Ctrip's Vindication, And New Game Boosts

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About: Invesco China Technology ETF (CQQQ), CTRP, FXI, KWEB, Includes: BKNG, EXPE, INFO, JD, MOMO, NTES, TCEHY, TCTZF, TRIP, TRVG, XI
by: Chinese Internet Weekly
Summary

Ctrip's bulls get vindicated thanks to the solid 4Q 2018 results and management optimism on the outlook.

NetEase and Tencent received game approvals. While NetEase's two games look promising, I have a concern over Tencent's game.

China's February PMIs do not augur confidence. Southeast Asian nations are generally seeing weakness as well, leaving India as one of the few bright spots for the Chinese internet firms.

By ALT Perspective

In this week's issue of Chinese Internet Weekly, besides the general discussion on the week's stock price movements, I will elaborate on the earnings of Ctrip.com International Ltd. (CTRP). I will also look into the implications from the newly released purchasing managers' indices compiled for February.

As explained in a past issue of the Chinese Internet Weekly, I found the top constituents of the KraneShares CSI China Internet ETF (KWEB) (CQQQ) (FXI) to be more relevant to the sector. Hence, allow me to provide an overview of the week's share price movements of the top few holdings of KWEB as compared with the ETF itself for an overview and convenient reference in the subsequent sections. From a quick glance, readers can easily notice the contrasting performance of the group of counters last week which will be interesting to discuss. Note that there are substantial changes in the top holdings of KWEB, and I discussed the topic in a prior issue of Chinese Internet Weekly.

Chart Data by YCharts

Ctrip's Market-Defying Share Price Jump Amidst Caution Over Valuation Of Chinese Stocks As Well As Brexit And Trade Talks Uncertainties

Last week, most stocks took a stumble as the broader stock market swooned on the protracted Brexit drama and fresh uncertainties over the US-China trade talks. Chinese stocks, in particular, suffered a bout of shakeout following a double whammy. Investors turned jittery as the February trade data of China was worse than expectations and two prominent Chinese companies were downgraded on overvaluation concerns. In addition, local authorities meting out penalties for two lenders indicted for illegally channeling money into the stock market led to fears that regulators could tighten supervision and enact policies that would dampen the stock market momentum.

On Friday, the Shanghai Composite Index, the stock market benchmark in China, sank 4.4 percent, the steepest daily decline since October 11. Two brokerages lowered their rating for a top securities firm China Securities Co. Ltd. and state-owned insurer The People’s Insurance Co. (Group) of China Ltd. to a Sell. Shares at the two firms plummeted by the 10 percent daily limit on Friday.

Meanwhile, analysts are digesting the February trade data that showed China’s exports crashing by 20.7 percent year on year to $135.2 billion, the sharpest pace in three years. The steep drop is ostensibly attributable to weaker demand globally, and the trade war. Imports backpedalled for the third consecutive month, declining 5.2 percent year on year, reinforcing views that domestic consumption is softening. Nevertheless, the perennial distortions due to the timing of the Lunar New Year holiday meant that the numbers may not be as dreadful as they appear.

Exports to the U.S. fell the most in nearly two decades, reflecting the consequence from the tariff-beating prestocking last year which pulled the demand forward. Even as Chinese imports from the U.S. plunged even more in percentage terms at 19.9 percent lower year on year, China's trade surplus in goods narrowed to $14.72 billion in February from $27.3 billion in January. The smaller trade surplus would certainly help to reduce tensions among the trade negotiators.

Bucking the general market direction was online travel booking agency Ctrip.com which took over the crown of the largest share price appreciation from JD.com (JD) last week with its 18.8 percent weekly gain. The trigger was the surprise Q4 2018 profitability on a non-GAAP basis. Q4 2018 non-GAAP EPADS came in at $0.13, beating consensus estimates for -$0.03. A miss of $0.13 for EPADS at -$0.32 on a GAAP basis was shrugged off by investors. Revenue, on a fourth quarter basis, breached the billion-dollar mark for the first time at $1.1 billion, up 22 percent from the previous year. It was also a beat, albeit by a narrow one at $50 million. More on its quarterly results and outlook in the subsequent section.

Game Titans NetEase And Tencent Received Game Approvals

Also in positive territory were NetEase (NTES) and Tencent Holdings (OTCPK:TCEHY) (OTCPK:TCTZF) which managed to climb 4.2 percent and 2.3 percent respectively last week. NetEase received two game approvals from China's State Administration of Press, Publication, Radio, Film and Television while Tencent had one.

NetEase's two games have already been available for playing since last year but prior to getting the official approval, it has been unable to monetize them. The website for FortCraft has a prominent banner calling for beta testers for its iOS app.

NetEase FortCraft game

Source: NetEase FortCraft

The app for the second game, HuiZhen-MiaoBiQianShan (绘真-妙笔千山), received an Editor's Choice label and earned a score of 9.3 (out of 10) on games platform TapTap.com. It has already been installed 642812 times as of the time of writing on the platform.

NetEase new game approval 网易绘真妙笔千山 (TapTap.com)

Source: TapTap/NetEase

Tencent's game is a sequel to a popular 3D title Seeking Deity (寻仙). The following picture is a wallpaper featuring a character in the game. Considering how the characters are portrayed, I am a little concerned whether the authorities could be pressured to recall their approval subsequently. Last year, the games suspension debacle in China was partly due to complaints over the violent nature of some popular games, as well as the seductive portrayal of game characters in others.

Source: Tencent QQ

Ctrip's 4Q 2018 Results Vindicated The Bulls

Despite the gloomy macro environment, Ctrip.com continued to achieve steady revenue growth last year. Its 2018 full year revenue hit $4.7 billion, giving it a Price-to-sales ratio of 5.1 times, a far cry from just three years ago when it fetched double-digit multiples.

Chart Data by YCharts

Its operating income remained at a multi-year high, hovering around $400 million on a trailing twelve-month basis in the recent quarters. Its net financial debt is also at a much improved level at only $184 million, compared to almost $2 billion in 2016.

Chart Data by YCharts

At the same time, Ctrip has expanded its market share, with GMV (excluding Skyscanner) reaching RMB725 billion, higher by 30 percent from 2017. In the fourth quarter of 2018, the revenue generated from the international business constitutes 30-35 percent of the group level total revenue, providing some level of diversification from its dominant domestic business. Jane Jie Sun, the Chief Executive Officer of Ctrip, claimed during the earnings conference call that its international hotel and air ticketing business units both grew about thrice as fast as the industry. The CEO also expressed confidence in outperforming peers in the uncertain climate.

"In the near-term, in terms of the uncertainties or macro slowdowns, yes, we do observed there’s some macro slowdown, especially if you compare first-half of 2018 towards the end of 2018. There’s some industry data slowdowns, but we also noticed that we’re actually gaining market share in a much faster way.

For example, in the first-half of 2018, we probably doubled the industry growth when the industry growth at a pretty high level. But towards the end of the year, the industry go slowdown, but we almost travel the industry growth, for example, the outbound travel business, which proved that Ctrip as a leader, we have a very resilient business model. And if there’s any uncertainty, it’s always the best opportunity for us to outpace this industry growth in a much faster way."

Thanks to the earnings surprise and the management optimism, investors sent Ctrip's share price soaring on Tuesday. Nevertheless, the jump last week was unable to erase its slump over the past 12 months. It has managed to claw back losses and better peer agencies such as Booking Holdings (BKNG) and Trivago (TRVG) but it would take a significant appreciation in its share price to surpass Expedia (EXPE) and TripAdvisor (TRIP) which are in positive territory on a one-year basis.

Relative share price performance among online travel booking agencies (Expedia, Ctrip, Trivago, TripAdvisor, Booking Holdings)

Source: Seeking Alpha

February PMIs Of China And Southeast Asia Do Not Augur Confidence, Leaving India As One Of The Few Bright Spots

In an earlier article, I explained my recommendation for investors to pay attention to the PMIs. The logic behind it is simple, and it’s not due to bias because I own shares in IHS Markit (INFO). Particularly for those distrusting of the GDP data or, for the matter, any other official statistics from the Chinese authorities, the Caixin/Markit PMI would be a comfortable alternative indicator of the economic activity in China. In addition, the PMIs are some sort of a forward indicator of where the economy is heading, making it more useful for investors than the GDP releases.

The February Caixin China General Manufacturing PMI posted fractionally under the neutral 50.0 mark at 49.9, signaling broadly stable operating conditions. While that doesn’t inspire much optimism regarding the state of health of the Chinese economy, it should be noted the latest reading was significantly improved from the 48.3 in January, and was the highest level in three months.

However, the survey results confirmed the job market remained in the doldrums, with the employment sub-index falling deeper into the negative territory as companies continue endeavors to cut costs. The downward pressure on employment led to a slowdown in the growth of the services sector. The Chinese services Business Activity Index for February came in at 51.1, still positive but sharply below the 53.6 in January.

Caixin China Composite PMI 2019 February Chart Source: Caixin/Markit

While China is far from suffering an economic malaise, the government is not taking chances. Beijing has allowed provincial authorities to begin bond sales in January, three months ahead of the typical schedule. The fund raising is ostensibly to spur higher expenditure on infrastructure projects in its bid to stem a steeper decline in economic growth. It is also planning to cut company taxes and fees by almost 2 trillion yuan ($298.31 billion), an amount that surpassed market expectations. In fact, the total cuts are likely to exceed 2 trillion yuan this year, thanks to the delay effect of previous preferential policies, according to a clarification by Finance Minister Liu Kun. Despite its myriad efforts, the Chinese government still lowered its economic growth target for 2019 to 6.0 to 6.5 percent from the 2018 target of around 6.5 percent.

Outside of China in the Asia region, the landscape is rather mixed. In the Indo-Pacific region where several Chinese internet companies have ventured into aggressively, we have three countries with significant consumer spending traditionally seeing a retreat in their manufacturing PMIs; Thailand, Malaysia, and Singapore, which have been attracting investments from the tech firms, recorded PMIs below the neutral mark at 49.9, 47.6, and 45.7 respectively. High growth Vietnam also saw a slower February compared to January. Indonesia was a bright spot, rebounding into positive territory albeit only slightly at 50.1.

In India, the private sector activity registered a “solid and accelerated increase” in February, with the Nikkei India Composite PMI Output Index rising to 53.8 from 53.6 in January. Aggregate employment saw the second-steepest rise in nearly nine years. The favorable economic conditions in India bode well for Chinese internet firms like Alibaba and Xiaomi (XI) which targeted the populous country as one of their key growth markets.

Looking at the sectoral PMI in Asia, it is clear that the output at automobiles and auto parts firms remained stuck in the rut (see the chart below), declining for the fifth consecutive month and at the quickest pace in close to eight years. Readers interested to see the full sectoral breakdown can go to the original PDF which provides a rather long but informative chart. The deterioration in the new automotive production does not translate into a disaster for the second-hand car market. On the contrary, investor interest in second-hand car marketplace providers continues to be strong.

Asia Automotive and Auto parts PMI 2019 February (IHS Markit) Source: IHS Markit

Market Outlook

This week, a couple of economic data releases that could attract significant media attention include the vehicle sales data for February scheduled for March 13, Wednesday, and retail sales data the next day. Market observers and investors alike would be keen to find out the consumer spending pattern over the Lunar New Year period.

Thursday would also see the announcement of China's M2 money supply. According to the definition provided by Investopedia:

"M2 as a measurement of the money supply is a critical factor in the forecasting of issues like inflation. Inflation and interest rates have major ramifications for the general economy, as these heavily influence employment, consumer spending, business investment, currency strength and trade balances."

On the corporate front, we have earnings announcements from live broadcasting service provider Momo (MOMO) pre-market on March 12, Tuesday.

Disclosure: I am/we are long BABA, NTES, JD, TCEHY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.