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OVERVIEW
As a national pharmaceutical group headquartered in Shanghai, we are the only integrated
pharmaceutical company in the PRC that has leading positions in both pharmaceutical product and
distribution markets. Our vertically integrated business model enables us to benefit from major stages
of the pharmaceutical industry value chain, as well as enjoy the potential synergies arising from our
coordinated efforts across business segments. We believe our market leadership will enhance our
ability to increase market share through both organic growth and acquisitions, as well as provide us
with sufficient resources to continue developing new products and distribution services to drive our
future growth and profitability.
We primarily operate in the following three business segments in the PRC: Pharmaceutical business. We are engaged in the research and development, manufacture andsales of a broad range of pharmaceutical and healthcare products.
Pharmaceutical distribution and supply chain solutions. We provide distribution, warehousing,logistics and other value-added pharmaceutical supply chain solutions and related services topharmaceutical manufacturers and dispensers, such as hospitals, distributors and retailpharmacies.
Pharmaceutical retail. We operate and franchise a network of retail pharmacies across nineprovinces, municipalities and autonomous regions.
The following map illustrates the geographic location or coverage of our manufacturing facilities,distribution network and pharmaceutical retail network as of the Latest Practicable Date: InnerMongolia Liaoning Provinces, autonomous regions and municipalities where our distribution and supply chain solutions business has (1) direct sales and (2) indirect sales through other distributors Provinces, autonomous regions and municipalities where our distribution and supply chain solutions business has indirect sales through other distributors Distribution subsidiaries / branches Manufacturing facilitiesRetail pharmacy network We have experienced significant revenue growth in recent years. In particular, our revenue increasedfrom RMB27,440.8 million in 2008 to RMB31,228.2 million in 2009, and to RMB37,381.6 million in THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
2010. Our net profit, defined as after-tax profit attributable to our equity holders, increased fromRMB697.0 million in 2008 to RMB1,296.8 million in 2009, and to RMB1,368.3 million in 2010. Theincrease in net profit in 2009 partly reflected a one-time pre-tax gain of RMB536.4 million on thedisposal of our equity interest in Lianhua Supermarket in 2009. In 2010, segment revenue of ourpharmaceutical business, pharmaceutical distribution and supply chain solutions business andpharmaceutical retail business was RMB8,075.2 million, RMB29,149.9 million and RMB1,725.5million, respectively, representing 21.6%, 78.0% and 4.6% of our revenue, respectively.
Pharmaceutical Business
We were the third largest pharmaceutical company in the PRC in terms of revenue of pharmaceutical
business in 2009, according to the NFS Report. We manufacture and market a broad range of
pharmaceutical products, spanning chemical drugs, modern Chinese medicines, biopharmaceutical
products and other pharmaceutical products, including approximately 70.0% of the drugs on the
National List of Essential Drugs. The majority of our pharmaceutical products are prescription drugs.
We manufacture many products in therapeutic areas with significant current market demand or
future market potential, such as cardiovascular system, alimentary tract and metabolism, central
nervous system, antiinfectives for systemic use and antineoplastic and immunomodulating agents.
According to the NFS Report, in terms of 2009 sales, drugs that fall within the top five therapeutic
areas of the PRC chemical and biopharmaceutical drugs market represented 78.5% of the total sales
of chemical and biopharmaceutical drugs in the PRC, and drugs that fall within the top five
therapeutic areas of the PRC modern Chinese medicine market represented 79.1% of the total sales
of modern Chinese medicines in the PRC. As of December 31, 2010, over 400 of our pharmaceutical
products fall within these therapeutic areas.
As of December 31, 2010, we had 53 major products (including two products of TechpoolBio-Pharma), which, in aggregate, accounted for 52.4% of the segment revenue of ourpharmaceutical business in 2010. Our portfolio of major products will expand to include six additionalproducts upon the completion of our pending acquisitions of the Antibiotics Business. We examineand adjust our product portfolio and manufacturing and marketing resources from time to time toadapt to changing customer demand, as well as to focus on products that have higher profit margin,greater market potential and demand, and higher barriers-to-entry.
We manufacture our products according to stringent quality standards and have obtained necessaryPRC GMP certifications for all of our active pharmaceutical production facilities, certain of which havealso been certified pursuant to the cGMP standards of the United States or the GMP standards of theEuropean Union. In addition, our quality and safety standards include many features not required orspecified in the PRC GMP standards, such as a quality control manual that sets forth requirements formanagement commitments to quality control targets and a comprehensive quality control systemwith procedures for quality inspection and audit. We market and sell many of our products underwidely recognized brand names, including Well-Known Trademarks recognized by the PRC trademarkauthority, such as "Sine ( )," "Qingchunbao ( )" and "Cangsong ( )." The strength of our brands, together with the quality of our products, enable us to market our products effectively.
Our pharmaceutical business has been supported by our strong research and development teamthrough a robust pipeline of commercially viable new products. Our research and developmentcapabilities are well-recognized in the industry and by the government as demonstrated by ourparticipation in, or undertaking of, numerous government-sponsored drug research and developmentprograms. We target to develop and commercialize first-to-market generic drugs and innovativedrugs to address unmet medical needs in the PRC, which we believe will provide high margins andoffer substantial growth opportunities.
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Pharmaceutical Distribution and Supply Chain Solutions
We were the second largest distributor of pharmaceutical products in the PRC in terms of revenue in
2009, according to the NFS Report. As of December 31, 2010, we operated a national distribution
network comprising 41 subsidiaries and branches, as well as 32 logistics centers and warehouses
located strategically across the Eastern China Region, the Northern China Region and the Southern
China Region. These three regional markets, in aggregate, accounted for 67.0% of the entire PRC
pharmaceutical distribution market in terms of sales in 2009, according to the NFS Report. The
Eastern China Region, the most affluent, in terms of per capita GDP, and the most populated region
in the PRC, alone, represented 39.1% of the PRC pharmaceutical distribution market in terms of sales
in 2009, according to the NFS Report. We had a market share of 11.0% in the Eastern China Region
in 2009. We continue to expand our distribution network in the PRC. In April 2011, we acquired CHS,
whose main asset is its wholly-owned subsidiary CITIC Pharma, a leading pharmaceutical distributor
in Beijing in terms of revenue in 2009. The addition of CITIC Pharma will significantly expand our
operations and market share in the Northern China Region.
In 2010, we derived 58.8% of the external revenue of our pharmaceutical distribution and supplychain solutions business from sales of imported medicines and those manufactured by subsidiaries ofinternational pharmaceutical companies in the PRC. In addition, we specialize in distributing productsdirectly to hospitals and other medical institutions, including community healthcare centers andclinics, which generally has higher margins than sales to other distributors. We directly sell ourproducts to over 7,600 hospitals and other medical institutions in the PRC, including 229, or 63.8%of, Class III hospitals and 879, or 55.7% of, Class II hospitals in the Eastern China Region. In 2010,our direct sales accounted for 61.9% of the external revenue of our pharmaceutical distribution andsupply chain solutions business. We extend our reach to other customers throughout the PRC throughsales to other distributors. We manage our distribution logistics operations with the goal offacilitating smooth and efficient movement of products and minimizing our inventory holding costs.
We distinguish ourselves as a pharmaceutical product distributor in part through the value-addedservices we provide to both our suppliers and customers, such as inventory tracking and managementsystem, access to valuable market data and information and vendor managed inventory systems. Ourvalue-added services help our customers to increase operational efficiency and reduce inventory andfulfillment costs and other operational expenses, and at the same time, enhance our ability to retaincustomers. Our value-added services can also benefit our suppliers by helping them manage theirbusinesses more efficiently, as well as by tailoring their marketing activities to target customers.
Pharmaceutical Retail
We operate a retail pharmacy network in nine provinces, municipalities and autonomous regions in
the PRC. As of December 31, 2010, our retail pharmacy network consisted of 1,682 retail pharmacies,
among which 1,187 were directly operated retail pharmacies (including 363 retail pharmacies we
operated through our jointly controlled entity, Jiangxi Nanhua) and 495 were franchise pharmacies.
We were the largest pharmacy chain in the Eastern China Region in terms of revenue in 2009,
according to the NFS Report. Our retail pharmacies operate under nationally or regionally well-known
brand names, such as "Huashi (
)" and "Leiyunshang ( )." Our retail pharmacies regularly carry over 10,000 types of products, including prescription pharmaceutical products, over-the-counter drugs and personal healthcare products. We seek out new products, services and businessmodels to meet our customers' changing demands, such as offering traditional Chinese medicinediagnoses and prescription services at some of our Chinese medicine pharmacies.
Integration and Synergy
Our pharmaceutical business and our pharmaceutical distribution and supply chain solutions business
work closely together to expand the sales of our products. In doing so, our pharmaceutical business
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benefits from additional sales of our products through our national distribution network, as well asthe strong government and hospital relationship of our pharmaceutical distribution and supply chainsolutions business. Our pharmaceutical distribution and supply chain solutions business, on the otherhand, benefits by gaining access to a vast portfolio of high-quality pharmaceutical productsmanufactured by us and from increases in revenue from distributing such products.
Compared with third party manufacturers and distributors, our pharmaceutical business anddistribution business enjoy greater flexibility in making coordinated sales efforts, allowing us to priceour products and services more competitively or offer other benefits to customers, includingincreased supplier stability and efficiency. The ability to leverage the resources of and coordinationbetween business segments enables us to generate additional business and revenue as well asincrease market share. In 2010, 13.2% of our pharmaceutical business segment revenue was derivedfrom products sold through our pharmaceutical distribution and supply chain solutions, and weexpect this percentage to increase over time.
We believe the following competitive strengths contribute to our success and distinguish us from ourcompetitors: Leading Position in the High-Growth PRC Pharmaceutical Industry
As the only leader with integrated business across both the pharmaceutical product and distributionmarkets in the PRC, we are well positioned to benefit from the rapid growth across the PRCpharmaceutical industry. The PRC is one of the world's largest and fastest-growing economies, andthe PRC healthcare industry is one of the largest sectors of its GDP. Total healthcare spending in thePRC grew from RMB866.0 billion in 2005 to RMB1,720.5 billion in 2009, and is projected to grow toRMB3,265.1 billion by 2014, according to the NFS Report. The PRC government's continuous supportin recent years, including favorable policies and investments in the PRC healthcare industry, hasfurther fueled the growth in total healthcare spending in the PRC. As part of the PRC healthcareindustry, the PRC pharmaceutical products and distribution markets are expected to grow at CAGRsof 22.4% and 23.4%, respectively, between 2009 and 2014.
According to the NFS Report, we were the third largest pharmaceutical company and the secondlargest pharmaceutical distributor in the PRC in terms of revenue in 2009. Our pharmaceuticalbusiness manufactures and markets a broad range of pharmaceutical and healthcare products,including products in therapeutic areas with significant unmet needs, such as cardiovascular system,alimentary tract and metabolism, central nervous system, antiinfectives for systemic use andantineoplastic and immunomodulating agents. We are a nationally leading distributor ofpharmaceutical and healthcare products in the PRC, with a longstanding leadership position in theEastern China Region, which is the most affluent, in terms of per capita GDP, and the most populatedregion in the PRC, and which accounted for 39.1% of the PRC pharmaceutical distribution market in2009. In addition, we have expanded the geographic reach of our pharmaceutical distributionnetwork to the Northern China Region and the Southern China Region through our recentacquisitions of Beijing Aixin Weiye and Guangzhou Z.S.Y., respectively. Furthermore, our recentacquisition of CHS will not only expand our operations and market share in the Northern ChinaRegion, but also further enhance our national leadership position.
We believe our market leadership will enhance our ability to increase our market share through bothorganic growth and acquisitions, as well as provide us with sufficient resources to continuedeveloping new products and distribution services to drive our future growth.
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A Leading Pharmaceutical Company with a Wide Range of High-Quality Products and Strong
Brand Recognition
We are widely recognized as a leading pharmaceutical company in the PRC that offers a wide range
of high-quality, effective and safe products. As of December 31, 2010, we had 53 major products
(including two products of Techpool Bio-Pharma), covering eight of the top ten therapeutic areas in
terms of sales in the PRC, which in aggregate accounted for 52.4% of the segment revenue of our
pharmaceutical business in 2010. A significant number of our products are leading drugs in their
respective markets, such as Peifeikang (
) and Sulfotanshinone Sodium Injection ( ). Our portfolio of major products will expand to include six additional products upon the completion of our pending acquisitions of the Antibiotics Business. We examine and adjust ourproduct portfolio and manufacturing and marketing resources from time to time to adapt tochanging customer demand, as well as to focus on products with higher profit margin, greatermarket potential and demand, and higher barriers-to-entry (such as administrative protection in theform of a "monitoring period" afforded to innovative drugs and first-to-market generic drugs, andhigh start-up or entry costs). In addition, we have product approvals for a majority of drugs on theNational List of Essential Drugs. Leveraging on our cost advantages from economies of scale,stringent quality control, coordinated efforts across our business and our strategy to selectivelyoutsource manufacturing to lower cost, we expect to benefit from the significant increase in demandof these essential drugs with the implementation of government initiatives to promote the use ofthese essential drugs as part of the ongoing healthcare reform in the PRC.
We follow stringent quality control standards and procedures, and have obtained necessary PRC GMPcertifications for all of our active manufacturing facilities, certain of which have also been certifiedpursuant to the cGMP standards of the United States or the GMP standards of the European Union.
Our quality and safety standards include many features not required or specified in the PRC GMPstandards, such as a quality control manual that sets forth requirements for managementcommitments to quality control targets and a comprehensive quality control system with proceduresfor quality inspection and audit. Global pharmaceutical companies have recognized ourpharmaceutical manufacturing capability and have chosen us as an active pharmaceutical ingredientssupplier for their major products. In 2005, we became the first company in the PRC to obtain thelicense to manufacture both the active pharmaceutical ingredient and the product form of Tamiflu®from Hoffmann-La Roche Ltd.
We market our products under many longstanding and well-recognized brands, such as "Sine( )," "Qingchunbao ( )," "Huqingyutang ( )." The strength of our brands, together with the high-quality and effectiveness of our products, enable us to market our products effectively. In addition, we have established strongin-house sales and marketing capabilities with a wide network of our employee sales representativeslocated in all major markets where we sell our products. Over the years, we have successfullyleveraged those capabilities to effectively promote our prescription products to hospitals and theirphysicians, and to continue to build upon our well-recognized brands. For example, the sales ofZhenju Jiangya Tablets, a hypertension drug marketed under the "Leishi" brand, have benefited fromour continuing efforts to enhance brand recognition among physicians. We have also been able tomarket our quality products, such as Shenmai Injections, at a premium to same or similar productsmanufactured by others.
In addition to our manufacturing capacities in and around Shanghai, where we have benefited fromgreater access to talent, technology and capital, we also have manufacturing facilities locatedstrategically in other cities in the PRC, such as Changzhou, Hangzhou, Guangzhou, Qingdao andXiamen, which enable us to penetrate the relevant regional markets and optimize our manufacturingresources based on the comparative advantages of different regions.
Strong Research and Development Capabilities with a Proven Track Record and a Robust
Product Pipeline
We have strong research and development capabilities. We differentiate ourselves from our
competitors by investing in the research and development of a broad spectrum of innovative drugs
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as well as first-to-market generic drugs. We significantly benefited from our proven track record ofdeveloping commercially viable products by employing a market-driven approach in identifyingproduct development opportunities. We primarily focus our research efforts on therapeutic areas ofsignificant potential market demand, such as cardio-cerebral vascular diseases, cancer and rheumaticautoimmune diseases, infectious diseases, gastrointestinal and metabolic diseases and psychotropicand nervous system diseases. Since 2004, we have successfully developed 54 new products for whichwe have obtained Certificates of New Medicine, including four innovative drugs, three first-to-marketgeneric drugs and eight second- or third-to-market generic drugs. We have also established a pipelineof product candidates to ensure a steady stream of new product launches, as well as sustainablefuture growth. As of December 31, 2010, we had 33 drug candidates pending approval forcommercial production, 27 drug candidates in various stages of clinical trials and six drug candidatespending approval to enter clinical trials.
We have built a highly productive research and development team, which we believe is one of thelargest among the PRC pharmaceutical companies. Our research and development team has over 550research and development personnel, over 20.0% of whom have master's or higher degrees inmedical, pharmaceutical and other related fields. Mr. JIANG Yuanying, our Vice President in chargeof research and development, has over 20 years of pharmaceutical research and developmentexperience and is also a professor of pharmacology at the Second Military Medical University. Ourresearch and development team's capabilities are well recognized in the industry and by thegovernment, as demonstrated by our participation in or undertaking of numerous government-sponsored drug research and development programs. In 2008, 2009 and 2010, we were awardedgrants under such programs in the aggregate amount of RMB4.1 million, RMB26.8 million andRMB76.1 million (including RMB34.5 million of grants that were awarded but not yet received by usas of December 31, 2010), respectively.
National Distribution Network with a Focus on Direct Sales to Hospitals
As of December 31, 2010, we operated a national distribution network comprising 41 subsidiaries
and branches, as well as 32 logistic centers and warehouses located strategically across the Eastern
China Region, the Northern China Region and the Southern China Region, which three regional
markets, in aggregate, accounted for 67.0% of the entire PRC pharmaceutical distribution market in
terms of sales in 2009. Our recent acquisition of CHS will significantly expand our reach and coverage
in the Northern China Region.
In 2010, we derived 58.8% of the external revenue of our pharmaceutical distribution and supplychain solutions from sales of imported medicines and those manufactured by subsidiaries ofinternational pharmaceutical companies in the PRC. Largely due to their high price-to-volume ratio,better marketing and significant demand, high-end pharmaceutical products enable us to achieve agreater level of operational efficiency. In addition, we specialize in distributing products directly tohospitals and other medical institutions, especially Class II and III hospitals, which generally havehigher margin than sales made to other distributors. We directly sell products to over 7,600 hospitalsand other medical institutions, including 229, or 63.8% of, Class III hospitals and 879, or 55.7% of,Class II hospitals in the Eastern China Region. In 2010, revenue from direct sales accounted for 61.9%of the external revenue of our pharmaceutical distribution and supply chain solutions.
We maintain good relationships with our hospital customers, in part, by providing advancedvalue-added services. For example, we helped many hospitals in Shanghai and Qingdao integratetheir inventory tracking systems with our barcode system, which enabled these hospitals to managetheir inventories more accurately, efficiently and cost effectively and enabled us to track end-usermarket data and inventory levels of pharmaceutical products at these hospitals. We believe our abilityto integrate hospitals' inventory tracking system with our barcode system serves as a technological THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
barriers-to-entry for other distributors at these hospitals. Hospital inventory level information not onlyenables us to better plan our distribution operations and serve our hospital customers moreefficiently, but also provides us with an additional advantage in capturing potential new salesopportunities. We also provide end-user market data to our suppliers which helps strengthen ourrelationship with them. As of December 31, 2010, our suppliers included 33 of the top 50international pharmaceutical companies and 92 of the top 100 domestic pharmaceutical companiesin terms of revenue in 2009. Furthermore, we have access to a wide array of pharmaceutical productsfrom our pharmaceutical business. We believe our services and sourcing abilities contribute to oursuccess in attracting hospital customers.
Vertically Integrated Business Model Creating Substantial Synergies across Business
Segments
Our vertically integrated business model enables us to benefit from all major stages of the
pharmaceutical industry value chain — from research and development to product manufacturing as
well as distribution and retail sales — and enjoy the synergies arising from our coordinated efforts
across business segments. In particular, our research and development teams work closely with our
sales and marketing team to develop commercially viable products, while our pharmaceutical
business and our pharmaceutical distribution and supply chain solutions business work closely
together to expand the sales of our products.
Leveraging on its extensive network of direct sales customers, our pharmaceutical distribution andsupply chain solutions business regularly assists our pharmaceutical business in promoting ourproducts to hospitals and other medical institutions through an academic, physician-orientedapproach. It also helps our pharmaceutical business during the statutory hospital tender process byadvising on tender strategies and facilitating access to local markets and other services. As a result,our pharmaceutical business has benefited in the increased sales to its existing hospital base and theexpansion of hospital base of its products.
In addition, in our major distribution markets, such as Shanghai, Beijing and Guangzhou, ourpharmaceutical distribution and supply chain solutions business seeks to penetrate smaller or lowerlevel healthcare institutions through partnerships with or acquisitions of downstream distributors thatspecialize in the distribution of pharmaceutical products to those customers. This potentially providesadditional sales opportunities to our pharmaceutical business and allows us to better track thedestination of the shipped products for our future planning and other purposes. On the other hand,our pharmaceutical distribution and supply chain solutions business also boosts its own revenue fromdistributing the products of our pharmaceutical business. In 2010, 13.2% of our pharmaceuticalbusiness segment revenue was derived from products sold through our pharmaceutical distributionand supply chain solutions business, and we expect this percentage to increase over time.
Compared with third party manufacturers and distributors, our manufacturing and distributionbusinesses enjoy greater flexibility in making coordinated sales efforts, allowing us to price ourproducts or services more competitively and offer other benefits to customers, including increasedsupplier stability and efficiency. To illustrate this, we have developed the Songjiang Model, wherebywe secured agreements with a number of local health departments in Shanghai which entitle us tobe a designated manufacturer and the sole distributor to supply essential drugs purchased by localcommunity healthcare centers and clinics.
In addition, our pharmaceutical distribution and supply chain solutions business employs advancedinformation systems that collect valuable market data relating to the products we distribute, whichhelps our pharmaceutical business to better understand market demand and plan its manufacturingand marketing activities.
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Dedicated International Initiatives Offering Significant Benefits
In 1982, we established Shanghai Squibb, one of the first Sino-foreign joint venture pharmaceutical
companies in the PRC. We also subsequently formed a number of other pharmaceutical joint ventures
with leading international pharmaceutical companies such as Shanghai Roche. Most recently, we
entered into a non-binding memorandum of understanding with Pfizer, Inc. in April 2011 for
potential collaborations in the PRC in a number of areas. See "— Proposed Collaborations with
Pfizer." In addition to the significant financial return from those investments, we have gained
valuable experience and knowledge in international pharmaceutical industry practices through our
participation in their management, which can be applied to further improve our own pharmaceutical
operations. We also proactively engage in research and development collaboration with international
pharmaceutical companies to increase our access to cutting-edge pharmaceutical technologies and
drug research and developments. Our other international initiatives include international certification
of our manufacturing facilities in support of the export of our active pharmaceutical ingredients
products, an important source of our revenue. We believe these dedicated international efforts will
continue to provide us with additional advantages over many of our domestic competitors and
increase our competitiveness in the PRC pharmaceutical industry.
Experienced and Professional Management Team
Our management team combines extensive experience at every level of the pharmaceutical industry
value chain — from research and development to manufacturing to sales, marketing and distribution
— with a proven track record of successfully operating a vertically integrated pharmaceutical
company. In particular, our Chairman and Executive Director, Mr. LU Mingfang, has over 33 years of
experience in managing companies in the pharmaceutical industry. In addition, Mr. Lu is the vice
chairman of the China Pharmaceutical Industry Association. Mr. XU Guoxiong, our President, has over
15 years of management experience in large PRC enterprises, including eight years in the
pharmaceutical industry. Mr. JIANG Yuanying, our Vice President in charge of research and
development, has over 20 years of pharmaceutical research and development experience and is also
a professor of pharmacology at the Second Military Medical University. Mr. REN Jian, our Vice
President in charge of manufacturing and quality control, has extensive experience in managing
pharmaceutical companies in the PRC. Mr. GE Jianqiu, our Vice President in charge of investments,
acquisitions, legal and compliance, has significant corporate finance and legal expertise. Mr. LI
Yongzhong, our Vice President in charge of marketing and sales, has gained significant experience
from managing our pharmaceutical distribution and supply chain solutions. Mr. SHEN Bo, our Chief
Financial Officer, has extensive financial management experience in the PRC. Ms. HAN Min, our
Secretary of the Board, is experienced in corporate finance and commercial banking. All members of
our senior management team hold advanced degrees from nationally and internationally reputable
academic institutions, and have extensive knowledge and professional experience in areas such as
business administration, medical science, corporate finance, accountancy or law.
We believe that with their industry expertise, professional management skills and strong executioncapability, our management team will continue to successfully implement our strategies for growthin the fast growing PRC pharmaceutical industry.
OUR STRATEGIES
Our goal is to continue strengthening our position as a nationally-leading, vertically integrated
pharmaceutical company and to become a consolidator of the fragmented PRC pharmaceutical
industry by adhering to the principles of maximizing shareholder value and being socially responsible.
To accomplish this goal, we plan to implement the following strategies:
Continue to Optimize Our Product Portfolio, Consolidate Our Manufacturing Resources and
Raise Our Manufacturing Standards
We regularly manufacture a broad range of pharmaceutical products. As of December 31, 2010, we
had 53 major products (including two products of Techpool Bio-Pharma) selected based on a
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comprehensive evaluation of market demand, growth potential and government policy. Our portfolioof major products will expand to include six additional products upon the completion of our pendingacquisition of the Antibiotics Business. We will continue to evaluate our product portfolio from timeto time and adjust our manufacturing, sales and marketing priorities to focus on products with higherprofit margins, greater market demand and potential, and higher barriers-to-entry, which we believewill be a key driver of the revenue and profitability of our pharmaceutical business. We are buildinga product portfolio with major products in key therapeutic areas, including cardiovascular system,alimentary tract and metabolism, central nervous system, antiinfectives for systemic use andantineoplastic and immunomodulating agents. In addition, we will evaluate opportunities forproducing over-the-counter medicines and healthcare products with high profit margins and greatdemand. We believe that our evaluation and adjustment to our product portfolio will enable us tooptimize our resource allocation and sustain or increase the overall profitability of our pharmaceuticalbusiness despite the downward pressure on product pricing from the ongoing healthcare reform inthe PRC.
We also plan to consolidate our manufacturing operations through allocation of resources, relocationof manufacturing facilities and divestiture of non-core businesses. We plan to consolidate themanufacture of products that have similar production processes to facilities best fitted for theirproduction to avoid overlap and increase operational efficiency. We are in the process ofconsolidating our manufacturing operations in Shanghai into three production bases located in thesuburbs of Shanghai, which we will use for the manufacturing of high margin products, includinginnovative drugs and first-to-market generic drugs that we plan to develop in the future. We plan tooutsource or relocate the manufacturing of our low margin, high volume products, such as essentialdrugs, to areas with lower labor and operational costs. We will also divest our unprofitable businessoperations to focus resources on more desirable products. We believe that such consolidation of ourmanufacturing operations will enable us to upgrade our manufacturing capabilities, further optimizeour product portfolio, lower costs and increase efficiency. It will also facilitate our efforts to becomea major supplier of essential drugs.
While maintaining required PRC GMP certification for our active manufacturing facilities, we plan toincrease our overseas sales of selected products by manufacturing these products at facilities certifiedunder the more stringent international standards. We also believe that higher manufacturingstandards and quality of these products will provide us with additional competitive advantagesagainst competing products manufactured under domestic standards.
Continue to Enhance Our Research and Development Capabilities
We intend to continue enhancing our pharmaceutical research and development capabilities anddeveloping a strong pipeline of commercially viable new products, primarily by integrating ourresearch and development resources and applying our market-driven approach in identifying productdevelopment opportunities. Specifically, we commenced a research and development collaborationinitiative in 2010 to further increase both the frequency and depth of collaborations among ourCentral Research Institute, the research and technology centers and our production sites. We willcontinue to employ our market-driven approach in identifying product development opportunities,and primarily focus our research efforts on therapeutic areas with significant potential marketdemand, such as cardiovascular system, alimentary tract and metabolism, central nervous system,antiinfectives for systemic use and antineoplastic and immunomodulating agents. We will alsocontinue to focus our efforts on the development of first-to-market generics and innovative drugs forthe treatment of chronic and major diseases, through which we may gain access to products withhigh margins and substantial growth opportunities.
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To supplement our internal research and development efforts, we will continue to collaborate withexternal research partners, including educational institutions and research-based pharmaceutical andbiotechnology companies. We plan to seek out investments in external research and technologiesthat hold promise with respect to complementing and strengthening our own research efforts. Theseinvestments may take many forms, including licensing arrangements, co-development and co-marketing agreements, co-promotion arrangements, joint ventures and acquisitions.
We plan to further increase our annual research and development budget in the next five years, bothin absolute terms and as a percentage of the segment revenue of our pharmaceutical business. Wewill continue to upgrade our research facilities and purchase advanced equipment. In addition, wewill continue to seek research grants from the PRC government to fund our research programs. Webelieve investment in research and development is critical to our goal of maintaining a strong productportfolio, which will provide us with a significant competitive advantage.
Continue to Enhance Our Leading Position in Pharmaceutical Distribution and Supply Chain
Solutions
Leveraging on our leading position in the PRC pharmaceutical distribution market and strength in the
Eastern China Region, we are in the process of significantly expanding our distribution network
nationally. We initially plan to focus on the Northern China Region and the Southern China Region,
the second and fourth largest PRC regional pharmaceutical distribution markets in terms of revenue
in 2009, primarily through recently completed or pending acquisitions, aiming to become a leading
distributor in those two regions. We also plan to expand our sales channels through partnerships or
alliances with local distributors and other logistics service providers, such as China Post Logistics Co.,
Ltd. (
), in other selected regions in the PRC. While we are extending the geographic reach of our network, we will also strive to increase our market shares in those threeregional markets. Specifically, we will continue to expand our direct sales to hospitals and othermedical institutions. In addition, we plan to take advantage of the PRC government's initiatives topromote the use of essential drugs to explore opportunities to penetrate the smaller or lower-levelhospital distribution markets through novel distribution arrangements, such as the Songjiang Model.
We intend to replicate the successful coordinated efforts of our pharmaceutical and distributionbusinesses in the Eastern China Region in other markets.
Furthermore, we will continue to enhance our strength in distributing high-end pharmaceuticalproducts, which differentiates us from our major competitors. We also plan to increase thedistribution of vaccines, medical consumables and medical devices. We believe that these productswill continue to be in high demand in the future and plan to secure the rights to distribute more ofthese products in the PRC.
We also intend to further differentiate our pharmaceutical distribution and supply chain businessfrom our competitors by developing additional value-added services and exploring new businessmodels. We envision our pharmaceutical distribution and supply chain solutions business as acomprehensive provider for services and solutions for pharmaceutical manufacturers, hospitals andpatients. For example, for manufacturer solutions, we plan to develop marketing, promotion andsales services for their products, which may include market intelligence and competitive landscapeanalysis, as well as to help international pharmaceutical companies to secure registration of theirproducts for sale in the PRC. For hospital solutions, we intend to continue focusing on providingvalue-added services, such as inventory tracking and management and patient utilization pattern, tohospitals. For patient solutions, we plan to expand our patient-oriented services, such as thedistribution of high-value prescription medicines that are not carried by hospitals or other healthcareinstitutions through delivery to selected retail pharmacies upon specific order. We believe thatsuccessful development of additional value-added services and new business models will provide uswith additional sources of revenue and profits as well as increase the overall competitiveness of ourpharmaceutical distribution and supply chain solutions business.
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Continue to Enhance Cross-Segment and Operational Integration
Cross-Segment Integration
We plan to further integrate our business segments to maximize the synergies embedded in our
vertically integrated business model. Specifically, we will continue to have more of our products
distributed by our distribution and supply chain solutions business in areas within the coverage of its
direct sales network. Our pharmaceutical distribution and supply chain solutions will continue to
assist the pharmaceutical business in expanding sales to its existing hospital base and generating
sales from other hospitals by promoting our products to hospitals and other medical institutions
through an academic, physician-oriented approach, as well as advising on the statutory hospital
tender strategies and facilitating access to local markets and other services. We plan to increase these
collaborations to further increase the market acceptance of our products and enhance the likelihood
of successful bids by our pharmaceutical business. We also plan to capitalize on our product approvals
to manufacture and sell a majority of the drugs on the National List of Essential Drugs. We plan to
duplicate this successful model in other cities and provinces.
In addition, we plan to create additional synergies among our business segments by increasing salesof our over-the-counter pharmaceutical and healthcare products in our retail pharmacies andobtaining licenses to manufacture imported pharmaceutical products that we distribute. Our retailpharmacies may also support our development of new business areas, such as serving as the deliverypoint for the patient-oriented services. Through increasing the sharing of the logistics facilities of thepharmaceutical distribution and supply chain solutions business with our pharmaceutical retailbusiness, we expect to achieve greater cost savings. Our pharmaceutical distribution and supply chainsolutions business employs advanced information systems that collects valuable market dataregarding the pharmaceutical products that we distribute. We plan to improve these informationsystems to enable our pharmaceutical business to increase access to such data.
Operational Integration
In light of the rapid expansion of our operation resulting from the 2009 Restructuring and recent
acquisitions, we intend to create four unified management platforms to manage common resources
across our subsidiaries, which are expected to increase operational efficiency, lower costs and
expenses, and enhance our risk management. We are in the process of consolidating the following
key functions of our businesses:
Pharmaceutical distribution and supply chain solutions. We plan to set up a platform to directlymanage and coordinate the distribution businesses currently operated by certain of ourmanufacturing subsidiaries with our main pharmaceutical distribution and supply chainsolutions business.
Raw material procurement. Our manufacturing subsidiaries purchase large amounts of rawmaterials that may be subject to significant price fluctuations and variations in quality. We planto centralize the purchasing of Chinese herbs most commonly used in our modern Chinesemedicines, through which we expect to gain additional bargaining power in the procurementprocess and lower our raw material costs, as well as maintain company-wide quality controlstandards for raw materials.
Pharmaceutical sales and marketing. Some products may be manufactured and marketed bymore than one of our manufacturing subsidiaries. We plan to centralize and better coordinatethe sales and marketing efforts for these pharmaceutical products, and we expect to lower oursales and marketing costs accordingly. In addition, we plan to leverage our manufacturingsubsidiaries' distinctive knowledge and experience within their respective local markets tomarket our products manufactured elsewhere, through which we expect to optimize the use ofour marketing resources.
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Government affairs. We have established a designated team to coordinate our efforts insubmitting and securing bids in the statutory hospital tender process. We will continue to usethis team to coordinate and better utilize the resources of our subsidiaries in dealing with theirrespective local governments in the PRC, particularly in the statutory hospital tender process, toenhance the likelihood of successful bids by our pharmaceutical business.
In addition, we plan to improve our existing information systems to facilitate communication withinour organization. We plan to upgrade or replace information systems currently used by our businessoperations, and aim to create an integrated system to facilitate information sharing andmanagement, including building a central data center. We believe that efficient information sharingwill enable us to fully realize the intended benefits of our unified management platforms.
Expand Our Business through Selective Strategic Acquisitions, Investments or Partnerships
The fragmented PRC pharmaceutical industry offers significant consolidation opportunities for
industry leaders like our Company. We believe that acquisitions will provide a faster way for us to
significantly extend the coverage and reach of our distribution network and establish leadership in
new markets, such as the Northern China Region and the Southern China Region. We seek to acquire
regionally leading pharmaceutical distributors that focus on direct distribution to hospitals and other
medical institutions. We may also acquire, invest in or partner with distributors with niche market
focuses or innovative business models to gain access to complementary products, services, sales
channels or new business areas of substantial growth potential. For example, we may consider the
acquisition of pharmaceutical marketing companies to implement our strategy to develop marketing
services for pharmaceutical manufacturers, or distributors specializing in the distribution of
over-the-counter drugs. By leveraging our management and operational resources and experience,
we intend to effectively integrate acquired businesses into our business and maximize synergies and
other benefits from the acquisitions.
Furthermore, we plan to evaluate the possibilities of acquiring other domestic and internationalpharmaceutical companies that have desirable product portfolios, pipelines or research anddevelopment capabilities. Such acquisitions are intended to facilitate our ongoing efforts to optimizeour product portfolio and pipeline to ensure the sustainable growth and desired profit level of ourpharmaceutical business. We also plan to acquire or partner with well-managed domesticpharmaceutical companies in selected areas of low labor and operational costs to facilitate theconsolidation and optimization of our manufacturing resources. We plan to use their manufacturingcapabilities for the production of low margin, high volume products such as drugs on the NationalList of Essential Drugs. We also believe our presence in these areas will help our products penetratethe local markets. We will carefully evaluate each potential acquisition target, investment or allianceand pursue those that are aligned with and create incremental value for our core business.
Continue to Enhance Our International Initiatives
We intend to continue our existing cooperation with international pharmaceutical companies with
respect to joint venture operations and drug research and development programs to continue
accumulating knowledge and experience in the areas of latest pharmaceutical technologies, industry
practices, management know-how and research trends. We plan to increase our efforts in the
international certification of our manufacturing facilities in order to have a larger U.S. or European
Union standards-compliant capacity available for potential expansion of our export operations. In
addition, we plan to explore international initiatives in other areas to support our business growth.
For example, we may acquire or in-license drug candidates developed by foreign companies that are
complementary to our product portfolio. We may also acquire foreign companies with strong
research and development capability or promising product candidates to enhance our own
development efforts or drug pipeline and use as a platform for access to international markets. We
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may also seek to offer marketing, promotion and sales services for imported products in the PRC. See"— Continue to Enhance Our Leading Position in Pharmaceutical Distribution and Supply ChainSolutions." OUR BUSINESS SEGMENTS
We are a nationally-leading, vertically integrated pharmaceutical company in the PRC with operations
encompassing all major stages of the pharmaceutical industry value chain. We primarily operate in
the following three segments:
Pharmaceutical business. We are engaged in the research and development, manufacture andsale of a broad range of pharmaceutical and healthcare products.
Pharmaceutical distribution and supply chain solutions. We provide distribution, warehousing,logistics, and other pharmaceutical supply chain solutions and related services topharmaceutical manufacturers and dispensers, such as hospitals, distributors and retailpharmacies.
Pharmaceutical retail. We operate and franchise a network of retail pharmacies across nineprovinces, municipalities and autonomous regions.
We also derive revenue from certain other operations. The table below sets forth segment revenuefor the periods indicated: Year ended December 31, (in thousands of RMB) Segments:Pharmaceutical business . . . .
Pharmaceutical distribution and supply chain solutions . . . . .
Pharmaceutical retail . . . . .
Other business operations. . . .
PHARMACEUTICAL BUSINESS
We were the third largest pharmaceutical company in the PRC in 2009 in terms of revenue of
pharmaceutical business. We are primarily engaged in the research and development, manufacturing
and sale of pharmaceutical products, including chemical drugs, modern Chinese medicines,
biopharmaceutical products and other pharmaceutical products. Our products include approximately
70.0% of the drugs on the National List of Essential Drugs, which collectively generated over 20.0%
of our pharmaceutical business segment revenue in 2010. In 2008, 2009 and 2010, external revenue
from our pharmaceutical business was RMB6,014.4 million, RMB6,369.7 million and RMB7,012.0
million, respectively; while segment revenue was RMB6,846.7 million, RMB7,322.6 million and
RMB8,075.2 million, respectively. As of December 31, 2010, we manufactured and marketed over
950 pharmaceutical products, including 492 chemical drugs, 313 modern Chinese medicines and 24
biopharmaceutical products, of which 601 were prescription drugs, 505 were included in the National
Medical Insurance Drugs Catalog and 215 were included in the National List of Essential Drugs. We
also manufacture active pharmaceutical ingredients, which are the substances in drugs that are
pharmaceutically active, Chinese herbal medicines and other healthcare products. A significant
number of our pharmaceutical products are leading drugs in their respective markets, such as
Peifeikang (
) and Sulfotanshinone Sodium Injection ( THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
We focus on producing quality products by adhering to stringent quality assurance standards. As ofDecember 31, 2010, we had obtained and maintained PRC GMP certifications for all of our activeproduction lines for pharmaceutical products. As of December 31, 2010, we had not had any reports offatalities or serious incidents of adverse drug reactions caused by the use of our major products. Many ofour products are marketed under trademarks that have long been widely recognized in the industry forhigh-quality and effectiveness. For example, we own a number of Well-Known Trademarks including"Sine ( )," "Huqingyutang ( )" and "Cangsong ( The strength of our brands, together with the high-quality of our products, enable us to market ourproducts effectively.
Innovation and continued enhancement of existing products by our research and developmentoperations are important to our pharmaceutical business. Our research activities are conducted bothin-house and through collaborations with external research partners, such as research institutes,universities and other pharmaceutical companies. As of December 31, 2010, we had 33 drugcandidates pending approval for production, 27 drug candidates in various stages of clinical trials andsix drug candidates pending approval to enter clinical trials.
As of December 31, 2010, we manufactured and marketed 492 chemical drugs, 313 modern Chinesemedicines and 24 biopharmaceutical products. We also manufacture active pharmaceuticalingredients, Chinese herbal medicines and other healthcare products. Due to its diverse productportfolio, our pharmaceutical business, as a whole, is generally not affected by the seasonality ofindividual products. We have valid manufacturing permits for all of our currently manufacturedpharmaceutical products. Under applicable PRC law, each drug manufacturing permit is valid for aterm of five years upon issuance and may be renewed within six months prior to its expiration. Weintend to arrange for the timely renewal of all of our drug manufacturing permits in accordance withapplicable PRC laws, rules and regulations, and are not aware of any legal impediment to the renewalof these drug manufacturing permits.
The pharmaceutical market in the PRC continues to evolve. We examine and adjust our productportfolio and manufacturing and marketing resources from time to time to adapt to changingcustomer demand, as well as to focus on products with higher profit margins, greater marketpotential and demand, and higher barriers-to-entry (such as administrative protection in the form of"monitoring period" afforded to innovative drugs and first-to-market generic drugs, and higherstart-up or entry costs). As of December 31, 2010, we had 53 major products (including two productsof Techpool Bio-Pharma), substantially the majority of which are prescription drugs. In 2008, 2009and 2010, revenue generated by our major products totaled 46.5%, 49.7% and 52.4%, respectively,of our pharmaceutical business segment revenue. Our portfolio of major products will expand toinclude six additional products upon the completion of our pending acquisition of the AntibioticsBusiness.
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The following table sets forth a breakdown of the revenue from our pharmaceutical business byproduct category for the periods indicated.
Year ended December 31, (in millions of RMB, except percentages) Pharmaceutical Products Chemical drugs . . . .
Modern Chinese drugs . .
Biopharmaceutical drugs. .
Other pharmaceutical products . . . . . .
Subtotal . . . . . .
Products(1). . . . . .
Non-pharmaceutical products include healthy living products, medical devices and other products.
Chemical Drugs
We characterize chemical drugs as medical drugs whose active ingredients are manufactured from
chemical compounds rather than derived from plants, animals or minerals. Revenue from our
chemical drug products was RMB2,089.6 million, RMB2,422.0 million and RMB2,740.9 million,
respectively, in 2008, 2009 and 2010, representing 30.5%, 33.1% and 33.9%, respectively, of our
pharmaceutical business segment revenue in the same periods. The following table sets forth the
details of our major chemical drug products and those of the Antibiotics Business as of December 31,
2010:
Developed external Over-the- Insurance List of acquisition expiration Cardiovascular system Yes Compound Reserpine Cardiovascular system Yes Captopril tablet(1) Cardiovascular system Yes Cardiovascular system Yes Cardiovascular system Yes Cardiovascular system Yes Compound Captopril Cardiovascular system Yes Cardiovascular system Yes Simvastatin tablet Cardiovascular system Yes Cardiovascular system Yes Sodium Injection(1) Cardiovascular system Yes THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
Developed external Over-the- Insurance List of acquisition expiration Sulfasalazine tablet Alimentary tract and Rabeprazole Sodium Alimentary tract and Alimentary tract and Sustained ReleaseTablet Ribavirin aerosol Antiinfectives for Ceftriaxone Sodium Antiinfectives for for Injection(1)(2) Cefotaxime Sodium for Antiinfectives for Antiinfectives for Antiinfectives for Antiinfectives for Thalidomide tablet Antineoplastic and Antineoplastic and Polyferose capsule Warfarin Sodium tablet Tobramycin eye drop Raceanisodamide eye Levonorgestrel tablet Genito-urinary system Yes Isotretinoin soft Indicates the products that each generated revenue of over RMB100.0 million in 2010.
Indicates the products of the Antibiotics Business.
Indicates exclusive licenses granted by third party.
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Modern Chinese Medicine
We characterize modern Chinese medicines as medicinal drugs based on traditional Chinese medicineformulae and manufactured in modern dispensing forms, such as injections, capsules and tablets.
Revenue from sales of our modern Chinese medicine products was RMB2,513.4 million, RMB2,621.3million and RMB2,664.4 million, respectively, in 2008, 2009 and 2010, representing 36.7%, 35.8%and 33.0%, respectively, of our pharmaceutical business segment revenue in the same periods. As ofDecember 31, 2010, we had 18 State Protected Chinese Medicine products, such as Kugan Chongji( ), Shenxiangsuhewan ( ) and Shengmai capsule ( ), and eight State Confidential Chinese Medicine products, such as Liushenwan ( ), Xinhuang tablet ( ). See "Regulation — Other Related Regulations in the Pharmaceutical Industry — Chinese Medicine Protection." In addition, we are the only manufacturer of 115 modern Chinesemedicine products in the PRC. The following table sets forth the details of our major modern Chinesemedicine products as of December 31, 2010: Developed external Over-the- Insurance List of acquisition expiration Yangxinshi tablet(1) Cardiovascular system Yes Cardiovascular system Yes Cardiovascular system Yes Cardiovascular system Yes Shenmai injection(1) Cardiovascular system Yes Cardiovascular system Yes Danshen injection(1) Cardiovascular system Yes Cardiovascular system Yes Weifuchun tablet(1) Alimentary tract and Alimentary tract and Alimentary tract and Alimentary tract and Respiratory system Xinhuang tablet(1) Heat-clearing and Heat-clearing and Qingliang series(1) Indicates the products that each generated revenue of over RMB100.0 million in 2010.
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We characterize biopharmaceutical products as medicinal drugs manufactured using biotechnologymeans or biological processes. Revenue from our biopharmaceutical products was RMB626.4 million,RMB819.0 million and RMB1,076.9 million, respectively, in 2008, 2009 and 2010, representing 9.2%,11.2% and 13.3%, respectively, of our pharmaceutical business segment revenue in the sameperiods. As of December 31, 2010, we had 24 biopharmaceutical products in production. The tablebelow sets forth the details of our major biopharmaceutical products as of December 31, 2010: Developed external Over-the- Insurance List of acquisition expiration blood formingorgans Lactobacillus andEnterococcusCapsules, Oral)(1) Kallidinogenase for Indicates the products that each generated revenue of over RMB100.0 million in 2010.
Indicates the products of Techpool Bio-Pharma which we have accounted for as an associate using the equity method of accounting since January 1, 2011.
Other Pharmaceutical Products
Our other pharmaceutical products include Chinese herbal medicines and active pharmaceuticalingredients. Revenue from our other pharmaceutical products was RMB673.2 million, RMB560.8million and RMB683.1 million, respectively, in 2008, 2009 and 2010, representing 9.8%, 7.7% and8.5%, respectively, of our pharmaceutical business segment revenue in the same periods.
Research and Development
Research and development is critical to the sustainable growth of our pharmaceutical business. Ourpharmaceutical business has significantly benefited from our strong track record in research anddevelopment. Our research and development efforts focus on the following: Innovative drug research. We seek to discover innovative drugs that address major unmetmedical needs through independent research efforts and collaboration with external researchpartners, such as research institutes, universities and other pharmaceutical companies; Generic drug development. We seek to develop first-to-market generic drugs in majortherapeutic areas, such as cardiovascular system, alimentary tract and metabolism, centralnervous system, antiinfectives for systemic use and antineoplastic and immunomodulatingagents; THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
Product improvement. We seek to improve quality standard, discover new uses and refineproduction processes for our existing products; and International registration. We seek to increase the value of our products by ensuring that ourproduct quality meets the required international standards and by conducting required clinicaltrials and testing.
We carefully select our research and development programs based on market analysis and ourscientific expertise. We generally focus our research and development efforts on therapeutic areaswith significant unmet medical needs in the PRC, such as cardiovascular system, alimentary tract andmetabolism, central nervous system, antiinfectives for systemic use and antineoplastic andimmunomodulating agents. Our research activities are conducted both in-house and throughcollaborations with external research partners, such as research institutes, universities and otherpharmaceutical companies. As of December 31, 2010, we had 205 research programs, including 24innovative drug research programs, 118 generic drug development programs, 53 productimprovement programs and ten international registration programs. Our research programs included45 programs on cardiovascular system, 23 programs on antineoplastic and immunomodulatingagents, 17 programs on antiinfectives for systemic use, 11 programs on alimentary tract andmetabolism and 23 programs on central nervous system. As of December 31, 2010, we had 319patents.
Since 2004, we have successfully developed 54 new products for which we have obtained Certificatesof New Medicine, including four innovative drugs, three first-to-market generic drugs and eightsecond- or third-to-market generic drugs, of which eight were developed since 2008. Underapplicable PRC laws, rules and regulations, innovative drugs and first-to-market generic drugsgenerally enjoy administrative protection in the form of a "monitoring period" of up to three to fiveyears, depending on the types of drugs, beginning from the earliest approval on the commencementof production of the same drug. See "Regulation — Manufacture — Approval and Registration —Registration of New Pharmaceutical Products." In recognition of our proven research anddevelopment capability, various levels of the PRC government have awarded us with grants to fundour research and development programs. In 2008, 2009 and 2010, we had been awarded grantsunder such programs in the aggregate amount of RMB4.1 million, RMB26.8 million and RMB76.1million (including RMB34.5 million of grants that had been awarded but not yet received by us as ofDecember 31, 2010), respectively.
We conduct our research activities both in-house and through collaborations with external researchpartners, such as research institutes, universities and other pharmaceutical companies. In 2008, 2009and 2010, we had research and development-related expenses of RMB228.8 million, RMB259.2million and RMB285.7 million, respectively.
In-House Research and Development
We conduct our research and development activities through (i) our Central Research Institute, (ii)
research and technology centers managed by our manufacturing subsidiaries and (iii) production site
laboratories and pilot plants. Our research and development facilities include National Engineering
and Research Center for TCM and Shanghai Institute of Chinese Materia Medica, our two nationally
certified enterprise technical centers, and 13 provincially or municipally certified enterprise technical
centers. As of December 31, 2010, our research and development teams had over 550 research and
development personnel, over 20.0% of whom hold master's or higher degrees in medical,
pharmaceutical and other related areas. As of December 31, 2010, over 40 members of our research
and development team had senior engineering or higher qualifications, and most of them had more
than 10 years of experience in the relevant areas.
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Our three tiers of research and development teams have distinct research and development focusesand serve different purposes within our pharmaceutical business. Our Central Research Institute,located in Shanghai Zhangjiang Hi-Tech Park, primarily conducts innovative drug research and genericdrug development. Our team at the Central Research Institute is divided into multiple teams, each ofwhich is specialized in a particular area involved in pharmaceutical research and development, suchas medicinal chemistry, biological assays, pharmacology, toxicology, chemical synthesis and scale-upand clinical trials.
Our research and technology centers focus primarily on generic drug development and productimprovement programs. In addition, our production site laboratories and pilot plants developproduction processes for the commercialization of new products.
Our research and development teams frequently work together in the project initiation process toavoid overlapping of efforts. We commenced a research and development collaboration initiative in2010 to further increase both the frequency and depth of collaborations among our research anddevelopment teams at our Central Research Institute, the research and technology centers and ourproduction sites. As a result, our research and development teams at our research and technicalcenters and production sites can readily access the expertise and knowledge of our Central ResearchInstitute on specific technical issues. We plan to further integrate our research and developmentplatform by putting the subsidiary level research and technology centers under the direct leadershipof our Central Research Institute, which is expected to promote inter-team collaboration and increaseefficiency in our research and development operations.
Collaboration with External Research Partners
We regularly maintain collaborative relationships with national and international research partners tojointly develop new products. Our research partners in the PRC include institutions and universitiessuch as Shanghai Institute of Materia Medica, Shanghai Jiao Tong University, Zhejiang University, JilinUniversity, China Pharmaceutical University and Shenyang Pharmaceutical University. We have beencollaborating with Mitsubishi Tanabe Pharma Corporation, our international research partner, ininnovative drug discovery and development since 2004. In February 2011, we agreed to collaboratewith Fudan-Zhangjiang on four drug research and development projects.
The types of collaboration arrangements vary from specific technical services and consultancy tolonger-term cooperation in drug discovery. Depending on the subject matter of the collaboration andcommercial negotiation, terms of these arrangements may vary. Based on project needs and ourinternal research capacity, we regularly engage external research institutions to provide specificproject related technical services, such as pharmacology, toxicology and clinical studies. In addition,we normally consult with relevant external experts to obtain their evaluation and advice on potentialresearch projects. We also engage physicians for their advice on clinical study plans before thecommencement of clinical trials. Moreover, as of December 31, 2010, we had long-termcollaboration arrangements with eight external research partners, conducting research for potentialpharmaceutical products in therapeutic areas such as cardiovascular system, cancer, metabolism,nerve system and immunomodulating agents. Under some of these arrangements, our researchpartners may provide us with research facilities, instruments, information support, personnel andother services in exchange for a fee. In other arrangements, we may cooperate with our researchpartners in developing new products and share the revenue generated by these products. In addition,we may acquire technologies developed by third parties by entering into technology transferagreements. We typically obtain joint ownership of the intellectual property rights acquired ordeveloped through collaboration with third parties.
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Products under Development
As of December 31, 2010, we had 33 drug candidates pending approval for production, 27 drugcandidates in various stages of clinical trials and six drug candidates pending approval to enter clinicaltrials. Examples of our key drug candidates under development are set forth below.
High Affinity Etanercept High Affinity Etanercept is a biopharmaceutical product candidate for the treatment of rheumatoidarthritis and ankylosing spondylitis. It is an artificially engineered protein and a modified version ofEtanercept, an existing drug that treats the same illness. Research has shown that High AffinityEtanercept is more potent than Etanercept. It is an innovative drug candidate discovered byresearchers at Fudan-Zhangjiang.
We are collaborating with Fudan-Zhangjiang in the development of High Affinity Etanercept byfunding the research program, and will share half of the future sales of this product in the PRC.
Fudan-Zhangjiang has filed two PRC patent applications for this product candidate. High AffinityEtanercept is completing pre-clinical studies.
rhLTa28-171, or LT, is a biopharmaceutical product candidate for the treatment of cancer. It is agenetic engineering product candidate developed by Fudan-Zhangjiang. Research has shown that LTis an effective anti-cancer agent when used alone, and is more efficacious when used in combinationwith chemotherapy.
We are collaborating with Fudan-Zhangjiang in the development of LT by funding the researchprogram, and will share half of the future sales of LT. Fudan-Zhangjiang has obtained a PRC patentrelating to LT's manufacturing process, which will expire in 2020, and is in the process of applying forother patents. This product candidate is in phase II clinical trial.
Deuteporfin is a photodynamic therapy drug candidate for the treatment of cancers. Compared toconventional cancer treatments, photodynamic therapy generally has less side effects, can be usedrepeatedly and does not require surgery. Deuteporfin is an innovative chemical drug discovered byFudan-Zhangjiang.
We are collaborating with Fudan-Zhangjiang in the development of Deuteporfin by funding theresearch program, and will share half of the future sales of Deuteporfin. Fudan-Zhangjiang has fileda PRC patent application for Deuteporfin. Deuteporfin has been approved for clinical trials.
Liposomal Vincristine, or LVCR, is a formulation of vincristine, a generic chemotherapy agent. LVCRuses liposome to deliver the drug to the site of action. Compared to vincristine, LVCR is more effectiveand less toxic. We are collaborating with Fudan-Zhangjiang in the development of LVCR by fundingthe research program, and will share half of the future sales of LVCR. LVCR has been approved forclinical trials.
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LLTD-8 is a product candidate for the treatment of rheumatoid arthritis. LLTD-8 is a structurallymodified version of triptolide, a chemical found in common threewingnut roots. Triptolide is knownto be highly effective against rheumatoid arthritis as well as highly toxic. Our research has shown thatLLTD-8 maintains triptolide's efficacy while significantly reducing toxicity.
We have developed LLTD-8 in collaboration with Shanghai Institute of Materia Medica and we haveobtained an invention patent for LLTD-8 which grants us exclusive rights to manufacture and marketLLTD-8 for the treatment of rheumatoid arthritis in the PRC until 2023. LLTD-8 is currently underphase I clinical trial, and we currently expect to obtain SFDA approval for the manufacture and saleof LLTD-8 in 2016.
Huaiguojian for injection ( Huaiguojian is a potential modern Chinese medicine for the treatment of viral myocarditis caused bycoxsackievirus B. Viral myocarditis is inflammation of heart muscle caused by viruses such ascoxsackievirus B. Severe viral myocarditis may cause acute heart failure, cardiogenic shock or suddendeath from fatal abnormal heart rhythm. Currently, there lacks effective medicine for the treatmentof viral myocarditis.
We have developed Huaiguojian in collaboration with Shanghai Renji Hospital, who obtained severalinvention patents for Huaiguojian Shanghai Renji Hospital which assigned us the exclusive rights tomanufacture and market Huaiguojian for the treatment of viral myocarditis in the PRC until 2024.
Huaiguojian is currently under phase II clinical trial, and we currently expect to obtain SFDA approvalfor the manufacture and sale of Huaiguojian in 2018.
Thalidomide is an existing product used for the treatment of chronic inflammations and autoimmuneskin diseases, and is under research for potential new treatments of multiple myeloma and ankylosingspondylitis. Multiple myeloma, also known as Kahler's disease, is a cancer of plasma cells, a type ofwhite blood cell normally responsible for the production of antibodies. Ankylosing spondylitis, alsoknown as Bekhterev syndrome, is a chronic, inflammatory arthritis that can cause eventual fusion ofthe spine.
Thalidomide is currently under phase I clinical trials for treatment of ankylosing spondylitis and hasbeen approved for clinical trials for treatment of multiple myeloma. We currently expect to obtainSFDA approval for the manufacture and sale of Thalidomide for treatment of multiple myeloma andankylosing spondylitis in 2013 and 2014, respectively.
Zhengganqinhuang tablet ( This product candidate is a potential modern Chinese medicine for the treatment of hepatitis. It hasdemonstrated the ability to treat hepatitis without significant adverse effects. We have developed themanufacturing process of this product candidate employing new extraction and separationtechnologies, which are suitable for mass production.
This product candidate is currently completing its phase III clinical trial, and we currently expect toobtain SFDA approval for the manufacture and sale of this product candidate in 2013.
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We manufacture our pharmaceutical products in various dosages and forms, such as tablets,capsules, granules, powder for injection and liquid for injection. As of December 31, 2010, weoperated manufacturing facilities occupying over 2,220,000 square meters of land and a total grossfloor area of over 770,000 square meters of buildings and units. Our production facilities are primarilylocated in the Eastern China Region. As of December 31, 2010, we had obtained all necessarylicenses, registrations and permits to manufacture our pharmaceutical products, including PRC GMPcertifications for all our active pharmaceutical production facilities. Each PRC GMP certificate is validfor a term of five years upon issuance, and may be renewed within six months prior to its expiration.
The following table sets forth the production capacity and utilization rates of our production facilitiesfor the periods indicated: Year ended December 31, Tablets . . . . . . . .
Capsules. . . . . . .
Injections . . . . . . .
Powder Injections . . . .
Active pharmaceutical ingredients . . . . . .
In billions of units, or in the case of active pharmaceutical ingredients, in tons.
Calculated as the percentage of actual production volume over the design production capacity for the periods indicated.
In 2008, 2009 and 2010, the utilization rate of our active pharmaceutical ingredients productioncapacity were lower than the utilization rates of our other production capacities, primarily due tolower market demand for certain of our active pharmaceutical ingredient products. Unlike theproduction facilities and equipment for drugs, the production facilities and equipment for a particularactive pharmaceutical ingredient generally cannot be readily converted or modified for use in theproduction of other active pharmaceutical ingredients.
We constantly seek to optimize our pharmaceutical manufacturing operations. For example, we arein the process of consolidating our manufacturing operations in the Shanghai area into the followingthree industrial bases with different functionalities: Xinghuo Active Pharmaceutical Ingredients Industrial Base. This industrial base is located inFengxian district and occupies over 131,700 square meters of land. We plan to develop XinghuoActive Pharmaceutical Ingredients Industrial Base as our production center for high-end activepharmaceutical ingredients to support our pharmaceutical business as well as sell to externalcustomers. As of December 31, 2010, we had built manufacturing facilities with a total grossfloor area of over 22,000 square meters and have acquired necessary permits and licenses andcommenced production of two active pharmaceutical ingredient products at the industrial base.
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Fengpu Chinese Medicine Industrial Base. This industrial base is also located in Fengxian Districtand occupies approximately 117,000 square meters of land. The industrial base has a total grossmanufacturing facility floor area of over 51,000 square meters, including the manufacturingfacilities of Shanghai Leiyunshang Pharmaceutical Co., Ltd.
Biological and Pharmaceutical Industrial Base. We plan to establish our multifunctionalpharmaceutical industrial center in the SIMZ Bio Business Park in Pudong New District coveringover 1,581,500 square meters of land. Our plan for this industrial base includes productionfacilities, logistics centers, research and development centers and training facilities. As ofDecember 31, 2010, we had entered into the planning stages of our pharmaceutical industrialcenter and had been actively working with the local government authorities on relatedapprovals.
We believe that the consolidation of our manufacturing operations will enable us to lower ourmanagement costs, improve our management efficiency, upgrade our manufacturing facilities andoptimize our product portfolio.
Raw Material Procurement
The principal raw materials used for our chemical drugs are active pharmaceutical ingredients andchemicals used to produce active pharmaceutical ingredients. Chinese herbs are the primary rawmaterials for our modern Chinese medicines. The primary raw materials for our biopharmaceuticalproducts are biological materials collected from various sources. Our pharmaceutical business alsouses supplemental materials and packaging materials. We source raw materials, supplementalmaterials and packaging materials mostly from third party suppliers. As a general matter, ourmanufacturing subsidiaries are responsible for the planning and purchasing of materials used in theiroperations, while following policies and procedures adopted by our head office. In addition, weperform periodical audits to monitor purchases made by our subsidiaries.
As part of our strategic initiatives to build a centralized platform for purchase by our subsidiaries, weplan to establish a Chinese herb purchasing platform to centralize the purchase of 13 types ofChinese herbs most commonly used in our modern Chinese medicines. We believe this approach willreduce our management and administrative expenses related to the purchasing of raw materials, aswell as increase our bargaining power during procurement and purchase negotiations.
We carefully screen the suppliers for our pharmaceutical business. In particular, we require that oursuppliers provide us with evidence that they have all licenses and permits necessary to conduct theiroperations, which may include business licenses, pharmaceutical production manufacturing permits,import registration certificates, PRC GMP certifications or other relevant licenses.
We historically have not experienced any shortages in raw materials that significantly affected ourmanufacturing operations. We maintain at least two suppliers for most of our raw materials andtypically do not enter into supply arrangements for more than one year in line with market practice.
Sales, Marketing and Distribution
As is common in the PRC pharmaceutical industry, our in-house sales and marketing teams directlymarket and promote our pharmaceutical products to hospitals, other medical institutions and retailpharmacies while sales to them are typically made through third party distributors which purchaseproducts from us and then resell to them. We also sell products to distributors for resale to customersor in markets not covered by our sales and marketing teams. In general, each of our manufacturingsubsidiaries manages its own sales and marketing team to promote and sell its products. We are in THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
the process of establishing a group-wide sales and marketing platform to coordinate the sales of ourmajor products, through which we expect to reduce overlapping efforts, optimize resource allocationand increase sales and marketing costs-efficiency.
We own a number of trademarks that are recognized as Well-Known Trademarks, including "Sine ( )," "Huqingyutang ( )" and "Cangsong ( own various other famous trademarks. We believe that the sales and marketing of our relevant productshave significantly benefited from the strong brand awareness and customer loyalty associated withthose trademarks.
In addition, we recognize that customer loyalty to our products must be supported by the quality ofour products and customer services. As a result, we exercise stringent quality control in themanufacturing and handling of our products. See "— Quality Control." Structure and Management of Sales, Marketing and Distribution Network
We have established an extensive sales and marketing network comprising sales representativeslocated in all major markets where our products are sold. Our marketing and sales teams actively seekto strengthen the market recognition of our products among physicians through various academic,physician-oriented marketing and promotional activities. Our sales representatives are primarilyresponsible for promoting our products to target hospitals and other medical institutions. Most of oursales representatives are our employees. These sales representatives regularly visit our existingcustomers with updated product information. They also seek to develop new customers by attendingtrade shows, organizing academic training and information sessions for medical professionals,coordinating publication of articles by industry experts and distributing promotional materials aboutour products. Furthermore, we continually strengthen the quality of our sales force by training themto improve their product knowledge and sales skills. Although each of our manufacturing subsidiariesgenerally markets and sells its own products, we are in the process of centralizing the marketing andsales operations for our major products.
As a general matter, our pharmaceutical products are sold first to distributors, who then resell theseproducts based on our sales and marketing teams' efforts or through their own sales and distributionnetworks. In either case, we consider distributors our direct customers. Sales to other customers,primarily of certain active pharmaceutical ingredients and non-pharmaceutical products, are relativelyinsignificant for our pharmaceutical business. We select our distributors based on a number ofcriteria, including their credit record, financial strength, customer portfolio, distribution network andmarket position. We also verify that our distributors have obtained the necessary permits, licensesand certifications for the distribution of medical products, including drug operation permits and GSPcertifications. In recent years, pharmaceutical products have become more affordable to the peoplein the PRC, particularly in small cities and rural areas, primarily as a result of the healthcare reform.
We continue to add new distributors and to expand our sales network to these markets. In addition,we have terminated relationships with distributors that are no longer able to help us competeeffectively in the changing market. For example, the recent implementation of a more centralizedstatutory tender process has changed how hospitals in the PRC purchase pharmaceutical productsand reduced the number of distributors that can participate in procurement by hospitals. We may alsochoose not to continue distribution relationships with distributors that fail to meet performancetargets. Although we have experienced a higher turnover rate among our smaller distributors inrecent years as a result of the changing market, our relationships with our major distributors haveremained stable.
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The following table sets forth the changes in the number of our distributors for the periods indicated: Year ended December 31, As of the beginning of the period . . . . . .
Additions of new distributors . . . . . . . .
Termination of existing distributors . . . . . .
Net increase (decrease) in distributors . . . .
We generally enter into annual distribution agreements with our distributors. These distributionagreements normally set the quantity and price of our products as well as monthly, quarterly and/oryearly sales volume targets. We typically offer incentives to, or impose penalties upon, ourdistributors depending on whether they exceed or fail to meet the sales volume targets. As a generalmatter, the distribution agreements also provide guidelines for the sale and distribution of ourproducts, such as restrictions on geographical areas and the type of customers to which the productscan be sold. We actively monitor the performance of our distributors, and our distributors aregenerally required to provide us with market information related to our products that they distribute,such as market activities, inventory levels and sales volumes. In most cases, the distributionagreements do not prohibit the distributors from distributing competing products. Under certaindistribution agreements, we have granted the relevant distributors exclusive distribution rights incertain geographic areas. The distributors are liable for breaches of the relevant distributionagreements and are responsible for indemnifying us for damages as a result of such breaches. Certaindistribution agreements entitle us to terminate the distribution right of our distributors if it isdiscovered that the distributor sells beyond its designated geographic areas. In 2008, 2009 and 2010,we were not aware of any material breaches of distribution agreements by any distributor. Thedistribution agreements may be renewed by mutual agreement among the parties. We also enter intosales agreements with some of our distributors, which only set forth the sales price, quantity andlogistics details for the delivery of our products and do not have sales targets.
We generally collect payment from our distributors before delivering goods to them. However, for ourdistributors with whom we have long-term relationships, we typically extend short-term creditranging between 30 and 120 days. We generally only accept sales returns for defective products. In2008, 2009 and 2010, we did not encounter any material sales returns. Our sales representatives alsoregularly communicate with target hospitals as part of our efforts to assess the performance of ourdistributors. Our distributors generally have strong credit records and steady cash flow, and we havenot experienced any material delays of payment by our distributors.
We also distribute our products through our own pharmaceutical distribution and supply chainsolutions. In 2008, 2009 and 2010, sales of our product by our own pharmaceutical distribution andsupply chain solutions accounted for 12.2%, 13.0% and 13.2%, respectively, of our pharmaceuticalbusiness segment revenue in the same periods. We are in the process of further integrating ourpharmaceutical business and our pharmaceutical distribution and supply chain solutions.
Product Pricing
A substantial portion of our pharmaceutical products are included in the National Medical Insurance
Drugs Catalog and are subject to retail price controls imposed by the PRC government in the form
of fixed retail prices or maximum retail prices. In addition, a product included in a Provincial Medical
Insurance Drugs Catalog is also subject to government price controls in the relevant province. These
controls indirectly affect the price at which we sell our products to distributors. The rest of our
products are generally not subject to retail price controls. We set the prices of products that are not
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subject to price controls with reference to a number of factors, including market trends, changes inthe levels of supply and demand, our cost of production and the prices of competing products. In2008, 2009 and 2010, we were able to pass on increases in our cost of production to our distributorsto the extent permitted by price controls and market competition.
Controls over and adjustments to the retail price of a pharmaceutical product, if significant, couldhave a corresponding impact on the price at which we sell our products, which may have an adverseimpact on our revenue and profitability. We seek to mitigate this impact by focusing on products withhigher profit margin, greater market demand and potential, and higher barriers-to-entry. Wecontinue to enhance our strong pharmaceutical research and development capabilities to develop ourpipeline of new products that supports sustainable growth and helps us meet our ongoing and futuretargets of profitability.
In July 2010, the NDRC issued a notice with regard to a survey of the wholesale prices ofapproximately 900 pharmaceutical products and the operations of the relevant pharmaceuticalproduct manufacturers. The purpose of this survey was to understand the cost structure of theselected pharmaceutical products. The result of this survey, which has not been published publicly,may lead to further downward adjustments in the maximum retail prices of these pharmaceuticalproducts. Twenty-two of our products were included in the scope of this survey, which collectivelyaccounted for 10.8% of the segment revenue of our pharmaceutical business in 2010. Furthermore,in March 2011, the NDRC lowered the maximum retail prices of certain pharmaceutical products,affecting 35 of our products, including two major products, which collectively accounted for 2.1%,2.4% and 2.6% of the segment revenue of our pharmaceutical business in 2008, 2009 and 2010,respectively. See "Risk Factors — Risks Relating to Our Business Operations — A substantial portionof the pharmaceutical products manufactured by us are subject to government price controls in thePRC." Except for the March 2011 adjustments, the NDRC has not lowered the maximum retail priceof our major products since January 1, 2008.
Substantially all procurement of pharmaceutical products by public hospitals and medical institutionsis subject to the statutory tender process that involves bidding by manufacturers of these products.
A duly organized bid-evaluation committee, which is composed of pharmaceutical experts and clinicalmedical experts who will be randomly selected from a database of experts established by the relevantgovernment authority, is responsible for bid evaluations. The selection is based on a number offactors, including bid price, quality, clinical effectiveness, and manufacturer's reputation and servicequality. See "Regulation — Distribution — Statutory Tender Process Requirements for HospitalPurchase of Medicines." We participate in such statutory tender process regularly, and the successfulbidding prices are the hospital procurement prices at which distributors sell the products to thehospitals. We work with our distributors during the statutory tender process and seek to improve ouroverall bidding position and number of successful bids by utilizing our industry expertise, marketintelligence and product quality. After the tender process, our distributors then distribute ourproducts upon receiving purchase orders provided by the hospitals, which specify the brand, volumeand types of pharmaceutical products. The prices at which we sell to our distributors are determinedin part by the successful bidding prices.
Inventory Management
Inventory for our pharmaceutical business primarily includes raw materials, work-in-progress and
finished products. We employ advanced information systems to track inventory levels as well as
ensure adequate levels of raw materials and finished products. In 2008, 2009 and 2010, the average
inventory turnover days of our pharmaceutical business were 109.4, 110.5 and 104.9 days,
respectively. Our pharmaceutical products generally have a shelf life ranging from two to three years.
We have an inventory provisioning method to value our inventories and to write off inventories when
they become obsolete or damaged, or when their market value is below their carrying costs. We did
not have significant write offs for obsolete inventories in 2008, 2009 and 2010.
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We have established a number of pharmaceutical joint ventures with leading internationalpharmaceutical companies and other joint venture partners. In 2008, 2009 and 2010, we derived23.9%, 14.5% and 13.0%, respectively, of our profit before income tax from these jointly controlledentities and associates. Our significant joint ventures are set forth below.
Shanghai Squibb is a joint venture among Bristol-Myers Squibb (China) Investment Co. Ltd., ChinaNational Pharmaceutical Foreign Trade Corp. and our Company, with a registered capital of US$18.4million. Each of Bristol-Myers Squibb (China) Investment Co. Ltd., China National PharmaceuticalForeign Trade Corp. and us contributed 60.0%, 10.0% and 30.0% of the registered capital in cash,respectively. The joint venture was formed in 1982 with an initial term of 50 years, and we hold30.0% of its equity interest. Under the joint venture agreement and the articles of association ofShanghai Squibb, we have the right to appoint two of the seven directors of Shanghai Squibb, andare entitled to 30.0% of any distribution of dividend made by Shanghai Squibb. We and ChinaNational Pharmaceutical Foreign Trade Corp. are responsible for facilitating the business operationsof the joint venture in the PRC, while the other joint venture partner is responsible for coordinatingthe joint venture's overseas operation. The joint venture agreement may be terminated by any jointventure partner under circumstances such as material breaches of the agreement by another party,or bankruptcy of Shanghai Squibb or another party.
Shanghai Squibb regularly manufactures over 30 pharmaceutical products, all primarily for sale in thePRC. The major products of Shanghai Squibb include Baraclude™, Glucophage, Theragran, BufferinCold, MonoprilT, MaxipimeT, CaptoprilT, VelosefT and PravacholT. In 2008, 2009 and 2010,Shanghai Squibb's net profit attributable to us was RMB77.6 million, RMB105.2 million and RMB89.6million, respectively.
Shanghai Roche is a joint venture between Roche Finance Ltd., Roche (China) Holding Co., Ltd. andSunve Pharmaceutical, a subsidiary of our Company, with a registered capital of US$62.4 million.
Each of Roche Finance Ltd., Roche (China) Holding Co., Ltd. and Sunve Pharmaceutical contributed21.9%, 48.1% and 30.0% of the registered capital in cash, respectively. The joint venture wasformed in 1994 with an initial term of 50 years, and we hold 30.0% of its equity interest. Under thejoint venture agreement and the articles of association of Shanghai Roche, we have the right toappoint three of the nine directors of Shanghai Roche, and are entitled to 30.0% of any distributionof dividend made by Shanghai Roche. We are responsible for facilitating the joint venture's businessoperations in the PRC, such as securing licenses and approvals from the local authorities, and liaisonwith the local banks and other service providers. Our joint venture partners are responsible forsupporting the business of the joint venture, for example, by securing equipment and materials fromoverseas. The joint venture agreement may be terminated by any joint venture partner undercircumstances such as material breaches of the agreement by another party or bankruptcy ofShanghai Roche or another party.
Shanghai Roche's major products include MabTheraT, XelodaT, HerceptinT and CellCeptT. In 2008,2009 and 2010. Shanghai Roche's net profit attributable to us was RMB96.9 million, RMB101.7million and RMB120.4 million, respectively.
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Techpool Bio-Pharma
Techpool Bio-Pharma, founded in 1993, is a foreign-invested company limited by shares specialized
in research, development, manufacturing and marketing of biopharmaceutical products. It has a
registered capital of RMB100.0 million. We acquired an aggregate of 51.0% of equity interests in
Techpool Bio-Pharma in 2004, which was diluted to 40.8% in June 2009 due to investments in
Techpool Bio-Pharma by a new shareholder. As of December 31, 2010, Nycomed S.C.A. SICAR, a
Swiss pharmaceutical company, held an aggregate of 51.3% equity interests in Techpool Bio-Pharma.
Under its articles of association, we have the right to nominate three of the seven directors of
Techpool Bio-Pharma, subject to its shareholders' election. By virtue of our majority ownership prior
to June 2009 and agreements to act in concert with other shareholders of Techpool Bio-Pharma, or
control agreements, thereafter, we had control over the financial and operating policies of Techpool
Bio-Pharma in 2008, 2009 and 2010, and accounted for Techpool Bio-Pharma as a consolidated
subsidiary in these periods. Because of the expiration of the relevant control agreement, we have
accounted for Techpool Bio-Pharma as an associate and our investment in Techpool Bio-Pharma using
the equity method of accounting since January 1, 2011, and there will be no contribution from
Techpool Bio-Pharma in our revenue and gross profit going forward.
As of December 31, 2010, our 53 major products included two products of Techpool Bio-Pharma,Ulinastatin for injection and Urinary Kallidinogenase for injection. In 2008, 2009 and 2010, TechpoolBio-Pharma's net assets attributable to its equity holders were RMB211.5 million, RMB352.3 millionand RMB491.5 million, respectively, its consolidated revenue were RMB352.2 million, RMB480.0million and RMB632.0 million, respectively, and its consolidated gross profit was RMB267.6 million,RMB367.2 million and RMB512.0 million, respectively.
PHARMACEUTICAL DISTRIBUTION AND SUPPLY CHAIN SOLUTIONS
We were the second largest distributor of pharmaceutical products in the PRC in terms of revenue in
2009, according to the NFS Report. As of December 31, 2010, we operated a national distribution
network comprising 41 subsidiaries and branches, as well as 32 logistic centers and warehouses
located strategically across the Eastern China Region, the Northern China Region and the Southern
China Region. These three regional markets, in the aggregate, accounted for 67.0% of the entire PRC
pharmaceutical distribution market in terms of sales in 2009, according to the NFS Report. The
Eastern China Region, one of the most economically developed and populated regions in the PRC,
accounted for 39.1% of the PRC's pharmaceutical distribution market in terms of revenue in 2009,
according to the NFS Report. We had a market share of 11.0% in the Eastern China Region in 2009.
We conduct our pharmaceutical distribution and supply chain solutions primarily through Shanghai
Pharmaceutical Distribution Co., one of our wholly-owned subsidiaries, as well as through our other
direct or indirect subsidiaries, except in Jiangxi Province, where we operate through our jointly
controlled entity, Jiangxi Nanhua. In 2008, 2009 and 2010, external revenue from our pharmaceutical
distribution and supply chain solutions was RMB19,683.7 million, RMB23,117.6 million and
RMB28,348.1 million, respectively, while segment revenue was RMB20,214.2 million, RMB23,768.5
million and RMB29,149.9 million, respectively.
We distribute over 18,600 types of prescription and over-the-counter pharmaceutical products, aswell as healthcare products and medical supplies in the PRC, with a focus on high-end pharmaceuticalproducts, primarily comprising imported medicines and those manufactured by subsidiaries ofinternational pharmaceutical companies in the PRC. Leveraging on our strength in high-endpharmaceutical products, we specialize in directly distributing products to hospitals and othermedical institutions, especially Class III and Class II hospitals, which generally has higher margins thansales made to other distributors. In 2010, our direct sales accounted for 61.9% of external revenuefrom our pharmaceutical distribution and supply chain solutions. Through 41 subsidiaries andbranches and 32 logistic centers and warehouses in the PRC, we directly sold products to over 7,600hospitals and other medical institutions primarily located in the Eastern, Northern and SouthernChina Regions, including 229, or 63.8% of, Class III hospitals and 879, or 55.7% of, Class II hospitalsin the Eastern China Region as of December 31, 2010. We are also able to extend our reach to othercustomers throughout the PRC through sales to other distributors. We also distribute pharmaceuticaland healthcare products to pharmacies and other retail outlets. We continue to grow our core directsales business in the Eastern, Northern and Southern China Regions. In April 2011, we acquired CHS, THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
whose main asset is its wholly-owned subsidiary CITIC Pharma, a leading pharmaceutical distributorin Beijing in terms of revenue in 2009. The addition of CITIC Pharma will significantly expand ouroperations and market share in the Northern China Region.
The following table sets forth a breakdown of external revenue from our pharmaceutical distributionand supply chain solutions by type of customer for the periods indicated: Year ended December 31, (in millions of RMB, except percentages) External revenue:Hospitals and other medical institutions .
Other distributors, third party retailpharmacies andother customers . . .
Total. . . . . . .
revenue: . . . . .
revenue . . . . .
Operating Process
The following diagram illustrates the core operating process of our pharmaceutical distribution and
supply chain solutions as of the date of this Document:
Our pharmaceutical distribution and supply chain solutions involve several integrated stages thatallow for enhanced efficiency and quality control of our products at every stage of our operationsfrom procurement to delivery to our customers. We purchase products from domestic or foreignsuppliers and submit these products to a quality control inspection and assist in clearing any customsand tax matters, if relevant. We warehouse our products in a climate-controlled environment until thereceipt of customer orders, which will then be processed and an invoice of which will be created; thenwe arrange for logistics services and the timely delivery of our products. The operating processconcludes with payment collection from our customers.
Distribution Network
As of December 31, 2010, we operated our pharmaceutical distribution and supply chain solutions
business through 41 subsidiaries and branches and 32 logistic centers and warehouses in the Eastern
China Region, the Northern China Region and the Southern China Region in the PRC, covering over
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7,600 direct sales customers located in 12 provinces, autonomous regions and municipalities. Weoperate this business primarily through our subsidiaries, except in Jiangxi Province, where we operatethrough our jointly controlled entity, Jiangxi Nanhua. We also sell to other distributors, through whichwe distribute pharmaceutical and healthcare products nationwide in the PRC.
The continued growth and success of our pharmaceutical distribution and supply chain solutions willdepend on our ability to improve and expand our distribution network. We intend to pursue selectiveacquisition opportunities focused on leading regional distributors in order to enhance our leadershipand market share in the Eastern China Region and consolidate our competitive position nationally. Forexample, in July 2010, we acquired a 49.0% equity interest in Fujian Pharmaceutical, apharmaceutical distribution company with its networks across Fujian Province. In August 2010, weacquired an ownership interest of 51.0% in Guangzhou Z.S.Y., a leading pharmaceutical distributorin Guangzhou. In November 2010, we acquired Beijing Aixin Weiye, a pharmaceutical distributor inBeijing. We believe these acquisitions will provide us with a strategic foothold in these regions andhelp us further expand our distribution networks in the Eastern China Region and the Northern ChinaRegion and into the Southern China Region. Our recent acquisition of CHS will significantly expandour network and increase our market share in the Northern China Region.
Sales and Marketing
We conduct our pharmaceutical distribution and supply chain solutions business primarily in the PRC.
Historically, we have conducted our pharmaceutical distribution sales primarily in the Eastern China
Region, but have extended our reach to the Northern China Region and the Southern China Region
in recent years. The following table sets forth a geographical breakdown of external revenue from our
pharmaceutical distribution and supply chain solutions business for the periods indicated:
Year ended December 31, (in millions of RMB, except percentages) Eastern China Region .
Northern China Region .
Southern China Region .
Other regions . . . .
revenue . . . . .
As of December 31, 2010, our customers included over 7,600 hospitals and other medicalinstitutions, over 2,300 distributors and over 2,200 retailers. We coordinate marketing andpromotional plans for our distribution subsidiaries, such as setting sales and market share targets. Wealso have management responsibility over the distribution subsidiaries on matters such as budgetcontrol and standardized internal control procedures to minimize operational risks. In addition, theymay provide guidance to the distribution subsidiaries with respect to market trends, productstrategies, government policies and value-added services.
The sales and marketing representatives located at our distribution subsidiaries are primarilyresponsible for undertaking regional sales, marketing and customer support activities directly tocustomers. Our distribution subsidiaries are located strategically close to their customers in therelevant regions, and the sales and marketing representatives are able to respond promptly to THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
customer needs in an effective manner. We typically conduct a review process to screen customersbefore engaging in sales and marketing efforts.
We have established highly specialized sales and marketing teams based on the particular type ofcustomer, sales methods and product categories, including: (i) a direct sales team that primarily sellsprescription medicines to hospitals; (ii) a direct sales team that primarily sells prescription medicinesto community healthcare centers and clinics; (iii) a sales team that primarily sells pharmaceutical andhealthcare products to other distributors; (iv) a sales team that primarily sells pharmaceutical andhealthcare products to retail pharmacies and other end-users; and (v) sales teams that specialize inthe distribution of particular types of medicines, such as anesthetics, gynecological medicines,pediatrics medicines, medicines that treat diseases of the elderly and psychotropic medicines. Webelieve that this division of specialties and responsibilities among our sales force enables us to bettercustomize our services to effectively target different customers.
Sales and Distribution Arrangements
We have a broad customer base that includes hospitals and other medical institutions, retail
pharmacies and other pharmaceutical product distributors. Hospitals include general and specialty
hospitals at the national, regional and municipal levels. Other medical institutions include community
healthcare centers, clinics and other healthcare institutions. Retail pharmacies include national and
regional retail pharmaceutical chain stores and independent pharmacies. Other pharmaceutical
product distributors include regional wholesalers or distributors at the provincial or municipal level,
which distribute pharmaceutical and healthcare products to hospitals, other medical institutions and
retail pharmacies. In addition, we offer a broad range of logistics and value-added services designed
to enhance the operational efficiency and competitive positions of our customers, thereby allowing
them to improve the safety and effectiveness of healthcare services for their patients and consumers.
We seek to maintain long-term relationships with our customers, although we do not generally enter
into any long-term contracts.
Hospital and Other Medical Institution Customers
Typically, a pharmaceutical manufacturer that seeks to sell its products to government-owned or
-controlled hospitals and other medical institutions, or public hospitals, in the PRC may only do so
through the statutory hospital tender process, pursuant to which manufacturers of pharmaceutical
products are invited to submit their bids to the local government or its designated institution that
runs the tender process. The tender process is conducted once every year in the relevant province or
city in the PRC. As a general matter, multiple manufacturers will be selected to supply any particular
type of medicine. Our pharmaceutical distribution and supply chain solutions business participates in
the tender process as an advisor to the manufacturers by providing industry expertise, market
intelligence, pricing suggestions, documentation support and other administrative services. We
typically advise and assist multiple manufacturers in the same tender process, including our own
pharmaceutical business. A bid evaluation committee of the local government or its designated
institution that is typically comprised of pharmaceutical experts and clinical medical experts selects
the winning bids, and the hospitals select one or more winning manufacturers to supply the medicine
by placing orders with the relevant pharmaceutical product distributors. After the tender process, we
distribute products of the selected manufacturers based on purchase orders provided to us from the
hospital, which will specify the brand, volume and types of pharmaceutical products. The pricing of
these products will be determined in accordance with the bidding process. In 2008, 2009 and 2010,
we did not experience any material conflicts from advising both our subsidiaries as well as other third
party pharmaceutical manufacturers in the same tender process.
Sales of pharmaceutical products, healthcare products and medical supplies to our hospital and othermedical institutions customers in 2008, 2009 and 2010 were RMB12,366.4 million, RMB14,778.9 THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
million and RMB17,553.6 million, respectively, representing 62.8%, 63.9% and 61.9%, respectively,of external revenue from our pharmaceutical distribution and supply chain solutions business duringthe same periods.
Distributor and Retail Pharmacy Customers
We also distribute pharmaceutical products through other distributors to reach hospitals, other
medical institutions and retail pharmacies outside of our customer base. We may enter into written
three-party agreements with the manufacturers and our distribution customers. These agreements
generally specify the suggested price at which our distributor customers may resell the
pharmaceutical products, the qualification of distributor customers, any exclusivity, the term period
or geographic restriction for the resale of such products by our distributor customers, as well as order,
delivery and payment arrangements between us and the distributor customers. Our distributor
customers order products from us, and we are responsible for the supply and delivery of such
products. In certain three-party agreements, our distributor customers are required to periodically
submit sales and inventory reports to us, which we will forward to the manufacturers for review. The
majority of our three-party agreements are for a term of one year and may be renewed upon mutual
agreement.
We select our distributor customers based on a variety of criteria, including their credit record,customer portfolio, distribution network and status in relevant markets, except certain manufacturersof premium products may directly appoint the downstream distributors. As of December 31, 2008,2009 and 2010, we had over 1,800, 2,350 and 2,300 distributor customers, respectively.
We also make sales to retail pharmacies, such as retail pharmacy chains and independent pharmacies.
The majority of our product sales to these customers are based on repeating customer purchaseorders.
Sales to our distributor and retail pharmacy customers in 2008, 2009 and 2010 were RMB7,317.3million, RMB8,338.7 million and RMB10,794.5 million, respectively, representing 37.2%, 36.1% and38.1%, respectively, of external revenue from our pharmaceutical distribution and supply chainsolutions business during the same periods.
Songjiang Model
We also explore alternative sales and distribution arrangements in light of the evolving market and
regulatory environment. For example, we have developed the Songjiang Model. Typically, hospitals in
the PRC support their operations in part by profits generated from medicine sales to patients.
However, under current regulations, hospitals are no longer allowed to profit from their sale of drugs
on the National List of Essential Drugs. Local governments, such as the Songjiang District government
in Shanghai, have explored various ways to mitigate the loss of profit experienced by the hospitals,
including by subsidizing these drugs. We entered into an agreement with the Songjiang District
Health Department in February 2009, followed by agreements with certain other districts in
Shanghai, to become the sole distributor for drugs on the National List of Essential Drugs to be
purchased by community hospitals in these districts. In return, we agreed to share a portion of the
district governments' financial burden either in the form of discounts on these drugs sold to these
community hospitals or by sponsoring healthcare-related programs in the districts, such as training
of physicians. We sourced a majority of these drugs internally from our pharmaceutical business and
the remainder from third party manufacturers. We benefit from this arrangement by gaining
distribution market share in community hospitals, as well as generating revenue and profits for our
pharmaceutical business. The district governments, on the other hand, benefit from this arrangement
by securing a reliable source of high-quality and low-cost essential drugs and alleviating part of their
financial burden. We seek to replicate the success of the Songjiang Model to other districts in
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Shanghai and beyond. Revenue from distributing products under the Songjiang Model were RMB21.8million and RMB201.7 million in 2009 and 2010, respectively. Our PRC legal counsel, Grandall LegalGroup, has advised us that the Songjiang Model and the related agreements between us andapplicable district health departments comply with applicable PRC laws, rules and regulations.
Pricing
We typically sell pharmaceutical products to hospitals and other medical institutions at the prices
determined through the statutory hospital tender process. The prices of other products we distribute
are generally determined through negotiations with our suppliers and customers. These negotiations
may take into account various factors, including our procurement costs and gross margin levels, our
distribution capability and bargaining power, government policies and regulations, competition,
customer preferences and market conditions.
Payment
Our customers are generally invoiced at the time of the processing of their order, with credit terms
generally ranging from 30 to 120 days for hospital customers and up to 60 days for other customers.
Our extension of credit terms depends, in part, on the creditworthiness of customers, the location of
customers and the products being sold.
Sales Returns
Our customers generally may return products that are damaged, have incomplete packages, unclear
labels or missing contents or are inconsistent with the specifications on the purchase orders for
replacement. In addition, our customers may return the products that are past or close to being past
their shelf life at the time of delivery. For certain products, we are required to obtain the prior
approval of the manufacturers before accepting sales returns from our customers. In 2008, 2009 and
2010, we have not encountered any material sales returns.
Supplier Arrangements
We regularly distribute the products of over 2,600 international and domestic pharmaceutical
companies. Our suppliers include 33 of the top 50 international pharmaceutical companies and 92
of the top 100 domestic pharmaceutical companies. We also distribute products of our
pharmaceutical business. We believe that we have strong relationships with our suppliers, as we are
the exclusive national distributor for 66 pharmaceutical products and the exclusive distributor in the
Eastern China Region for 88 pharmaceutical products, as of the Latest Practicable Date. We have
dedicated teams that work closely with our top suppliers to strengthen our relationships with them.
We generally enter into annual agreements with our suppliers to distribute their products, which may
be renewed upon mutual agreement before their expiration. In 2008, 2009 and 2010, we did not
experience any difficulty in renewing our agreements with suppliers.
Our agreements with suppliers typically set out the specifications and prices for the products theywould be supplying to us, payment methods and guidelines for the sale and distribution of theirproducts, including restrictions on the regions in which the products may be sold, if any, as well asthe total purchase quantity. In addition, the suppliers are generally responsible for the timely deliveryand the quality of their products. We are responsible for timely payments to the suppliers as well ascompliance with guidelines set by our suppliers. Suppliers may also engage our assistance in thestatutory hospital tender process and in their sales and promotion activities. In addition, somesuppliers may provide us with volume discounts and/or rebates for early payments. Our agreementswith suppliers generally do not restrict us from manufacturing and sale of competing products.
We select our suppliers based on, among others things, the prices of their products, marketreputation, production and/or distribution capacity, the market potential of their products andwhether the supplier has all necessary licenses, permits and certifications, including GSP and/or GMP THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
certifications. We also revalidate the qualifications of our suppliers periodically to ensure that theyoperate their business in compliance with applicable laws, rules and regulations.
Product Portfolio
As of December 31, 2010, we distributed over 18,600 pharmaceutical and healthcare products,
encompassing prescription medicines, over-the-counter medicines, personal care products and
medical supplies. Due to its diverse product portfolio, our pharmaceutical distribution and supply
chain solutions business, as a whole, is generally not affected by the seasonality of individual
products. We focus on high-end pharmaceutical products, primarily comprising imported medicines
and those manufactured by subsidiaries of international pharmaceutical companies in the PRC, which
enables us to achieve greater operational efficiency largely due to such products, high price-to-
volume ratio, better marketing and large demand. We source our products from over 2,600
international and domestic pharmaceutical companies. We also distribute products of our
pharmaceutical business. We are in the process of further integrating our pharmaceutical business
and our pharmaceutical distribution and supply chain solutions business.
The table below sets forth the major therapeutic areas of prescription and over-the-counterpharmaceutical products we distribute, the number of products for each therapeutic area and themajor products in each category as of December 31, 2010: Approximatenumber of Antiinfectives for Benzathine Benzylpenicillin for injection, Levofloxacin Hydrochloride capsule, Isoniazidtablet, Capsulae Aciclovirum, Cefuroxime Sodiumfor injection, Compound SulfamethoxazoleDispersible tablet, Tabellae Nysfungini,Lamivudine tablet, Erythromycin enteric-coatedcapsule, Levofloxacin Mesylate tablet,Ketoconazole tablet, Ribavirin oral solution,Azithromycin enteric-coated tablet, Metronidazdetablet, Rifampicin capsule, Oseltamivir Phosphatecapsule Alimentary tract and Multivitamin Formula with Minerals tablet, v-3 Fish Oil Fat Emulsion injection, Ciclosporin softcapsule, Loratadine capsule, OmeprazoleMagnesium enteric-coated tablet, CalciumSupplement with Vitamin D Chewable tablet —Children's Formula, A1anyl-G1utamine injection,Peginterferon alfa-2b, Chlorphenamine Maleateinjection, Octreotide Acetate injection,Compound Lysine Hydrochloride and ZincGluconate granule, Short Peptide EnteralNutrition Powder, Azathioprine tablet,Triprolidinge Hydrochloride capsule,Domperidone tablet, Vitamin A and D drop,Compound Amino Acid injection (18AA),Tacrolimus injection, Cetirizine Hydrochloridecapsule, Famotidine capsule THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
Approximatenumber of Cardiovascular system Amlodipine Besylate tablet, IsosorbideMononitrate Sustained Release capsule, Digoxintablet, Irbesartan tablet Central nervous system Propofol injection, Oxiracetan capsule,Alprazolam tablet, Morphine Sulphate Sustained-Release tablet, Baclofen tablet, Diazepam tablet,Sevoflurane Solution for Inhalation,Phenobarbital tablet, Haloperidol injection,Lidocaine Hydrochloride injection, Piracetamtablet, Lorazepam tablet Respiratory system Aminophylline tablet, Aspirin enter-coated tablet,Beclomethasone Dipropionate Nasal aerosol,Metamizole Sodium tablet, Budesonide Nasalspray, Paracetamol, PseudoephedrineHydrochloride, Dextromethorphan Hydrobromideand Chlorphenamine Maleate oral solution,Compound Glycyrrhiza oral solution, IbuprofenSustained Release capsule Intravenous solutions Sodium Bicarbonate injection, Sodium ChloridePhysiological solution, Sodium Lactate Ringer'sinjection, Glucose injection Systemic hormonal Alfacalcidol tablet, Propylthiouracil tablet, preparations (excluding Posterior Pituitary injection, Medroxyprogesterone Acetate Dispersible tablet Antineoplastic and Anastrozole tablet, Fluorouracilum injection, Tamoxifen Citrate tablet, Methotrexate injection Blood and blood forming Aminomethylbenzoic Acid injection, Low Molecular Weight Heparin Calcium injection,Prothrombin Complex Concentrate (Human),Lyophilized, Warfarin Sodium tablet Ichthammol ointment, Compound MiconazoleNitrate ointment, Tretinoin cream, Ketoconazolecream Dextran70 and Glycerol eye drop, Ofloxacin eardrop, Ofloxacin eye ointment, KetotifenFumarate nasal drop, Pilocarpine Nitrate eyedrop, compound caoshanhu tablet, Tropicamideeye drop, Cydiodine tablet THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
Approximatenumber of Genito-urinary system and Triamterene tablet, Compound Zedoary Turmeric Oil suppository, Finasteride tablet, OrnidazoleVaginal Effervescent tablet, Spironolactonetablet, Policresulen suppository,Hydrochlorothiazide tablet, Carbetocin injection Diagnostic agents Gadopentetate Dimeglumine injection, Iobitridolinjection, Iopromide injection, MeglumineDiatrizoate injection Albendazole tablet, Mebendazole tablet,Chloroquine Phosphate tablet, Praziquanteltablet Bemegride injection, Flumazenil injection,Naloxone Hydrochloride injection, SodiumThiosulfate for injection Chinese medicines Honghuahuangsesu for injection, Zhikang tablet,Yimucao granule, Bingzhen Qingmu eye drop,Yantejia tablet, Yushangling capsule, Zigui Zhilieointment, Zukamu granule, Xiaoaiping tablet,Zhenju Jiangya tablet, Yunnan Baiyao capsule,Zhitong Huazheng capsule, Shuanghuanglian eyedrop, Qianbai Biyan tablet, Tongluo Shenggucapsule, Xiaofeng Zhiyang granule, XueshanJinluohan Zhitong Tumoji, CompoundHongdoushan gelatin, Yinxingye tablet, JixueGanshuang ointment, Wuji Baifeng tablet,Xiongdan Kaiming tablet, Jinsangzihou tablet,Shexiang Guanjie Zhitong ointment, Shiduqingcapsule, Shiwei Dida capsule, Huangqi injection,Xuefu Zhuyu granule, Shenbai Shuyin washingliquid, Rupixiao tablet, Fuming tablet, Binglianear drop, Shangshi Zhitong ointment,Chuangzhuo ointment, Ershiwuwei Songshi Wan,Huachansu injection Infliximab for injection, Recombinant HumanErythropoietin injection, Human Hepatitis BImmunoglobulin, Albumin Prepared from HumanPlasma THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
The following table sets forth personal care and medical supply products we distribute, the numberof products and the major products in each category as of December 31, 2010: Approximatenumber of Implantable pacemaker, Bone plates, Penneedles, Disposable surgical mask Pearl lotion, Johnson's baby body oil,Mentholatum Mint ointment, Liushen bodypowder Yinghuang Ginseng tablet, Jinpai fish oil Feimaotui electric mosquito repellent, Veterinaryneedles, Weiyi disinfectant, Tainuo GancaoYihoushuang Value-Added Services
We distinguish ourselves as a pharmaceutical product distributor in part through the value-added
services we provide to both our suppliers and customers. Our services to customers include: (i)
assistance in setting up barcode systems to track and manage inventory; (ii) providing order-tracking
services; (iii) providing specialized logistics services, such as cold chain storage and transportation; (iv)
assistance in preparing adverse drug effect reports that are required to be submitted to applicable
government authorities; (v) providing electronic purchase orders and confirmation services; and (vi)
a 24-hour toll-free customer service hotline. In addition, we provide our suppliers with: (i) access to
valuable market data and information, such as hospitals' inventory level and destination of their
products; (ii) the ability to manage the production, delivery and inventory level of their products
through our vendor-managed inventory systems; and (iii) third party logistic services. We also use
client relationship management systems to help us efficiently resolve problems raised by suppliers or
customers as well as manage our marketing and promotional activities. Our value-added services help
our customers to increase operational efficiency and reduce inventory and fulfillment costs and other
operational expenses and at the same time enhance our ability to retain customers. In addition, our
value-added services allow our suppliers to more efficiently manage their businesses as well as to
tailor their marketing activities to target customers. These services also help us strengthen our
existing supplier and customer relationships, differentiate us from our competitors and identify new
suppliers and customers. Depending on the nature of the services and our arrangements, we may
charge our customers and suppliers for our value-added services.
Logistics Arrangements and Infrastructure
We manage our distribution logistics operations with the goal of facilitating the smooth and efficient
movement of products and minimizing our inventory holding costs. Our warehouses are managed
using advanced information management systems that control the movement and storage of
products in our warehouses and that utilize barcode or radio-frequency identification to monitor the
status of products in our logistics centers. In addition, we have established advanced cold-chain
capability in some of our logistics facilities for the storage and delivery of temperature-sensitive
products, such as vaccines. In general, products leave our warehouses within six to 12 hours of our
receipt of customer orders. We also provide emergency delivery services to hospitals located within
the relevant city area in less than two hours after order confirmation. Our Shanghai logistics facilities
have the capacity to handle large delivery volumes during emergencies and crises. During the H1N1
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virus outbreak in 2009, we successfully delivered approximately 170,000 doses of H1N1 vaccine to254 hospitals in Shanghai within four and one-half hours using our advanced cold-chain capability.
In 2008, 2009 and 2010, we did not encounter any material errors or delays in our logisticsarrangements for our pharmaceutical distribution and supply chain solutions business. In addition,we are also exploring opportunities to extend the reach of our distribution network throughcooperation with third party logistics service providers. For example, in April 2011, we entered intoan agreement with China Post Logistics Co., Ltd. ( ) to distribute pharmaceutical products through its nationwide logistics network.
The primary functions of our logistics centers are to warehouse our products and transport anddistribute them to our customers. We warehouse our products in a climate-controlled environmentuntil the receipt of customer orders. After we confirm a customer's order, we will arrange for logisticsservices and the timely delivery of the ordered products to the customer. Our logistic centers typicallyrange in size from 5,000 square meters to 20,000 square meters of gross floor area.
We also provide logistics services to our suppliers and customers in the form of value-added services.
These services help our suppliers and customers to manage their operations efficiently andcost-effectively.
Inventory Management
We manage the inventory of our pharmaceutical distribution and supply chain solutions business with
a focus on controlling our inventory holding costs, maintaining the variety of products available for
our customers and ensuring the prompt delivery of products to customers. We generally set minimum
and maximum inventory levels for each product we carry and monitor our inventory levels through
advanced information systems. In 2008, 2009 and 2010, the average inventory turnover days of our
pharmaceutical distribution and supply chain solutions business were 41.9, 38.4 and 40.8 days,
respectively.
Information System
We utilize advanced information systems in our pharmaceutical distribution and supply chain
solutions business. In particular, our business intelligence systems help us gather and analyze our
operational data, such as inventory levels and product sales information, which are valuable to us and
our suppliers. We allow our suppliers to access such information in exchange for a fee. Our client
relationship management systems receive and process customer and supplier feedback relating to our
operations, and forward such feedback to the appropriate department in our organization for
resolution. We also have established vendor-managed inventory systems through which our suppliers
can monitor the inventory levels of customers and make production and delivery plans accordingly.
Our logistics operations are managed through our enterprise resource planning systems and
warehouse management systems to ensure the efficient handling of inventory. We have successfully
integrated the various information systems of our operations in the Shanghai area, which enables us
to centralize the finance, procurement, inventory and logistics operations in that area. We are in the
process of establishing a fully integrated information system throughout our pharmaceutical
distribution and supply chain solutions business.
PHARMACEUTICAL RETAIL
We were the largest retail pharmacy network in the Eastern China Region in terms of revenue in
2009, according to the NFS Report. We operate our retail pharmacies under national or regional
premium brand names, such as "Huashi (
)" and "Leiyunshang ( )." In 2008, 2009 and 2010, our retail pharmacies business revenue totaled RMB1,413.8 million, RMB1,521.5 million andRMB1,725.5 million, respectively.
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We operate a retail pharmacy network in nine provinces, municipalities and autonomous regions inthe PRC. As of December 31, 2010, our retail pharmacy network consisted of 1,682 retail pharmacies,among which 1,187 were directly operated retail pharmacies (including 363 retail pharmacies weoperated through our jointly controlled entity, Jiangxi Nanhua) and 495 were franchise pharmacies.
We were the largest pharmacy chain in the Eastern China Region in terms of revenue in 2009,according to the NFS Report. Our typical retail pharmacy customers are urban residents living in amajor city in the PRC. The following table below sets forth the number of retail pharmacies on ournetwork by geographic region as of December 31, 2010: Eastern China Region Inner Mongolia. . . . . . . . . . .
Operated through our jointly controlled entity, Jiangxi Nanhua.
Directly Operated Stores
As of December 31, 2010, our network had 1,187 directly operated retail pharmacies. Substantiallyall of these pharmacies are located in well-developed urban residential areas and prime retaillocations in nine provinces, municipalities and autonomous regions in the PRC. In 2008, 2009 and2010, revenue from our directly operated pharmacies (other than those operated through JiangxiNanhua) was RMB1,413.8 million, RMB1,521.5 million and RMB1,725.5 million, respectively.
As of December 31, 2010, our retail pharmacy network had 495 franchise pharmacies, most of whichwere located in Shanghai and Inner Mongolia. We select favorably located independent pharmaciesto become our franchisees. As of December 31, 2010, all of our franchisees were independent thirdparties. We typically grant our franchise pharmacies the right to operate under one of our retailbrands for a franchise fee and annual management fee. Generally, our franchise agreements requirethe franchise pharmacies to source from us all the products they carry. In order to ensure that ourfranchise pharmacies comply with our policies and procedures, we have adopted various measures.
For example, we regularly inspect our franchise pharmacies to ensure that our quality standards arestrictly observed. We also use electronic management systems to control the inventory and sales atthe franchise pharmacies. In addition, we normally require a deposit from our franchisees to furtherensure that they will not violate any terms of the franchise agreements.
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Products and Services
Our retail pharmacies regularly offer over 10,000 types of products for sale. We generally aim to carry
medicines that are widely used and products that are frequently purchased by customers. Due to its
diverse product portfolio, our pharmacy retail business, as a whole, is generally not affected by the
seasonality of individual products. We sell three types of merchandise in our retail pharmacies:
prescription medicines, over-the-counter medicines and non-pharmaceutical products.
Prescription Medicines. We offer a wide variety of medicines across 22 of the 23 currently availableclasses of prescription medicines. We accept prescriptions only from physicians and other licensedhealthcare service providers. Our in-store pharmacists verify the validity, accuracy and completenessof all prescription orders. Our pharmacists also perform a drug utilization review in which theycross-check every prescription against the customer's submitted information for drug, disease andallergy interactions.
Over-the-Counter Medicines. We offer 62 classes of over-the-counter medicines for treatment ofcommon diseases as well as 36 classes of modern Chinese medicines.
Non-Pharmaceutical Products. We offer 152 types of personal healthcare products, including a varietyof healthcare supplements, vitamins, minerals and dietary products, skin care products, hair growthproducts, beauty products and cosmetics.
We seek to introduce new products and services to meet changing customer preferences and todifferentiate us from our competitors. In addition to our core pharmacy business, we are exploringadditional products and services, such as providing traditional Chinese medicine diagnosis in ourpharmacies that are specialized in Chinese medicines, on-line ordering and prescription fillingservices, remote medical diagnosis through video conferencing, cosmetics with therapeutic effectsand specialized convenience stores that carry medicines and other consumable products.
We purchase our retail merchandise primarily from various third party manufacturers and distributors,as well as to a lesser extent from our own pharmaceutical business and pharmaceutical distributionand supply chain solutions business.
We believe that alternative suppliers or alternative products are readily available for substantially allof the products we carry, and the loss of any one supplier would not have a material effect on ouroperations. Although we generally do not have long-term agreements with our major suppliers, wehave not experienced significant difficulty in maintaining reliable sources of supply, and we generallyexpect to be able to maintain adequate sources of supplies of pharmaceutical and other products soldin our retail pharmacies.
Marketing and Promotion
Our retail pharmacies marketing department is primarily responsible for developing marketing and
promotional activities for our retail pharmacies, such as advertisements, promotional programs, store
design, interior layout and shelf display. In particular, we run advertisements periodically to promote
our brand and corporate image through mass media. We also have joint promotional programs with
our product suppliers and manufacturers, which may include gift promotions, discounts and rebates.
We believe that through our marketing and promotional activities we have increased public
awareness of our retail brands and reputation, which in turn has the effect of increasing our revenue
and profitability.
Inventory Management
We manage our inventory to minimize holding costs, ensure timely delivery of merchandise and
maintain a variety of merchandise in our retail pharmacies. We establish an inventory management
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target every year by reviewing our performance for past years and taking into consideration our dataprojections and market demographics. We also perform monthly and ad hoc inventory counts in ourpharmacies and warehouses, as well as perform daily inventory counts in our pharmacies forexpensive merchandise. We monitor the shelf life of our pharmaceutical products by conducting aperiodic review. We utilize the data compiled to generate a monthly inventory analysis report, whichis used to assess our inventory control measures and costs. Furthermore, we require that our storemanagers follow up on any inventory discrepancies discovered during each inventory count andreport such results to the relevant operating subsidiaries.
RECENT SIGNIFICANT ACQUISITIONS
In April 2011, we acquired the entire equity interest of CHS for an aggregate consideration in cashof approximately RMB3,569.0 million. CHS is a holding company, whose main asset is itswholly-owned subsidiary CITIC Pharma, a leading pharmaceutical distributor in Beijing in terms ofrevenue in 2009. The addition of CITIC Pharma will significantly expand our operations and marketshare in the Northern China Region.
CITIC Pharma was the eighteenth largest distributor of pharmaceutical and healthcare products in thePRC in terms of revenue in 2009, according to CAPC. As of December 31, 2010, CITIC Pharmadistributed over 5,000 types of pharmaceutical and healthcare products, a majority of which werehigh-end pharmaceutical products, primarily comprising of imported medicines and thosemanufactured by subsidiaries of international pharmaceutical companies in the PRC. It distributesproducts to over 400 hospitals, including all Class III hospitals and 103 Class II hospitals in Beijing. In2010, CITIC Pharma's direct sales to hospitals accounted for approximately 51% of its revenue. CITICPharma also distributes a selected portfolio of imported vaccines, as well as medical devices frominternational medical devices manufacturers or their subsidiaries in the PRC. CITIC Pharma conductsits pharmaceutical distribution operations through nine warehouses located in Beijing, Nanjing,Shanghai, Hangzhou, Henan and Hainan. The primary functions of the warehouses are to process andstore the products received from suppliers and to distribute the products ordered by customers. Aspart of its pharmaceutical, vaccines and medical devices distribution operations, CITIC Pharma offersa broad range of logistics and value-added services to its customers, such as import services, thirdparty logistics services and information technology solutions.
In 2008, 2009 and 2010, CHS's revenue was RMB3,214.4 million, RMB4,343.4 million andRMB6,111.9 million, respectively, and its profit after taxation was RMB71.4 million, RMB93.6 millionand RMB131.7 million, respectively, in the same periods.
The Antibiotics Business
In December 2010, we entered into an agreement to acquire from Shanghai Pharmaceutical (Group)the Antibiotics Business, comprising 96.9% of the equity interest of Shanghai New Asiatic and 100%of the equity interest of Shanghai Huakang, for an aggregate consideration in cash of approximatelyRMB1,487.8 million. We expect to complete the acquisition of the Antibiotics Business in the first halfof 2011. The number of our major products will expand from 53 to 59 upon completion of theAntibiotics Business acquisition.
Shanghai New Asiatic is primarily engaged in manufacturing and selling antibiotics and otherpharmaceutical products. As of December 31, 2010, Shanghai New Asiatic manufactured andmarketed over 66 pharmaceutical products. Its major products include Benazepril Hydrochloridetablets, Ceftriaxone Sodium for injection, Cefotaxime Sodium for injection, Diphosphate for injection, THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
Ceftazidime for injection and Cefixime, all of which will become our major products upon completionof the acquisition. In 2010, these major products collectively generated revenue of RMB491.9 million.
See "— Pharmaceutical Business — Product Portfolio — Chemical Drugs" for details of theseproducts. Shanghai Huakang is a distributor of pharmaceutical products primarily covering theShanghai area.
In 2008, 2009 and 2010, the combined revenue generated by the Antibiotics Business wasRMB1,657.7 million, RMB1,621.9 million and RMB1,414.1 million, respectively, and the combinedprofit after taxation of the Antibiotics Business was RMB112.9 million, RMB108.7 million andRMB88.4 million, respectively, in the same periods.
PROPOSED COLLABORATIONS WITH PFIZER
In April 2011, we and Pfizer Inc. ("Pfizer"), a leading global pharmaceutical company, entered into
a non-binding memorandum of understanding ("MOU") for potential collaborations in a number of
areas in the PRC, including the registration, commercialization and distribution in the PRC of an
innovative urology drug developed by Pfizer. The parties also plan to explore other potential areas of
collaboration, such as drug research and development, distribution arrangements and potential
equity investment opportunities. In addition, the parties expect to strengthen their existing
cooperation for promotion in lower-tier cities in PRC of Pfizer's Prevenar (7-valent), a pneumococcal
conjugate vaccine, approved for use in the PRC for the prevention of pneumococcal disease in
children. The parties intend to negotiate the terms and conditions of these arrangements and enter
into definitive agreements in the six months following the signing of the MOU. Neither Pfizer nor we
are obligated to enter into any agreement regarding these matters, and we cannot assure you that
we will reach any agreements with Pfizer within the anticipated timeframe or at all, or that the
proposed collaborations will achieve the intended results.
CUSTOMERS
In 2008, 2009 and 2010, revenue from our five largest customers in the corresponding periods in
aggregate accounted for 5.6%, 5.9% and 5.1% of our revenue, respectively. In the same periods,
revenue from our largest customer accounted for 1.4%, 1.4% and 1.2% of our revenue, respectively.
None of our Directors, Supervisors, their respective Associates or Shanghai Pharmaceutical (Group),Shanghai Shengrui or Shanghai Shangshi (the only Shareholders of the Company, which, to theknowledge of the Directors, directly or indirectly own more than 5% of our share capital) or theirrespective Associates has any interest in any of the above-mentioned customers.
Our trade receivables to third parties mainly represent the credit sales of our products to be paid byour customers and consist of accounts receivable and notes receivable. As of December 31, 2008,2009 and 2010, our gross trade receivables from third parties were RMB5,152.9 million, RMB5,756.2million and RMB7,739.7 million, respectively. We monitor the recoverability of our overdue tradereceivables on a regular basis and, when appropriate, provide for impairment of such receivables. Asat December 31, 2008, 2009 and 2010, our provision for doubtful trade receivables was RMB566.4million, RMB608.0 million and RMB613.5 million, respectively. For further details of our provisioningpolicy for trade receivables and the amount of our provisions, please see the sections headed"Financial Information — Critical Accounting Policies — Impairment of Receivables" and "FinancialInformation — Liquidity and Capital Resources — Working capital — Trade and Other Receivables —Trade Receivables from Third Parties." SUPPLIERS
In 2008, 2009 and 2010, our purchases from our five largest external suppliers in the corresponding
periods in aggregate, accounted for 7.7%, 8.4% and 9.1% of our total cost of sales, respectively. In
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addition, purchases from our single largest external supplier accounted for 2.5%, 2.6% and 2.6%,respectively, of our total cost of sales in the same periods.
None of our Directors, Supervisors, their respective Associates or Shanghai Pharmaceutical (Group),Shanghai Shengrui or Shanghai Shangshi (the only Shareholders of the Company, which, to theknowledge of the Directors, directly or indirectly own more than 5% of our share capital) or theirrespective Associates has any interest in any of the above-mentioned suppliers.
INTELLECTUAL PROPERTY
We recognize the importance of intellectual property rights to our business and are committed to
their development and protection. We rely on a combination of patents, trademarks and trade
secrets, as well as employee and third party confidentiality agreements, to safeguard our intellectual
property.
We own and have applied for patents to protect the technologies, inventions and improvements thatwe believe are significant to our business. As of December 31, 2010, we have 319 patents.
As of December 31, 2010, the remaining protection periods for our patents range from two to 18years. Generally, a patent holder enjoys the exclusive right to exclude others from using, licensing andotherwise exploiting the patent in the country that issued the relevant patent. However, there is noassurance that our patents will not be challenged, which could be costly to defend and could divertour management from their normal responsibilities. In May 2009, our invention patent relating to aginkgoleaf compound and its preparation method was declared invalid by the SIPO. We filed anappeal with a court in Beijing. In October 2010, the court ruled in our favor and declared ourinvention patent to be valid. The SIPO is in the process of appealing this decision. In another instance,a third party individual filed a lawsuit in a PRC court in 2006 challenging our ownership of aninvention patent relating to a genetically engineered adenovirus and its application. The court ruledadversely against us in November 2010 by determining that the third party individual was theinventor and owner of that patent. We are currently in the process of appealing this decision. OurPRC legal counsel, Grandall Legal Group, has advised us that we are not subject to any monetaryliabilities to the other parties with respect to these two legal proceedings because they are disputesover ownership of patent rights. We have commenced the production and sale of both the ginkgoleafcompound and the genetically engineered adenovirus. In 2008, 2009 and 2010, revenue generatedfrom these two products totaled RMB5.0 million, RMB3.0 million and RMB3.9 million, respectively.
Due to the limited production scale of these two products, we do not believe that the outcome ofthe legal proceedings challenging our patents relating to these products will have any materialadverse impact on our business, financial conditions or results of operations. We are not aware of anyother pending claims or challenges against us relating to intellectual property rights. See "RiskFactors — Risks Relating to Our Business Operations — If we are unable to protect our intellectualproperty, such as our technology and manufacturing know-how, our business, financial condition andresults of operations could be materially and adversely affected." We also rely on trademarks to protect our non-patented products. As of December 31, 2010, wemaintained 806 trademark registrations in the PRC. Under applicable PRC law, we have the exclusiveright to use a trademark for products and services for which such trademark has been registered withthe Trademark Office. Trademark registration in the PRC is valid for 10 years, starting from the daythe registration is approved. If we believe that a third party has infringed upon the exclusive right ofour registered trademark, we may, through appropriate administrative and civil procedures, instituteproceedings to request an injunction from the relevant authority or resolution of the infringementthrough consultation. The relevant authority could also impose fines, or confiscate or destroy theinfringing products or equipment used to manufacture the infringing products.
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We own a number of trademarks that are recognized as Well-known Trademarks, including "Sine ( )," "Huqingyutang ( )" and "Cangsong ( committed to increasing and enforcing our trademark rights, which are critical to our overall brandingstrategy and reputation.
Some elements of our pharmaceutical composition, formulation and delivery, as well asmanufacturing methods or processes, involve unpatented, proprietary technology, processes,know-how or data. With respect to such proprietary know-how that is not patentable and processesfor which patents are difficult to enforce, we rely on trade secret protection and confidentialityagreements in order to safeguard our interests. All of our research and development personnel haveentered into confidentiality, non-competition and proprietary information agreements with us. Theseagreements require such employees to assign to us all of their inventions, designs and technologiesthat they may develop during their periods of employment with us.
In addition to protecting our own intellectual property, our success also depends on our ability tominimize the risk that any of our products or operations infringes the intellectual property rights ofothers. As a general matter, we follow a procedure under which our internal research anddevelopment staff and external patent agent or legal advisors conduct a patent clearance search foreach product at the beginning of the product development process, and product development is onlyapproved if the conclusion is that the proposed product would not infringe any third party intellectualproperty rights discovered in our searches. We believe that the risk of infringing third partyintellectual property rights could be effectively reduced by our rigorous adherence to theseprocedures. Even with our internal control procedures, the risk of infringing third party intellectualproperty rights cannot be eliminated entirely. See "Risk Factors — Risks Relating to Our BusinessOperations — If our products infringe on the intellectual property rights of third parties, we may incursubstantial liabilities, and we may be unable to sell these products." COMPETITION
The pharmaceutical manufacturing, distribution and retail industries are highly competitive. We
compete with domestic and foreign competitors, which vary widely by region and size of operations.
Pharmaceutical Business
According to the NFS Report, there were over 5,300 pharmaceutical manufacturers in the PRC at the
end of 2009. Our pharmaceutical business competes directly with manufacturers engaged in
producing the same type of pharmaceutical products and indirectly with pharmaceutical
manufacturers producing products with similar therapeutic effects, which can be used as substitutes
to our products. We will also face competition when we expand into other markets, and new
competitors may emerge in our existing markets. Our competitors vary by product and, in certain
cases, different competitors may have greater or lesser market shares by region in the PRC. Our major
competitors in the pharmaceutical business are large PRC pharmaceutical companies, such as Harbin
Pharmaceutical Group Co., Ltd. and Shijiazhuang Pharmaceutical Group Co., Ltd.
The pharmaceutical industry is characterized by rapid product development and technologicalchanges. We believe we compete with other pharmaceutical manufacturers in the PRC based on ourproduct portfolio, product efficacy, safety, reliability and availability, research and developmentcapability and sales and marketing ability. According to the NFS Report, we were the third largestpharmaceutical manufacturer in the PRC at the end of 2009. As of December 31, 2010, we had over950 pharmaceutical products in production. We believe we are capable of adapting to changingmarket demand for pharmaceutical products. We have been manufacturing our products inaccordance with national GMP standards and follow our stringent quality control procedures toachieve high-quality. We conduct advanced pharmaceutical research and development to both THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
improve our existing products and introduce new products. Finally, our sales and marketing teamswork with pharmaceutical distributors nationwide, including our own distribution operations. Weplan to further integrate our pharmaceutical business and our pharmaceutical distribution and supplychain solutions business so that our pharmaceutical business may benefit from the extensive networkof our distribution operations.
Pharmaceutical Distribution
We face intense competition in the distribution of pharmaceutical and healthcare products in the
PRC. According to the NFS Report, the pharmaceutical distribution market in the PRC is highly
fragmented, consisting of more than 10,000 distributors as of December 31, 2009. In 2009, the three
largest distributors in the PRC accounted for 20.9% of the PRC market in terms of total
pharmaceutical distribution revenue, according to the NFS Report. According to the NFS Report, our
market share, measured as a percentage of the total revenue of pharmaceutical distributors in the
PRC, was 4.6% in 2009.
We were the largest pharmaceutical product distributor in the Eastern China Region in 2009, and weface competition primarily from large national and regional pharmaceutical product distributorsoperating in the region, such as Sinopharm Group Co., Ltd., Jointown Pharmaceutical Group., Ltd.
and China Resources Medications Group Limited. We compete with our competitors on the basis ofdepth of distribution network, type of customer served, breadth of product portfolio, logistics andvalue-added services programs and governmental affairs. We specialize in serving hospital customersand have built an extensive network of hospital customers in the Eastern China Region. Throughworking with local government authorities, we have substantially increased our market share amongthe community hospitals in Shanghai, and we plan to expand our success to other parts of the regionand beyond. We seek to further differentiate ourselves from our competitors by the breadth of ourproduct portfolio. In addition, we provide sophisticated logistics and value-added services to attractcustomers and suppliers.
We seek to expand our pharmaceutical distribution and supply chain solutions business nationally,primarily through acquisitions of, and partnerships with, leading pharmaceutical product distributorsin other parts of the PRC. We also explore opportunities to extend the reach of our distributionnetwork through cooperation with other logistics service providers, such as China Post Logistics Co.,Ltd. ( ). As we enter into new markets, we will face competition from existing distributors in those markets. These competitors have introduced successful business models andadvanced logistics and information management systems, which may lead to increased directcompetition.
Regardless of the degree or type of competition, we must continue to explore new customerrelationships and business opportunities and further serve our existing customers by providing acomprehensive product portfolio, maintaining efficient inventory controls, offering flexible andreliable services and providing competitive pricing to remain competitive.
Pharmaceutical Retail
According to the NFS Report, there were approximately 387,870 retail pharmacies in the PRC in 2009.
We compete with certain regional and local retail pharmaceutical chains, as well as independent
pharmacies, supermarket and convenience chains, discount merchandisers, mail order prescription
providers, membership clubs and Internet pharmacies. Our major competitors in the pharmaceutical
retail business include Sinopharm Group Co., Ltd. and China Nepstar Chain Drugstore Ltd.
We compete principally on the basis of store location and convenience, particularly in Shanghai,professionally trained staff, stringent management and our brand name. We believe that thecontinued consolidation of the pharmaceutical retail market and continued new store openings by THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
chain store operators will further increase competitive pressures in this market. Although thegeographical dispersion of our retail pharmacies enables us to offset the impact of competitiveconditions in individual markets, we believe that more new store openings in certain of our existingmarkets may intensify competition. Moreover, local regulations in certain cities may prohibit theopening of new retail pharmacies within certain distances of an existing store, and where competitorshave occupied many prime locations, we expect to face additional competition in terms of findingsuitable new store locations if we expand in these cities.
In light of increasing competition, we seek to continue expanding our competitive advantages,including further enhancing our cross-segment integration to achieve the benefits offered by ourvertically integrated business model.
QUALITY CONTROL
We maintain a highly stringent quality control system and devote significant attention to quality
control for our pharmaceutical, pharmaceutical distribution and supply chain solutions and
pharmaceutical retail businesses. We have established a comprehensive quality control system that
provides quality standards and operating procedures covering every stage of the pharmaceutical
value chain, from research and development to manufacturing, distribution and retail. Our
comprehensive quality control system is designed according to the GMP and GSP requirements and
with reference to certain standards recommended by the International Conference on Harmonization
of Technical Requirements for Registration of Pharmaceuticals for Human Use. Our quality control
system fully implements the procedures for periodic quality control audit, quality risk management
and error correction and prevention. Our senior management is also actively involved in setting
quality policies and improving quality control standards.
Pharmaceutical Business
In our pharmaceutical business, we have established quality control systems in accordance with the
relevant PRC laws, rules and regulations. Our quality and safety standards include many features not
required or specified in the PRC GMP standards, such as a quality control manual that sets forth
requirements for management commitments to quality control targets and a comprehensive quality
control system with procedures for quality inspection and audit. Our quality control measures cover
all aspects of our pharmaceutical operations, including research and development, design and
construction of manufacturing plants and facilities, the installation and maintenance of
manufacturing equipment, procurement of raw materials and packaging materials, quality checks of
raw materials, work-in-progress and finished products, monitoring adverse drug reactions and
verification of documentation to comply with GMP standards and requirements. In addition, we have
established a product quality laboratory at our Central Research Institute that is primarily responsible
for identifying and resolving potential product quality issues before we commence the manufacturing
of a product.
As a result, we have not experienced any material safety problems concerning our products asreported by our customers or relevant government authorities or any material product liability or legalclaims due to the quality of our pharmaceutical products, and have not been subject to any adversefindings in any investigation or audit by any government authority in 2008, 2009 and 2010.
Pharmaceutical Distribution and Supply Chain Solutions
In our pharmaceutical distribution and supply chain solutions business, we fully comply with all
relevant PRC laws, rules and regulations to ensure the quality of our operations. Furthermore, we only
use suppliers that have excellent credentials and product quality track records. Our quality control
department at our head office and quality inspectors at our distribution subsidiaries are responsible
for implementing quality control measures in our pharmaceutical distribution operations. We also
have climate-controlled warehouses to maintain suitable storage conditions for the quality and safety
of pharmaceutical products.
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We provide a pharmaceutical product examination report for our different pharmaceutical products.
We also provide "imported pharmaceutical product examination reports" and "importedpharmaceutical product certifications" for imported pharmaceutical products. When we receiveproducts for distribution, we conduct spot inspections to examine these products in accordance withtheir pharmaceutical product examination reports. If the pharmaceutical products are qualified andhave complete reports, we will store them in our warehouse for distribution. If such products do notpass the examination, or if the reports are incomplete, we will notify the supplier immediately withoutstoring the products in our warehouse.
In addition, certain specialty medicines are stored separately in controlled settings and overseen byspecially trained personnel. In order to comply with certain SFDA requirements, two specially trainedpersonnel generally escort the transport of such medicine. Expired medicine is stored in separatewarehouses, and we immediately notify the relevant personnel to initiate the destruction procedures.
Expired medicine is generally disposed of in two ways: (i) we return such medicine to where itoriginated; or (ii) we are given authorization to immediately destroy it in a controlled environment.
Pharmaceutical Retail
In our pharmaceutical retail business, our quality control starts with the procurement process. In
particular, we screen GMP-certified manufacturers in the PRC and select a core group of suppliers to
supply our products after reviewing their product selection and quality, manufacturing, packaging,
transportation and storage capabilities, as well as cost competitiveness. We conduct spot quality
inspections of each batch of products we receive, and promptly replace our suppliers if they fail to
pass our quality inspections. Since we maintain an extensive network of suppliers and standby
suppliers, we do not believe that we will incur any material interruption to our business and
operations if we choose to discontinue our relationships with certain suppliers due to their
unsatisfactory quality control records.
We place strong emphasis on the quality of the services rendered by our employees at all levels,including in-store pharmacists and store staff who directly interact with our customers. We regularlydispatch quality control inspectors to our pharmacies to monitor the service quality of our staff. Wealso take into account the feedback received during these inspections when determining employeepromotions or bonuses. In 2008, 2009 and 2010, we had not experienced any claim, litigation orarbitration or material adverse findings in investigations or audits by government authorities withrespect to product liability, personal injury, wrongful death or negligent advice by our in-storepharmacists.
OCCUPATIONAL HEALTH AND SAFETY
The PRC government imposes a number of regulatory requirements on pharmaceutical companies
with regard to employee safety. See "Regulation — Occupational Health and Safety" for a discussion
of these requirements. We regard occupational health and safety as one of our important social
responsibilities and have implemented safety measures at our production facilities to ensure
compliance with applicable regulatory requirements. In particular, each of our operating business
entities has established its designated safety supervision team to oversee the implementation of the
safety measures of that entity. We also maintain a safety inspection team at each entity. These safety
supervision teams conduct periodic inspections of operating facilities to ensure that our
pharmaceutical, pharmaceutical distribution and supply chain solutions and pharmaceutical retail
operations are in compliance with existing laws, rules and regulations. We believe that safety
practices are the only means to ensure employee safety, and our safety function conducts regular
safety training sessions for employees, including accident prevention and management.
We have also adopted a safe production development and accident prevention implementationpolicy, which provides comprehensive guidelines on occupational health and safety. Among other THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
things, the policy: (i) identifies the personnel and department responsible for accident prevention; (ii)details each employee's responsibility to prevent accidents and promote safety awareness; and (iii)requires safety performance reports on a regular basis.
We conduct periodic inspections of our logistics centers to ensure that our logistics operations complywith existing PRC laws, rules and regulations. We also conduct regular training sessions foremployees on accident prevention and management. We have adopted combustible air detection andexplosion-proof electrical equipment to minimize the risk of injury at our logistics centers,manufacturing facilities, warehouses and laboratories. Some of the products and chemicals wedistribute or manufacture are inherently dangerous, and we have adopted strict policies inaccordance with relevant national standards when handling such products.
However, some of our business operations involve certain risks and hazards that are inherent in suchactivities and may not be completely eliminated by safety measures. These risks and hazards couldresult in damage to, or destruction of, properties or facilities, personal injury, environmental damage,business interruption and possible legal liability. See "Risk Factors — Risks Relating to Our BusinessOperations — Our business operations may be materially and adversely affected by present or futureenvironmental regulations or enforcement and we deal with potentially hazardous materials that maycause environmental contamination or injury to others." ENVIRONMENTAL MATTERS
Our pharmaceutical distribution and retail operations are primarily governed by general
environmental protection laws and related regulations. We must comply with relevant provisions
governing environmental protection and appraisal of environmental impact, as well as national and
provincial standards of environmental quality established by various government authorities. For
example, with respect to the development projects of our logistics centers, we are required to carry
out an environmental impact assessment and submit these assessment documents to relevant
competent authorities for approval before we commence construction of these projects.
Our pharmaceutical manufacturing operations are governed by national, provincial and localenvironmental laws, rules and regulations. The relevant laws, rules and regulations applicable topharmaceutical manufacturers in the PRC include provisions governing air emissions, waterdischarge, prevention and treatment of sewage and exhaust fumes and the management anddisposal of hazardous substances and waste. Manufacturers are also required to conduct anenvironmental impact assessment before engaging in new construction projects to ensure that theproduction processes meet the required environmental standards to treat wastes before the wastesare discharged. The primary wastes generated from our pharmaceutical manufacturing processes areair emissions, waste water, alcohol and organic waste, which are generated in compliance with allapplicable environmental laws, rules and regulations. Furthermore, PRC national and localenvironmental protection laws, rules and regulations impose fees for the discharge of pollutants and,in cases where the pollutants have not been properly treated, fines for such discharge. The relevantenvironmental laws, rules and regulations empower certain governmental authorities to shut downany enterprise that violates such laws, rules and regulations through the discharge of pollutants. See"Risk Factors — Risks Relating to Our Business Operations — Our business operations may bematerially and adversely affected by present or future environmental regulations or enforcement andwe deal with potentially hazardous materials that may cause environmental contamination or injuryto others." In 2008, 2009 and 2010, we carried out the relevant environmental impact assessments beforecommencing construction of our manufacturing facilities and have obtained all the required permitsand environmental approvals for our manufacturing facilities. To ensure compliance with relevant THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
laws, rules and regulations on pollution control, we have established wastewater treatment andwaste management facilities at our pharmaceutical production sites. Our production facilities havecomplied with all relevant environmental and manufacturing standards required by the GMPcertification system. In addition, certain of our manufacturing subsidiaries have also obtainedISO14001 certification for their environmental management systems from the Universal CertificationService Co., Ltd., an organization authorized to issue quality control certification, such as ISOcertifications. We incurred costs of RMB30.2 million, RMB6.9 million and RMB8.2 million in 2008,2009 and 2010, respectively, to comply with relevant environmental protection laws, rules andregulation.
We believe we are currently in compliance in all material respects with applicable national, provincialand municipal environmental laws, rules and regulations, and we have obtained all the relevantgovernment approvals in relation to our operations. From January 1, 2008 and up to the LatestPracticable Date, we had no major incident and had not been the subject of any materialenvironmental complaint with respect to environmental violations.
We are not aware of any pending litigation or significant financial obligations arising from our currentor past environmental practices that are likely to have a material adverse effect on our financialposition. However, we cannot predict the impact that unforeseeable environmental contingencies ornew or amended laws, rules or regulations may have on us or our production facilities. In this regard,as PRC environmental compliance requirements continue to evolve, we may be required to makesignificant expenditures in order to comply with environmental laws, rules and regulations that maybe adopted or imposed in the future. We are also not able to predict our annual cost of compliancewith respect to the environmental laws, rules and regulations that may be adopted or imposed in thefuture. For further information on the environmental laws, rules and regulations governing ouroperations, see "Regulation — Environmental Protection." Our plans to address potential environmental laws, rules and regulations that may be adopted in thefuture comprise the following: (i) designating our legal and industrial departments to oversee andmaintain our compliance with environmental protection policies; (ii) providing annual training to ourstaff regarding compliance with PRC environmental laws, rules and regulations, and more frequenttraining, as required upon adoption of new environmental laws, rules and regulations, andencouraging our staff to also attend environmental protection training sessions organized by the localenvironmental protection authorities; (iii) conducting weekly on-site inspections of our facilities; (iv)immediately reporting to our general manager any violation of PRC environmental protection laws,rules and regulations; and (v) immediately reporting to and coordinating with the applicable PRCregulatory authorities in the event of environmental violations.
INSURANCE
We maintain property insurance policies covering our inventories, equipment and facilities in
accordance with customary industry practice. We do not maintain product liability insurance or
insurance covering potential liability relating to the release of hazardous materials, as we believe
maintaining product liability insurance for pharmaceutical products and insurance relating to the
release of hazardous materials is not a common industry practice in the PRC. Furthermore, we do not
maintain business interruption insurance or key-employee insurance for our Directors, as we believe
it is not the normal industry practice in the PRC to maintain such insurance. We carry occupational
injury, medical, pension, maternity and unemployment insurance for our employees, in compliance
with applicable regulations. We consider our current insurance coverage to be adequate. However,
we will continue to review and assess our risk portfolio and make necessary and appropriate
adjustments to our insurance practices to align with our needs and with industry practice in the PRC.
Head Office
Our headquarter is at No. 200 Taicang Road, Shanghai, PRC.
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Buildings and Units
As of February 28, 2011, we owned 1,386 buildings and units with an aggregate gross floor area of
1,389,383 square meters, substantially all of which were located in the PRC. Among these properties,
an aggregate gross floor area of 652,322 square meters are used for industrial purposes, an
aggregate gross floor area of 228,128 square meters are used for offices, an aggregate gross floor
area of 243,347 square meters are used for storage and an aggregate gross floor area of 265,587
square meters are used for commercial and other purposes.
We have obtained the relevant title certificates for most of the buildings and units occupied and usedby us in the PRC. In particular: We have obtained all the relevant title certificates for the land use rights and building ownership for1,076 buildings and units with an aggregate gross floor area of 1,076,079 square meters. Amongthese properties: 36 buildings and units with an aggregate gross floor area of 44,040 square meters are built oncollectively-owned land. We have obtained all approvals to use such collectively-owned land.
However, we are not entitled to transfer, lease, mortgage or otherwise dispose of thecollectively-owned land or the buildings erected thereon until we obtain approvals from therelevant government authorities and pay additional premium or land appreciation yields for therelevant collectively-owned land.
344 buildings and units with an aggregate gross floor area of 333,505 square meters are builton land that has been allocated to us by government authorities. Our PRC legal counsel,Grandall Legal Group, has advised us that we are entitled to occupy and use such land andconstruct buildings thereon. However, we may not transfer, lease, mortgage or otherwisedispose of government-allocated land or the buildings thereon unless we obtain approvals fromthe relevant government authorities and pay additional premium or land appreciation yields forthe relevant government-allocated land. Among these properties, 185 buildings and units withan aggregate gross floor area of 167,193 square meters are located on land that has been listedon government planning policies as reserved land. Our PRC counsel, Grandall Legal Group, hasadvised us that we are not allowed to transfer, lease, mortgage or otherwise dispose of suchreserved land or the building and units thereon. Pursuant to the agreements we entered intowith the relevant government authorities, we would be granted land use rights of an aggregategross floor area equaling such reserved land when we vacate and return the relevant reservedland to the government. We agreed to return the land to the government by December 2012.
63 buildings and units with an aggregate gross floor area of 62,873 square meters are locatedon land we leased from third parties.
a small number of buildings and units beneficially owned by our Company are currentlyregistered under the names of certain third party minority shareholders of our subsidiaries.
These third party shareholders transferred the ownership of the buildings and units to therelevant subsidiaries as capital contributions. However, the relevant registration process was notcompleted. Our PRC legal counsel, Grandall Legal Group, has advised us that the application forchange of the registered names to our relevant subsidiaries is an administrative matter and thereis no legal impediment to proceed such process. We currently plan to dispose of these buildingsand units. We are in the course of negotiating the sale of some of these properties and thedisposal of our interest in the subsidiary that holds other such properties.
We have not obtained the relevant building ownership certificates for 253 other buildings and unitswith an aggregate gross floor area of 287,897 square meters, representing 20.7% of the total floorarea of the buildings and units occupied and used by us as of February 28, 2011. These properties THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
are primarily used for industrial purposes. Eleven of these 253 buildings and units are located ongranted land with land use rights certificates or land use approvals and construction certificates orapprovals, and we are in the process of obtaining the relevant building ownership certificates. Withrespect to 101 of these buildings and units, we have not obtained the relevant building ownershipcertificates due to the lack of relevant construction certificates or approvals. For the remaining 141buildings and units, we have not obtained the relevant building ownership certificates due to the lackof relevant land use rights certificates and construction certificates or approvals. Our PRC legalcounsel, Grandall Legal Group, has advised us that, with respect of these 253 buildings and units, wemay be ordered to dismantle such properties and may also be subject to fines equaling up to 10%of the construction cost. In addition, among those for which we have obtained the relevant buildingownership certificates, 57 buildings and units with an aggregate gross floor area of 25,406 squaremeters, representing 1.8% of the total floor area of the buildings and units occupied and used by usas of February 28, 2011, are without relevant land use right certificates. These properties are primarilyused for commercial purposes. According to our PRC legal counsel, Grandall Legal Group, we may nottransfer, lease, mortgage or otherwise dispose of these 310 buildings and units until we obtainapprovals from relevant authorities, pay the land transfer premium and other related fees for suchland use rights and complete the registration process.
We believe that such properties are not crucial to our operations and the lack of the title certificatesdoes not and will not have a material adverse effect on our business, results of operations andfinancial condition because the defective properties represent a small portion of the total value of ourproperties and we believe we can, if necessary, relocate to alternative premises without materiallyaffecting our operations. We plan to take a number of remedial actions for these properties, includingapplying for the relevant title certifications and disposing of some properties and relocating thefacilities and personnel on such properties to alternative premises. In addition, we have reachedagreements with local governmental authorities regarding the relocation of our business on 20 ofsuch properties with an aggregate gross floor area of 5,265 square meters located on land listed ingovernment planning policies as reserved land. Shanghai Pharmaceutical (Group), a ControllingShareholder, has agreed to indemnify us against any losses or damages we may suffer as a result ofany deficiency in the land use rights or building ownership titles of these properties.
We have obtained all the relevant title certificates for our buildings and units located outside the PRC.
Properties under Construction
As of February 28, 2011, we had 16 buildings and units that were under construction, with an
aggregate planned gross floor area of 47,348 square meters. We anticipate using these buildings
mainly for production, storage and other logistics purposes. Among these properties under
construction, we have not obtained the relevant construction certificates for 12 buildings and units
with an aggregate gross floor area of 16,772 square meters. We are not aware of any material safety
concerns regarding these buildings and units. Our PRC legal counsel, Grandall Legal Group, has
advised us that, with respect to these properties under construction, we may be ordered to cease or
dismantle the constructions and may also be subject to fines of up to 10% of the construction cost.
Leased Properties
As of February 28, 2011, we leased 815 buildings and units with an aggregate lettable area of
445,692 square meters in the PRC from third parties. Our leased properties are used for storage
commercial, production office and residential purposes.
Among these leased buildings and units, the lessors of 446 buildings and units, representing anaggregate lettable area of 373,889 square meters, held the relevant building ownerships or haveregistered the lease agreements with the relevant PRC authorities. For the other 369 buildings and THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
units, representing an aggregate lettable area of 71,802 square meters, the lessors have not providedus with the relevant building ownership certificates. The lessors of six of these 369 leased buildingsand units, with an aggregate lettable area of 7,957 square meters, have undertaken to indemnify usfor losses arising from their defective legal titles or other rights to such buildings and units. Our PRClegal counsel, Grandall Legal Group, is of the view that most of these buildings and units leased byus can, if necessary, be replaced by other comparable alternative premises in relevant regions withoutany material adverse effect on our operations or financial condition.
Property Valuation
Jones Lang LaSalle Sallmanns has valued properties owned by us as of February 28, 2011 at
RMB3,381.7 million, with RMB2,433.1 million attributable to our Company. The text of the letter and
the valuation certificates issued by Jones Lang LaSalle Sallmanns are set out in the valuation report
set forth in Appendix VI to this Document.
EMPLOYEES
As of December 31, 2008, 2009 and 2010, we had 31,856, 30,190 and 31,493 full-time employees,
respectively. The table below sets forth a breakdown of our employees by function as of December
31, 2010:
Research and development, technical support and quality Management, finance and administrative . . . . . . . .
Others include office support staff, office security staff and drivers.
We have implemented a number of initiatives in recent years to enhance the productivity of ouremployees, which we hire through a competitive process. In particular, we conduct periodicperformance reviews for our employees, and their salaries and bonuses are performance based. Inaddition, we have implemented training programs for various positions. We believe that theseinitiatives have increased employee productivity.
The remuneration package for our employees generally includes salary and bonuses. Employees alsoreceive welfare benefits, including medical care, housing subsidies, pension, occupational injuryinsurance and other miscellaneous benefits. As required by applicable PRC regulations, we participatein various employee benefit plans that are organized by municipal and provincial governments,including housing funds, pension, medical, maternity and unemployment benefit plans. Furthermore,we are required under PRC law to make contributions to the employee benefit plans at specifiedpercentages of the salaries, bonuses and certain allowances of our employees, up to a maximumamount specified by the respective local government authorities where we operate our businessesfrom time to time. Members of the retirement plan are entitled to a pension equal to a fixedproportion of the salary prevailing at the member's retirement date. We also provide post-employment benefits to certain of our retired employees.
The total amount of our employee benefit expenses in 2008, 2009 and 2010 were RMB1,521.3million, RMB1,569.5 million and RMB1,628.3 million, respectively.
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As of the date of this Document, all members of our work force are employed under employmentcontracts which specify the employee's position, responsibilities, remuneration and grounds fortermination. All employees who are unable to work due to illness or disability are entitled to receivecertain benefits during their period of absence from the workplace. In addition, the PRC governmentrequires us to provide work-related injury insurance for each of our employees. We and oursubsidiaries have labor unions that protect employees' rights, help fulfill our and our subsidiaries'economic objectives, encourage employee participation in management decisions and assist inmediating disputes between us and union members. Our operating units have labor union branches.
We believe that we have positive relations with our employees.
We provide extensive training for employees. The training is designed to help our employees to meettheir job requirements, strengthen their commitment to quality and improve staff knowledge in anumber of important areas relating to our products and services. For example, we provide an arrayof training programs and courses covering various aspects of our business operations, such as medicalknowledge, product registration processes, intellectual property protection, GMP and GSPrequirements, quality control standards, production management, safety, logistics operationsmanagement, sales and marketing techniques and customer services skills. We also provide trainingto our management team in areas including corporate culture, business process and planning,development of leadership and effective communication and management skills. We believe thatthese programs have enhanced the productivity of our employees and the overall performance of ourcompany.
PERMITS, LICENSES AND APPROVALS
As of the date of this Document, we had obtained all requisite permits, licenses and approvals for our
business operations. See the section headed "Regulation" for further information on permits,
licenses and approvals applicable to our operations.
LEGAL PROCEEDINGS
From time to time, we have been, and may in the future be, involved in arbitration, litigation or
regulatory proceedings relating to contract disputes, intellectual property rights disputes and other
matters in the ordinary course of our business. As of the Latest Practicable Date, we had one
unresolved legal proceeding involving claim(s) against us in excess of RMB5 million as described
below, and did not otherwise have any pending material legal proceeding against us.
In June 2008, Industrial Bank initiated an arbitration proceeding against us and Shenzhen Kondarl,an Independent Third Party, for the repayment of the principal and interest of a RMB80.0 million loanextended by Industrial Bank to Shenzhen Kondarl in 2005, for which we were the guarantor. Theguarantee of Shenzhen Kondarl's loan was provided prior to the 2009 Restructuring by ZhongxiPharmaceutical, over which we had no control at that time. Pursuant to our Articles of Association,neither our Company nor our subsidiaries are authorized to provide guarantee to any independentthird party without the approval of the Board and, if the guarantee is over a certain amount or meetscertain other criteria, that of the Shareholders. See Appendix IX — "Summary of Articles ofAssociations." Shenzhen Kondarl repaid a portion of the loan in 2009. Pursuant to a mediationagreement entered into by Industrial Bank, Shenzhen Kondarl, us and certain other parties in January2011, Shenzhen Kondarl is required to repay the balance of the loan and interest thereon by March31, 2011, upon which we will be released from the guarantee. As of March 31, 2011, ShenzhenKondarl has not repaid the loan in accordance with the mediation agreement, and the outstandingbalance of our guarantee obligation was RMB72.6 million. We do not believe that the payment of theguarantee by us is probable and thus have not made any provision for the outstanding balance of theguarantee.
THIS WEB PROOF INFORMATION PACK IS IN DRAFT FORM. The information contained herein is incomplete and subject to change and it must be read in conjunction with the section headed "Warning" on the cover of this Web Proof Information Pack.
While we cannot predict the outcome or impact of any pending or future arbitration, litigation orother legal proceedings, we do not believe that any pending arbitration, litigation or legal proceedingwill have a material adverse effect on our business, financial condition or results of operations.
However, we cannot assure you that any future legal proceeding will not have an adverse outcome,which could have a material adverse effect on our results of operations or cash flows.

Source: http://www.hkexnews.hk/listedco/listconews/sehk/20110520/02607/ESPHCL-20110429-12.pdf