Matteo Colombo
Hong Kong financial services platform, AMTD Digital Inc. (NYSE:HKD) closed 108% above its initial offer price of $7.80 in its U.S. initial public offering (IPO), making it the biggest listing of its size. The company raised nearly $125 million and earned a valuation of $3 billion.
What AMTD Digital Does
The company has a very interesting mission statement. According to its F-1/A filing, AMTD aspires to be a “fusion reactor for the best entrepreneurs and innovative ideas,” by digitally bringing together all elements within its ecosystem and leveraging that power to deliver “social, technological and economic impact.”
The company’s digital solutions platform, AMTD SpiderNet, operates across four business lines: digital financial services, SpiderNet Ecosystem Solutions, Digital Media, Content, and Marketing, and Digital Investments.
The company’s revenue is derived from fees and commissions levied on its digital financial service business and its SpiderNet Ecosystem Solutions segment.
The company is riding a way of digital transformation, which was accelerated during the pandemic. It is already Asia’s most integrated digital solutions platform, and in this regard, is likely to grow in value given network economies. Asia is a vast market that is in many ways ahead of the United States in terms of product development. Asia also possesses a young, growing population that is becoming wealthier. This presents the company with a massive market opportunity. The fact that many Asian economies are not very developed is a plus for AMTD Digital, because that provides the need, and also allows AMTD Digital to help those economies jump developmental levels by going straight to digital.
Financial Performance
The company has grown revenue from HK$14.55 million on April 30, 2019, to HK$195.8 million (US$25.2 million) on April 30, 2021, and from HK$162.4 million in the ten months ended February 28, 2021 to HK$168.0 million (US$21.5 million) in the ten months ended February 28, 2022. This represents a compound annual growth rate (CAGR) of nearly 140%. According to Credit Suisse’s Base Rate Book, only 2.5% of businesses are able to achieve that kind of growth.
Exceptional growth has come with profitability. Net income has increased from HK$21.5 on April 30, 2019 to HK$171.6 million (US$22.1 million) on April 30, 2021, and from HK$113.0 million in the ten months ended February 28, 2021 to HK$186.8 million (US$23.9 million) in the ten months ended February 28, 2022. That represents a 3-year CAGR of nearly 100%.
In that period, the company’s free cash flow (FCF) has grown from HK$24.56 to HK$213.76 million. Once again, we see incredible growth in a key metric, with FCF growing by a 3-year CAGR of 105.7%.
The company’s ability to marry growth with profitability points to its strong competitive advantages.
The China Threat
Although China and Hong Kong have a “one country, two systems” philosophy, in recent years, Hong Kong increasingly has been brought within the same system as that of mainland China. Ordinarily, this would not be an issue from an investment standpoint, but it is one in a post-Ukraine world. Under President Donald Trump, relations with China soured, and this has continued under President Joe Biden. The Chinese have signaled a readiness to go to war with the United States. The risk of war between the two powers has been steadily rising, with Taiwan the most likely source of conflict.
We have already entered a period of de-globalization, with the world splintering into the Western, Chinese, and non-aligned spheres. In this world, geopolitical considerations will outweigh economic considerations. Investors should, then, take into account the probability of war, which Admiral Philip Davidson believes could take place within the next six years, and ask themselves what this means for any investments in China and Hong Kong.
With Hong Kong increasingly a part of the same system as mainland China, the kind of sanctions regime thrown at Russia is likely to affect Hong Kong as well. That means investors face a huge risk of being forced out of Hong Kong and taking on massive losses. Russia should be a warning to investors that in this new moment we are in, investing in countries that the United States is in conflict with, or which the United States is likely to be in conflict with, will lead to economic losses.
Valuation
AMTD Digital is overpriced. With an FCF of HK$213.76 million ($27.23 million) and a market cap of $4.63 billion, AMTD Digital has a free cash flow yield of just 0.27%. This is an unattractive rate at a time in which the yield on Treasuries is rising.
Conclusion
Despite very exciting fundamentals, of very high quality, the risk of conflict with China makes this a very risky proposition. Given that both sides anticipate a conflict, and what we have seen with Russia, any investment in Hong Kong could be subject to sanctions in the short-term. That risk is too high for any sensible investor.
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