2017 China Healthcare Services Industry Investment White Paper: Healthcare Reform Drives Industry Restructuring and Innovation Models Surge
Background and Outlook: The Past Decade and the Eve of Qualitative Change
In October 2016, the State Council issued the Outline of the “Healthy China 2030” Plan (hereinafter referred to as the “Outline”), elevating the concept of “Healthy China” to a strategic priority for development. The Outline explicitly sets targets for the total scale of the health service industry to exceed RMB 8 trillion by 2020 and RMB 16 trillion by 2030. The “Healthy China” strategy is poised to become a key driver for the development of China’s medical and health industry.
Before looking ahead to the next decade, let us briefly review the past ten years.
During the previous five-year period from 2007 to 2011, the Chinese government continuously increased healthcare expenditure. In particular, the new round of healthcare reform launched in 2009 injected nearly RMB 1 trillion into initiatives such as expanding coverage of the medical security system and establishing the National Essential Medicines System, significantly boosting industry prosperity. Meanwhile, the expansion of basic medical insurance for urban employees and urban residents drove rapid industry growth.
During the latter five-year period from 2011 to 2015, following the substantial expansion of national medical insurance coverage, some regions began to experience payment pressures on their medical insurance funds. As healthcare reform entered a critical phase, various localities started exploring diverse measures for controlling medical insurance expenditures. With strong policy intervention, tightened terminal payments slowed the release of “rigid” medical demand.
Since 2015, cost-containment measures within the basic medical insurance system have begun to yield initial results. In both 2015 and 2016, the urban basic medical insurance fund recorded revenues exceeding expenditures, with revenue growth outpacing expenditure growth. Meanwhile, commercial health insurance is emerging as a new payer in the pharmaceutical and healthcare sectors. Although many regions across China continue to face increasing pressure on the sustainability of their medical insurance funds, the substantial expansion of the overall healthcare market capacity and the general improvement in multi-tiered payment capabilities have laid a solid foundation for the effective implementation of various new healthcare policies. Over the next 5–10 years, China’s healthcare industry will undergo a genuine qualitative transformation driven by reform.
These qualitative changes include:
“Created in China” will rise strongly on the global stage of new drugs.According to Pharmaprojects statistics, by the end of 2015, a total of 147 companies in China were engaged in original drug development. In terms of the number of R&D enterprises alone, China has surpassed Japan to become Asia’s largest country for new drug research and development. With the introduction of the priority review policy by the China Food and Drug Administration (CFDA) and the significant expansion of staff at the Center for Drug Evaluation (CDE), China’s concepts and operational methods for new drug review are increasingly aligning with international standards. Meanwhile, as a large number of talents with many years of experience at multinational pharmaceutical giants return to China, the Chinese pharmaceutical industry has seen comprehensive improvements in basic scientific research, laboratory R&D, process and manufacturing, and quality control. It is understood that currently, more than 10 Chinese new drug R&D companies have achieved global leadership and have entered or completed Phase III clinical trials, while over 50 companies have advanced to Phase I and Phase II clinical stages. It can be anticipated that as these companies grow and mature, China will produce a cohort of innovative and original drug companies with globally leading technologies, bringing their blockbuster new products to the global market.
Precision Medicine: China Has the Opportunity to Lead the World.In the upstream sector of sequencing instruments, U.S. companies hold an absolute advantage. However, the core of precision medicine research requires extensive data collection and analysis, an area in which China has a distinct edge. Among the hundreds of Chinese companies engaged in gene sequencing services, BGI Genomics has emerged as the global leader in non-invasive prenatal testing (NIPT). In the promising field of CAR-T therapy for hematologic malignancies, China currently ranks second only to the United States in the number of clinical trials, placing it in the first tier globally. As precision medicine represents the future direction of human healthcare, China is well-positioned to assume a leading role on the global stage in this domain.
Wearable Devices + Telemedicine + Artificial Intelligence Will Completely Disrupt Traditional Diagnostic and Treatment Services.Not long ago, IBM’s supercomputer Watson, having processed 25,000 medical cases and concluded its two-year “intensive training,” traveled to China to inaugurate the application of artificial intelligence in the Chinese healthcare sector at the Zhejiang Provincial Hospital of Traditional Chinese Medicine. The most significant pain point in China’s healthcare service system is the supply–demand imbalance surrounding scarce medical resources. However, with the widespread adoption of internet hospitals, medical wearable devices, and third-party imaging centers, artificial intelligence is poised to play an increasingly vital role in disease prevention, diagnosis, and treatment. Technological breakthroughs and the rapid advancement of AI are making it increasingly clear that traditional healthcare delivery models may be disrupted.
Against this backdrop, we believe that on the eve of a qualitative shift, the following sectors deserve close attention from primary-market investors in the healthcare industry during 2017–2018:
· Industry reshuffling of the generic drug sector driven by consistency evaluation
· The Impact of Evolving Review Efficiency and Philosophy on the Development of China’s New Drug R&D Enterprises
· Development of Biopharmaceuticals, Innovative Drugs, and Precision Medicine in China
· Consolidation in the Commercial Sector Under the Two-Invoice System
· Import Substitution of High-End Medical Devices
· Cross-Border Acquisitions of High-End Medical Devices
· Applications of AI and Robotics in Healthcare
· Accelerated Development of Tiered Diagnosis and Treatment Systems and Specialized Chain Medical Service Platforms
Healthcare Services Sector
Industry TrendsBenefiting from the universal health insurance policy implemented by the Chinese government, China’s healthcare services market has maintained rapid growth over the past five years, reaching a total scale of nearly RMB 3 trillion, with a compound annual growth rate (CAGR) exceeding 15%. Within this, the non-public healthcare services market has grown even faster, at a rate surpassing 25%, approaching a market size of RMB 300 billion. China’s total healthcare expenditure as a percentage of GDP has exceeded 6%.
Meanwhile, influenced by China’s ongoing new healthcare reform policies, the medical services market is undergoing a period of baseline restructuring. Growth is expected to slow over the next five years, with an estimated compound annual growth rate (CAGR) of around 10%. However, the non-public medical services market will continue to maintain a growth rate above 20%.
As a special industry characterized by both market-driven and public-welfare attributes, along with extreme information asymmetry, investment in healthcare services has always been a love-hate proposition. This is particularly true for investing in healthcare services in China, where it becomes an exceptionally fraught endeavor.
In a highly regulated industry significantly influenced by policy factors, China’s healthcare services sector has yet to resolve the issue of top-level design. Over the past decade or more, successive rounds of “new healthcare reforms” have oscillated among various models from the United States, Japan, and Europe. The ultimate outcome has been a focus on addressing localized problems within specific segments—such as the tension between healthcare service providers and payers, increasing fiscal appropriations (“opening the tap”) without improving the efficiency of fund utilization (“unclogging the pipes”), and prioritizing treatment over prevention and rehabilitation—while neglecting the need for a comprehensive solution for the healthcare delivery system. This has prevented various stakeholders from effectively fulfilling their respective roles, leading to numerous irregularities, including over-treatment, insurance fraud and abuse, the “siphon effect” of large public hospitals, and disordered, inefficient patient care pathways.
Around 2006, China’s healthcare services sector began to gradually open up to capital investment. After several years of tentative exploration and observation, the industry entered its first cycle of capital investment starting in 2012. According to incomplete statistics, there have been more than 200 investment cases in this field over the past five years, covering nearly every sub-sector of healthcare services—from large hospitals to small clinics, from general medical care to specialized medical services, and from retail endpoints to third-party services. Nevertheless, this cannot obscure the fact that healthcare services investment in China has a short history and has yet to develop a mature investment model. A typical manifestation of this is that very few cases in the healthcare services investment sector have completed a full investment cycle.
Investing in healthcare services is an industry heavily dependent on value orientation, as the profit-driven nature of capital inherently conflicts with the public-welfare attribute of healthcare services. This necessitates the establishment of an analytical framework for healthcare service investment models that differs from those used in other subsectors, incorporating entirely new variables. However, this uniqueness has not been adequately recognized, leading to significant hesitation and ambivalence among many investors regarding investments in China’s healthcare services sector.
Nevertheless, characteristics such as vast market capacity, a significant supply-demand gap, and strong counter-cyclical resilience have continued to attract increasing capital into healthcare services investment. After experiencing various speculative frenzies, the healthcare services sector has become one of the few safe havens, a trend that will become particularly pronounced in 2017.
The investment cycle that began around 2012 successfully completed the first “Five-Year Plan” for investments in China’s healthcare services sector. Regardless of whether past achievements met expectations, this period will remain an indelible chapter in the history of healthcare services investment in China. The year 2017, marking the start of the second “Five-Year Plan,” represents a prime opportunity for investment in healthcare services.
1. The significant improvement in the broader healthcare environment will propel the industry into a relatively healthy stage of development.
Although China’s healthcare service infrastructure remains imperfect, it is undeniable that the Chinese government has accumulated substantial experience and lessons through more than a decade of trial-and-error in healthcare reform. It is also gradually assuming its proper role as a regulator, which will help unleash the productivity of the entire industry. The most critical aspect of this effort is to purify the market environment.
First, various forms of “protectionism” are gradually being dismantled. Public hospitals, once treated as “favorite sons,” are losing their privileged status. The focus is shifting toward establishing uniform rules of the game to ensure equal competitive standing for all participants. This is specifically reflected in the opening up and support of policies for private healthcare providers, and the removal of artificially imposed, unreasonable market entry barriers. Whether in terms of permitted medical sub-sectors, the establishment of new medical institutions, acquisition of medical insurance accreditation, or the openness and mobility of medical resources, the regulatory environment has become significantly more lenient than before.
Second, the crackdown on various illegal and non-compliant activities has reached an unprecedented intensity. Measures such as stringent enforcement against unlicensed medical practice, out-of-scope business operations, and false advertising; vigorous promotion of generic drug consistency evaluations and reforms in pharmaceutical distribution; and strengthened oversight of health insurance fund utilization will rectify the previous disorder where “bad money drove out good.” This will create a favorable competitive environment for outstanding enterprises that truly uphold the principle of “benevolence in healing,” allowing them to rapidly distinguish themselves.
Purifying the market environment will facilitate the flow of production factors, particularly medical talent, management personnel, and healthcare resources, thereby achieving more efficient resource allocation.
2. An expanding base of investable assets and a growing number of high-quality targets will attract more capital inflows
With over 200 past investment cases, it has become the first-generation investment target in China's medical service investment field. Although many targets still need continuous validation in terms of business models and teams, there are already excellent enterprises among them that can serve as second-generation investment targets.
For various well-known reasons, China’s healthcare services sector has long lacked truly respected leading brands. This is clearly an abnormal phenomenon for an industry with a market capacity of RMB 4 trillion. Particularly in the healthcare services industry, where “trust” is a core element, brand influence is one of the most critical competitive factors. This reality is increasingly recognized by market participants, who are striving to build high-quality healthcare service brands. In certain niche segments, clear signs of this trend are already evident. It is foreseeable that over the next five years, several leading brands that genuinely earn market recognition will emerge.
3. The coming years will witness a concentrated surge in business model innovation within the healthcare services sector
The core of the healthcare services industry lies in delivering the most appropriate medical care to patients in the most cost-effective and efficient manner. Diverse business models can emerge from the varied interactions among key stakeholders, including healthcare institutions, physicians, patients, and payers.
However, due to the influence of policy and regulatory environments, business models in China’s healthcare services sector have historically been overly homogeneous, primarily focusing on replicating the public healthcare model with large hospitals as the mainstream carriers. This stands in contrast to countries with mature healthcare systems, where diverse business models address varying needs—such as community clinics, ambulatory surgery centers (and third-party imaging centers), physician entrepreneurship platforms, retail clinics (e.g., MinuteClinic), healthcare real estate, physician financing, third-party service providers, and the application of new technologies. Although not every model is currently suitable for China’s specific context, these demands exist inherently. The approach of adapting business models from mature markets to China is equally applicable in the healthcare services sector. Furthermore, China’s vast population and extensive geographic reach provide fertile ground for the innovative application of these business models. Particularly over the past decade, the rise of the middle class and the emergence of younger generations, who are more receptive to novelty, will accelerate the implementation of these business models in China.
It is foreseeable that, starting in 2017, an increasing number of innovative business models will emerge and enter a phase of concentrated explosion, far surpassing current expectations—particularly for those whose perspectives are limited by the influence of China’s traditional healthcare environment.
4. Securitization of healthcare service assets will enter an upward trajectory
Although no second medical service provider has gone public since Aier Eye Hospital became the first IPO in China’s A-share medical services sector in 2009, investor enthusiasm for such companies on the A-share market has never waned. However, constrained by China’s unique listing review system, many enterprises have been forced to turn to the Hong Kong market.
At the end of 2013, Phoenix Healthcare became the first mainland Chinese healthcare services company to list on the Hong Kong Stock Exchange. Since then, an average of two to three healthcare services companies have listed in Hong Kong each year, with their overall performance matching or exceeding the market average. According to incomplete statistics, no fewer than ten healthcare services companies are currently preparing for IPOs on the Hong Kong Stock Exchange, and it is expected that at least three such companies will complete their listings in 2017.
As reforms in China’s capital market advance, the listing cycle for A-shares is expected to shorten significantly, attracting an increasing number of healthcare service companies to list on the A-share market. Even companies previously listed in Hong Kong may return to the A-share market through dual “A+H” listings. Consequently, during the next Five-Year Plan period, a growing number of cases will complete full investment cycles.
On the other hand, corresponding to IPOs, mergers and acquisitions (M&A) cases in the healthcare services sector will gradually emerge starting from 2017. This is primarily because, among the more than 200 cases in the past, many private equity funds are approaching their expiration dates, particularly for investments made around 2012–2013. If the likelihood of achieving an IPO within the next two years is low, these investors will opt for exit through M&A.
5. Foreign-funded medical groups will become an emerging force in China's healthcare services market
China’s healthcare services market is one of the few sectors with a relatively low proportion of foreign investment, primarily due to previous regulatory restrictions imposed by national policies. In recent years, the Chinese government has gradually relaxed market access for foreign capital. An increasing number of foreign healthcare groups have begun establishing joint-venture medical institutions in China, introducing advanced overseas management expertise and medical resources to serve the vast patient population. Although past experience shows that successful cases of foreign participation in China’s healthcare services market have been limited, with failures being more common, this has not dampened their enthusiasm and determination to enter the market. It is foreseeable that in the coming years, more foreign-funded medical institutions will emerge in mainland China, posing challenges to domestic enterprises and compelling them to enhance their competitive capabilities.
In 2017, the investment theme in healthcare services will gradually shift from addressing “accessibility” issues to focusing on “quality of care”; meanwhile, various business models centered around “decentralized” healthcare service delivery will gain favor.
Although the supply of medical services remains an enduring issue, the private healthcare sector is gradually moving beyond its former niche existence squeezed between public hospitals. This shift is driven by the government’s increasingly clear positioning of public hospitals, stricter cost-control measures, the enhanced attractiveness of private practice due to overall improvements in care quality, and physicians’ growing adoption of market-oriented mindsets. Consequently, private healthcare is upgrading toward delivering higher-quality medical services.
Business models positioned to provide affordable, high-quality medical services to patients not covered by basic medical insurance are better suited to China’s new healthcare market environment. This is particularly evident in sectors such as consumer-oriented healthcare and elective care, where target customer segments are clearly defined and demonstrate strong ability and willingness to pay. The “high salaries to foster integrity” approach will encourage physicians to return to the essence of medical practice, avoid overtreatment, and adopt high-quality service as a core marketing strategy, which will gain acceptance among a growing audience.
As the government gradually streamlines the relationships among various medical institutions, and as patient awareness evolves due to greater information transparency, the entire patient flow model will undergo significant changes, thereby reshaping the current market landscape. Large or super-large hospitals will no longer serve as all-encompassing institutions providing every type of medical service. Instead, specialized outpatient clinics, distinctive practices, and medical centers will assume a larger share of healthcare delivery by leveraging their convenience, expertise, and high-quality services. These entities will engage in healthy and orderly interactions with hospitals, gradually aligning China’s healthcare service model with those of mature markets.
In 2017, the following sectors will receive significant attention from investors.· Specialized Hospitals and Small-Scale Medical Institution Chains, Including Aesthetic Medicine, Rehabilitation, Community Healthcare, Traditional Chinese Medicine (TCM), and Assisted Reproductive Technology (IVF)
· Third-party service providers, including third-party imaging centers, third-party surgical centers, and third-party laboratories
Major A-Share Players in the Pharmaceutical Sector· Traditional Healthcare Service Providers:Aier Eye Hospital, Topchoice Medical
· Traditional pharmaceutical companies:Hengkang Medical, Kangmei Pharmaceutical, Yibai Pharmaceutical
· Traditional medical device companies:Lepu, Yuwell, Andon, Xinhua, Weigao
· Non-healthcare companies:Yihua Health, China Mobile, Longfor Group, AUX, Taikang Insurance
Source: China Renaissance Capital
Authors: Li Gang, Cai Hua, Zhu Yunpeng, Hu Minjie, Xu Dingliang, Zhang Xiao, Liu Zeyuan, Xu Lichen, Wei Wei