Pressure and differentiation in CXO performance, the industry's recovery may become the main theme in the second half of 2024.

In the first half of this year, affected by various complex uncertainties in the external environment and geopolitical factors, the CXO sector's stock prices as a whole showed a trend of fluctuation and decline. On the other hand, with the fading impact of commercial orders related to COVID-19 in previous years and increased industry competition, CXO companies in general were unable to escape the downward trend in performance. Although the entire CXO industry is facing "difficult times", as we reach the Q2 quarter, there is also significant differentiation within the sector. At the same time, with the expectation of a rate cut by the Fed in September and the market prediction that the "funding winter" for global biopharmaceutical end markets in the past 3 years is about to end, the CXO companies that have started to reverse their mid-year performance may become pioneers in rebounding in the second half of the year. Continued differentiation in CXO performance Currently, the entire domestic CXO sector in 2024 continues to be under pressure. Data shows that 22 CXO companies achieved revenue of 45.82 billion yuan in the first half of 2024, a year-on-year decrease of 9.4%, and a total net profit of 7.81 billion yuan for the mother, a year-on-year decrease of 33.8%. Looking only at the second quarter of 2402, CXO companies achieved revenue of 23.83 billion yuan, a year-on-year decrease of 7.7%, and a net profit of 4.7 billion yuan for the mother, a year-on-year decrease of 29.8%. As the four leading companies in the Hong Kong CXO sector, Pharmaron Beijing (03759), Joinn Laboratories (06127), Asymchem Laboratories (06821), and Hangzhou Tigermed Consulting (03347) showed clear performance differentiation in the first half of 2024. It is understood that among the four companies, only Pharmaron Beijing still maintains basic revenue parity and double-digit profit growth year-on-year. Its revenue for the first half of 2024 was 5.406 billion yuan, a year-on-year decrease of 0.63%; the net profit for the mother was 1.13 billion yuan, a year-on-year increase of 41.64%. Compared to Pharmaron Beijing, Hangzhou Tigermed Consulting, Joinn Laboratories, and Asymchem Laboratories all saw significant declines in revenue and profit. Hangzhou Tigermed Consulting achieved revenue of 3.158 billion yuan, a year-on-year decrease of 9.50%; net profit for the mother was 576 million yuan, a year-on-year decrease of 58.54%. Asymchem Laboratories achieved revenue of 2.655 billion yuan, a year-on-year decrease of 42.23%; net profit for the mother was 491 million yuan, a significant decrease of 70.78%. Meanwhile, Joinn Laboratories achieved revenue of 849 million yuan, a year-on-year decrease of 16.08%; net loss for the mother was 170 million yuan, a significant decrease of 287.30%. Although the four companies showed different revenue and profit performance, the factors leading to changes in performance were not the same. Take Pharmaron Beijing as an example. As the second largest national CXO enterprise after WuXi AppTec, Pharmaron Beijing's business covers the entire chain of preclinical CRO and early clinical CRO services. The key to Pharmaron Beijing's ability to maintain basic revenue parity in the first half of this year lies in the fact that its four major sectors are able to mitigate pressure for the company and significantly increase its risk resistance. According to the financial report, Pharmaron Beijing's cornerstone business laboratory services revenue fell by 0.3% to 3.371 billion yuan in the current period, accounting for 60.15% of revenue. Following laboratory services, the clinical research services and macromolecular and cellular gene therapy services of Pharmaron Beijing experienced growth rates of 4.7% and 5.5% respectively in the current period. This means that even if the CMC business growth slows down, there are other services that support Pharmaron Beijing's overall revenue growth. As for the significant increase in net profit for Pharmaron Beijing during the reporting period, it is a result of the company selling its 10.21% stake in Proteologix to Johnson & Johnson for approximately $102 million in May of this year through a merger and acquisition, thereby realizing a profit of 563 million yuan in the financial report. This is completely different from Joinn Laboratories, which is focused on safety assessment and early clinical CRO services. The main work of its drug non-clinical research services is GLP toxicology and PK studies required for R&D company IND applications, which is Joinn Laboratories' core business, accounting for 95.33% of revenue in the current period. Due to increased competition in the domestic early CRO services industry in the first half of this year, Joinn Laboratories saw a 16% year-on-year decrease in revenue. The decrease in net profit for Joinn Laboratories was due to fluctuations in monkey prices. It was previously noted that Joinn Laboratories changed its accounting policy in 2020 from "cost-based valuation" to "fair value-based valuation" for its experimental monkey biological assets in the annual report. This change in accounting policy resulted in the realization of floating profits in the current period when biological assets continued to increase in value. However, this approach has its risks. Once the cycle of high monkey prices ends, the company's net profit will also be negatively affected. The sharp decline in net profit for Joinn Laboratories in the current period was due to the decline in monkey prices in the market. According to Joinn Laboratories' financial report for the first half of 2024, the net loss caused by changes in the fair value of biological assets was 235 million yuan, leading to further deterioration in the company's profitability.The company's normal operations and safety evaluation business are not affected. It is worth mentioning that in Q2 alone, the company has already achieved a turnaround in profits compared to the previous quarter.Is the second half of the year a key period for industry reversal? Although the performance of domestic CXO companies in the mid-term report varies, it does not affect the investment logic of CXO in the future. In the Chinese market, the overseas order fulfillment of domestic CXO enterprises has a cycle, so the changes brought by fluctuations in the upstream business environment will appear with a certain lag. According to a recent report released by HSBC Innovation Bank, in 2023, there were only 161 global biopharmaceutical financing deals totaling $4 billion, while in 2024 alone, there were 71 deals totaling over $5.2 billion. The report also stated, "In terms of exits or financing numbers, the first half of 2024 has already caught up with the whole of 2023, and is expected to reach the level of 2022." As we all know, a healthy exit mechanism is an important indicator for judging the health of the biotechnology industry, indicating that the global biopharmaceutical sector is gradually recovering. According to a recent report from J.P. Morgan, "2024 H1 U.S. Biopharma Deals and Financing Report": In the first half of 2024, the investment activities in the U.S. biopharmaceutical industry showed signs of recovery, especially in the second quarter. Large fund rounds drove investment in biopharmaceutical and platform research, regardless of the clinical stage of the companies. In addition, biologics and small molecules continue to lead in early-stage investments and licensing transaction values. The recovery signals in downstream industries are reflected in the financial reports of CXO companies. Taking Asymchem Laboratories as an example, although Asymchem Laboratories' revenue and profits declined significantly in the first half of this year, it was mainly affected by large orders related to the previous COVID-19 situation. Looking at the situation of new signed orders, the company stated in its financial report that its international division has not fundamentally changed, and new signed orders have improved compared to the previous period, with new signed orders totaling 480 million yuan, a year-on-year increase of 20%. In addition to Asymchem Laboratories, the new signed orders of Joinn Laboratories and Pharmaron Beijing also indicate the overall recovery of the industry. Data shows that in the first half of this year, the number of new signed projects at Joinn Laboratories increased by 20%, with a 30% growth in overseas project orders and stable orders from the U.S. market; Pharmaron Beijing saw a slight recovery in global customer inquiries and visits, with a year-on-year increase of over 15% in new signed order amount, mainly coming from European and American customers, with overseas order prices remaining stable and customers growing steadily. The above performances will obviously boost market confidence, as in the first half of this year, when mentioning domestic CXO companies, the market had to address geopolitical impacts. The sharp decline in the CXO sector is also related to investors' concerns about geopolitical risks in the industry. However, as of now, the overseas order growth of top domestic CXO companies has not been significantly affected, and the industry growth logic remains intact. Currently, whether the Fed will cut interest rates in September will be a crucial signal for whether the global biopharmaceutical financing winter will thaw, and will also become a key indicator for the gradual recovery of growth in the CXO sector in the second half of the year.