The pharmaceutical sector's interim reports for the first half of 2026 have been fully released, revealing resilient overall growth with structural improvements continuing to unfold, according to BOC International. The investment bank believes the impact of centralized procurement, cost control measures, and compliance rectification is gradually diminishing as these initiatives become routine. Meanwhile, policy support for innovation has strengthened, establishing a clear trend of earnings recovery in the industry. BOC International maintains a bullish long-term outlook on the pharmaceutical sector with an Outperform rating.

Revenue in the pharmaceutical sector grew moderately while profits showed significant improvement. For the first half of 2026, the Shenwan pharmaceutical sector recorded total revenue of RMB 1.26 trillion, up 2.21% year-on-year, with non-GAAP net profit attributable to parent companies reaching RMB 98.671 billion, up 18.85% year-on-year. In the second quarter alone, the sector achieved revenue of RMB 633.591 billion, up 2.21% year-on-year, and non-GAAP net profit of RMB 51.387 billion, up 27.82% year-on-year. The marginal improvement in the first half was substantial, with clear profit recovery on a year-on-year basis. BOC International attributes this to several factors. First, as centralized procurement, cost controls, and compliance rectification become normalized, their marginal impact is weakening. Second, policy support for innovative drug pricing and payment mechanisms has become more explicit, with the State Council's issuance of guidelines on improving drug price formation mechanisms promoting market-based pricing for innovative drugs alongside expansion of commercial insurance and diversified payment systems. Third, the medical insurance payment capacity and structure are improving marginally, with basic medical insurance fund revenues reaching RMB 1.61 trillion from January to May 2026, up 8.49% year-on-year, while expenditures totaled RMB 1.21 trillion, up 2.12% year-on-year, demonstrating stable overall operations. Settlement reform has accelerated, with real-time settlement now covering 78.52% of designated medical institutions and significantly shortening capital recovery cycles for pharmaceutical companies. The bank believes earnings recovery has been confirmed in the first half, and the industry is poised for continued improvement.

Sector divergence is intensifying, with CXO and innovative drug segments maintaining high momentum. Based on interim reports, the CXO and innovative drug supply chains sustained strong growth trajectories. The CXO segment generated RMB 32.532 billion in second-quarter revenue, up 27.73% year-on-year, with non-GAAP net profit attributable to parent companies reaching RMB 7.737 billion, up 66.34%. Both revenue and profit grew rapidly in the CXO space, driven by improved global and domestic innovative drug financing conditions combined with robust domestic business development activity, fueling consistently strong order growth and high earnings visibility. The pharmaceutical manufacturing segment posted second-quarter revenue of RMB 111.712 billion, down 1.52% year-on-year, with non-GAAP net profit of RMB 9.329 billion, up 1.15%. In the innovative drug arena, business development transactions continued their high-growth trajectory in the first half, complemented by successful commercial launches of new products, sustaining positive earnings momentum. For generic drugs, leading traditional chemical pharmaceutical companies still face pressures from centralized procurement renewals, medical insurance negotiation price cuts, and high comparative bases. In the second quarter alone, revenue growth in the pharmaceutical manufacturing segment turned negative, mainly due to pressures on hospital sales and stricter compliance policies for pharmaceutical representatives implemented since April and May, which disrupted sales of certain mature products and widened internal divergence.

BOC International recommends attention to sectors at the bottom of the cycle showing marginal recovery, including medical devices, APIs, and pharmacies. Within medical device segments, equipment is showing weak recovery, high-value consumables are growing steadily, the IVD sector is bottoming out, and low-value consumables are experiencing significant earnings repair. The equipment segment generated second-quarter revenue of RMB 33.562 billion, up 12.29% year-on-year, with non-GAAP net profit of RMB 4.334 billion, down 2.15%. The medical equipment industry showed weak recovery in the first half of 2026 with modest revenue growth, though profit margins remained under pressure; the second half warrants attention to the progress of equipment procurement implementation. The medical consumables segment recorded second-quarter revenue of RMB 26.376 billion, up 12.30% year-on-year, with non-GAAP net profit of RMB 3.521 billion, up 26.32%. Among these, the electrophysiology segment showed particularly strong growth. BOC International believes the impact of centralized procurement on high-value consumables has largely cleared, with overseas business becoming a key growth contributor. Regarding procurement, multiple domestic varieties have reached their procurement cycle expiration, making high-value consumables renewal a key focus for the second half. For low-value consumables, disposable gloves have entered a price increase cycle benefiting from rising crude oil prices, compounded by partial overseas capacity rationalization, driving sustained high growth for leading producers. The IVD sector is seeing significant earnings recovery driven by a low base effect and continued overseas expansion. In APIs, destocking is nearing completion, orders for some products are resuming, and geopolitical conflicts have pushed up costs, leading to price recovery for certain products, with industry inflection points gradually emerging. For pharmacies, leading drugstore chains may see further customer traffic recovery following industry consolidation, with attention on the trend toward concentration among leaders amid accelerated prescription outflow.

R&D investment continues to intensify while expense structures keep optimizing. Across the pharmaceutical sector, total R&D expenses for the first half of 2026 reached RMB 59.116 billion, up 3.07% from the same period in 2025. The chemical pharmaceutical segment alone invested RMB 30.985 billion in R&D, up 5.86% year-on-year, outpacing the industry average and signaling the sector's transition toward innovation-driven growth. Regarding selling expense ratios, the industry's overall ratio for the first half of 2026 stood at 12.12%, down 0.61 percentage points year-on-year, reflecting ongoing structural optimization. The normalization of anti-corruption measures in healthcare has compressed pay-for-prescription practices, while expanded procurement coverage has reduced promotional requirements. Additionally, academic promotion models for innovative drugs achieve higher marketing efficiency, driving structural improvements in selling expense ratios.

Key risks to the rating include the potential for stronger-than-expected implementation of centralized procurement policies, the risk of corporate R&D falling short of expectations, and the risk of product sales underperforming projections.