China Literature: Short-Term Prospects And Long-Term Potential In The Spotlight

seekingalpha07-08

China Literature's near-term growth outlook is negatively impacted by the company's emphasis on pay-to-read offerings.CHLLF's acquisition of its Tencent's animation & comics assets boosts the company'...

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On its investor relations website, CHLLF highlights that it owns \"leading online literature platforms\" in China and \"collaborates with Tencent (OTCPK:TCEHY) (OTCPK:TCTZF), its shareholder and strategic partner\" and others \"to distribute and develop IP (Intellectual Property) content.\" China Literature's long-term growth potential has been boosted by the company's purchase of assets from Tencent's comics and animation businesses. But the company's revenue prospects for the near term are expected to be negatively affected by its pivot towards pay-to-read products. As such, I have chosen to maintain my Hold rating for China Literature. Investors should know that the company's shares can be bought or sold on the Hong Kong equity market and the Over-The-Counter market. China Literature's shares listed on the Stock Exchange of Hong Kong boasted a mean daily trading value of $12 million for the last three months, but its OTC shares have low trading liquidity. Readers can consider engaging the services of US brokers like Interactive Brokers or Hong Kong brokerages such as Boom Securities to trade in China Literature's relatively more liquid Hong Kong shares. A Pivot Towards Pay-To-Read Could Lead To Short-Term Pain Previously, I mentioned in my September 7, 2020 write-up that \"the success of the company's online reading business will be dependent on how it maintains a delicate balance between its free and paid reading sub-segments.\" This has remained a tough balancing act for China Literature, as seen with the company's most recent results. China Literature reveals its financial performance twice every year by virtue of being a Hong Kong-listed company. CHLLF's latest FY 2023 financial results were released in March this year. The company's top line contracted by -8% from RMB7,626 million for FY 2022 to RMB7,012 million last year, and its actual FY 2023 revenue turned out to be -1% (source: S&P Capital IQ) lower than the sell side's consensus estimate. In its FY 2023 results announcement, CHLLF explained that the company's decision to \"distribute more content through our core pay-to-read products with higher ROI (Return On Investment)\" drove a \"decrease in advertising revenues\" for its free-to-read offerings. It is also worth noting that China Literature's ARPU (Average Revenue Per User) for its pay-to-read products on a monthly basis fell by -14% YoY to RMB32.5 in the prior year. Seeking Alpha News recently reported on July 3, 2024 that \"the Caixin China General Services PMI (Purchasing Managers' Index)\" decreased from 54.0 in May 2024 to 51.2 for June 2024, which was also below the consensus projection of 53.4. The July 3, 2024 Seeking Alpha News article referred to this as the \"slowest pace\" of \"service activity growth\" in \"eight months.\" It is realistic to think that Chinese consumers would have cut back on discretionary services like paid online literature in recent times, judging by the latest General Services PMI numbers. At its FY 2023 earnings briefing (transcript sourced from S&P Capital IQ) in March, China Literature also acknowledged that \"the focus on core pay-to-read products probably would produce an impact on the advertising revenues\" when it was asked about the 2024 outlook. China Literature's revenue is projected to grow by +9% in local currency or RMB terms in FY 2024 as per S&P Capital IQ data. The consensus 2024 revenue growth forecast does represent an improvement from 2023's top line contraction. But this is way below CHLLF's +23% top line growth in 2018 and +66% revenue expansion in 2019 before the COVID-19 pandemic. To sum things up, CHLLF's pivot towards pay-to-read offerings will continue to be a drag on its top line performance for the near term, especially when the Chinese economy is still struggling as evidenced by the latest General Services PMI figures. Acquisition Of Tencent's Animation & Comics Assets Offers The Potential For Long-Term Gain My prior September 7, 2020 update mentioned that CHLLF was \"working with Tencent Comics and Tencent Games on new visual comics & animation and games, respectively, based on existing intellectual property\" as part of its IP monetization strategy. There has been a key positive development on this front. China Literature stressed at its 2023 earnings call that its latest \"acquisition of the assets of Tencent Animation and Comics will further enrich our portfolio of IP\", and \"bolster our pipeline of comic adaptations and expands our production capacity for the animated series.\" Late last year, China Literature issued an announcement disclosing that it bought over comics IPs, animation projects, and a 90% stake in animation & comics content production business Michengzi from its parent, Tencent. Key statistics obtained from China Literature's disclosures and third-party research indicate there is strong long-term growth potential relating to CHLLF's latest asset acquisition deal. China Literature revealed in its December 11, 2023 announcement that half of \"Tencent Animation and Comics' top 30 best-selling comics\" were \"adapted from China Literature's literary works.\" CHLLF mentioned in this announcement that this recent transaction will \"accelerate the visualization process of the Company's literary works.\" In other words, the company is expected to leverage on this recent acquisition to speed up the adaption of its online literature into comics, and also introduce new animation series adapted from comics. Separately, an earlier April 22, 2024 report (not publicly available) published by Mainland Chinese research firm Southwest Securities titled \"Multiple IP Project Releases Expected\" drew attention to the value of the acquired Michengzi company. According to Southwest Securities April 2024 report, Michengzi is a company set up by comics illustrator Mi Er whose most well-known work is the \"Under One Person\" comics series. Mi Er owns the remaining 10% equity stake in Michengzi, and the \"Under One Person\" comic series is hugely popular, boasting cumulative user views of 30 billion as of April 2024. China Literature's growth outlook for the long run will be very favorable, if the company can own the most valuable IPs and monetize them in the most effective manner. The company's purchase of Tencent's animation & comics assets is a shrewd move in terms of expanding the company's IP portfolio and extending its long-term growth runway. Closing Thoughts CHLLF is rated as a Hold, taking into account both its short-term and long-term outlook. Also, China Literature's valuations are fair, as both its forward P/E and expected earnings growth rate are at the mid-to-high teens level. As per S&P Capital IQ data, the stock trades at 17 times consensus next twelve months' P/E, while its consensus FY 2023-2028 earnings CAGR is +16%.  Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. 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