Meituan: Market's Focus On Community E-Commerce And Regulatory Headwinds

Summary

• Meituan's 4Q 2020 financial performance was mixed, with its headline net loss widening despite strong revenue growth.
• The spotlight is on Meituan's growing investments in the community e-commerce business and regulatory headwinds.
• Meituan is valued by the market at consensus forward FY 2022 Enterprise Value-to-Revenue and P/E ratios of 6.4 times and 125.1 times, respectively.
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Elevator Pitch

I continue to have a Neutral rating assigned to Meituan (OTCPK:MPNGF) [3690:HK].

My prior article on Meituan was published on January 18, 2021, and Meituan's share price rose by +6% from HK$307.60 as of January 15, 2021 to HK$325.80 as of April 1, 2021 following my earlier update. Meituan is valued by the market at consensus forward FY 2022 Enterprise Value-to-Revenue and P/E ratios of 6.4 times and 125.1 times, respectively.

Meituan's 4Q 2020 financial performance was mixed, with its headline net loss widening despite strong revenue growth. The company's core food delivery business continued to perform well in the most recent quarter, but larger-than-expected investments for its new initiatives & others business led to widening operating losses for this segment.

The spotlight is on Meituan's growing investments in the community e-commerce business and regulatory headwinds. With Meituan expected to turn from profits in FY 2020 into losses in FY 2021, I choose to maintain a Neutral rating for the stock.

The three-month average daily trading value for Meituan's OTC shares and Hong-Kong-listed shares was $6 million and $1.1 billion, respectively. Investors with an interest in dealing in Meituan's Hong Kong-listed shares directly can use US brokers with foreign markets access like Interactive Brokers or Fidelity.

Mixed Financial Performance For 4Q 2020

Meituan announced its 4Q 2020 financial results on March 26, 2021, and the company had a mixed financial performance in the last quarter of 2020. On one hand, Meituan's top line jumped by an impressive +35% YoY from RMB28.2 billion in 4Q 2019 to RMB37.9 billion in 4Q 2020. On the other hand, the company's headline net loss widened from -RMB1,460 million to -RMB2,244 million over the same period.

Meituan's core food delivery business, which contributed 58% of the company's full-year FY 2020 top line, saw its segment revenue grow by +37% YoY to RMB21.5 billion in the most recent quarter. At the company's 4Q 2020 earnings call on March 26, 2021, Meituan highlighted that "we further solidified our leading position in food delivery" as evidenced by "accelerating revenue growth on the back of higher margin efficiency and wider and better food delivery supplies on our platform." The company also disclosed that "monthly transacting users reached a new high and monthly average transaction frequency of our monthly transacting users also achieved a record of more than six orders in Q4."

On the flip side, the company's in-store, hotel & travel business segment has yet to fully recover from COVID-19 headwinds, with a relatively modest (as compared to core food delivery business) +12% YoY segment revenue growth in 4Q 2020. Segment revenue for Meituan's new initiatives & others business surged by +52% YoY to RMB9.2 billion in the fourth quarter of FY 2020, but that came at the expense of higher operating losses for the segment.

Operating profit for the company's food delivery and in-store, hotel & travel business increased by +83% YoY and +21% YoY, respectively in 4Q 2020, which were driven by strong sales growth and positive operating leverage. On the flip side, operating losses for Meituan's new initiatives & others business widened significantly from -RMB1,319 million in 4Q 2019 and -RMB2,023 million in 3Q 2020 to -RMB6,003 million in 4Q 2020.

Meituan noted in its FY 2020 results announcement that "we continued to ramp up our investments in new initiatives, especially in areas that we believed to have promising long-term growth potential." This was the key reason for Meituan's widening operating losses for the new initiatives & others business segment and larger-than-expected headline net loss for the company as a whole.

Spotlight On Investments In Community E-Commerce

Meituan's share price fell by -4.8% from HK$302.00 as of March 26, 2021 to HK$280.40 as of March 29, 2021 following the company's release of 4Q 2020 financial results. The company's share price subsequently recovered by +16.2% in the next three trading days to close at HK$325.80 as of April 1, 2021. This suggests that investors are split on the merits of Meituan's growing investments in the new initiatives & others segment, more specifically Meituan Select, the company's community e-commerce business (more commonly referred to as to community group purchase in the industry).

A March 26, 2021 South China Morning Post news article noted that "Meituan Select is one of China’s leading services in the (community group purchase) market, which offers cheaper groceries for people who join together to buy in bulk, a popular service in lower-tier cities." In the same South China Morning Post article, companies like "Tencent(OTCPK:TCEHY) (OTCPK:TCTZF)-backed Shixianghui, Pinduoduo’s (PDD) Duoduo Maicai, Didi’s (DIDI) Chengxin Youxuan, and Nice Tuan, backed by Alibaba (BABA)" are highlighted as some of Meituan's key competitors in the community e-commerce or community group purchase market in China. Meituan has set an ambitious target of adding 300-400 million new users for Meituan Select "in the next few quarters", on top of the existing 500 million user base.

There is skepticism among analysts over Meituan's ability to beat its rivals and generate decent profits in the Chinese community group purchase market anytime soon. Bloomberg Intelligence mentioned that "the push to build its supply chain and delivery capabilities in rural areas for agricultural produce and grocery retail could be protracted" could lead to " the next few quarters mired in operating losses" with other Chinese internet giants "eyeing the same market." Fitch Ratings thinks that "the upfront investments in logistics, warehousing and labor costs primarily related to Meituan Select, and other investments to increase scale for the smaller business segments could result in sustained deterioration of Meituan's financial profile", and it also noted that Meituan "will need to make sustained investments to establish itself in the (new) markets in the medium term."

In response to doubts over Meituan's increased investments in Meituan Select, the company stressed that the community e-commerce business has synergies with its core food delivery business and other businesses. At the company's recent 4Q 2020 results briefing, Meituan shared that the community e-commerce business will help the company's food delivery business "penetrate into lower-tier cities and acquire a massive number of new consumers", and it also emphasized that "cross-selling opportunities are still massive with our other businesses, such as in-store services, hotel booking, broader retail or ridesharing business."

Also, it is possible that Meituan Select's future losses could be lower-than-expected due to two key factors. Firstly, Meituan Select could benefit from positive operating leverage in areas such as logistics costs as it grows bigger. Secondly, Meituan Select still has room to increase the proportion of direct sourcing and cutting out the middlemen. On the flip side, it will be challenging to reduce subsidies for consumers and commission rates paid to the group leaders of the community buying groups in the near-term, considering the current competitive environment.

Based on S&P Capital IQ data, sell-side analysts see Meituan's revenue growth accelerating from +18% YoY in FY 2020 to +55% in FY 2021, but this comes at the expense of headline and adjusted net losses of -RMB11.3 billion and -RMB8.1 billion in the current fiscal year.

Regulatory Headwinds

Regulatory headwinds seem to be intensifying for both Meituan's existing food delivery business and its new community e-commerce business.

Based on a Reuters news article published on March 3, 2021, Meituan Select was given a fine of RMB1.5 billion, after Chinese regulators determined that Meituan Select and its peers "had issued since the second half of 2020 a large amount of price subsidies which disrupted market order" and "used false or misleading price tactics." Separately, Bloomberg noted in an article last month that "in food delivery, Meituan’s biggest revenue contributor, regulators have begun paying more attention to commissions charged to merchants."

Notably, Meituan acknowledged such concerns at the company's recent 4Q 2020 earnings call, saying that "it is also a sensitive topic for us to monetize (merchants that are mostly small-to-medium sized enterprises) through our operation" and "there could be some modification to how we charge the merchants" for its food delivery business. Meituan also stressed that "we will do our best to be a good corporate citizen" and "stick to our belief that bigger scale means bigger responsibility for a company like us."

Regulatory headwinds remain a key uncertainty for leading internet companies in China such as Meituan, and it is impossible to predict the direction of future regulatory developments and their impact on the company.

Valuation And Risk Factors

The market values Meituan at 8.9 times consensus forward FY 2021 Enterprise Value-to-Revenue and 6.4 times FY 2022 times consensus forward Enterprise Value-to-Revenue according to the company's stock price of HK$325.80 as of April 1, 2021. Meituan also trades at a consensus forward FY 2022 normalized P/E multiple of 125.1 times. The company is expected to be loss-making in FY 2021.

Meituan's key risk factors are larger-than-expected investments in the company's community e-commerce business that fail to deliver good results, and regulatory headwinds intensifying over time.

Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.