TCM Raw Material Prices Drop 15%, Boosting Corporate Margin Recovery

Overview

This UBS research note provides monthly data tracking on the Chinese TCM industry, focusing primarily on the impact of upstream raw material price fluctuations on the profitability of midstream pharmaceutical manufacturers. Data indicates a significant decline in TCM raw material prices since 2026. The report assesses that given high inventory levels and sufficient capacity, this cost-reduction trend is likely to persist, delivering margin repair dividends to TCM companies. Based on this logic, the report explicitly prioritizes E-Ajiao and China Resources Sanjiu among covered names.

Core views

Raw material prices enter a downward channel, significantly alleviating cost-side pressures. The report points out that raw material costs account for approximately 70% of the total sales costs of TCM companies, making them a core variable determining finished drug inflation risks and corporate profits. Following the first half-year decline since 2020 in the second half of 2024, the TCM Raw Material Composite Index No. 200 fell 15% year-over-year in the first five months of 2026, with single-month prices dropping another 1% month-over-month in May. Considering the current high inventory levels and relatively abundant capacity within the industry, the report expects raw material prices to maintain a downward trend, which will directly benefit the gross margin performance of TCM companies. Segment-specific supply and demand dynamics differ, resolving cost pressures on key raw materials. Regarding specific precious herbs of market concern, the report verifies supply-side improvements through high-frequency data: First, regarding Ajiao's core raw material, donkey skin, using imported whole horse skins as a proxy indicator reveals strong import volumes from 2021-2023 and to date in 2026, with sufficient domestic manufacturer inventory. The trading price of Ajiao has fallen 5% year-to-date, indicating no obvious cost pressure on the raw material side. Second, natural musk prices began declining in the second half of 2025, helping to alleviate margin compression for high-value products such as Ai Gong Niu Huang Wan and Pi Tian Huang Gan Pian. Third, key ingredient prices for other best-selling OTC and prescription drugs (e.g., cardiovascular, respiratory categories) remained flat or declined slightly in May. Individual stock selection emphasizes earnings certainty and anti-cyclical capability. In terms of specific names, the report prioritizes E-Ajiao due to its superior revenue growth momentum compared to peers and its利润率 being on an improvement path, offering high visibility for earnings growth. China Resources Sanjiu is also recommended, primarily because its diversified product mix makes it less affected by weak macroeconomic conditions, while possessing competitive advantages over peers in cost control, brand building, and management team quality.

Analysis framework

The report adopts a 'Upstream Price → Midstream Profit' cost transmission analysis framework. First, it establishes the core weight that raw materials account for approximately 70% of TCM company COGS, treating raw material price volatility as a leading indicator for predicting corporate earnings. Second, it utilizes UBS Evidence Lab's import/export monitoring data (e.g., using whole horse skin imports as a proxy for donkey skin supply) and TCM raw material price indices for high-frequency quantitative tracking, replacing traditional low-frequency field research to more敏锐ly capture supply-demand inflection points. Finally, combined with inventory cycles and capacity status for specific varieties, it assesses the sustainability of price trends and maps macro cost dividends to individual stocks possessing specific competitive advantages.

Methodology notes

• Industry/Industrial Analysis FrameworkUpstream-Midstream-Downstream Supply Chain Transmission

  Raw Material Cost Ratio and Profit Sensitivity Analysis

  The report explicitly states that raw materials account for approximately 70% of total sales costs (COGS) for TCM companies, implying an extremely high leverage effect of upstream price changes on downstream pharmaceutical manufacturers' gross margins. When raw material prices fall, assuming stable end-drug prices, most of the cost reduction will directly convert into corporate profits, which is the core logic for judging the profitability inflection point of the TCM sector.

• Industry/Industrial Analysis FrameworkSupply and Demand Framework

  Inventory and Capacity Cycle Guiding Price Trends

  When forecasting raw material price trends, the report not only looks at current prices but also emphasizes the supply-side status of 'High Inventory + Abundant Capacity.' Within the supply-demand analysis framework, even if short-term demand remains stable, high inventory implies weak seller bargaining power, making price rebounds difficult, thereby supporting the judgment that 'the price decline trend will continue.'

• Industry/Industrial Analysis Framework

  Application of Alternative Data Proxy Indicators (Proxy Data)

  Due to the lack of direct publicly available detailed customs data for donkey skin imports, the report uses 'imports of whole horse skins and hides' as a proxy indicator for donkey skin supply. This method of using highly correlated accessible data to infer inaccessible core data is a common approach in quantitative fundamental research to address data gaps.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• E-Ajiao (000423.SZ)

  Beneficiary: Ample imported supply of donkey skin for Ajiao raw materials eliminates cost pressure; Company revenue growth leads peers and profitability is improving, showing high visibility for earnings growth.

  Strengths

  Strong earnings growth certainty, profitability on an upward trajectory, stable core raw material supply chain.

  Comparison

  Compared to peers, its revenue growth momentum is stronger, and as the leader in the Ajiao category, it enjoys greater positive elasticity to raw material cost changes.

  Risks

  Channel inventory rises again due to sluggish terminal sales; tightening medical insurance regulation affects revenue; donkey skin shortages (domestic supply reduction or import restrictions) affect production volume/profitability; brand investment or new product development falls short of expectations.

• China Resources Sanjiu (000999.SZ)

  Beneficiary: Diversified product mix makes it less affected by weak macroeconomic environments; possesses superior cost control capabilities, brand strength, and management teams compared to peers.

  Strengths

  Strong anti-cyclical capability, excellent cost control, stable CHC (Consumer Health) business.

  Comparison

  Compared to pure prescription drug companies, it has a high OTC business ratio, facing less impact from centralized procurement and medical insurance spending controls, resulting in better operational stability.

  Risks

  Excessive loss of market share in TCM formula granules beyond expectations or expansion of centralized procurement putting pressure on ASP/profit margins; sales growth of certain prescription drugs (e.g., TCM injections, anti-infectives) affected by medical insurance spending controls; unexpected decline in sales volume of consumer healthcare products due to price hikes; potential M&A integration falling short of expectations.

Key data

• TCM Raw Material Composite Index No. 200 (First 5 Months of 2026)YoY -15%Continues the downward trend since the second half of 2024, representing a rare sustained downturn cycle since 2020.
• Month-over-Month Change in May Raw Material Prices-1%Monthly MoM decline continues, indicating prices have not yet stabilized in the short term.
• Raw Material Cost RatioApproximately 70%Proportion of total sales costs (COGS) for TCM companies, determining the high sensitivity of profit to cost-side changes.
• Ajiao Trading Price (Year-to-Date 2026)YoY -5%Reflects price corrections in terminal Ajiao products due to sufficient raw material supply.
• Trend in Natural Musk PricesDeclined starting from H2 2025Key high-price raw material cost inflection point has appeared, benefiting margin recovery for major products like Ai Gong Niu Huang Wan.

Impact & implications

The report believes that the systematic decline in raw material prices constitutes a substantial benefit for the TCM industry. For enterprises with exclusive varieties or strong brand power, under the premise of rigid end-retail prices, cost reductions will directly release profit elasticity. Particularly for those companies previously constrained by rising precious raw material prices, forcing price hikes or sacrificing margins, the current environment offers a window period for operational leverage repair. Simultaneously, the strength in import data indicates improved supply chain security for certain varieties relying on overseas resources (such as Ajiao), reducing the risk of supply interruptions.

Risks

• Decline in pharmacy footfall or weak consumer spending leading to lower-than-expected demand.
• TCM centralized procurement (GPO) or price comparison policies causing larger-than-expected price cuts and market share losses.
• Unexpected rebound in raw material prices leading to sales cost inflation.
• Ongoing impact of anti-corruption campaigns.
• Tightening medical insurance regulations potentially affecting relevant company revenues.
• M&A integration process falling short of expectations.

What to watch

• Whether the month-over-month trend of the TCM Raw Material Composite Index No. 200 stabilizes.
• Changes in customs data for key imported raw materials such as donkey skin.
• Marginal improvement in quarterly gross margins of key TCM companies.
• Implementation pace and execution intensity of centralized procurement policies for TCM formula granules.