Pharma profit margins sag in China under weight of corruption crackdown

As China steps up its investigations into alleged corruption at GlaxoSmithKline ($GSK) and other multinational pharmaceutical companies, China-based healthcare companies are also taking a major hit. Average profit margins declined from 15% in 2012 to around 10% last year, according to a Reuters analysis of 60 healthcare companies listed in China. Combined revenue growth among those companies has slowed dramatically, from 28.8% in 2011, to 22.6% in 2012, to 17.9% last year.

Two major forces are putting a squeeze on sales and profits. First, China's leaders have been looking for ways to slash the country's skyrocketing healthcare costs, which are on track to hit $1 trillion by 2020, according to McKinsey & Co. That has led to price caps in some cases and cost-cutting incentives from procurement agencies in others. Some Chinese drug companies have been forced out of business, according to Reuters, and multinational companies have been refocusing on selling the drugs that can command the highest prices.

The second pressure point for all companies in China is the expanding crackdown on alleged corruption. China recently wrapped up an investigation into GSK by lobbing bribery charges at three executives, including its former China chief, Mark Reilly, who could be facing prison time. Last week, Swiss drug giant Roche ($RHHBY) confirmed that China's State Administration for Industry and Commerce, which investigates corruption, had visited its Hangzhou operation. The news came just days after Liu Zhanbin, the chairman of China-based Harbin Pharmaceutical Group--which is also under investigation--jumped to his death from a hospital bathroom.

Now, China's state media is reporting that even more companies could be facing corruption investigations. Authorities in Hangzhou are examining the business practices of Eli Lilly ($LLY), AstraZeneca ($AZN) and Novo Nordisk ($NVO), according to Channel NewsAsia, which cited documents obtained by local newspapers. Lilly and AstraZeneca denied reports saying they had been approached by local health authorities, while Novo declined to comment.

Investigations aside, there's little doubt the increasingly restrictive business climate in China is taking a toll on companies that operate there. Combined profit growth among the 60 companies analyzed by Reuters was just 5.2% last year, compared to 23.9% in 2011. Generics maker Actavis ($ACT) pulled out of China altogether earlier this year, citing high risks and a lack of growth potential.

Bain & Co. consultant Phil Leung told Reuters he expects that the only companies that will survive in China are those with high-scale, low-cost production advantages or very unique products. "In this environment, the strong will get stronger and the stragglers will be more exposed," he said.

- here's the Reuters story
- read the Channel NewsAsia story here