Key takeaway

On August 24, the company released its 1H26 results. In 1H26, the company achieved operating revenue of RMB13.991bn , up 3.46% YoY; net profit attributable to shareholders of the parent company was RMB927mn, up 16.10% YoY; recurring net profit attributable to shareholders of the parent company was RMB931mn, up 18.05% YoY, and basic earnings per share was RMB0.81, in line with our previous expectations. Looking ahead to 2H26, the company's store operations are expected to continue improving, with same-store growth gradually recovering and expansion through acquisitions accelerating. Coupled with the continued benefits of rent and fee reductions, we expect the company's profitability to improve further in 2H26.

Event

The company released its 1H26 results, which were in line with our expectations

On August 24, the company released its 1H26 results. In 1H26, the company achieved operating revenue of RMB13.991bn, up 3.46% YoY; net profit attributable to shareholders of the parent company was RMB927mn, up 16.10% YoY; recurring net profit attributable to shareholders of the parent company was RMB931mn, up 18.05% YoY; and basic earnings per share was RMB0.81. The results were in line with our previous expectations.

The board of directors of DSL proposes a cash dividend of RMB 0.41 per share (tax inclusive) to all shareholders. The proposal remains subject to approval at the shareholders' meeting.

Quick Take

Profit growth accelerated, with profitability continuing to improve

In 1H26, the company's operating revenue increased 3.46% YoY, net profit attributable to shareholders of the parent company increased 16.10% YoY, net profit attributable to shareholders of the parent company after deducting non-recurring gains and losses increased 18.05% YoY. Profit growth significantly outpaced revenue growth, mainly due to: 1) the company's store expansion strategy entered a phase of deeper penetration within existing provinces. The integration of newly acquired regional businesses progressed smoothly. Economies of scale strengthened bargaining power. Together with measures such as optimizing the category mix and refining the promotional system, this drove a steady 0.86pct increase in the gross margin of the core retail business; 2) the company continued to reduce costs and improve efficiency, resulting in a lower period expense ratio.

Stores enter an expansion cycle, with accelerated franchise expansion

In 1H26, the company's stores re-entered an expansion cycle, with the strategic focus shifting from cross-province expansion to deeper penetration within existing provinces. In 1H26, the company opened 273 self-developed stores, acquired 146 stores, and closed 147 stores. The number of directly operated stores increased by 272 to 10,740, while the number of franchised stores rose by a net 696 to 7,986. The total store count increased by a net 968 to 18,726. The pace of store expansion steadily accelerated, driving stable earnings growth. In 1H26, the company's retail business generated revenue of RMB11.156bn , up 1.37% YoY , with gross margin increasing by 0.86 pct YoY , while the franchise and distribution business generated revenue of RMB2.383bn, up 11.53% YoY . Looking ahead to 2026, the company's store network is expected to continue expanding. Acquisition projects may be implemented steadily and are expected to contribute considerable incremental growth.

Professional capabilities continue to improve, driving store upgrades and transformation

In 1H26, the company continued to strengthen its business foundations: 1) Digital and intelligent technology empowers operations: The company has built an IT team of more than 300 employees and adheres to a strategy centered on in-house development and supplemented by external development. Its self-developed POS system increased store checkout speed by 62% ; its AI-powered intelligent replenishment system reduced the out-of-stock rate at stores by 50% . AI tools, including the intelligent assistant “AI Xiaocan,” have been deployed at scale across multiple scenarios, effectively improving operational and decision-making efficiency. 2) Professional service capabilities improve: The company continued to strengthen its pharmaceutical care capabilities, with approximately 260 MTM pharmacists and more than 1,500 certified, star-rated chronic disease service professionals . It also actively expanded its dual-channel and outpatient pooling businesses. As of the end of the reporting period, it had 713 designated dual-channel stores and 2,509 designated outpatient pooling stores , as well as 1,430 pharmacies designated for outpatient chronic and special diseases, positioning it to actively capture the benefits of prescription outflows. 3) Store upgrades progress steadily: The company actively promoted the diversified transformation of its stores and continued to upgrade its product categories. It introduced new categories such as cosmeceuticals, personal care products, health foods, household cleaning products, and daily-use chemicals, effectively improving sales per unit area and overall profitability. We believe the company has strong professional capabilities and is steadily advancing its product category diversification. Combined with the gradual implementation of AI-driven cost reductions and efficiency gains, its performance and profitability are expected to continue improving.

Revenue grows steadily, with profitability continuing to improve

Looking ahead to 2H26, we believe that as the industry shakeout accelerates, market share will further concentrate among leading companies with advantages in scale, compliance and digitalization. The proactive optimization and adjustment of the company’s store network in 2025 has largely been completed, and its short-term impact on performance will gradually subside. The company will continue to implement its strategy of “deepening its presence in South China while expanding nationwide,” focusing on increasing store density in provinces where it already operates and pursuing coordinated growth through the three-pronged approach of self-developed stores, M&A and franchising. The company has now entered a store expansion cycle, and the gradual recovery of same-store sales is expected to support a return to steady revenue growth. Meanwhile, the company continues to advance its digital and intelligent transformation, supply chain optimization and refined expense control, which may further improve profitability. We expect the company’s profit growth to ou tpace revenue growth in 2026, with profit growth accelerating in 2H26.

Gross margin continues to improve, while other indicators remain broadly normal In 1H26, the company’s overall gross margin was 35.60% , up 0.73 pcts YoY , mainly due to an optimized product mix and improved supply chain efficiency. The selling expense ratio was 20.89% , down 0.62 pcts YoY; the administrative expense ratio was 4.29% , down 0.01 pcts YoY; and the financing expense ratio was 0.45%, down 0.15 pcts YoY, reflecting continued expense optimization. Net cash flow from operating activities was RMB1.289bn , down 55.70% YoY, mainly due to the company’s payments for merchandise purchases. The company’s inventory turnover days were 83.12 days, up 0.08 days YoY and broadly stable. Accounts receivable turnover days were 15.98 days, down 0.53 days YoY and broadly stable. Accounts payable turnover days were 60.39 days, down 1.99 days YoY and broadly stable. Other financial indicators were generally normal.

Earnings forecast and investment rating

We project the company’s operating revenue in 2026E –2028E to be RMB29.216bn, RMB32.023bn and RMB35.174bn, up 6.2%, 9.6% and 9.8% YoY, respectively; net profit attributable to shareholders of the parent company to be RMB1.487bn, RMB1.711bn and RMB1.973bn, up 20.3%, 15.1% and 15.3% YoY, respectively, implying EPS of RMB1.31, RMB1.50 and RMB1.73, and PE of 14.4X, 12.5X and 10.8 X. We maintain “Buy” rating on the company.

Risks

1) Risk of changes in industry policies: If national or local authorities introduce measures that favor drug sales by medical institutions or policies that restrict the development of the retail pharmacy industry during healthcare system reforms, the Company's operations may be adversely affected; 2) Intensified market competition: As industry concentration gradually increases, competition may become increasingly intense, which could adversely affect the Company's operations; 3) Store network expansion falling short of expectations: If the expansion of the store network falls short of expectations, the Company's long-term earnings growth potential may not be realized, which could adversely affect its long-term earnings growth; 4) Integration of acquired stores falling short of expectations: If the Company fails to meet expectations for subsequent business integration, personnel integration, and performance improvement in acquired projects, its operating results may be affected;

5) Goodwill impairment: The Company has recognized a certain amount of goodwill from asset acquisitions. If the subsequent operating performance falls short of expectations, there may be a risk of impairment, which could affect profit growth; 6) Risk arising from the detention of one of the Company's de facto controllers: Ke Jinlong, one of the Company's de facto controllers, has been placed under criminal detention. However, he is rarely involved in the Company's operations, and the subsidiary involved in the case has a limited impact on the Company's overall business. Subsequent risks are relatively controllable; 7) On August 18, 2023, Maoming DSL Chain Pharmacy Co., Ltd., a wholly owned subsidiary of the Company, received a Notice of Case Filing issued by the Maoming Municipal Supervisory Commission. The case involves the Maoming subsidiary's historical wholesale business, while the Company's principal business focuses on retail chain pharmacies. From 2020 to 2022, sales to the customers involved in the case accounted for 0.25%, 0.20%, and 0.15% of the Company's revenue, respectively. These percentages were low, and the impact on subsequent operations is limited; 8) The Company received a Criminal Judgment issued by the People's Court of Dianbai District, Maoming City, Guangdong Province. The specific judgment is as follows: 1. Defendant entity Maoming DSL Chain Pharmacy Co., Ltd. was convicted of bribery by an entity and fined RMB4mn. 2. Defendant Ke Jinlong was convicted of bribery by an entity and sentenced to three years and six months in prison and fined RMB0.5mn. On or around July 10, 2024, the Company received the Criminal Ruling issued by the Intermediate People's Court of Maoming City, Guangdong Province, regarding the second-instance proceedings in this case, which ruled as follows: the appeal is dismissed and the original judgment is upheld, and this ruling is final. The relevant subsidiaries account for a relatively small share of revenue, and Ke Jinlong currently holds no position at DSL (603233.SH) and is not involved in any of its operations or management; therefore, the litigation involving Ke Jinlong will not have a material adverse impact on the normal production and operations of DSL (603233.SH), while the second-instance ruling in this litigation will have only a limited impact on the Company's profit or loss and will not affect its normal production and operations.