WuXi Biologics Earnings and Guidance In Line

No-moat WuXi Biologics 02269 reported full-year earnings and guidance for 2023 that was in line with our expectations. We lower our fair value estimate to HKD 77 (from HKD 90) to reflect lower long-term gross profit margins as we now believe a larger share of the company’s long-term business will be handled by facilities outside of China, which have higher operating costs. We think shares are undervalued by 35%, and this is our top pick among Chinese healthcare names.

Full-year revenue was CNY 15.3 billion, or 37% year-on-year growth. Excluding the 22% of noncore COVID-19-related revenue, growth was 63%. The company also signed USD 7.7 billion worth of new contracts for its service backlog, which now totals USD 20.6 billion, suggesting the company will continue to have fast midterm growth.

The company gave soft 2023 guidance for non-COVID-19 revenue growth of over 60%, total revenue growth (which includes declining COVID-19 revenue) of 30%, and net profit growth of 26%. The company noted that gross profit margin for the next few years will be adversely affected by lower capacity utilization rates, which stem from fewer COVID projects and new facilities in Singapore, Ireland, and the U.S. becoming operational. This will be partially offset by cost-cutting measures.

We believe shares are cheap at current levels. The market is rightfully concerned about the risk of U.S. and China tension, but we believe that management’s strategy of becoming a global company will help mitigate this risk. Also, although WuXi and the entire biologics contract services industry will see a reduction in profit margins primarily due to lower capacity utilization, we think 10-year structural growth for the biologics industry remains bright. The latter is a much more important part of WuXi Biologics’ investment thesis than near-term profit margins.