2269.HK 2359.HK 2268.HK
The latest draft of a U.S. biosecurity law would give drug companies until 2032 to cut their ties with Chinese contract suppliers, allowing WuXi companies time to focus on Europe instead.

The latest draft of a U.S. biosecurity law would give drug companies until 2032 to cut their ties with Chinese contract suppliers, allowing WuXi companies time to focus on Europe instead

Key Takeaways:

  • The new version of the U.S. bill to restrict business with Chinese biotechs would give U.S. companies an eight-year grace period to find other service providers
  • The Chinese market alone may not be able to absorb the production capacity that WuXi companies had ramped up for U.S. clients, driving a pivot towards Europe

 

By Molly Wen

Leading Chinese biopharma companies have been balanced on a knife edge for months as a draft U.S. law threatens to restrict their access to the U.S. drugs market. But their position just became rather less precarious.

Concern about the proposed biosecurity crackdown has slashed the share prices of contract manufacturers and research providers on the U.S. list of targeted companies, including firms in China’s WuXi biotech group. But the threat of a sudden business rupture receded last week after the revised bill, including an extended timeline, passed a key legislative hurdle in the U.S. Congress.

The revision would give U.S. companies an eight-year grace period in which to cut their ties with any Chinese suppliers that are deemed to pose national security risks, during which time the Chinese firms could also seek alternative partners. The House Oversight and Accountability Committee passed the latest draft of the Biosecure Act last Wednesday by a decisive 40-1 margin, sending it on to the next stage of the legislative process.

The bill’s backers cite a need to protect sensitive genetic and health data by preventing foreign-owned firms from receiving federal contracts, grants, or loans if their operations could threaten U.S. national security. The draft states that China’s BGI Genomics (300676.SH), WuXi AppTec (2359.HK; 603259.SH) and its sister company WuXi Biologics (2269.HK) have ties to the Chinese military and pose risks to data security.

WuXi AppTec has strongly objected to being included among the “biotechnology companies of concern”. However, analysts say the new version of the bill would give the Chinese outsourcing powerhouse some valuable breathing room by extending an exemption for existing contracts and products until Jan. 1,  2032.

“The final decoupling deadline being set tentatively at 2032 in the latest draft is an encouraging sign and we believe that the eight-year grace period allows sufficient time for the WuXi companies to engineer a soft landing,” Morgan Stanley said in a research report.

Investors also appear to be somewhat mollified. WuXi AppTec’s stock fell only 3% in the two days after the news, compared to a price plunge of more than 30% when the bill was introduced in January this year.

WuXi AppTec and WuXi Biologics are big global players in the pharmaceutical outsourcing market, which provides research, development, manufacturing and testing services. The Chinese firms serve thousands of customers, including many small innovative pharmaceutical companies. In the first quarter, one third of WuXi AppTec’s revenue came from the world’s top 20 pharmaceutical companies. Revenue from U.S. customers amounted to 4.9 billion yuan ($550 million), more than 60% of the quarter’s total turnover.  WuXi AppTec said in a March 19 earnings call that its business was operating as usual in the first two months of the year, with no effects as yet from the U.S. bill.

The so-called CXO market for outsourced pharmaceutical services covers orders for drug research and development, testing and many other activities, with projects usually taking one or more years to complete. The sanctions proposed in the bill would therefore affect the R&D efforts of U.S. companies.

A report submitted to lawmakers by a global biotech trade body found that many U.S. pharmaceutical companies estimated it would take eight years to find alternative service providers to Chinese CXOs. The findings of the survey by the Biotechnology Industry Organization could explain why an exemption of equivalent length has been woven into the latest draft of the bill, to soften the blow on the U.S. pharma sector.

The hiatus would also buy time for Chinese companies to grow their business outside the United States and build data firewalls to address U.S. concerns over data security.

However, the revised bill also adds another WuXi company to the list of commercial targets, namely WuXi Biologics. And market watchers fear that a third group company providing biopharmaceutical services, WuXi XDC (2268.HK), might also be subject to sanctions down the road. WuXi AppTec supplies research, development, production and testing of chemical drugs. WuXi Biologics was hived off from WuXi AppTec in 2017 and then went public. The companies are separate entities but with the same shareholders behind them.

Pivot to Europe

The U.S. law would merely prohibit federally funded companies from working with WuXi companies, but multinational pharmaceutical businesses have also begun to review their reliance on Chinese suppliers. Once, as is likely, the proposals become government policy, the restrictions will influence the decisions of other pharmaceutical companies. Novartis CFO Harry Kirsch told reporters in April that the drugs giant would change its relationship with contract research institutions over time.

WuXi companies have been scaling up production in the last few years to serve an expanding clientele. Expulsion from the United States, the world’s biggest market for pharmaceutical research and development, would leave the group heavily reliant on Chinese demand that might not be able to soak up the excess capacity.

The repercussions are already being felt in China.  Companies have found it harder to raise financing for innovative drug research, and the rapid sectoral expansion has morphed into a fierce price war.  Profits at many Chinese CXOs are being squeezed.

Faced with such challenges, WuXi Biologics has been shifting its global focus. Europe has become its fastest-growing market, as revenue from the region doubled in 2023 from a year earlier, rising to just over 30% of the total, according to the company’s annual report.  North American revenue fell 5%, accounting for around 47% of total income. Taking geopolitical factors into account, WuXi companies are also investing in overseas bases including facilities under construction in Europe and Singapore. WuXi AppTec is building a research, development and production base in Singapore.

WuXi AppTec’s price-to-earnings (P/E) ratio has fallen to 10 times, below the 16 times for clinical research provider Hangzhou Tigermed (3347.HK; 300347.SZ). The biosecurity bill still has a long way to go before passing onto the U.S. statute books. The bill must pass both the Senate and the House, with the texts harmonized into one piece of legislation that would need to be signed off by the president. There are many variables for investors to consider. How well WuXi companies can navigate all the uncertainties will merit close market attention.

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