Innovative drugs to drive growth. The company is controlled by HonyCapital (Beijing),a member of Legend Holdings Group. Ithas been a leading producer of vitamin C series (VC) and Caffeine in the world, while shifting focus to high-margin, high growth innovative drugs. Main products: NBP soft capsule--Class 1 new medicine in brain-vessel field and a China’s Well-Known Trademark; “Oulaining”-a market leader for treatment of memory and mental impairment.

1-3Q13 net profit rose 77% yoy; VC segment booked loss. Thanks to the strong growth of innovative drugs, the company booked 1-3Q net profit of HK$759mn, up 77% yoy. As of 3Q13, revenue of innovative drug business rose 50% yoy to HK$1,367 mn: NBP revenue rose 50% yoy to HK$696mn; Oulaining revenue rose 39% yoy to HK$443mn. Due to cyclical oversupply and low ASP of USD3.4/kg, VC segment booked operating loss of HK$106 mn. Antibiotics booked profit of HK$38 mn.

Strong R&D Pipeline; VC segment to resume profitability in 2015. According to management, Jinyouli (津优力), a Class 1 antitumor new drug, will be put into market in 2014. Four China class 1 New Drugs will be approved by 2015, in the fields of Diabetes, Acute stroke, Hypertension and Viral influenza. While most VC producers are loss-making, we expect VC price to recover to USD4.5/kg in 2015, which should help the company to make an operating profit of HK$63 mn in VC segment. NBP is applying approval from USA FDA; management targets sales of USD1.0 bn in China market. NBP soft capsule is patent-protected, included in China National Reimbursement Drug List, mainly used for the treatment of acute ischemic stroke. According to survey, stroke is a leading cause of death in China and caused 1.5 mn deaths each year. We estimate China stroke market size is about RMB20 bn, to grow at CAGR of 20% in 2013-2020. As the 1st China class 1 New Drug in stroke, NBP only has 5% market share, providing solid growth potential.

EPS to grow at CAGR of 30% in 2013-15. As the main growth driver, we expect NBP revenue to grow 40%, 35% yoy in 2013, 14 respectively, with operating margin of 45%. We expect total revenue to grow at CAGR of 14% in 2013-15, with EPS to grow at CAGR of 30% in 2013-15.

Recommend Buy, with target price of HK$6.8. The counter is trading at 18.9x 2015 PE, which does not fully factor in the growth potential of NBP and other innovative New Drugs, in our view. Recommend“Buy”, with target price of HK$6.8, equal to 25.0x 2015 estimated EPS of HK$0.274.

Risks: centralized bidding system may continue to cut drug prices. State-run, nonprofit healthcare institutions in China procure most of the drugs through a bidding process centralized at provincial level. This may cut drug prices and lead to earnings volatilities for drug producers.

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