Analysis of Royalty Rate Disclosure Issues in Kelun Biotech and Merck's ADC Drug Collaboration

Based on the information I have collected, I now provide you with a professional and comprehensive research report.

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Kelun Biopharmaceuticals Co., Ltd. (06990.HK) and Merck & Co. have an ADC drug collaboration that is the largest out-licensing deal in China’s biopharmaceutical sector to date [0]. According to public information, the two parties have signed three core agreements in total:

Agreement Date	Licensed Drug	Licensed Territory	Upfront Payment	Milestone Payments	Royalty Rate
May 2022	SKB264 (TROP2 ADC)	Outside Greater China	USD 102 million	Up to USD 1.368 billion	Mid-single-digit to low-double-digit
June 2022	SKB315 (CLDN18.2 ADC)	Global	USD 35 million	Up to USD 901 million	Mid-single-digit to double-digit
December 2022	7 Preclinical ADC Assets	Global/Regional Option	USD 175 million	Up to USD 9.3 billion	Tiered royalties based on net sales

According to calculations by multiple brokerage research institutions, there are significant differences in the forecast of overseas sales peak for SKB264 (brand name: Sac-TMT, overseas code: MK-2870), but the overall outlook is optimistic [0]:

• Conservative Estimate
  : USD 5 billion (approx. RMB 32 billion)
• Neutral Outlook
  : USD 800 million to USD 1.5 billion
• Optimistic Scenario
  : Some reports mention “peak sales are expected to reach RMB 7.35 billion” (mainly referring to domestic sales)
• Over USD 30 Billion Claim
  : This figure may refer to the overall pipeline valuation or potential market space, rather than the sales peak of a single drug

If calculated using the 10% royalty rate commonly adopted by analysts, when the overseas sales peak reaches USD 5 billion, Kelun Biotech’s peak sales royalty income will be approximately USD 500 million (approx. RMB 3.2 billion) [0]. The actual royalty rate may adopt a tiered structure of “mid-single-digit to low-double-digit”, meaning the royalty rate increases gradually as sales grow.

According to Merck’s 10-Q filing with the U.S. SEC, Kelun Biotech is entitled to “tiered royalties ranging from a mid-single-digit rate to a low-double-digit rate” for any commercialized ADC product [0]. However, this description is quite vague, and specific figures have never been explicitly disclosed in public documents.

When Kelun Biotech was listed on the HKEX, it applied for and obtained an exemption from strictly complying with the disclosure requirements under Rule 14A.53 of the Listing Rules from the Hong Kong Stock Exchange [0]. This means:

• The company is permitted to not disclose the annual cap for continuing connected transactions using a specific formula
• The specific calculation formula and thresholds for royalty rates have not been fully disclosed
• Investors find it difficult to accurately calculate the amount of future royalty income

1. Opaque Tiered Royalty Structure
   : How the royalty rate increases stepwise with sales has not been disclosed
2. Vague Definition of Calculation Base
   : Specific deduction items and calculation standards for “net sales” have not been clarified
3. Unknown Royalty Differentiation by Indication
   : It is unknown whether different royalty rates apply to different indications
4. Hidden Territory-Specific Terms
   : Whether there are differences in royalty terms across different overseas markets has not been disclosed

According to industry research data, royalty rates for ADC drug out-licensing transactions typically follow the following patterns [0]:

• Most Common Range
  : 5%-8% of net sales
• High-End Level
  : 10%-15% (for high-quality assets in late-stage development)
• Tiered Royalties
  : Most adopt a mechanism where rates increase stepwise with sales

Transaction Case	Licensor	Licensee	Royalty Rate
Kelun Biotech-Merck SKB264	Kelun Biotech	Merck	Mid-single-digit to low-double-digit
BrightGene-BMS BL-B01D1	BrightGene	BMS	Specific figures not disclosed
Hansoh Pharma-Roche HS-20110	Hansoh Pharma	Roche	Specific figures not disclosed

From the comparison, it can be seen that “not disclosing specific figures” for royalty rates is a common practice in China’s innovative drug BD (business development) transactions. However, as a listed company, Kelun Biotech should face higher requirements for information transparency from its shareholders.

In the collaboration agreement between Kelun Biotech and Merck, the royalty rate, as a core commercial term, has been deliberately vague, which may lead to:

• Institutional investors find it difficult to conduct accurate valuation modeling
• Retail investors cannot judge the potential scale of royalty income
• Market pricing may be biased

1. Track Milestone Payments Regularly
   : Received milestone payments can serve as an indicator to judge the progress of the collaboration
2. Monitor Global Phase 3 Clinical Progress of SKB264
   : Clinical success is a prerequisite for the realization of sales royalties
3. Compare Merck’s Concurrent ADC Investments
   : Evaluate the priority of Kelun Biotech’s assets in Merck’s pipeline
4. Review Connected Transaction Disclosures in Kelun Biotech’s Annual Reports
   : Check for additional details on royalties

• If the global Phase 3 clinical trial of SKB264 fails, royalty income will not be realized
• Merck may adjust the priority of its ADC pipeline (e.g., it has returned rights to SKB315 in 2024)
• Competitor drugs (such as AstraZeneca’s Dato-DXd and Gilead’s Trodelvy) may impact market share
• Exchange rate fluctuations may affect the RMB-converted value of overseas sales royalties

The ADC collaboration between Kelun Biotech and Merck indeed has royalty rate disclosure gaps, which are jointly caused by the HKEX exemption mechanism and commercial confidentiality needs. When evaluating the company’s value, investors need to rely on analysts’ estimates (assuming a royalty rate of approximately 8%-10%) and the vague descriptions in Merck’s 10-Q filings for judgment.

From a commercial rationality perspective, the royalty rate range of “mid-single-digit to low-double-digit” (approx. 5%-15%) is in line with industry practices for ADC drug out-licensing. Considering that Merck has invested over USD 200 million in equity and initiated more than 10 global Phase 3 clinical trials, it attaches great importance to SKB264, so Kelun Biotech’s royalty interests are well-protected.

However, investors should be aware that before the product is officially commercialized and generates sales royalties, there is still uncertainty regarding the specific royalty rate and amount. It is recommended that investors continue to monitor Kelun Biotech’s regular announcements and Merck’s financial reports to obtain more complete information.

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[0] Research reports from brokerages including Pacific Securities, SPD International, and Guosheng Securities (2024)
[1] Merck & Co., Inc. Form 10-Q (SEC Filing, 2023-2025)
[2] Hong Kong Stock Exchange Announcements - Kelun Biopharmaceuticals Co., Ltd. (2023-2025)
[3] Announcements of Sichuan Kelun Pharmaceutical Co., Ltd. (2022-2025)
[4] Public market information from Pharmcube, Wind Data, etc.