Matters In the first half of 2010, the company achieved operating income of 1.07 billion yuan, a year-on-year increase of 17.97%; net profit of 81.84 million, a year-on-year increase of 703.64%, and an EPS of 0.14 yuan, in line with our expectations. Main point 1. The sharp year-on-year increase in performance in the first half of the year was in line with expectations. In the first half of 2010, the company achieved operating income of 1.07 billion yuan, a year-on-year increase of 17.97%; net profit of 81.84 million, a year-on-year increase of 703.64%, and an EPS of 0.14 yuan; net profit after deducting non-recurring profit and loss of 81.01 million, an increase of 703.51% year-on-year, in line with our expectations. The company's cash flow from operating activities in the first half of the year was 0.21 yuan per share, an increase of 23.39% over the previous year. In the second quarter, the company achieved operating income of 520 million yuan, a year-on-year increase of 17.34%, net profit of 34.59 million yuan, a year-on-year increase of 560.56%, and earnings of 0.06 yuan per share. In the first half of the year, the company's consolidated gross profit margin was 21.53%, up 7.89 percentage points from the previous year, mainly because of a significant increase in the price of APIs; the period expenses were 144 million yuan, an increase of 25.83% over the previous year, mainly due to the expansion of the scale of operations. 2. The antibiotic business has driven significant growth in performance. In the first half of the year, revenue from semisynthetic antibiotic APIs was 250 million yuan, up 43.36% year on year; pharmaceutical revenue was 530 million yuan, up 23.19% year on year. The company has 21 formulations selected into the “National Catalogue of Essential Drugs”, accounting for more than 70% of pharmaceutical revenue. The release of demand for primary care is the main driving factor for the sharp increase in the antibiotic business. Our two reports, “Rapid Development of Primary Medical Services Boosts Growth in the Pharmaceutical Industry” and “Primary Health Care Demand Brings Growth Opportunities to Leading Antibiotic Generic Drug Companies” launched on July 27, 2010, indicate that due to new agricultural cooperation, the establishment and improvement of the medical insurance system for urban residents, the rapid development of primary medical service institutions, and the gradual implementation of the basic drug system, the primary health care market is rapidly expanding. Meanwhile, the main disease areas released from primary care demand are infectious diseases, cardiovascular and cerebrovascular diseases, diabetes, etc., and Lu Kong, as an important antibiotic production base in China, will continue to benefit from the expansion of primary care. 3. Optimizing the API product structure to enhance profitability. The company's main API products include 7-ACA, macromycin, and semisynthetic penicillins. In the second half of 2009, the company's 7-ACA enzymatic method was implemented directly through the process, resulting in a significant reduction in 7-ACA costs. In the first half of this year, the 7-ACA price remained high at 950 yuan/kg, higher than the same period last year (700 yuan/kg). The gross margin of antibiotic APIs in the first half of the year increased 15.47 percentage points year-on-year; at the same time, the company optimized the product structure of semisynthetic antibiotic raw materials, limited production of low-margin products, and increased the sales share of ultra-broad-spectrum penicillins such as meroxillin and alloxillin. The gross margin of APIs increased year over year 22.96 percentage points. 4. Investment advice: recommendation (maintenance). We maintain our profit forecast for the company's 2010-2012 EPS of 0.33, 0.44, and 0.53 yuan. The corresponding PE is 26X, 20X, and 16X, respectively, maintaining the “recommended” rating.