China’s leading supplier of congenital heart disease devices made its third filing earlier this month for a Hong Kong IPO

Key Takeaways:

  • After taking its Lepu Biopharma unit public in February, Lepu Medical is pressing ahead with a third attempt at listing is Lepu ScienTech unit in Hong Kong
  • China’s healthcare regulator has said it won’t include innovative medical equipment in its bulk purchase programs, which should help Lepu ScienTech’s profitability

Emily Chan

Hong Kong’s stock market may be slumping, and the U.S.-China tech war may be spilling over into the biotech sector. But that hasn’t stopped the flow of medical companies vying to list in Hong Kong. Lepu Biopharma (2157.HK), a subsidiary of the Shenzhen ChiNext board-listed Lepu Medical (300003 .SZ), went public in Hong Kong in February. Having tasted that success, the Lepu family is offering up another of its members for a Hong Kong listing, this time from Lepu ScienTech Medical Technology (Shanghai) Co. Ltd.

According to its preliminary prospectus filed earlier this month Lepu ScienTech’s main asset is its Shanghai Shape Memory Alloy unit, a leading supplier of interventional medical equipment for treating congenital heart diseases. Founded in 1994, the Shanghai company was bought by Lepu Medical in October 2008 and became part of Lepu ScienTech last January. Lepu ScienTech applied twice before to list in June last year and January this year, but each time failed to pass the listing hearing within the maximum six-month period.

Lepu ScienTech’s devices fall into two categories, occluders and heart-valve products. The company was the biggest manufacturer of occluders and related surgical products in China for the treatment of congenital heart diseases last year, accounting for 38% of the market, according to third-party data cited in its prospectus. The company had 20 occluders on the market and another nine under development when it made its latest IPO filing. It was developing another 21 heart-valve products, though none has been approved for sale yet.

Eroding profits

In terms of finances, Lepu ScienTech has been growing rapidly as it brings more products to market. Its revenue nearly doubled from 116 million yuan ($16.6 million) in 2019 to 223 million yuan last year, and it remained on a growth track with 125 million yuan in the first half of this year. But growing expenses dented its net profit, which fell 14.6% last year to 58.70 million yuan. The profit erosion accelerated this year, falling 41.9% to 24.26 million yuan in the first half of 2022. As a result, its gross margin dropped from 44.6% in 2019 to 19.4% in the first half of this year.

We should note that Lepu Medical and its fully-owned subsidiaries hold a combined 86.34% of Lepu ScienTech’s shares. As part of a larger group reorganization, Lepu ScienTech’s Shanghai Shape Memory Alloy unit sold all of its shares in another company, Ningbo Bingkun, to the parent Lepu Medical in December 2020 for 1.1 billion yuan. Ningbo Bingkun is one of the few Chinese companies licensed to manufacture endoscopic slicers and staplers and also one of the few with large-scale manufacturing capabilities for the products. Lepu ScienTech’s sale of this profitable part of its business to its parent before the IPO would have brought in a big one-time cash infusion, but also deprived it of a major revenue and profit engine.

By contrast, in January last year Lepu Medical sold its interventional heart-valve business that has no commercialized products to Lepu ScienTech for 72.16 million yuan. With no revenue yet and many products in development, that unit will face huge future R&D expenses. Lepu ScienTech also gave Lepu Medical 320 million yuan in dividends the same month, which could lead some suspect that Lepu Medical is using Lepu ScienTech to siphon off its profits while handing the unit pipelines of products still in development.

Founded by U.S.-educated scientist Pu Zhongjie in 1999, Lepu Medical was among the first companies in China to develop heart stents and pacemakers. It has become a domestic leader in the production of coronary metal stents. In 2009, it became one of the first 28 companies approved to list on the Shenzhen ChiNext Board, China’s first board for fast-growth, mostly private companies. The company snatched a price-to-earnings (P/E) ratio of 127 times on its listing day, giving Pu shares worth 3.83 billion yuan.

But competition for the products has surged in China, and the market also experienced a major shift when the government introduced a centralized procurement system for medical products that included coronary stents in November 2020. That caused the price of Lepu Medical’s coronary metal stents to plunge by 90% within three years, with the result that its revenue and net profit dropped 18.2% and 26.5%, respectively, in the first half of this year. The addition of huge R&D expenses from products under development is putting the company under great pressure. That said, the latest fundraising for its different units might not be such a bad idea.

Falling value

Lepu Medical has been trying to split off three of units, Lepu Biopharma, Lepu ScienTech and Lepu Technology, for separate listings since 2020. Lepu Biopharma, which focuses on cancer treatment, filed for an IPO the earliest, but its application expired in April last year. It made a second try this February, ultimately listing at a valuation 6% below its series-C funding valuation and raising less than HK$1 billion ($127 million). Lepu Technology was planning an IPO on the Nasdaq-style STAR Market in Shanghai, but later announced it was suspending that effort.

The timing of Lepu ScienTech’s latest application may not be complete coincidence. That’s because on Sept. 3 China’s National Healthcare Security Administration announced that innovative medical equipment would not be included in centralized government procurement programs for now. That, in turn, led to stock rallies for companies like MicroPort Scientific (0853.HK), Shanghai MicroPort MedBot (2252.HK) and Venus Medtech (2500.HK), whose products could have seen serious price erosion if they were included in such bulk buying plans.

Lepu ScienTech’s dominance in occluders and the fact that such devices will be spared from bulk purchasing discounts for now are reasons for optimism about its prospects. But the company has no shortage of competition, including rival occluder maker LifeTech Scientific (1302.HK), valve-related product makers MicroPort CardioFlow Medtech (2160.HK) and Venus Medtech. We can use LifeTech Scientific’s P/E ratio of 36 and MicroPort Scientific’s 226 times as references to calculate potential IPO valuations for Lepu ScienTech.

Based on an average P/E ratio of 131 times and assuming Lepu ScienTech’s profits stay on track for the rest of the year, the company could expect a valuation of 6.36 billion yuan, slightly lower than the 7.32 billion yuan valuation it reached after five investors, including Sequoia Capital, CDH Investment and Shanghai Biomedicine, pumped money into the company in May last year. That could suggest investors aren’t quite as pumped up for makers of heart-related devices as they were a year ago.

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