JD.com indeed was a winner amid the regulatory crackdown having gained market share. Read on as we analyse how the business performed and the positives ahead for JD.com.
- Heather Lim | Published on 04 Jul 2022
• The investment case we made for JD.com in 2H21 transpired – JD.com gained market share as its integrated smart supply chain moat gave the company a strong footing, and the company also benefitted from the end of the monopolistic “two choose one (???)” exclusivity contracts.
• These have translated to positive revenue and earnings surprises, and hence, reinforce our confidence in the company’s business model and competitiveness to be poised for further growth.
• Coupled with the turnaround in the regulatory landscape and economic policies, where the worse seems to be over and policies are turning supportive of growth, we expect investor’s confidence in China’s Tech market to be restored, potentially leading to a share price recovery for JD.com.
• Our target price for JD.com (HKEX:9618) is HKD 680. This gives investors an attractive upside potential of 160% based on the closing price of HKD 260 as of 4 July 2022.
Earlier in September 2021, we initiated coverage on JD.com and identified that the company’s slow but steady build-up of its integrated smart supply chain gave them a strong footing in capturing the growth in online retail and the changing regulatory landscape.
Fast forward to 2022, this investment thesis has transpired – JD.com grew and gained market share, with more positives to come. Going forward, with greater market share gains and resilient fundamentals, coupled with the turnaround in the regulatory landscape and economic policies, JD.com (HKEX: 9618) is likely to have a good run for the second half of this year.
Figure 1: Although earnings beat expectations, share prices saw weakness as China went into lockdown and delisting fears surfaced
Resilient growth and market share gains
Amid regulatory and macroeconomic headwinds, and strong competition, JD.com has demonstrated resilience in its earnings results and gained market share. JD.com’s results are a testament to the company’s competitiveness and leads us to reiterate our investment case.
Across 2021 and in 1Q22, JD.com demonstrated revenue growth and earnings resilience, beating earnings estimates by a healthy margin for the most part (Figure 2). This performance is despite the regulatory crackdown in 2021 and macroeconomic headwinds in 2022 such as the Russia-Ukraine war and China’s covid19 lockdowns which disrupted supply chains.
Although the full impact of the lockdowns in China will only be reflected in 2Q22 results, but given JD.com’s unique advantage in its supply chains, the company is likely to have weathered the storm better than its peers. This is because JD.com manages its own end-to-end supply chain and warehouse network, while most other e-commerce players outsource their logistics solutions and hence have less control over their supply chain.
Figure 2: JD.com has seen revenue growth and positive earnings surprises
Next, JD.com’s revenue growth also beat the industry, with sales growing at 18% versus the industry growth of 9% in 1Q22 (Figure 3). This is even amidst heightened competition with new entrants such as Douyin (China’s TikTok), and new initiatives such as live-streaming e-commerce and community group buying. (Figure 3)
Figure 3: While Alibaba’s e-commerce revenue growth declined to ~9% in 4Q21 and 1Q22, JD sustained double-digit revenue growth
The growth has come about as customers and merchants have come to realise the benefits of JD.com’s quality service standard provided through its integrated smart supply chain capabilities. For example, with the largest and smartest integrated supply chain network, JD.com has an edge in delivering orders the fastest, ensuring groceries are delivered fresh, and also fighting against counterfeit products through their advanced inventory management system.
The company has also been a beneficiary of the regulatory crackdown where the end of the monopolistic “two choose one (???)” exclusivity contracts has led to more merchants coming onto JD.com’s platform. Hence, JD.com saw strong merchant growth, with a 150% YoY growth of new product launches in 2021 on its platform.
Tying all these together, JD.com’s growth has translated to market share gains – reaching 21% market share in 1Q22, up from 18% in 1Q21 (whereas Alibaba’s market share fell from 52% to 49%). (Figure 4) The strong performance reinforces our confidence in the company’s business model and competitiveness to be poised for further growth.
Figure 4: JD.com’s Gross Merchandise Value (GMV) market share has grown
Moreover, JD.com’s margins have continued to improve and is likely to remain stable in the near term as cost-containment measures implemented since March is likely to bode well for the company. (Figure 5) Longer-term, JD.com remains on track for margins to expand, especially as they open up their supply chain capabilities to external customers which will result in economies of scale.
Since opening up its supply chain services to external customers, rather than just for its e-commerce customers, JD logistics has seen strong growth in its logistics business and the revenue contribution from external customers has reached record highs of 58% in 1Q22. Similar to merchants and e-commerce customers, these external customers recognise the value of JD.com’s supply chain strength.
Figure 5: JD.com’s operating margins remain resilient at 1.9% in 1Q22
String of negative news coming to an end
After a year of negatives – from regulatory crackdowns to a crisis in the property market, to the worst covid19 lockdowns in China in 2022, to spill-over weakness in US equities, and possible delisting of US-listed Chinese company ADRs – share prices of Chinese tech companies, measured by the Hang Seng Tech index has been battered down (Figure 6). But, the light at the end of the tunnel looks near, and the reason follows below.
Figure 6: Hang Seng Tech fell over -55% since its highs in February 2021
Firstly, the worst of the regulatory crackdown is likely to be behind us. The majority of the regulations and fines were imposed in 2H21, and most recently, Reuters reported that the People’s Bank of China (PBOC) accepted Ant Group’s application to become a financial holding company, which could pave the way for an IPO (although no official announcement thus far). It is a significant piece of news and cheered on by investors, as to many, the cancellation of Ant Group’s IPO in 2020 marked the beginning of the China Tech regulatory crackdown.
The Chinese government has also reiterated their support for the platform economy, with various mentions at key political meetings. For example, in May, at a special meeting by the Chinese People’s Political Consultative Congress (CPPCC), Vice Premier Liu He highlighted the need “to support the platform economy.”
This followed similar statements in April, during a Politburo meeting in which leaders vowed to support the “healthy” development of tech platform companies. In March, the government again reiterated its intention to wrap up its crackdown on internet platform companies “as soon as possible”.
Secondly, the progress made to solve the audit issue between the US and China is significant, as the willingness by China to amend confidentiality rules to meet the US audit requirements is not an everyday situation. It highlights that China is doing its part to prevent the delisting of US-listed Chinese companies.
Earlier in May, officials from the US Public Company Accounting Oversight Board (PCAOB) arrived in Beijing to discuss and work towards an agreement on the audit issues with the Chinese Securities Regulatory Commission (CSRC). Although the final agreement has yet to be announced, the progress is still encouraging.
Supportive economic policies a plus point
Moreover, apart from the end of the negatives, an added positive is the supportive policy stance the government is taking.
As China emerges from the worst covid19 outbreak, we expect the government to roll out more policy measures to help support the economy. In fact, the government has already been rolling out economic support measures and fighting back against plummeting confidence in recent months (Table 1).
Table 1: Summary of key policy actions by the Chinese authorities
The Chinese government is working hard to ensure that the economy remains robust and is able to meet its GDP growth target of 5.5% this year. In May, Chinese Premier Li Keqiang warned of dire consequences if officials do not move decisively to prevent the economy from sliding further, saying a contraction in the second quarter must be avoided.
All in all, the regulatory overhang which plagued China Tech in 2021, the slowing growth due to lockdowns, and the delisting risks that weighed in 2022, seem to have seen the worst over with brighter skies ahead.
Therefore, we expect investor’s confidence in Chinese equities to be restored, which could potentially lead to a share price recovery for JD.com (HKEX: 9618). Fundamentals wise, the policy measures should support the economy and are expected to drive demand recovery from consumers, and hence should translate to revenue and earnings strength for JD.com.
Key investment risks
Intensified competition – Competition could heighten – with Douyin aggressively pushing its live-streaming e-commerce initiatives. Pinduoduo is also pushing to expand its reach through community group buying initiatives and focusing on lower tier cities. These could put a lid on JD.com’s growth, but we like that JD.com’s unique edge in supply chain capabilities sets the company apart and is not easily imitated by competitors. Reason being, is that it takes time and expertise to build the sophisticated algorithm-driven integrated smart supply chain.
Valuation pressure – Although China is in a different macroeconomic environment from the US, given that US investors hold positions in JD.com, JD.com could see PE de-rating as investors across the world face rising interest rates and decreasing market liquidity. Nevertheless, we stay optimistic on JD.com as the regulatory overhang eases and China’s economy retains resilience.
JD.com a good buy with 160% upside potential
Summing up, JD.com has shown its resilience amid the crackdown and covid19 lockdowns, with healthy earnings results. The growth and market share gains prove that the business is sustainable and competitive, with further room for growth. Hence, with the improvement of the Chinese economy and the end of the regulatory overhang, JD.com (HKEX: 9618) should see growth and its share price is likely to find support.
Assigning a fair PE of 35X on 2024 earnings-per-share translates to a target price of HKD 680 for JD. This gives investors an attractive upside potential of 160% based on the closing price of HKD 260 as of 4 July 2022.
Table 2: JD.com’s earnings growth
We believe that JD.com deserves a 35X PE at a premium to Alibaba (5Y PE average 28X). This is because JD.com’s business is unlike Alibaba. It has a lot of value on its balance sheet due to the huge fulfilment infrastructure assets that give JD.com its moat. JD.com’s business is also more like Amazon as both have huge fulfilment networks.
Nevertheless, investors who have a lower risk appetite can consider gaining exposure to JD.com (HKEX: 9618) through the iShares Hang Seng TECH ETF (HKEX:3067) which gives diversification advantages.
Figure 7: Earnings drives share prices of a company
