To The Moon

Blockbuster 3Q earnings

Readers will know that Pinduoduo $Pinduoduo Inc.(PDD)$ is my top pick for Chinese companies. The shares price has risen 42% since my last recommendation on 2 November.

Yesterday, Pinduoduo reported a second consecutive quarter of blockbuster earnings on Monday. This resulted in a 13% jump in its shares price yesterday.

Here are some insights:

• Robust earnings
• Strong value adds to merchants, manufacturers, and consumers
• 10 Billion Agriculture Initiative
• Temu is the wildcard
• Clear winner in China E-commerce
• Word of caution

Robust earnings

Pinduoduo reported a robust set of earnings and revenue beat for 3Q2022. Revenue rose 65% to 35.50 billion yuan, above expectations of 30.9 billion yuan. Adjusted EPS jumped 295% to 8.62 yuan, exceeding expectations of 4.75 yuan. Gross margin rose 14% to 79.1%.

Online marketing services revenue is the greatest contributor to revenue growth. They rose 58% to 28.43 billion yuan, above expectations of 24.31 billion yuan. Another contributor is the transaction services revenue which soar 201% to 7.02 billion yuan, far exceeding estimates of 6.54 billion yuan. The main disappointment came from the merchandise sales revenue which declined 31% to 56.4 million yuan, missing expectations of 58.1 million yuan.

Strong value adds to merchants, manufacturers, and consumers

Merchants

By leveraging on Pinduoduo’s platform, the company is deepening its cooperation with merchants. Merchant activities rose with a higher number of merchants and brands using the platform to reach consumer demand. This includes providing more savings, more fun shopping experience as well as coupon and promotional events to attract consumers.

Manufacturers

Pinduoduo leverages on its team purchase model and technological capabilities to help manufacturers directly reach out to consumers. This helps the manufacturers to create their own brand and reduce intermediary layers. Over the past seven years, Pinduoduo has helped to build up nearly 1,000 brands through such avenue.

In addition, Pinduoduo is looking to further add value by providing a one-stop digital solution covering the entire value chain. These will help traditional manufacturers to go through digital transformation and generate cost savings as well as reduce uncertainty during the R&D and production processes.

Consumers

Pinduoduo remains highly popular among consumers as it helps to better match consumer demand with relevant items. Pinduoduo’s revenue growth of 65% in the third quarter is way above the 11% and 3% revenue growth for JD and Alibaba. This indicates Pinduoduo is taking market share away from its peers. The management has also witnessed strong demand at categories including agriculture produce, electronics, consumer appliances, cosmetics, sports, home goods and furniture.

Traditionally, Pinduoduo occupies strong market positioning among lower value items through its team purchase model. Now, the company is going up the value chain by expanding its product categories in agricultural produce, electronics, home appliances, and cosmetics. This is in response to growing demand from its consumers for higher quality products.

10 Billion Agriculture Initiative

Beyond its e-commerce business, Pinduoduo is gaining traction in its long-term strategy of agricultural development through technology.

With the firm’s technical expertise, Pinduoduo has improved the distribution efficiencyof agriculture products via harvest festival promotional events. This has helped to cover thousands of production regions and help farmers to broaden their market access. In turn, this also allows their consumers to enjoy fresher and high-quality agricultural produce within a shorter amount of time.

Secondly, Pinduoduo has helped to commercialize agri-tech solutions by bringing in scale with their sales volume. For example, the use of agri-tech has streamlined the sales process and enabled products to be quickly rollout to the consumers. This generated a faster turnover that has benefited both the farmers and consumers.

Temu app is the wildcard

Pinduoduo rolled out their international business in September via the Temu app in the US. The app has risen to become the leading shopping app in the US with more than 5 million installations. It is currently the top free iPhone and android app in the US for November.

Temu’s name stands for “team up, price down”. Pinduoduo is replicating the success formula of its team purchase model by encouraging users to join group buy deals for bulk discounts on premium items such as expensive skincare products. In addition, the company is using games to hook consumers, and this has resulted in many users playing casual games such as the viral fruit-growing game, and this has led to higher adoption of the Temu app.

While it is still early days, a successful execution of its international business strategy would enable Pinduoduo to diversify its revenue base beyond China and this could lead to a strong valuation re-rating for its share price.

Clear winner in China E-commerce

For 3Q2022 results, Pinduoduo is the clear winner among China E-commerce companies with strong outperformance in revenue, EPS and margin growth. Just comparing earnings alone, Pinduoduo’s 3Q EPS growth of 295% is much higher than the 98% and 15% revenue growth for JD and Alibaba respectively.

Word of caution

So far, Pinduoduo has enjoyed a strong outperformance with 27% in shares price this year, compared to a 32% plunge in CSI Overseas China Internet Index.

While we believe that Pinduoduo will remain the winner within the Chinese e-commerce market, the risk-reward is no longer as attractive as the shares price of Pinduoduo has rebounded strongly with a 35% increase this month. Further, the firm has cautioned that the strong 3Q operating profit may not be repeatable. This is due to intense competition and the return of R&D investment which were delayed because of the intermittent COVID lockdowns.

Pinduoduo is currently trading at 27.2x FY2022 P/E, with an expected earnings growth of 21%. It trades at close to 0.5 standard deviation below its 1-year mean P/E of 27x, which is no longer at distress valuation. Hence, it will be prudent for investors to re-enter Pinduoduo only on pullback in the shares price.