2007 2008 2009March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 18 Exhibit 20: Procurement of high frequency X-ray machines is more or less complete Procurement of high frequency X-ray machines by basic medical institutions Source: Ministry of Health, Gao Hua Securities Research estimates. We therefore see a negative impact on growth at companies relying on high frequency X-ray machines as their main product, such as Wandong. Theme 3: Implantable medical devices driven by tech and R&D Improvements in implantable medical devices largely depend on gradual technological improvements, which determine the pattern of competition among peers. In this section we focus on two product segments, cardiac stents and orthopedic devices, which together account for more than 50% of the market. Some domestic companies have made considerable R&D progress in stents and orthopedic devices to the point that domestic products can be used as a substitute for imported devices. Other companies have been steered by leading industry players toward R&D in pacemakers and cochlear implants with an eye on long-term positioning in the market. From this perspective, we think Lepu Medical, a leading Chinese player in cardiac stents, is best positioned. Domestic players winning market share from foreign peers through technological improvements Stent system market is a prime example of how Chinese makers can take market share from foreign products through technological improvements. Since Microport successfully introduced Chinas first drug-eluting stent in 2004, domestic products have gained considerable market share from foreign peers by capitalizing on improved quality and lower cost. After Lepu and JW Medical launched new products in 2005, the market share held by domestic stents superseded that of imported products and then completely replaced them. The quality of domestic stents is now comparable with foreign products, indicating that domestic players have made significant technological and R&D progress. R&D investment in new products particularly helps to expand market share considerably, causing the market landscape to shift accordingly. Technology and R&D capability play a crucial role in shaping a companys prospects in this space. Primary hospitalsHospitals needreconstruction (unite)Accomplishment before2010After 2010County hospitals 2,176County TCM hospitals 2,728County Ob-gyn hospitals 3,020 2,017 1,003Township hospitals 37,999 31,934 6,065Total 45,923 37,694 8,2293,743 1,161March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 19 Exhibit 21: New product R&D leads to a shift in market landscape Market share held by major foreign stents producers Exhibit 22: Stronger domestic technology and R&D cause domestic products to take market share from imports Chinas stent market: Sales volume and the market share for domestic products Source: Medical Supplies & Devices, Gao Hua Securities Research. Source: Lepu prospectus and annual reports, Gao Hua Securities Research. Orthopedic implantable medical devices are still led by foreign players. According to leading market survey agency Frost & Sullivan, foreign products accounted for 73% of spine IMDs in 2009 and 65% of articulation IMDs, while domestic products accounted for 55% of the market for traumatology. However, the market share held by domestic players has been growing with the emergence of companies like Trauson, JW Medical, Kanghui Medical. Going forward, domestic players are likely to dominate the orthopedic IMD market in the same way domestic players dominate cardiac stents. Exhibit 23: Chinas top 3 edge into the overall top-5 ranking in the domestic traumatology market 2009 traumatology market share breakdown by player Exhibit 24: Domestic top 3 account for 14% of the spine market 2009 spine market share breakdown by player *Kanghui acquired100% of Libeier in 2008. Note that underlined companies are domestic players. Note that underlined companies are domestic players. Source: Trauson prospectus, Gao Hua Securities Research. Source: Trauson prospectus, Gao Hua Securities Research. Technology to drive future growth 1. Cardiac stent system There is no obvious distinction between imported and locally-manufactured products in the current cardiac stent market, as no company is able to offer a product popular enough to control market prices. However, Lepus new polymer-free DES is superior in quality 0%10%20%30%40%50%60%70%80%90%100%1995 1997 2002 2004 2008J&J Guidant/Abbott Medtronic Boston ScientificJ&J first introduce bare stentOthers began to launceGuidants had better effectJ&J and Boston Scientific first introduce DESMore new DES to the market0%10%20%30%40%50%60%70%80%0510152025303540452000 2001 2002 2003 2004 2005 2006 2007 2008 2009Stents sales volume (000 unit) Domestic products market share (%)Lepu first introduce bare stentIntroduce J&J and Boston Scientifics DES into ChinaMicroPort introduce first DESReplacing imported stents along with Lepu and Jiweis DES launchingSynthes14%Trauson8%Kanghui5%Weigao4%Libeier3%Walkman2%Stryker2%Xinrong2%Smith&Nephew2%Johnson&Johnson2%Others56%Medtronic13%Johnson&Johnson11%Weigao8%Synthes7%Stryker6%Trauson3%LDR3%Kanghui3%Bolt2%BeijingOrthopedic2%Others42%March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 20 compared with similar rival products available in the market, and we think it is likely to win more market share. We believe the industry landscape is unlikely to change much before the launch of biodegradable stent, for which there are keen expectations around the globe. We think market share is likely to be mainly driven by product portfolio expansion and product performance enhancement. Shanghai Microport successfully developed the first drug eluting stent in China in 2004. Thereafter, two domestic producers, Lepu and Jiwei Medical, launched their products at a comparable level of technological sophistication, and the domestic market has since been dominated by the three major players. Product portfolio: Lepu has the widest range of products and a high level of component self-sufficiency. Shanghai Microport hasnt achieved meaningful product line expansion in recent years and most of its existing products were launched before 2008. Shandong Jiwei has taken the lead in biodegradable stent technology, but it is not very self-sufficient. New product pipeline: Lepu will continue to expand its product portfolio. We expect patient needs to be better met by polymer-free DES and bifurcation stents； while Shanghai Microport is not focusing on cardiac stents, and its products with biodegradable coating will not be available until at least 2012. Jiweis primary goal now is to improve the quality of its existing products, with not many new stent products in sight. Exhibit 25: Lepu has widest stent portfolio and the most products in its pipeline Comparison of the three major cardiac stent manufacturers in China *Jiwei is a joint venture between Shandong Weigao and Singapore Biosensors with Weigao holding 51% of its share. Source: Lepu prospectus, Microport prospectus, company websites, Gao Hua Securities Research. We see Lepu becoming the future leader in the Chinese cardiac stent market. Its pioneering products in the pipeline, such as fully biodegradable and polymer-free DES, all require solid R&D capability. The company has a clear and focused strategy and the most comprehensive product range with a leading position among domestic peers in terms of categories, specifications, spare parts and pipelines. We expect Lepu to further expand its market share going forward. CompanyMarketshareMain products Pipeline Technology source AdvantageMicroPort 27%DES, Coronary stent, PTCAballoon dilation catheters, etc.Polymer biodegradableDES, carotid stents,intracranial arterial stents,etc.Doctor Chang Zhaohuaback from USAFirst DES of domesticcompaniesLepu 26%DES, PTCA balloon dilatationcatheters, central venouscatheters, Sheath, occluders, etc.Polymer-free DES,bifurcation stents, stentsurgery components, etc.Doctor Pu Zhongjie backfrom USAHave the mostcomprehensive typesJiwei 20%DES, polymer biodegradableDES, etc.Stent surgery components BiosensorsPolymer could bedegraded in 6 monthsMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 21 Exhibit 26: Lepus product pipeline Lepu pipeline broken down by R&D phase and other development phases such as clinical trial, license application, and registration *Cardiac stent products are underlined. Source: Lepu prospectus, Gao Hua Securities Research. 2. Orthopedic implantable devices This category mainly has three sub-categories: trauma, spinal and joint, among which joint products require the highest technological standards and have the most potential for growth. Domestic manufacturers are currently working to catch up with global peers on technology side； while trauma products can fully compete with foreign companies, domestic players account for 55% of the total market share. Trauma products contribute most to the revenues of the three major manufacturers of orthopedic implantable devices. Shandong Weigao is the only company currently offering joint products. Exhibit 27: Trauma products contribute most to revenues of domestic orthopedic devices manufacturers Comparison of the three major orthopedic devices players in China: revenue composition Source: Trauson and Kanghui prospectuses, company data, Gao Hua Securities Research. Current product offerings: Weigao has the widest range of products, including competitive trauma and spinal items and unique joint products. Trausons strength lies in the trauma field, and Kanghui has been focusing on spinal products since 2008. Product pipelines: Weigaos priority lies in joint products, while Trauson is shifting into spinal and joint products. Kanghuis focus is on trauma and spinal products, and it intends to enhance joint offerings through potential M&A. R&D strength: Weigao has an R&D advantage over the other two thanks to its partnership with Medtronic, a leading global player in the industry. Companies2009 orthopaedicsrevenue (Rmb mn)Trauma Spinal JointsOthers(including OEM)Weigao 490 45.0% 50.0% 5.0% 0.0%Trauson 211 64.0% 14.8% 0.0% 21.2%Kanghui 184 46.2% 16.8% 0.0% 36.9%March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 22 Exhibit 28: Weigao is the only company offering joint products among the three A comparison of the three major orthopedic devices players: products and R&D Source: Trauson and Kanghui prospectuses, company data, Gao Hua Securities Research. We expect joint products to grow the fastest within the domestic medical device market, and we see the “big three” growing their market share here by providing better products. We believe Weigao is best positioned among the domestic players in terms of both the current product structure and the R&D pipeline. We also see Trauson and Kanghui putting emphasis on joint products, enriching their product portfolio through R&D and M&A. Valuation: We use EV/GCI vs. CROCI/WACC as our primary valuation methodology We use cash returns-based EV/GCI vs. CROCI/WACC as our primary valuation methodology because we believe earnings growth cannot fully capture the major financial elements of a companys performance as different accounting techniques can distort figures. On the other hand, cash returns are fundamental to the survival and development of an enterprise, objectively reflecting its operating status. (For details see our Tactical Research Groups report titled Introducing Directors Cut Returns matter more than growth, August 7, 2009.) Pharmaceutical companies tend to be relatively flexible with accounting practices, and we think cash generation capability is a more reliable measure than profits. As cash return is key to the medium-/long-term performance of an enterprise, we adopt EV/GCI vs. CROCI/WACC as our primary valuation framework. Exhibit 29: We expect Yuyues 2010-13E CROCI to increase 9% 2008-13E CROCI changes for A-share pharmaceuticals under coverage Source: Gao Hua Securities Research estimates. Company Current products R&D pipeline R&D teamWeigao 12 trauma products, 13 spinals, and 1 joint. Joints Cooperation with MedtronicTrauson 22 traumas, 6 spinals, and 59 others 10 spinals, and I joint4 research teams, led bybiomechanical expertsKanghui21 issued patents, including 2 invention patents,launched 4 traumas and 5 spinals since 2008more than 30 productscovering trauma and spinals54 engineers responsible forR&DCompany Ticker 2008 2009 2010E 2011E 2012E 2013E2010-2013 CROCIChange %E-Jiao 000423.SZ 46% 67% 105% 154% 177% 171% 66%Zhongheng 600252.SS 10% 19% 32% 48% 53% 56% 24%Sanjiu 000999.SZ 15% 27% 25% 32% 35% 37% 12%Huahai 600521.SS -2% 24% 16% 20% 23% 25% 10%Yuyue 002223.SZ 33% 34% 36% 44% 45% 45% 9%Kunming 600422.SS 14% 15% 17% 18% 22% 25% 9%Shinva 600587.SS 10% 10% 13% 15% 17% 19% 6%Beijing SL 002038.SZ 62% 47% 37% 40% 41% 43% 5%Tasly 600535.SS 21% 21% 22% 25% 27% 26% 5%Hisun 600267.SS 16% 14% 12% 12% 13% 15% 3%Kehua 002022.SZ 54% 63% 59% 61% 60% 62% 3%Hengrui 600276.SS 39% 32% 34% 34% 35% 36% 2%Lepu 300003.SZ 76% 65% 59% 58% 56% 58% 0%Baiyao 000538.SZ 49% 47% 61% 59% 59% 59% -2%NHU 002001.SZ 94% 46% 39% 34% 32% 32% -7%Hepalink 002399.SZ 72% 145% 107% 103% 64% 71% -36%Average 38% 42% 42% 47% 47% 49% 7%Median 36% 33% 35% 37% 38% 40% 5%March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 23 We use EV/GCI vs. CROCI/WACC to derive our 12-month target prices We divide A-share healthcare companies in our coverage into four quartiles based on their CROCI, putting the companies with the top 25% CROCI scores into the first quartile and so on. Based on our calculations for EV/GCI vs. CROCI/WACC in the coverage group, we have derived a regression line formula as well as the position of each company relative to the regression line. We set the 2011E premium or discount for the A-share companies under our coverage by considering the historical premium or discount of companies in each quartile as well as the historical premium/discount for the company itself. In this way we arrive at a 2011E EV/GCI target and then calculate the target price. Exhibit 30: We see Yuyue stabilizing in the 2ndquartile CROCI quartile rankings for A-share pharmaceuticals under our coverage Source: Gao Hua Securities Research estimates. Exhibit 31: The three medical device companies enjoy high premiums in 2011 Exhibit 32: Yuyues premium is disappearing in 2012 Source: Gao Hua Securities Research estimates. Source: Gao Hua Securities Research estimates. Company Ticker 2008 2009 2010E 2011E 2012E 2013EE-Jiao 000423.SZ 2 1 1 1 1 1Zhongheng 600252.SS 4 4 3 2 2 2Sanjiu 000999.SZ 3 3 3 3 3 3Huahai 600521.SS 4 3 4 4 4 4Yuyue 002223.SZ 3 2 2 2 2 2Kunming 600422.SS 4 4 4 4 4 4Shinva 600587.SS 4 4 4 4 4 4Beijing SL 002038.SZ 1 2 2 2 2 2Tasly 600535.SS 3 3 3 3 3 3Hisun 600267.SS 3 4 4 4 4 4Kehua 002022.SZ 2 1 1 1 1 1Hengrui 600276.SS 2 3 3 3 3 3Lepu 300003.SZ 1 1 2 2 2 2Baiyao 000538.SZ 2 2 1 1 1 1NHU 002001.SZ 1 2 2 3 3 3Hepalink 002399.SZ 1 1 1 1 1 1y=2.2xR=0.8010203002468101214EV/GCI(X)CROCI/WACC (X)FY11 EV/GCI vs. CROCI/WACCBaiyaoNHUKehuaBeijingSLHepalinkHisunHengruiHuahaiZhonghengKMPharmaSanjiuTaslyYuyueLepuShinvay = 1.9 xR = 0.7 01020012345678EV/GCI(X)CROCI/WACC (X)FY12 EV/GCI vs. CROCI/WACCBaiyaoNHUKehuaBeijingSLHisunHengruiHuahaiTaslyHepalinkLepuYuyueZhonghengShinvaKMpharmSanjiuMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 24 Based on our calculation of premiums/discounts for our A-share coverage in each quartile over the past three years, we found that the 1st and 2nd quartile companies were assigned 26% and 17% premiums, respectively, while the 3rd and 4th quartile companies had 5% and 17% discounts. Therefore, we believe the 1st and 2nd quartile companies will enjoy premiums in terms of EV/GCI vs. CROCI/WACC in 2011 relative to the overall coverage group, while the 3rd and 4th quartile ones should trade at a discount. Exhibit 33: Our calculations for CROCI premium/discount in each quartile of our A-share healthcare coverage Source: Gao Hua Securities Research estimates. Exhibit 34: We use a EV/GCI vs. CROCI/WACC valuation for our healthcare coverage Source: Gao Hua Securities Research estimates. Our considerations when setting premiums/discounts We apply a 43% premium for Yuyue. We think the markets perception has been gradually changing since it was listed in 2008. The premium acknowledges the companys existing sales channel advantages in the home-use medical device market as well as its clear strategy and rapid market growth potential. Yuyue has substantially outperformed our A-share healthcare coverage since April, 2010. We see Yuyues CROCI stabilizing in the 2ndquartile, and we see further growth in the valuation premium. We believe a 43% premium is reasonable given the average of 43% over the past two years. Quartiles 1st quartile 2nd quartile 3rd quartile 4th quartileAveragepremium/discount26% 17% -5% -17%Metrics Unit Yuyue Shinva Lepu Valuation RationaleVal Ratio x 2.3x 2.3x 2.3x On-shore pharm sector EV/GCI vs. CROCI/WACCHistorical EV/GCI premium/(discount) % 43% 20% 30% All have historical premium in the past 2 yearsCurrrent EV/GCI premium/(discount) % 15% 33% 40% Yuyues premium is under average level2011 forecast Premium/(discount) % 43% 10% 30%Historical level of premium as Yuyue hasconsistently stayed in 2nd QuartileCROCI/WACC x 5.0x 1.7x 6.6xImplied EV/GCI x 16.5x 4.4x 20.0x2011 Gross capital invested Rmb mn 731 787 1,079Implied EV Rmb mn 12,083 3,441 21,540Net debt and minority interest Rmb mn (337) (131) (1,399) Lepu has had rich cash flow since IPO in 2009Implied market cap Rmb mn 12,419 3,571 22,939Weighted average shares outstanding No. in mn 256 134 812Target price Rmb 48.6 26.6 28.3Current price Rmb 38.4 29.4 28.3 At the close of 18 March,2011Potential upside/Downside % 27% -10% 0% Yuyue has the largest potential upsideEPS (2011E, GH estimate) Rmb 1.03 0.64 0.68EPS (2011E, Consensus) Rmb 0.98 0.67 0.70Difference % 5% -4% -3%We are more confident on Yuyues exports and high-end business2011-13 EPS CAGR % 35% 35% 35%Current P/E(2011E) x 37x 46x 42x Yuyues 2011E 37x P/E is undervaluedImplied P/E(2011E) x 47x 41x 42xMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 25 Exhibit 35: Yuyue has been trading at a high P/E premium since April 2010 Yuyues P/E premium/discount relative to our A-share healthcare coverage Exhibit 36: The 3 medical device companies have been trading at a premium in P/E terms for the past 2 years P/E premium/discount relative to our A-share healthcare coverage Source: DataStream, Gao Hua Securities Research estimates. Source: DataStream, Gao Hua Securities Research estimates. We apply a 30% premium for Lepu. As Lepu is the largest company by market value and has the strongest profitability among A-share medical device firms, we believe it will make more cash investments to expand its value chain. We see its CROCI falling over the next three years with a slowdown in near-term cash returns on these new products, but we expect it to remain in the 2ndquartile. We think Lepu deserves a slightly lower premium than Yuyue given Yuyues rapidly improving CROCI. We think a 30% premium to the historical average is reasonable because we like Lepus focus on the heart device market. Exhibit 37: Yuyue has the biggest CROCI upside potential, on our forecasts Estimated CROCI changes for the three newly-covered medical device companies Exhibit 38: Yuyue has the highest ROE, on our forecasts Estimated ROE changes for the three newly-covered medical device companies Note: In the next few years, we see Lepu potentially investing a lot of cash in an extensive range of acquisitions. Note: Lepu, listed at the end of 2009, has slightly lower equity. Source: Company annual report, Gao Hua Securities Research estimates. Source: Company annual report, Gao Hua Securities Research estimates. We apply a 10% premium to Shinva, which remains in the 4thquartile but has maintained a premium thanks to its reputation for being at the forefront of the industry and the strong growth in the industry as a whole. We expect Shinva to maintain its premium as it delivers rapid organic growth over the next few years and achieves growth through its extensive product lines. Therefore we believe the premium will be sustained. Given its relatively low CROCI, we think a premium of 10% is appropriate compared to its historical premium of 20%. -60%-40%-20%0%20%40%60%80%0102030405060Prem./disc (%) Yuyue 1-yr forward P/E (x)-20%-10%0%10%20%30%40%50%0102030405060Prem./disc. (%) 3 companies average 1-yr forward P/E (x)0%10%20%30%40%50%60%70%2009 2010E 2011E 2012E 2013ELepuShinvaYuyue0%5%10%15%20%25%30%35%2009 2010E 2011E 2012E 2013EYuyueShinvaLepuMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 26 At a glance: analysis and comparisons We think Yuyue and Lepu offer the best investment theses among the A-share medical device makers based on comparisons of fundamentals, financial data, and valuation. Yuyue enjoys absolute dominance in the lower-end market, and we think it has the strongest competiveness domestically. Management appears to have a clear-cut plan for long-term growth, and it involves steadily expanding the market share of home-use medical devices and enhancing its position in the market for high-value consumables by hospitals as well. Yuyues valuation has been at a high level since its high growth rate and high profitability won market recognition. Lepu posts the highest returns and is the most profitable. It is also domestically competitive in terms of R&D capability, products and brand. We think the companys strong growth momentum has weakened to some extent, but its valuation has stayed at a relatively high level. Shinva has always been good with brand, R&D and products, but its profitability has been weak due to its SOE management and other issues. Its valuation, however, has remained at a relatively high level, similar to its peers in the same segment. Exhibit 39: Yuyue is the best performer in terms of the measures below Comparisons of fundamentals, financial data, valuation and liquidity Source: Gao Hua Securities Research estimates. Criteria Yuyue Shinva Lepu Average Key Highlights and Caveats Brand recognition (+) Reflects consumer acceptance Sales channel (+) Reflects companys market penetration R&D ability (+) Reflects the further competitive strength Entry barrier (+) Reflects the ability to avoid competition Potential market size (+) Determines further growth potential Market share (+) Affects market status Revenue growth Earnings growth Gross margin EBIT margin Net margin Return on net asset ROIC CROCI P/E P/B vs. ROE EV/GCI vs. CROCI/WACC 3M average trading value 3M average turnover rateOverall Overall evaluationYuyue is best in terms of company fundamentals, while Lepu isgood on financials. Overall, we see Yuyue as the best choice.The subsector has low liquidity, while Lepu enjoys higher volatilityand liquididy relatively.Lepus strong earnings bring about high return profile.Medical device subsector enjoys high premium to our A-sharecoverage. Yuyues valuation is the lowest in the subsectorValuation and LiquidityValuationmultiplesLiquidityFinancialsReturnsYuyue（ 002223.SZ） still sees room for growth as a leader inhome use device market. Shinva（ 600587） will enjoy rapidgrowth rate by organic and incremental business.MarginsLepu（ 300003.SZ） s core products DESs gross margin is morethan 90%.GrowthDefining metricsCompany FundamentalsBrandR&DProductsMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 27 Yuyue (002223.SZ, Buy): High growth, high premium Source of opportunity We initiate coverage on Yuyue with a Buy rating and a 12-month target price of Rmb48.60. We project 2010-13E sales revenues will grow at a CAGR of 38.8% with net profits at 42%. As the biggest beneficiary of rapid growth in home-use devices, we see sustained high growth at Yuyue over the next few years with a further boost from exports and high-value consumables. Sales strength should help expand market share: Yuyue has the strongest domestic sales network in its segment, and all of its main products have a top-three market share. We expect sales volumes to pick up quickly for new products like the electronic sphygmomanometer. We think sales network strength is now the key competition criterion for home-use device manufacturers aiming for industry leadership. Yuyue is at least five years ahead of peers in building its sales network, in our view, and we think it can use this to further expand market share. High-value consumables also expected to drive growth: In addition to securing a top position in home-use devices, Yuyue has also striven to foster its position in the market for higher added-value consumables, which could provide higher growth potential. It started with products that domestic firms are relatively poor at handling and where big foreign firms have limited coverage, giving it the opportunity to gradually expand its market share. We also expect Yuyue to engage in M&A to add more products to this category. Catalysts High expectations for new product pipeline: We expect Yuyue to introduce at least two OTC products a year, which can be distributed to end-users within 15 days via its existing network. This should allow for rapid revenue accumulation. We believe one of 2011s most highly-awaited products is a blood glucose monitor, which we see copying the success of electronic sphygmomanometer. High-value consumables should be the focus of promotion over the next two years, and future news about cooperation in this segment is likely to push up stock prices. Stepping up overseas sales with an eye on the global market: Capacity constraints have limited overseas sales to just 10% of the total, but we expect a pick-up in 2011 on a capacity ramp-up, resumed wheelchair exports, and FDA certification for oxygen generators. We see overseas sales being 18% of OTC sales by 2013E.Valuation Our 12-month target price is Rmb48.60, which implies 47X 2011E P/E and 27% upside potential. Our estimates for 2011E-12E net profit are 5%/4% higher than Wind consensus estimates, as we take a more positive view on exports and high-value consumables. Key risks Slower-than-expected progress with high-value consumables. GrowthReturns *MultipleVolatility VolatilityMultipleReturns *GrowthInvestment ProfileLow HighPercentile 20th 40th 60th 80th 100th* Returns = Return on Capital For a complete description of the investment profile measures please refer to the disclosure section of this document.Jiangsu Yuyue Medical Equipment & Supply (002223.SZ)Asia Pacific Pharmaceuticals Peer Group AverageKey data CurrentPrice (Rmb) 38.4012 month price target (Rmb) 48.60Market cap (Rmb mn / US$ mn) 9,653.4 / 1,468.3Foreign ownership (%) -12/09 12/10E 12/11E 12/12EEPS (Rmb) 0.650.641.031.40EPS growth (%) 8.4 (1.5) 60.2 36.3EPS (diluted) (Rmb) 0.65 0.64 1.03 1.40EPS (basic pre-ex) (Rmb) 0.65 0.64 1.03 1.40P/E (X) 59.0 59.9 37.4 27.4P/B (X) 12.5 11.8 9.8 7.9EV/EBITDA (X) 17.5 50.4 31.4 22.7Dividend yield (%) 0.0 0.6 0.9 1.3ROE (%) 22.8 24.6 28.6 32.09001,0001,1001,2001,3001,4001,5001,6002025303540455055Mar-10 Jun-10 Sep-10 Dec-10Price performance chartJiangsu Yuyue Medical Equipment & Supply (L) Shenzhen A Index (R)Share price performance (%) 3 month 6 month 12 monthAbsolute (21.6) (6.7) 60.6Rel. to Shenzhen A Index (18.3) (16.5) 46.0Source: Company data, Goldman Sachs Research estimates, FactSet. Price as of 3/18/2011 close.March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 28 Home-use devices to further benefit from rapid growth in the industry Yuyue is aiming to achieve top-three market share in each of its major products. We can see from Exhibit 15 that each of its home-use devices holds boast a top share of the market apart from the electronic sphygmomanometer, which was released just two years ago and ranked third in 2010. We think the upcoming blood glucose meter is likely to mirror the fast expansion of the electronic sphygmomanometer and become another best-selling product. We think well-established products will show relatively modest growth, but will benefit from organic growth in the industry. We see 2010-13E revenue growth on these core products maintaining a CAGR of around 25%. Among them, we see oxygen generators and wheelchairs maintaining particularly strong growth. Exhibit 40: Yuyues main products grew at a CAGR of around 30% between 2005 and 2010 Revenue growth in Yuyues four key products over the past five years *Data prior to 2008 taken from the share offering prospectus. Data from 2008 onwards are estimates by Gao Hua Securities. Source: Companys share offering prospectus, Gao Hua Securities Research estimates. Stepping up exports with an eye on the global market Overseas sales accounted for more than 30% of overall sales in 2005. In 2005, Yuyue sold wheelchair operations (owned by subsidiary Jiangsu Yingke) to U.S.-based APM along with a restrictive agreement stipulating a five-year suspension of Yuyue wheelchair exports. Wheelchairs contributed 31% of Yuyues sales revenue at the time. The production line sale reduced its wheelchair capacity to 55,000 units a year, sharply down from 140,000 units a year previously, and the companys exports also shrank remarkably. Yuyues exports have since remained weak due to the impact of the financial crisis and insufficient production capacity for its major products. We expect to see a pick-up in exports when the five-year restriction on wheelchair exports ends and with the imminent FDA certification of its oxygen generators. We see overseas revenue CAGR rising as high as 59% in 2009-13E. Among its current export products, indigenous brand goods are mainly sold in Eastern Europe and Southeast Asia, while the majority of its exports are OEM products. The United States is the focus market for further overseas growth as it is worth nearly US$100 bn, or around 50% of the global market. However, the gross margin for products sold in the U.S. is relatively low. We think Yuyue aims to sell indigenous brand products in the U.S. over the long term. 5%25%45%65%85%105%125%145%2006 2007 2008E 2009E 2010E 2011E 2012E 2013EOxygen concentrators WheelchairsMercury blood pressure meters StethoscopesMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 29 Exhibit 41: Yuyue enjoys high export rebates for major export products Major export-focused products Source: Annual reports, Gao Hua Securities Research. Exhibit 42: We expect the CAGR for overseas sales to be as high as 59% in 2009-13E Estimates of overseas sales and yoy changes Source: Annual reports, Gao Hua Securities Research estimates. High-value consumables to bolster medium and long-term growth Yuyue plans to build a second R&D center in Suzhou, which will focus on high-value consumables, such as surgical sutures/suture needles made from macromolecular materials, surgical stitching instruments, macromolecular-material infusion bags, vacuum blood collection tubes, and indwelling needles. In the meantime, Yuyue is also actively seeking M&A opportunities to speed up the introduction of new products. Currently, the domestic market for Yuyues target products is worth more than Rmb10 bn, with growth of around 25% over the past few years. We expect the target market to maintain growth of around 25% in 2010-13E, underpinned by a higher doctor consultation rate and an increase in the number of surgeries actually happening. Big foreign firms, such as BD and Johnson & Johnson, currently hold more than 50% of the domestic market, with the rest divided among smaller domestic firms. Yuyues strategy is to grab market share from smaller local firms first to give it some initial ground from which to compete with multinationals. We think the company has made progress with efforts to build sales teams and distribution channels over the past year, and expect rapid growth from surgical sutures in 2011. We prefer Yuyues strategy to gradually raise market share and take a positive view of the business expansion into high-value consumables over the next few years, which should support its medium- and long-term growth. CategoryOxygenconcentratorsWheelchairs Oxygen regulator DistracterAcupunctureneedlesOverseas market USA Overseas North America, Europe Overseas OverseasExport tax rebate rate 17% 15% 15% 15% 17%0%5%10%15%20%25%30%35%40%0501001502002503003502005 2006 2007 2008 2009 2010E 2011E 2012E 2013EExport revenue (Rmb mn)% of home use medical deviceCAGR 59%March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 30 Exhibit 43: Demand for hospital consumables to rise markedly on increasing number of people hospitalized The number of people hospitalized at various medical facilities Source: Chinas Health Statistic Yearbook 2010, Gao Hua Securities Research. Exhibit 44: Revenue and cost estimates *All figures are estimates by Gao Hua Securities. *Core products include oxygen generators, wheelchairs, sphygmomanometers, stethoscopes, health-care kits, thermometers and X-ray machines. Source: Gao Hua Securities Research estimates. Exhibit 45: Revenue from oxygen generators and wheelchairs accounts for 54% of overall core products % of revenue from different core products in 2010 Exhibit 46: Gross profit from oxygen generators and wheelchairs accounts for 54% of core products % of gross profit from different core products in 2010Source: Gao Hua Securities Research estimates. Source: Gao Hua Securities Research estimates. 0%5%10%15%20%25%30%4060801001201402004 2005 2006 2007 2008 2009Number of patients hospitalized (mn) YoY (%)2009E 2010E 2011E 2012E 2013E 2009E 2010E 2011E 2012E 2013ERevenue breakdown (Rmbm) Revenue YoYCore products 388 652 994 1,290 1,619 Core products 63.0% 68.2% 52.4% 29.7% 25.5%Suzhou factory 40 64 92 117 145 Suzhou factory - 60.0% 44.1% 27.2% 23.5%Others 110 168 268 429 601 Others -32.6% 52.1% 60.0% 60.0% 40.0%Total 538 884 1,354 1,836 2,365 Total 34.0% 64.3% 53.2% 35.6% 28.8%Revenue proporation Gross marginCore products 72.1% 73.8% 73.4% 70.2% 68.5% Core products 38.5% 40.8% 41.3% 41.3% 41.1%Suzhou factory 7.4% 7.2% 6.8% 6.4% 6.1% Suzhou factory 40.0% 37.6% 39.9% 40.4% 40.7%Others 20.5% 19.0% 19.8% 23.4% 25.4% Others 36.2% 32.9% 36.4% 38.9% 39.9%Total 100% 100% 100% 100% 100% Total 38.2% 39.1% 40.3% 40.7% 40.8%Oxygen concentrators38%Wheelchairs16%Mercury blood pressure meters 14%Electrical blood pressure meters 10%Stethoscopes4%First-aid kits7%Thermometers5%X-ray machines 6%Oxygen concentrators43%Wheelchairs11%Mercury blood pressure meters 10%Electrical blood pressure meters 15%Stethoscopes3%First-aid kits5%Thermometers5%X-ray machines9%March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 31 Yuyue: Summary financials Profit model (Rmb mn) 12/09 12/10E 12/11E 12/12E Balance sheet (Rmb mn) 12/09 12/10E 12/11E 12/12ETotal revenue 537.9 883.9 1,354.4 1,836.0 Cash & equivalents 142.5 425.4 420.1 443.9Cost of goods sold (332.7) (538.3) (809.2) (1,089.2) Accounts receivable 100.0 145.3 222.6 301.8SG&A (89.8) (165.2) (246.3) (333.9) Inventory 89.0 140.1 210.6 283.5R&D - - - - Other current assets 7.1 7.1 7.1 7.1Other operating profit/(expense) (1.2) (6.2) (9.5) (12.9) Total current assets 338.7 717.9 860.5 1,036.4EBITDA 128.7 184.5 301.9 416.7 Net PP&E 214.0 328.0 462.2 625.9Depreciation & amortization (14.4) (10.3) (12.5) (16.6) Net intangibles 67.3 65.4 63.5 61.7EBIT 114.3 174.3 289.4 400.1 Total investments 11.1 11.1 11.1 11.1Interest income 1.4 1.4 4.3 4.2 Other long-term assets 7.2 7.2 7.2 7.2Interest expense (2.1) (4.3) (5.2) (5.2) Total assets 638.3 1,129.5 1,404.5 1,742.2Income/(loss) from uncons. subs. 0.2 0.0 0.0 0.0Others 4.2 9.6 9.6 9.6 Accounts payable 82.7 133.9 201.3 270.9Pretax profits 118.1 181.0 298.1 408.7 Short-term debt 28.2 54.0 54.0 54.0Income tax (17.0) (18.9) (34.1) (48.8) Other current liabilities 14.6 71.0 106.5 139.9Minorities (0.6) (1.0) (1.5) (2.1) Total current liabilities 125.5 258.9 361.7 464.7Long-term debt 20.0 20.0 20.0 20.0Net income pre-preferred dividends 100.5 161.2 262.5 357.9 Other long-term liabilities 10.3 10.3 10.3 10.3Preferred dividends 0.0 0.0 0.0 0.0 Total long-term liabilities 30.3 30.3 30.3 30.3Net income (pre-exceptionals) 100.5 161.2 262.5 357.9 Total liabilities 155.8 289.1 392.0 495.0Post-tax exceptionals 0.0 0.0 0.0 0.0Net income 100.5 161.2 262.5 357.9 Preferred shares 0.0 0.0 0.0 0.0Total common equity 475.5 832.5 1,003.1 1,235.7EPS (basic, pre-except) (Rmb) 0.65 0.64 1.03 1.40 Minority interest 7.0 7.9 9.4 11.5EPS (basic, post-except) (Rmb) 0.65 0.64 1.03 1.40EPS (diluted, post-except) (Rmb) 0.65 0.64 1.03 1.40 Total liabilities & equity 638.3 1,129.5 1,404.5 1,742.2DPS (Rmb) 0.00 0.22 0.36 0.49Dividend payout ratio (%) 0.0 34.4 35.0 35.0 BVPS (Rmb) 3.08 3.26 3.92 4.83Free cash flow yield (%) 0.9 0.0 1.0 1.7Growth & margins (%) 12/09 12/10E 12/11E 12/12E Ratios 12/09 12/10E 12/11E 12/12ESales growth 34.0 64.3 53.2 35.6 ROE (%) 22.8 24.6 28.6 32.0EBITDA growth 51.4 43.4 63.6 38.0 ROA (%) 18.5 18.2 20.7 22.7EBIT growth 52.0 52.5 66.1 38.2 ROACE (%) 31.8 37.5 45.8 46.7Net income growth 62.6 60.3 62.9 36.3 Inventory days 78.9 77.7 79.1 82.8EPS growth 8.4 (1.5) 60.2 36.3 Receivables days 52.1 50.7 49.6 52.1Gross margin 38.2 39.1 40.3 40.7 Payable days 67.0 73.4 75.6 79.1EBITDA margin 23.9 20.9 22.3 22.7 Net debt/equity (%) (19.6) (41.8) (34.2) (29.7)EBIT margin 21.2 19.7 21.4 21.8 Interest cover - EBIT (X) 187.7 61.2 313.6 410.3Valuation 12/09 12/10E 12/11E 12/12ECash flow statement (Rmb mn) 12/09 12/10E 12/11E 12/12ENet income pre-preferred dividends 100.5 161.2 262.5 357.9 P/E (analyst) (X) 59.0 59.9 37.4 27.4D&A add-back 14.4 10.3 12.5 16.6 P/B (X) 12.5 11.8 9.8 7.9Minorities interests add-back 0.6 1.0 1.5 2.1 EV/EBITDA (X) 17.5 50.4 31.4 22.7Net (inc)/dec working capital (21.3) (45.2) (80.5) (82.4) Dividend yield (%) 0.0 0.6 0.9 1.3Other operating cash flow 2.2 0.0 0.0 0.0Cash flow from operations 96.5 127.2 196.0 294.2Capital expenditures (74.4) (122.3) (94.8) (128.5)Acquisitions (22.9) 0.0 (50.0) (50.0)Divestitures 0.0 0.0 0.0 0.0Others 1.0 0.0 0.0 0.0Cash flow from investments (96.3) (122.3) (144.8) (178.5)Dividends paid (common & pref) (1.5) 0.0 (56.4) (91.9)Inc/(dec) in debt 20.7 25.8 0.0 0.0Common stock issuance (repurchase) 0.0 252.2 0.0 0.0Other financing cash flows (31.6) 0.0 0.0 0.0Cash flow from financing (12.5) 278.0 (56.4) (91.9)Total cash flow (12.3) 282.9 (5.2) 23.8 Note: Last actual year may include reported and estimated data.Source: Company data, Goldman Sachs Research estimates.March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 32 Shinva (600587.SS, Neutral): Organic growth plus M&A Investment view We initiate on Shinva with a Neutral rating. The firm outlined a clear picture of its future growth prospects after Zibo Mining Group Co. became one of its major shareholders. We also see expansion into new businesses as proof of its resolution to accelerate growth. We expect 2010-13E sales and net profit CAGRs of 29.2% and 35.8%, respectively. Our 12-month target price is Rmb26.60. Key catalysts 1. Big market potential for disinfection and sterilization (D&S) equipment: As the top domestic firm in D&S equipment, Shinva should continue to see growth in its products as it benefits from market expansion. As stated in the “Theme 2” section of this report, Shinva looks likely to expand capacity for its D&S equipment thanks to new GMP requirements and resulting demand from pharma companies. We also see accelerated growth in hospital equipment due to the addition of operating rooms at the grassroots level and above. We expect 25.9% revenue CAGR in 2010-13E. 2. Kick-off of full-capacity production at non-PVC soft bag I.V. solution line: Currently, China still sells 10.4 bn glass containers a year as packages for I.V. solution, but we see an unavoidable shift to PVC containers and non-PVC soft bags. Shinva is now one of the major manufacturers of I.V. solution packages, and we think it will see sustained growth as it continues to benefit from the shift to non-glass containers. 3. Higher value-added from a one-stop integrated solution: Shinva looks very competitive in terms of infection control at hospitals and supplying drug-producing equipment for pharmas. It also exceeds at maintaining control over terminal users. We think the added value of its products should be greatly enhanced by projects that offer a one-stop integrated solution and the company could fully leverage its product and distribution channel strengths (e.g., projects designed for hospitals and pharma companies). 4. We see a high likelihood of expansion through M&A: We expect a big proportion of Shinvas incremental growth to come from M&A, which would likely target equipment for pharma companies, consumables at hospitals, and medical services. We expect a gradual injection of high-quality assets due to its stated intention to engage in M&A and good execution. Risks to our view Upside risk: Faster-than-expected M&A. Downside risk: Big rises in raw material prices that could impact gross profit margins. Valuation Our 12-month target price is Rmb26.60, which implies 41X 2011E P/E and which offers 10% downside potential. GrowthReturns *MultipleVolatility VolatilityMultipleReturns *GrowthInvestment ProfileLow HighPercentile 20th 40th 60th 80th 100th* Returns = Return on Capital For a complete description of the investment profile measures please refer to the disclosure section of this document.Shinva Medical Instrument (600587.SS)Asia Pacific Pharmaceuticals Peer Group AverageKey data CurrentPrice (Rmb) 29.4012 month price target (Rmb) 26.60Market cap (Rmb mn / US$ mn) 3,951.2 / 601.0Foreign ownership (%) -12/10 12/11E 12/12E 12/13EEPS (Rmb) 0.450.640.871.13EPS growth (%) 46.2 43.2 35.8 28.9EPS (diluted) (Rmb) 0.45 0.64 0.87 1.13EPS (basic pre-ex) (Rmb) 0.45 0.64 0.87 1.13P/E (X) 65.5 45.7 33.7 26.1P/B (X) 5.7 5.0 4.4 3.8EV/EBITDA (X) 27.2 31.0 22.7 17.0Dividend yield (%) 0.0 0.0 0.0 0.0ROE (%) 9.0 11.7 13.9 15.52,4002,5002,6002,7002,8002,9003,0003,1003,2003,3003,4001214161820222426283032Mar-10 Jun-10 Sep-10 Dec-10Price performance chartShinva Medical Instrument (L) Shanghai SE A Share Index (R)Share price performance (%) 3 month 6 month 12 monthAbsolute 0.8 47.3 71.2Rel. to Shanghai SE A Share Index 0.3 31.8 79.7Source: Company data, Goldman Sachs Research estimates, FactSet. Price as of 3/18/2011 close.March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 33 Exhibit 47: Costs and revenue estimates Source: Company data, Gao Hua Securities Research estimates. Exhibit 48: Disinfection and sterilization equipment accounts for 66% of 2010E medical device revenue Breakdown of 2010E medical device revenue by product Exhibit 49: Disinfection and sterilization equipment accounts for 65% of 2010 E gross profit from medical devices Breakdown of 2010 E gross profit from medical devices by product Source: Gao Hua Securities Research estimates. Source: Gao Hua Securities Research estimates. Exhibit 50: Shinva holds around a 90% share of disinfection and sterilization equipment market Shinvas market share in domestic disinfection and sterilization equipment for pharma companies Exhibit 51: Stainless steel prices at their lowest level since 2007 Price index for stainless steel prices since 2007 Source: China Association for Pharmaceutical Equipment. Source: Mysteel, Gao Hua Securities Research. 2009 2010 2011E 2012E 2013E 2009 2010 2011E 2012E 2013ERevenue breakdown (Rmbm) Revenue YoYMdeical device 746 1,142 1,430 1,799 2,240 Mdeical device 30.3% 53.0% 25.2% 25.8% 24.6%Medical environmentalprotection equipment39 29 37 48 58Medical environmentalprotection equipment79.6% -27.3% 30.0% 30.0% 20.0%Others 100 58 93 149 223 Others 66.0% -41.9% 60.0% 60.0% 50.0%Total 886 1,342 1,821 2,308 2,897 Total 35.3% 51.5% 35.6% 26.8% 25.5%Revenue proporation Gross marginMdeical device 84.3% 85.1% 78.5% 77.9% 77.3% Mdeical device 28.1% 26.5% 26.0% 25.8% 25.6%Medical environmentalprotection equipment4.4% 2.1% 2.0% 2.1% 2.0%Medical environmentalprotection equipment25.1% 35.9% 35.6% 35.4% 35.1%Others 11.3% 4.3% 5.1% 6.5% 7.7% Others 13.1% 11.0% 13.8% 16.5% 18.2%Total 100% 100% 100% 100% 100% Total 26.3% 24.2% 22.7% 22.7% 22.7%Disinfection and sterilizing equipment52%Cleaning and disinfecting equipment14%Infusion solutions production lines13%Radiotherapeutic dialysis machines11%Other equipment10%Disinfection and sterilizing equipment46%Cleaning and disinfecting equipment19%Infusion solutions production lines18%Radiotherapeutic dialysis machines11%Other equipment6%90%87%94%95%93%82%84%86%88%90%92%94%96%2006 2007 2008 2009 2010506070809010011007/04 07/10 08/04 08/10 09/04 09/10 10/04 10/10March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 34 Shinva Medical Instrument: Summary financialsProfit model (Rmb mn) 12/10 12/11E 12/12E 12/13E Balance sheet (Rmb mn) 12/10 12/11E 12/12E 12/13ETotal revenue 1,342.2 1,820.7 2,308.4 2,896.7 Cash & equivalents 316.8 282.8 309.5 444.4Cost of goods sold (1,017.5) (1,407.8) (1,784.1) (2,240.1) Accounts receivable 355.7 467.5 573.7 696.1SG&A (243.3) (291.8) (358.4) (441.1) Inventory 403.8 520.1 610.2 704.8R&D - - - - Other current assets 34.2 34.2 34.2 34.2Other operating profit/(expense) (12.2) (16.6) (21.0) (26.4) Total current assets 1,110.5 1,304.5 1,527.6 1,879.5EBITDA 86.2 120.5 164.5 212.7 Net PP&E 292.5 364.5 442.7 478.7Depreciation & amortization (17.1) (16.1) (19.6) (23.6) Net intangibles 46.2 44.5 42.9 41.2EBIT 69.2 104.5 144.8 189.1 Total investments 25.6 29.2 32.9 36.6Interest income 0.0 1.9 1.7 1.9 Other long-term assets 16.3 16.3 16.3 16.3Interest expense 1.4 (2.1) (2.7) (3.5) Total assets 1,491.0 1,759.1 2,062.4 2,452.3Income/(loss) from uncons. subs. 3.7 3.7 3.7 3.7Others 3.6 3.6 3.6 3.6 Accounts payable 335.5 501.4 659.9 859.2Pretax profits 77.9 111.5 151.2 194.7 Short-term debt 50.0 50.0 50.0 80.0Income tax (13.3) (19.3) (26.4) (34.2) Other current liabilities 303.5 303.5 303.5 303.5Minorities (4.3) (5.8) (7.4) (9.3) Total current liabilities 689.1 854.9 1,013.4 1,242.8Long-term debt 6.0 16.0 36.0 36.0Net income pre-preferred dividends 60.4 86.4 117.4 151.3 Other long-term liabilities 18.9 18.9 18.9 18.9Preferred dividends 0.0 0.0 0.0 0.0 Total long-term liabilities 24.9 34.9 54.9 54.9Net income (pre-exceptionals) 60.4 86.4 117.4 151.3 Total liabilities 714.0 889.8 1,068.3 1,297.6Post-tax exceptionals 0.0 0.0 0.0 0.0Net income 60.4 86.4 117.4 151.3 Preferred shares 0.0 0.0 0.0 0.0Total common equity 697.0 783.4 900.8 1,052.1EPS (basic, pre-except) (Rmb) 0.45 0.64 0.87 1.13 Minority interest 80.1 85.9 93.3 102.6EPS (basic, post-except) (Rmb) 0.45 0.64 0.87 1.13EPS (diluted, post-except) (Rmb) 0.45 0.64 0.87 1.13 Total liabilities & equity 1,491.0 1,759.1 2,062.4 2,452.3DPS (Rmb) 0.00 0.00 0.00 0.00Dividend payout ratio (%) 0.0 0.0 0.0 0.0 BVPS (Rmb) 5.19 5.83 6.70 7.83Free cash flow yield (%) 0.7 0.1 1.4 2.6Growth & margins (%) 12/10 12/11E 12/12E 12/13E Ratios 12/10 12/11E 12/12E 12/13ESales growth 51.5 35.6 26.8 25.5 ROE (%) 9.0 11.7 13.9 15.5EBITDA growth 28.2 39.8 36.4 29.3 ROA (%) 4.8 5.3 6.1 6.7EBIT growth 36.6 51.1 38.6 30.6 ROACE (%) 12.2 15.8 17.6 20.3Net income growth 46.2 43.2 35.8 28.9 Inventory days 121.8 119.8 115.6 107.1EPS growth 46.2 43.2 35.8 28.9 Receivables days 79.6 82.5 82.3 80.0Gross margin 24.2 22.7 22.7 22.7 Payable days 88.7 108.5 118.8 123.8EBITDA margin 6.4 6.6 7.1 7.3 Net debt/equity (%) (33.6) (24.9) (22.5) (28.4)EBIT margin 5.2 5.7 6.3 6.5 Interest cover - EBIT (X) NM 446.4 150.4 112.7Valuation 12/10 12/11E 12/12E 12/13ECash flow statement (Rmb mn) 12/10 12/11E 12/12E 12/13ENet income pre-preferred dividends 60.4 86.4 117.4 151.3 P/E (analyst) (X) 65.5 45.7 33.7 26.1D&A add-back 17.1 16.1 19.6 23.6 P/B (X) 5.7 5.0 4.4 3.8Minorities interests add-back 4.3 5.8 7.4 9.3 EV/EBITDA (X) 27.2 31.0 22.7 17.0Net (inc)/dec working capital 39.5 (62.2) (37.9) (17.7) Dividend yield (%) 0.0 0.0 0.0 0.0Other operating cash flow 3.0 (3.7) (3.7) (3.7)Cash flow from operations 124.2 42.4 102.9 162.8Capital expenditures (108.4) (36.4) (46.2) (57.9)Acquisitions 0.0 (50.0) (50.0) 0.0Divestitures 0.1 0.0 0.0 0.0Others 12.9 0.0 0.0 0.0Cash flow from investments (95.5) (86.4) (96.2) (57.9)Dividends paid (common & pref) 0.0 0.0 0.0 0.0Inc/(dec) in debt 73.6 10.0 20.0 30.0Common stock issuance (repurchase) 36.8 0.0 0.0 0.0Other financing cash flows (10.5) 0.0 0.0 0.0Cash flow from financing 99.9 10.0 20.0 30.0Total cash flow 128.6 (34.0) 26.7 134.9 Note: Last actual year may include reported and estimated data.Source: Company data, Goldman Sachs Research estimates.March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 35 Lepu (300003.SZ, Neutral): Chinas heart disease specialist Investment view We initiate on Lepu with a Neutral rating. As a leading heart disease specialist in China, Lepu relies on stents as its cash cow, and aims to gradually extend its product line through expansionary acquisitions. We forecast growth in revenues at 30.9% CAGR over 2010-13E with net profitgrowth at 29.4%. Our 12-month target price is Rmb28.30. Core growth drivers 1. A stent producer with a technological lead in China: Lepu has the widest selection of stent products among domestic players, pioneering the market to replace imported stent products； Lepus concentration on heart disease also give it the most extensive pipelines in this segment. Its recently-approved polymer-free DES is one of the most cutting edge technologies in China. 2. Stent sector still witnessing rapid growth: Only about 5% of patients with coronary heart disease receive treatment in China, which is largely constrained by PCI (percutaneous coronary intervention) capacity. Now that PCI capacity is rising in large cities along with the medical reimbursement ratio, we forecast the number of PCI operations will grow at a CAGR of 30% over 2010-13E, driving 30% growth in stent sales. 3. Early expansion into tier-2/3 cities increases market share: Small-scale PCI operations are arriving in tier-2/3 cities, and Lepu has already partnered with Weijinfan to establish its presence there with angiography equipment, and patients will have more choice with the arrival of polymer-free DES and bifurcation stents. We see Lepu increasing its share of the China stent market. 4. Building a high-value medical heart device business: In addition to steady development in stent products, Lepu aims to become a heart disease specialist. Besides cardiac plug occluders for congenital heart disease, Lepu has been extending its medical heart devices through acquisitions in recent years. We believe products such as vascular angiography equipments, cardiovascular drugs, heart valves and pacemakers will drive long-term growth； Lepu is speeding up acquisitions and we expect to see it establish itself as the most powerful heart device producer in China. Risks to our view Upside risk: Faster-than-expected expansionary growth. Downside risk: A large cut in tender prices for stent products. Valuation We apply EV/GCI vs. CROCI/WACC as our primary valuation methodology. Our 12-month target price is Rmb28.30, which implies 42X2011E P/E and which represents 0% upside potential from the current price level. GrowthReturns *MultipleVolatility VolatilityMultipleReturns *GrowthInvestment ProfileLow HighPercentile 20th 40th 60th 80th 100th* Returns = Return on Capital For a complete description of the investment profile measures please refer to the disclosure section of this document.Lepu Medical Technology (300003.SZ)Asia Pacific Pharmaceuticals Peer Group AverageKey data CurrentPrice (Rmb) 28.3212 month price target (Rmb) 28.30Market cap (Rmb mn / US$ mn) 22,995.8 / 3,497.8Foreign ownership (%) -12/10 12/11E 12/12E 12/13EEPS (Rmb) 0.5 .680.851.10EPS growth (%) (29.8) 34.3 25.5 28.7EPS (diluted) (Rmb) 0.51 0.68 0.85 1.10EPS (basic pre-ex) (Rmb) 0.51 0.68 0.85 1.10P/E (X) 56.0 41.7 33.3 25.8B ( 1.19.4786.5EV/EBITDA (X) 44.6 33.9 26.1 19.8Dividend yield (%) 0.0 0.7 0.9 1.2ROE (%) 21.5 24.4 25.7 27.49001,0001,1001,2001,3001,4001,5001,6002224262830323436Mar-10 Jun-10 Sep-10 Dec-10Price performance chartLepu Medical Technology (L) Shenzhen A Index (R)Share price performance (%) 3 month 6 month 12 monthAbsolute (12.2) 1.1 19.1Rel. to Shenzhen A Index (8.5) (9.5) 8.2Source: Company data, Goldman Sachs Research estimates, FactSet. Price as of 3/18/2011 close.March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 36 Exhibit 52: Our bear-case scenario assumes a 30% cut in stent unit prices the current price implies 10.7% downside Base case and bull/bear case scenarios assuming different cuts in unit price for stents Note: We expect stent price cuts in 2H2011, based on government guidance and our conversations with industry experts, and therefore factored the impact into half-year earnings. Source: Gao Hua Securities Research estimates. Exhibit 53: Revenue and cost estimates Source: Company data, Gao Hua Securities Research estimates. Exhibit 54: Growth in the number of PCI patients likely to remain above 30% The number of PCI cases in China Exhibit 55: We expect stent sales to grow 30% in China Domestic sales of stents Note: PCI refers to percutaneous coronary intervention. Note: We assume the use of 1.6 stents per person in PCI operations. Source: Lepus share offering prospectus, Gao Hua Securities Research estimates. Source: Report by China Association for Medical Devices Industry, Lepus share offering prospectus, Gao Hua Securities Research estimates. Scenario DES average price cut (%)2011E EPS(Rmb)CROCI (%)Valuation(Rmb)Upside/downside (%)Implied 11E P/E (X)Bear case -30% 0.63 54% 25.3 -10.7% 40Base case -15% 0.67 58% 28.3 -0.1% 42Bull case 0% 0.72 61% 31.5 11.2% 442009 2010 2011E 2012E 2013E 2009 2010 2011E 2012E 2013ERevenue breakdown (Rmbm) Revenue YoYStent series 442 579 725 913 1,187 Stent series 29.6% 31.2% 25.1% 26.0% 29.9%Stent surgery compents - 20 80 136 177 Stent surgery compents - 0.0% 300.0% 70.0% 30.0%Occluders 42 54 67 80 95 Occluders - 28.0% 23.5% 20.0% 18.8%Heart valves - - 28 33 39 Heart valves - - - 19.8% 19.8%Agency products 64 80 101 128 161 Agency products 72.0% 26.2% 26.2% 26.2% 26.2%Others 18 36 54 81 106 Others 65.0% 105.4% 50.0% 50.0% 30.0%Total 565 770 1,027 1,339 1,726 Total 43.5% 36.3% 33.4% 30.3% 28.9%Revenue proporation Gross marginStent series 78.1% 75.2% 70.6% 68.2% 68.8% Stent series 91.2% 93.3% 93.1% 93.0% 92.9%Stent surgery compents - 2.6% 7.8% 10.2% 10.2% Stent surgery compents - 70.0% 72.2% 74.4% 76.6%Occluders 7.5% 7.0% 6.5% 6.0% 5.5% Occluders 86.1% 91.0% 93.3% 94.7% 94.7%Heart valves - - 2.7% 2.5% 2.3% Heart valves - - 84.2% 84.2% 84.2%Agency products 11.3% 10.4% 9.9% 9.6% 9.3% Agency products 27.0% 33.1% 33.3% 33.4% 33.6%Others 3.1% 4.7% 5.3% 6.1% 6.1% Others 32.0% 22.6% 25.1% 27.6% 30.1%Total 100% 100% 100% 100% 100% Total 81.7% 82.9% 84.3% 83.6% 83.8%0%10%20%30%40%50%60%01002003004005006007008002004 2005 2006 2007 2008 2009 2010E 2011E 2012E 2013ENo. of PCI operations in China (000) YoY (%)0%10%20%30%40%50%60%0200400600800100012002004 2005 2006 2007 2008 2009 2010E 2011E 2012E 2013EStents sales volume in China (000 unit) YoY (%)March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 37 Exhibit 56: Price gap between domestic and foreign stents remains very big Selling price of domestic stents and average expenditure per person Exhibit 57: Market share of top three domestic stent manufacturers Market share of stent sales by company in 2009 Source: Lepus share offering prospectus, Gao Hua Securities Research. Source: Lepus share offering prospectus, Gao Hua Securities Research. Exhibit 58: Beijing Star Medical Devices Co. holds a 15% share of the market for bi-leaflet mechanical heart valvesMarket shares for domestic bi-leaflet mechanical heart valves in 2009 Exhibit 59: Lepu accounts for more than 30% of the nationwide market for cardiac implant occluders Market share for domestic cardiac implant occluders Note: Chinas end-user market is worth around Rmb450 mn, and products by Beijing Star are priced at Rmb8,000-Rmb9,000 each, vs. Rmb13,000-Rmb15,000 each for foreign products. Note: Growth in the domestic market for cardiac implant closure devices gradually rose to around 20%, with products priced at Rmb4,000-Rmb5,000 per set. We expect the sector to post better-than-expected growth when the government increases spending on surgical treatments of congenital heart defects on newborn babies. Source: Lepus feasibility report for acquisition of Beijing Star, Gao Hua Securities Research. Source: Lepus share offering prospectus, Gao Hua Securities Research estimates. Exhibit 60: Pacemaker imports have grown at a 17% CAGR over the past eight years The number of pacemakers imported in 2003-10 Exhibit 61: Limited sales of “You Jia” by Henan Topfond Pharceutical Co. Domestic sales of atorvastatin calcium Note: Pacemakers currently in use in China are basically all imported. Lepu subsidiary Shaanxi Qinming Medical Equipment Co. is the only domestic firm that has a certificate to produce pacemakers. Note: Lipitor was originally developed by Pfizer and sales of the product totaled Rmb750 mn in 2009； “A Le” (Beijing Jialin Pharmaceutical Co.) and “You Jia” (Henan Topfond) are domestic generic drug versions of Pfizers Lipitor. Source: CEIC, Gao Hua Securities Research. Source: IMS, Gao Hua Securities Research. 0102030405060702004 2005 2006 2009J&J (Rmb000/unit) Boston Scientific/Medtronic (Rmb000/unit)Domestic products (Rmb000/unit) Patients burden (Rmb000/patient)MicroPort27%Lepu26%Jiwei20%J&J, Medtronic, Boston Scientific, etc. 27%St Jude29%Medtronic29%Sorin18%On-X9%Lepu (BJ Sida)15%0%5%10%15%20%25%30%35%40%0 10 20 30 40 50 60 70 2008 2009 2010E 2011E 2012E 2013ESales volume in China (000 unit) Lepus market share (%)Lepus sales volume YoY (%)6 7 8 9 10 11 12 13 14 0 20,000 40,000 60,000 80,000 2003 2004 2005 2006 2007 2008 2009 2010Imported pacemakers volume (unit,LHS)Average price (Rmb000,RHS)CAGR 17%02004006008001,0001,2002006 2007 2008 2009 2010HLipitor A Le You JiaMarch 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 38 Lepu Medical Technology: Summary financialsProfit model (Rmb mn) 12/10 12/11E 12/12E 12/13E Balance sheet (Rmb mn) 12/10 12/11E 12/12E 12/13ETotal revenue 770.1 1,027.4 1,338.7 1,725.9 Cash & equivalents 1,213.9 1,399.5 1,539.6 1,993.9Cost of goods sold (131.5) (161.8) (219.6) (279.1) Accounts receivable 193.3 257.9 336.0 433.2SG&A (189.5) (252.8) (329.4) (424.7) Inventory 101.8 125.2 170.0 216.1R&D - - - - Other current assets 64.9 64.9 64.9 64.9Other operating profit/(expense) (2.4) (3.2) (4.2) (5.4) Total current assets 1,573.8 1,847.4 2,110.4 2,708.0EBITDA 463.4 636.3 823.4 1,063.1 Net PP&E 389.1 663.5 972.7 1,105.0Depreciation & amortization (16.7) (26.7) (37.9) (46.4) Net intangibles 205.0 198.8 192.7 186.5EBIT 446.7 609.6 785.5 1,016.7 Total investments 0.0 0.0 0.0 0.0Interest income 22.7 21.7 25.0 27.5 Other long-term assets 58.9 58.9 58.9 58.9Interest expense 0.0 0.0 0.0 0.0 Total assets 2,226.7 2,768.7 3,334.7 4,058.4Income/(loss) from uncons. subs. (0.1) 0.0 0.0 0.0Others 3.3 3.3 3.3 3.3 Accounts payable 120.2 110.8 150.4 191.2Pretax profits 472.6 634.6 813.8 1,047.6 Short-term debt 0.0 0.0 0.0 0.0Income tax (62.0) (83.2) (122.1) (157.1) Other current liabilities 30.0 195.3 237.4 297.0Minorities (0.2) (0.2) (0.3) (0.4) Total current liabilities 150.2 306.1 387.8 488.2Long-term debt 0.0 0.0 0.0 0.0Net income pre-preferred dividends 410.5 551.1 691.5 890.1 Other long-term liabilities 10.3 10.3 10.3 10.3Preferred dividends 0.0 0.0 0.0 0.0 Total long-term liabilities 10.3 10.3 10.3 10.3Net income (pre-exceptionals) 410.5 551.1 691.5 890.1 Total liabilities 160.5 316.4 398.1 498.4Post-tax exceptionals 0.0 0.0 0.0 0.0Net income 410.5 551.1 691.5 890.1 Preferred shares 0.0 0.0 0.0 0.0Total common equity 2,066.3 2,452.1 2,936.1 3,559.2EPS (basic, pre-except) (Rmb) 0.51 0.68 0.85 1.10 Minority interest 0.0 0.2 0.5 0.8EPS (basic, post-except) (Rmb) 0.51 0.68 0.85 1.10EPS (diluted, post-except) (Rmb) 0.51 0.68 0.85 1.10 Total liabilities & equity 2,226.7 2,768.7 3,334.7 4,058.4DPS (Rmb) 0.00 0.20 0.26 0.33Dividend payout ratio (%) 0.0 30.0 30.0 30.0 BVPS (Rmb) 2.54 3.02 3.62 4.38Free cash flow yield (%) 1.1 1.3 1.9 3.0Growth & margins (%) 12/10 12/11E 12/12E 12/13E Ratios 12/10 12/11E 12/12E 12/13ESales growth 36.3 33.4 30.3 28.9 ROE (%) 21.5 24.4 25.7 27.4EBITDA growth 38.5 37.3 29.4 29.1 ROA (%) 20.1 22.1 22.7 24.1EBIT growth 39.0 36.5 28.9 29.4 ROACE (%) 57.1 55.9 54.7 58.5Net income growth 40.5 34.3 25.5 28.7 Inventory days 250.9 256.1 245.4 252.4EPS growth (29.8) 34.3 25.5 28.7 Receivables days 77.7 80.1 81.0 81.3Gross margin 82.9 84.3 83.6 83.8 Payable days 243.7 260.6 217.1 223.4EBITDA margin 60.2 61.9 61.5 61.6 Net debt/equity (%) (58.7) (57.1) (52.4) (56.0)EBIT margin 58.0 59.3 58.7 58.9 Interest cover - EBIT (X) NM NM NM NMValuation 12/10 12/11E 12/12E 12/13ECash flow statement (Rmb mn) 12/10 12/11E 12/12E 12/13ENet income pre-preferred dividends 410.5 551.1 691.5 890.1 P/E (analyst) (X) 56.0 41.7 33.3 25.8D&A add-back 16.7 26.7 37.9 46.4 P/B (X) 11.1 9.4 7.8 6.5Minorities interests add-back 0.2 0.2 0.3 0.4 EV/EBITDA (X) 44.6 33.9 26.1 19.8Net (inc)/dec working capital (55.7) (97.4) (83.3) (102.5) Dividend yield (%) 0.0 0.7 0.9 1.2Other operating cash flow 2.7 0.0 0.0 0.0Cash flow from operations 374.2 480.6 646.4 834.3Capital expenditures (146.2) (195.0) (241.0) (172.6)Acquisitions (134.1) (100.0) (100.0) 0.0Divestitures 0.0 0.0 0.0 0.0Others (48.1) 0.0 0.0 0.0Cash flow from investments (328.4) (295.0) (341.0) (172.6)Dividends paid (common & pref) 0.0 0.0 (165.3) (207.4)Inc/(dec) in debt (15.3) 0.0 0.0 0.0Common stock issuance (repurchase) 0.0 0.0 0.0 0.0Other financing cash flows (85.3) 0.0 0.0 0.0Cash flow from financing (100.6) 0.0 (165.3) (207.4)Total cash flow (54.7) 185.6 140.1 454.3 Note: Last actual year may include reported and estimated data.Source: Company data, Goldman Sachs Research estimates.March 23, 2011 China: Healthcare: Medical Devices Goldman Sachs Global Investment Research 39 Appendix: Global medical devices peers financial comparison Exhibit 62: A-share stocks appear to have stronger growth prospects and higher valuations *Indicates the stock is on the Conviction List. For important disclosures, please go to /research/hedge.html. Source: Bloomberg, Wind, Goldman Sachs Research estimates, Gao Hua Securities Research estimates. Share price Market cap EPS % Gross margin Net margin ROE(3-18) (US$mn) 2011E 2011E 2012E 2011E 2011E (2011E, %)Home devicesYuyue 002223.SZ Buy Rmb 38.4 1,475 60% 37 27 40% 19% 29%Andon 002432.SZ - Rmb 27.1 510 97% 41 28 38% 17% 15%Omron 6645.OS - JPY 2,242 6,475 24% 13 11 33% 5% 10%Invacare IVC - USD 30.0 959 -40% 14 13 29% 2% 8%Average 36% 26 20 35% 11% 16%Mid-range and low-end equipmentsShinva 600587.SS Neutral Rmb 29.4 570 43% 43 33 23% 5% 12%Kehua 002022.SZ Neutral Rmb 16.9 1,236 33% 28 23 53% 32% 27%Wandong 600055.SS - Rmb 15.8 541 22% 50 41 36% 8% 10%Improve 300030.SS - Rmb 31.4 357 49% 54 40 44% 17% 7%Mingyuan 0233.HK - HKD 0.83 437 -51% 16 13 81% 38% 12%Average 19% 38 30 47% 20% 14%ImplantsLepu 300003.SZ Neutral Rmb 28.3 3,470 34% 42 33 84% 54% 24%Weigao 1066.HK Sell HKD 19.9 4,703 30% 34 27 55% 33% 26%Trauson 325 HK - HKD 3.1 305 25% 17 15 71% 43% 13%Kanghui KH US - USD 17.0 395 6% 24 22 71% 39% 12%Medtronic MDT Buy USD 37.5 42,321 6% 11 10 76% 23% 24%Boston Scientific BSX Sell USD 7.2 11,050 -35% 27 19 65% 5% 4%Synthes SYST - CHF 125.3 15,731 10% 16 14 82% 25% 14%Zimmer ZMH Neutral USD 60.3 12,456 10% 13 11 75% 21% 15%St. Jude STJ Neutral USD 48.1 16,984 10% 14 13 74% 19% 23%Average 11% 22 18 73% 29% 17%ConsumablesWeigao 1066.HK Sell HKD 19.9 4,703 30% 34 27 55% 33% 26%Improve 300030.SZ - Rmb 31.4 54 49% 54 40 44% 17% 8%Blue sail 002382.SZ - Rmb 34.7 65 51% 42 31 18% 9% 8%J&J JNJ Neutral USD 58.6 161,382 1% 12 11 69% 21% 22%Winner WWIN - USD 4.7 113 39% 8 6 40% 10% -Becton Dickinson BDX Neutral USD 76.9 19,142 12% 14 12 52% 16% 24%Average 30% 27 21 46% 18% 18%High-end equipmentsMindray MR Neutral USD 26.9 2,909 12% 17 15 56% 21% 17%GE GE Buy USD 19.3 210,097 16% 14 11 35% 15% 11%Philips PHG.AS Buy USD 31.2 21,579 30% 14 11 38% 6% 10%Siemens SIEGn.DE Buy* EUR 95.0 112,763 28% 11 10 33% 9% 23%Sysmex 6869.OS - JPY 5,370 3,348 22% 19 17 61% 10% 13%Nikkiso 6376.OS -