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China's big tech to continue disruption of healthcare sector despite crackdown

China's crackdown on internet companies, including Alibaba Group Holding Ltd., is unlikely to affect their burgeoning healthcare businesses and could transform the medical sector into a key battleground for e-commerce and tech companies.

COVID-19 and related restrictions on movement have sparked rapid growth in the adoption of online pharmacy and medical services in China in 2020. Online services will continue to disrupt the space due to favorable regulations and the ability of the companies to facilitate easy access to consultations and medicines, especially in rural areas and among the elderly, industry observers said.

The sector is forecast to grow at a compound annual rate of 39% from 2019 to 2024, JD Health International Inc. said in its prospectus ahead of its Dec. 8 IPO, citing consultancy Frost & Sullivan. The trend is not limited to China. Amazon.com Inc. launched its online pharmacy in the U.S. in November in a bid to disrupt the prescription drugs business.

Sales of JD Health, a unit of JD.com Inc., jumped 76% year over year to 8.8 billion yuan in the first six months of 2020, a sharp increase after the revenue growth slowed year over year in 2019. Alibaba-backed Alibaba Health posted a 74% increase in revenue in the six months period from March to September. The two companies reported a pandemic-driven uptick in online consultations and pharmaceutical sales.

Investors have seized on the potential. Even after a sharp selloff since Dec. 23 due to China's new antitrust laws and action against Alibaba and its affiliates, shares of key Chinese online healthcare companies soared in 2020.

The market capitalization of JD Health has more than doubled to $62.67 billion from $29 billion since it went public, while shares of Alibaba Health Information Technology Ltd. gained 155.6% in 2020 and those of Ping An Healthcare and Technology Co. Ltd., a unit of China's largest insurance provider Ping An Insurance (Group) Co. of China Ltd., rose 66%. Tencent Holdings Ltd.-backed WeDoctor Holdings (Zhejiang) Co. Ltd. reportedly is planning to go public in 2021.

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China has increased scrutiny of its internet and e-commerce companies, with Alibaba and its affiliates hit hard by the regulatory action. After the suspension of a dual-listing by Alibaba's fintech arm, Ant Group Co. Ltd., Chinese regulators opened an investigation into Alibaba for alleged anticompetitive practices. Alibaba said it will "actively cooperate" with the investigation. A weakened Alibaba could benefit JD.com and its affiliates, which have complained often about Alibaba's platform monopoly.

But analysts believe that the increased oversight is unlikely to creep into the online healthcare market, which has benefited from favorable new rules in recent months.

China's Drug Administration Law, which came into force in December 2019, permits drug developers, manufacturers and sellers, as well as third-party e-commerce platforms, to sell prescription medicines online. The rules were followed by draft regulations in November 2020 outlining more explicit procedures for online consultation, sales of prescription drugs, and price harmonization for online and offline drugs and medical services.

"COVID has accelerated the conversion to online and many pharma companies are placing more resources toward the online retail [and] internet hospital channels," said Justin Wang, a Shanghai-based partner at L.E.K. Consulting. "The share of online will only increase, especially for [over-the-counter], non-severe diseases and chronic disease management. This is much more efficient for all participants — patients, doctors, hospitals, retailers."

Online is expected to account for 6% of total pharmacy sales in 2020, a significant improvement from 2.2% in 2018 but a long way from the 31%, or 177 billion yuan, projected for 2028, according to a report published in June 2020 by consultancy Deloitte. It is estimated that 48% of online pharmacy sales in 2028 will be from prescription drugs.

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Analysts said the pandemic has already stretched the country's healthcare system, and the government will see e-commerce giants as a pivotal resource to deliver on its aim of promoting online consultations and internet hospitals as part of its five-year development plan.

"I don't think the regulatory framework will have a 180-degrees change," said Li Jing, a consultant at law firm Seyfarth Shaw Hong Kong.

Battle for leadership

JD Health is the largest among the Chinese online healthcare services, with revenue nearly double that of its closest competitors, Alibaba Health and PingAn Health. In addition to online pharmacy services, JD Health offers its own in-house doctors, a network of external doctors and around-the-clock family doctor service.

But online penetration in the sector is still relatively limited, and Alibaba Health has a huge advantage with its parent company's reach. Alibaba Health patients can access referrals for local clinics, which offer consultations and prescription renewals on its cloud-based pharmacy through Taobao, Tmall and Alipay.

While JD Health leads the market due to its strong reputation and top-notch logistical capabilities, Alibaba's online platforms and ecosystem bring in huge user traffic, said Shawn Yang, managing director of Blue Lotus Capital.

JD Health's partnership with Tencent's WeChat blunts some of its platform disadvantages, but WeChat is also a competitor through its backing of WeDoctor. Furthermore, PingAn's Good Doctor has been aggressively expanding its pharmaceutical retail offering.

"Alibaba Health's strength obviously comes from having the whole ecosystem of Alibaba, [where they] channel the users already on the ecosystem to the Alibaba Health business. It's definitely more sticky than what JD.com has, so Alibaba Health has that sort of advantage over JD Health," said Zhen Zhou Toh, analyst at Aequitas Research.

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JD Health plans to use the $3.48 billion it raised from the IPO to expand its network of offline pharmacies, warehouses and consultation services to counter competition. Alibaba Health raised $1.3 billion through a secondary share sale in August to further develop its pharmacy retail business.

The companies have been tying up with offline pharmacies for a medicine delivery service in a bid to grow their distribution network, and it is likely that they will continue doing so to expand their reach in rural areas, industry observers said.

Telemedicine

Online pharmacy so far has been more profitable than digital medical services, but the suspension of outpatient services during the COVID-19 outbreak triggered a big shift toward online consultation.

During the peak of the outbreak in February, China's National Health Commission, or NHC, issued guidelines urging hospitals to take up online-based services to relieve pressure on overstretched medical facilities. The development made way for the fast-track inclusion of certain online medical services in the national health insurance system starting in March.

Experts believe that the growing adoption of digital medical services will boost online sales of prescription drugs. This will make it even more crucial for retail-based players like JD Health and Alibaba Health to expand their digital medical services.

"For most internet health companies, drug retail is probably the only business that is profitable right now, but I believe disease management services will offer even more growth opportunities," said L.E.K. Consulting's Wang.