Description

I am short shares of Sysmex (6869-JP). It's a pretty simple idea that I ran into serendipidously while doing research on the China med-tech space, Mindray in particular.

Thesis in a nut shell:

Sysmex is a richly valued Japanese manufacturer of IVD equipment -- chiefly hemoanalysis, hemostasis, and urianalysis machines and associated consumables. It's a good business that has historically grown at a solid pace with strong margins. However, the company's competitive advantages are shrinking thanks to intensifying competition. Chinese competitors, chiefly Mindray and DiRui, are rapidly cannibalizing their market share in China. This is spreading to other EM countires, where Sysmex had been generating a significant part of its growth. I think the share losses will continue. Sysmex trades 30x NTM, with decelerating growth. Investors seem to think growth will re-accelerate. I think fundamentally Sysmex will be a low growth company with falling margins over time.

China:

Sysmex's China business has been probably the #1 engine behind its growth over the last 10 years. It has grown from almost nothing to 26% of revs in 2019, with higher than average profitability (this doesn't show up in how they disclose segments, because I think they book China profits in Japan where they manufacture the machines). They are the #1 brand in their core markets in China, particularly for premium machines targeting large urban hospitals. Even today, Sysmex has probably the best quality machines -- more reliable, ability to remotely monitor, more sophisticated automation, etc.

However, over the last 3-5 years, Sysmex's position had been greatly weakened by competition. I discovered this via doing research (long side) on Mindray. I had known about Mindray while it was listed in the US, but had not followed the company for probably 5 years. The difference I discovered about Mindray's market position, products, and capabilities recently was nothing short of astounding.

In short, Mindray seems to have made tremendous progress on the product front. They are also a much more aggressive commercial organization. For MOST Chinese hospitals today, Mindray hemoanalysis machines are considered to be on par with Sysmex on quality and brand. Moreover, service for Mindray is superior, as Sysmex has a weak master distributor in China. On top of that, the Chinese government is strongly encouraging hospitals to acquire local medical equipment (vs imported). The government approves capital budget funds for the purchase of domestic machines easily, whereas a hospital has to jump through elaborate hoops to get money to purchase imported products. Today, I believe Sysmex has lost the majority of its market share in Tier 2 hospitals. Although it still has a strong position in top Tier 3 hospitals, where foreign brands and special capabilities still matter, Mindray is starting to attack these hospitals with very low pricing. I've heard from multiple hospital administrators and distributors that Mindray's pricing in Tier 3 hospitals is 50% of Sysmex (while Tier 2 hospitals are priced at a 0-20% discount). In short, I believe Sysmex's position in top tier hospitals will become increasingly untenable. Hemoanalysis makes up the vast majority of Sysmex's China portfolio today.

Now, Mindray's position in hemostasis and urianalysis is still stronger than Mindray. However, I believe Mindray is going to go much more aggressively into these two areas in the next two years. I believe the same thing will happen to these segments.

Nor is Mindray the only Chinese company making major strides in hemotology. A group of Mindray employees left a few years ago and started a company called DiRui（迪瑞）which is taking share in hematology at a 50% discount to Mindray! (Lower tier hospitals). It seems quite possible that over the next 5 years we will see significant commodization and price pressure in this business.

EM:

While Sysmex's market position in the US / Europe / Japan are still pretty solid, other EM countries account for maybe ~15% of revenues. EM (China and Ex-China) has driven a very disproportionately percentage of Sysmex's growth over the last 10 years. The simple fact is that Mindray is making great inroads in both developing Asia and LatAm with a price/value driven strategy.

Sysmex has been blaming its China problems on "irrational pricing" by competitors, which will normalize at some point. But they are actually getting disrupted. Chinese players have a vastly lower cost structure than Japanese. Mindray is able to sell its hemoanalysis machines at a very healthy margin. In fact Mindray itself earns significantly better margins than Sysmex, despite following a "value driven" strategy for most of its products. Moreover, Mindray and other Chinese players seem to be able to rapidly evolve product lines and close functional / quality gaps quickly. This is a management / company culture attribute which gets helped along by various supportive govt policies. Sysmex on the other hand seems asleep at the wheel. Major product launches at Sysmex seem to run in a 10-year cycle.

You can see that in the last couple of years, Sysmex's growth has decelerated suddenly and meaningfully. In the most recent 9 month report, Sysmex only grew about 3% YOY. Especially telling is the disproportionate fall in instrument sales in China as well as other EM countries. Sysmex's end markets are growing mid-teens in China, but they are only growing revs 5% with falling instrument sales. I think things won't "mean revert" but rather actually get worse.

RISK:

I think Sysmex has new products coming out in the next few years which might dent the thesis. They could also pull a rabbit out of their hat with new products -- like liquid biopsy, immnunochemistry, etc.

Catalyst

None. Hopefully deteriorating financial results