After the gains, Pinduoduo seems to be China’s best move in Large Caps

  • Pinduodu’s explosive earnings continue its impressive growth story
  • The company continues to take market share from larger rivals
  • The standard risks of investing in China certainly apply, but investors willing to take those risks should take a good look at PDD.

Over the past four quarters, Chinese e-commerce platform Pinduoduo (BVMF:)(NASDAQ:) generated about $14 billion in revenue. That’s certainly an impressive feat. But it is much more impressive when you consider an important fact: the company was founded in September 2015.

In 2002, seven years after (BVMF:)(NASDAQ:) was founded, it generated only $4 billion in sales. Obviously, e-commerce was a much more primitive business back then. But Amazon didn’t have to compete with existing giants like Pinduoduo, which took on Alibaba (BVMF:)(NYSE:) and (BVMF:) (NASDAQ:).


It was Alphabet (BVMF:)(NASDAQ:), then known simply as Google, that set the record for the shortest time from its founding to $10 billion in revenue. It took eight years for this company.

There is an argument that Pinduoduo – originally founded as an agricultural retailer – is the most successful startup of all time. However, this stock, even after rallying after last Friday’s blowout, trades at just 32x trailing 12-month adjusted earnings.

To be sure, there are reasons why the win multiple here is so low. But even in this context, Pinduodu shares seem too cheap – at least for investors willing to take the risk of owning them.

Explosive earnings report

You will rarely see a profit higher than what Pinduoduo posted in Q2. Analyst consensus forecasts revenue of 23.62 billion yuan; actual results were 31.44 billion yuan, up a third. The consensus estimate for adjusted earnings per ADR (an American Depositary Receipt, an instrument effectively traded on American stock exchanges, representing four ordinary shares) was 2.75 yuan; Pinduoduo indeed earned 7.54 yuan.

Beyond the size of the hit, what matters is what the predictions and results actually mean about the business. Analysts expected revenue to increase by less than 3%; in fact, it grew by 36%. Those same analysts expected a decline in earnings; instead, they more than tripled.

The reason why analysts expected tepid growth is twofold. First, macroeconomic pressures and ongoing blockades in China suggest weak demand in the quarter. But more importantly, Pinduoduo has really been driving pretty tepid growth lately.

Q1 revenue rose just 7% year over year, following a 3% increase in the fourth quarter of 2021. Macroeconomic factors are certainly at play, but live e-commerce, led by ByteDance’s Douyin (China’s TikTok) was also a factor.

What Q2 does is change the narrative that Pinduoduo is lagging behind. That, in turn, should allow investors to focus on recent good news, including the company’s entry into the U.S. market, as well as a potential deal that could prevent a U.S. delisting.

what goes wrong

In other words, there is plenty of room for the recent rally to continue. The question may be what prevents this rally.

There is a clear risk that the second quarter is extraordinary. Management noted on the second quarter conference call that expenses were lower than expected. Profit margins going forward won’t look as impressive as the 27.7% operating margin Pinduoduo posted this quarter. With gains of 32x, that clearly doesn’t break the bank, but it’s possible that the mid-term challenge from Douyin and other rivals will continue into the second half of 2022 and beyond.

China itself remains a risk. China’s central bank is cutting interest rates amid weak economic data, and China’s real estate market is deteriorating. Fears of a Chinese “hard landing” have persisted for years, if not decades, but it is possible that the country is headed for significant macroeconomic difficulties.

Finally, there’s what Pinduoduo stock actually is. Like BABA, PDD does not represent ownership of an actual business, but a variable interest entity based in the Cayman Islands. This structure minimizes the rights of ADR holders and, at worst, can become a political football in the middle of the US-China rivalry.

Again, Pinduoduo is far from the only one using the VIE framework (which was created to circumvent Chinese government restrictions on foreign ownership). Investors in most Chinese stocks take a similar risk.

And that’s the point. For some investors, China is now simply impossible. But if an investor is willing to invest in that country, it’s hard to see a better choice than PDD.

Waiver: As of this writing, Vince Martin does not hold positions in any of the securities listed above.

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