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Elevator Pitch
My investment rating for Meituan’s (OTCPK:MPNGF) [3690:HK] shares is a Sell. This is an update of my previous article for Meituan published on January 18, 2022 which touched on the company’s partnerships.
Recent insider sales by a key non-executive director have prompted me to take another look at the investment case for Meituan. After assessing the company’s near-term financial outlook, the competitive landscape for food delivery, and risks relating to regulations and policies, I decide to assign a Sell rating to Meituan.
Insider Selling
Meituan’s non-executive director, Shen Nan Peng, sold approximately 6.5 million shares of Meituan between July 21, 2022 and July 25, 2022, and he reduced his shareholdings interest in the company from 2.81% to 2.69% as a result of this series of transactions.
In the company’s FY 2021 annual report, Shen Nan Peng’s role on the Board was described as one of “providing advice on investment and business strategies, financial discipline” to Meituan. He is the founder of private equity firm Sequoia Capital China, and he has been a director at Meituan since October 2015.
While there could be multiple reasons why an individual chooses to sell shares of any listed company, it is still somewhat of a negative signal. Also, it is worth reviewing Meituan’s outlook again in view of such recent developments.
Q2 2022 Preview
Meituan is expected to report the company’s financial results for the second quarter of 2022 at the end of August, based on an analysis of the timing of its past earnings releases.
Q2 2022 should be a tough quarter for Meituan. According to the sell-side’s consensus financial forecasts taken from S&P Capital IQ, Meituan’s revenue growth is estimated to moderate from +30.6% YoY in Q4 2021 and +25.0% YoY in Q1 2022 to +11.7% YoY in Q2 2022. The expected weak top line expansion for Meituan in the second quarter of the current year is mainly attributable to COVID-19 lockdowns in China which will have been a major negative for the company’s performance, especially that of its in-store, hotel & travel business segment.
On the positive side of things, the sell-side analysts see Meituan’s operating loss narrowing from -RMB5,584 million in the first quarter of 2022 to -RMB3,220 million in the second quarter of the current year. At Meituan’s Q1 2022 earnings briefing on June 2, 2022, the company mentioned that greater economies of scale for its core food delivery business and “improved operating efficiency” had helped the company achieve lower operating losses on a YoY basis in the first quarter. It is likely that these are the same drivers that will help Meituan to generate a reduced operating loss for Q2 2022.
Nevertheless, Meituan is still projected to stay loss-making at the operating profit level for the rest of 2022 as per the sell-side’s consensus numbers. Meituan suffered from a substantial operating loss of -RMB9 billion for its new initiatives & others business segment in Q1 2022, and this segment should continue to be a big drag on the company’s overall profitability for the rest of the year.
Potential Competition In The Food Delivery Market
Meituan is the dominant player in China’s food delivery market with approximately 67% share. But the company’s dominance is set to be challenged by the potential entry of new competitors.
A June 16, 2022 Bloomberg article highlighted that JD.com (JD) “is exploring a possible foray into food delivery” on the basis that its “logistics affiliate, Dada Nexus Ltd., has ‘strong capability’ in same-city delivery.” Separately, South China Morning Post published an article on July 17, 2022 noting that “ByteDance’s (BDNCE) Douyin, the Chinese version of TikTok” is venturing into the food delivery segment by allowing certain companies to have “an option on their Douyin channels for users to order food with delivery.”
It isn’t a complete surprise that many Chinese internet companies are seeking out new growth drivers like food delivery, as their existing core markets become mature and saturated, while COVID-19 lockdowns hurt China’s economy. In the worst case scenario, Meituan could either suffer from market share loss to new entrants, or be forced to offer more incentives to consumers which will weaken the profitability of its core food delivery business.
Pay Attention To “National Service” And Regulatory Risks
Investors should also pay attention to “national service” and regulatory risks associated with leading Chinese companies such as Meituan.
As an illustration, Meituan announced earlier in March 2022 that it will “cut merchant fees” to be aligned with “new government guidelines” which “asked food-delivery platforms to lower fees for restaurants in pandemic-hit regions” as per a March 2, 2022 Bloomberg report. It is clear that national interest and the well-being of ordinary folks in the country take precedence over everything else.
As such, there is a risk that Meituan might possibly offer more concessions to small businesses and consumers in the future, if the Chinese economy continues to weaken. Notably, Meituan stressed at its Q1 2022 investor call that it “will continue to assist small and medium-sized merchants”, as “corporate social responsibility is at the heart of everything we do.”
On the other hand, it appears that the Chinese regulators aren’t letting up on their efforts to target anti-monopoly practices in the country.
On July 11, 2022, Seeking Alpha News reported that Alibaba (NYSE:BABA) and Tencent Holdings (OTCPK:TCEHY) were among the companies fined by “China’s State Administration for Market Regulation” for “improperly reporting details of some of its past acquisitions.” Earlier on June 28, 2022, a Reuters article mentioned that The State Administration for Market Regulation or SAMR came up with “draft rules and provisions aimed at improving its ability to govern antitrust behavior” in China.
Considering Meituan’s outright market leadership in China’s food delivery market (accounting for two-thirds of the market as discussed earlier), the company is seen to be one of the most vulnerable to any new anti-monopoly regulations or guidelines issued by the Chinese authorities in the future.
Closing Thoughts
Meituan is rated as a Sell. In the short-term, the company’s financial outlook is weak as a result of COVID-19 lockdowns. In the medium to long term, Meituan is expected to face more intense competition in its core food delivery business, while regulatory headwinds don’t seem to have faded away yet.
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