Healthcare sector hampered by funding barriers

Long-term financial support needed to realize potential of emerging industries

The China Health Care Industry Innovation Summit took place in Shanghai Saturday. The event, hosted by China Europe International Business School, brought together a host of officials from medical fields, directors of public and private hospitals as well as experts from academic institutions, all of whom where on hand to discuss health policies and the current process of healthcare reform in China. Of course, private-equity executives were also in attendance to discuss new investment opportunities in the health and medicine sector.

Central authorities began implementing an ambitious healthcare reform program back in 2009. This ongoing wave of reforms is focused on guaranteeing the public's interest by, among other things, keeping prices for widely used drugs in check while also ensuring the stable production of essential medicines. Authorities are also stressing the standardization of pharmaceutical products in order to promote industry integration. On the financial side, officials intend to allow more private capital to enter medical fields.

Amid efforts to liberalize healthcare, recent data point to an incredible amount of potential in the sector. In the US, healthcare industry output accounted for about 15 percent of the country's GDP in 2013, while this figure stood at 10 percent in Canada and Japan respectively during the same year. In China though, healthcare's contribution to GDP stood at no more than 5 percent last year, leaving plenty of space to grow as the country's economy continues to develop. Indeed, a report from McKinsey and Company predicts that annual medical expenditures in China will exceed $1 trillion by 2020, compared to $357 billion in 2011.

Of course, problems still exist within the field; including the uneven distribution of medical resources as well as lingering policy constrains on the industry. But as the door opens to investment, data from Dealogic show that huge sums of capital have already begun pouring into hospitals, clinics, pharmaceutical companies and medical device manufacturers. During the first 11 months of 2014, mergers and acquisition in the industry involved a combined disclosed sum of $11.3 billion, up 13 percent from the same period in 2013.

Biopharmaceuticals have been seen by many as a particularly promising area. Industry research estimates that annual output from this industry is expected to increase by 20 percent over the coming three years.

But amid so much potential, those getting in on the ground-floor of China's biopharma industry could be in for a long wait as their investments mature. Industry experience shows that it could take upwards of a decade - if not longer - to realize a return on investment in the biopharma field thanks to lengthy preclinical and clinical stage development periods. Such waits could prove too long for some in China, potentially derailing promising companies and projects due to lack of funding.

In countries with mature capital markets though, informal mechanisms are in place to prevent financing from drying up midway through important projects. Investors in the US, for example, will often fund preclinical development. Later, multinationals or institutional investors will usually come forward to fund clinical stage development, effectively grabbing the baton from early financial backers.

With such supports in place, the US healthcare and biopharma industries have grown quickly over recent years, bringing high returns for investors. Total investment from venture capital in biopharma companies in the country reportedly amounted roughly to $4.5 billion in 2013, up around 30 percent from 2010. A total of 33 biopharma companies also went public last year, up from just 4 in 2011; while 13 biopharma companies were bought out by larger peers in 2013, according to a report from industrial information provider bioon.com.

In China though, mature market mechanisms are still missing to support emerging healthcare companies. By and large, venture capital and private equity funds are still too impatient to see an enterprise through from its foundation to an eventual public listing or sale.

While opportunities abound in this burgeoning sector, there is still an urgent need for investors to pool their resources and support the next generation of Chinese biopharma giants. Investors should look to the West for examples of how to enhance the industry's development and their own financial interests.