Asia Pacific Equity Research
31 July 2018
Equity Ratings and Price Targets
Mkt Cap Price Rating Price Target
Company Ticker ($ mn) CCY Price Cur Prev Cur Prev
Tencent 700 HK 441, HKD OW n/c
Alibaba Group Holding Limited BABA US 494, USD OW n/c n/c
BIDU US 88, USD N n/c n/c
, Inc. JD US 53, USD N n/c n/c
NetEase NTES US 35, USD OW n/c n/c
China Literature Limited 772 HK 8, HKD N n/c n/c
International, Ltd CTRP US 22, USD N n/c n/c
Weibo Corporation WB US 19, USD OW n/c n/c
YY Inc YY US 5, USD OW n/c n/c
Momo Inc MOMO US 8, USD OW n/c n/c
Sogou SOGO US 2, USD OW n/c n/c
Vipshop VIPS US 5, USD OW n/c n/c
Bilibili BILI US 2, USD OW n/c n/c
Source: Company data, Bloomberg, . Morgan estimates. n/c = no change. All prices as of 27 Jul 18 except for 700 HK [30 Jul 18] 772 HK [30 Jul 18].
China Internet
Thoughts into 2Q18 earnings: a challenging summer
China
Internet
Alex Yao
AC
(852) 2800-8535
@
Bloomberg JPMA YAO <GO>
Binbin Ding
(852) 2800 8572
@
Daniel Chen
(852) 2800-8579
@
. Morgan Securities (Asia Pacific) Limited
See page 63 for analyst certification and important disclosures, including non-US analyst disclosures.
. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that
the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single
factor in making their investment decision.
We believe 2Q earnings season presents more downside than upside risk to China
Internet sector earnings revisions, largely due to industry headwinds. We find
most of the industry developments in 2018 to be negative to China Internet
industry earnings generation in the near term (please refer to Table 1) and we
believe the capital market has not fully factored in the change in near-term
earnings outlook, given only a -1% Bloomberg 2018 EPS consensus revision in
the past three months. In light of the weak 2Q outlook, we are cautious on the
near-term stock performance of the sector. Our top picks in the sector are:
Momo, Alibaba, Vipshop.
Expecting either soft 2Q numbers or negative commentary on 2H18
outlook for: Tencent, JD, YY, Sogou, Bilibili. We believe, to a large degree,
these names’ near-term outlooks are dampened by industry headwinds such as
gov’t approval process or online content tightening. On the other hand, we think
Tencent and JD’s 2019 outlook might become better post 2Q results as: 1)
Tencent is likely to enjoy full-year monetization of PUBG and Fortnite in 2019,
and 2) JD Logistics’ utilization and profitability are likely to further improve in
2019E, reducing margin drag to the consolidated financials.
Eyeing upside risk to 2Q earnings forecasts and strong 2H18 outlook in:
Baidu, NetEase, Momo. We believe these names present earnings upgrade
opportunities due to low market expectations or solid business developments.
Change of forecasts: We increased Momo’s 18E/19E Non-GAAP EPS by
1%/10% due to solid core live broadcasting and an acceleration in Tantan
monetization; we cut our Tencent 18E/19E non-GAAP EPS by 6%/4% due to
PUBG approval delay and increase in client reserve fund ratio; We cut YY’s
18E/19E Non-GAAP EPS by 2%/0% (mostly for 3Q18) due to negative impact
from the World Cup; We expect Bilibili to report a RMB89m Non-GAAP net
loss in 2018 (vs. RMB58m net profit estimate) due to regulations and change in
marketing strategy.
Key focal points for 2Q18 earnings season: 1) gov’t approval of online game
monetization, 2) implications from rise of Douyin, 3) investment strategies.
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Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Figure 1: Three-month stock performance summary
Source: . Morgan estimates, Bloomberg. Market cap and prices as of July 27, 2018. Past performance is not indicative of future results.
Figure 2: 2QCY18 financial forecasts summary: JPMe vs. Bloomberg consensus
Source: . Morgan estimates, Bloomberg. Note: 1H18 forecasts for China Literature.
Company Reporting currency Ticker Bloomberg JPMe Delta % Bloomberg JPMe Delta %
Tencent RMB 700 HK EQUITY 78,328 76,632 % %
Alibaba RMB BABA US EQUITY 81,419 81,353 % %
Baidu RMB BIDU US EQUITY 25,571 25,768 % %
RMB JD US EQUITY 123,049 122,214 % %
NetEase RMB NTES US EQUITY 16,397 16,964 % %
Ctrip RMB CTRP US EQUITY 7,323 7,420 % %
Weibo USD WB US EQUITY 424 429 % %
Vipshop RMB VIPS US EQUITY 21,149 21,055 % %
China Literature RMB 772 HK EQUITY 2,746 2,466 % %
Momo USD MOMO US EQUITY 482 482 % %
YY RMB YY US EQUITY 3,673 3,666 % %
Bilibili RMB BILI US EQUITY 1,004 983 % N/A
Sina USD SINA US EQUITY 540 535 % %
Sogou USD SOGO US EQUITY 304 299 % %
AutoHome RMB ATHM US EQUITY 1,807 1,664 % %
BitAuto RMB BITA US EQUITY 2,529 2,524 % %
Fang Holdings USD SFUN US EQUITY 101 122 % %
Phoenix New Media RMB FENG US EQUITY 376 361 % %
Revenue Non-GAAP EPS
3
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Industry headwinds to the sector
Table 1: Industry headwinds and impact to covered companies
Industry headwinds
Coverage
companies
affected
Detail
Nature of the
headwind
Estimated 2018 financial
impact
Estimated
duration
of impact
Comment
Suspension of online games
approval
Tencent,
NetEase
The online games approval has
been suspended since a few
months ago due to China's
government ministries
restructuring. The former regulator
of games approval, . State
Administration of Press,
Publication, Radio, Film and
Television (SAPPRFT), has been
restructured into a few separate
entities, including State
Administration of Radio and
Television (SART) and State
News and Publication Bureau.
The latter is the governing entity of
online games approval and
supervised by China’s Publicity
Department.
Unable to monetize
unapproved game
titles
Temporary impact
We lower smartphone
games revenue forecast for
2018 by 13% due to the
suspension
2H18
Raising client reserve fund
of payment companies
Tencent,
Alibaba
The reserve ratio will be increased
from ~45% of clients’ fund in April
2018 to 100% by January 2019,
which will reduce interest income
for Tencent and Ant Financial
Structural
We estimate impacted
interest income from client's
fund represents less than
1% of Tencent/Alibaba's
total revenue in 2018.
Permanent
Please refer to our
Note
Payment settlement
between ecommerce
marketplaces and 3rd party
merchants
JD, Vipshop
Regulator requires ecommerce
companies that don’t have
payment license to settle
marketplace transactions directly
through third-party payment
companies, rather than hold
customer's funds in escrow
account themselves
Structural
It will harm FCF generation
capability for 1P ecommerce
players
Permanent
Please refer to our
Note
Increasing competition in
consumer time spend
Tencent, YY,
Momo, Bilibili,
China
Literature,
Weibo
Douyin, a short video app
achieved 500m global MAU in
mid-July. According to
QuestMobile, total time spent of
apps from Bytedance (developer
of Toutiao/Douyin/Huoshan etc)
have accounted for % of total
internet time spent in China in
June 2018, up from % a year
ago.
Unclear Unclear Unclear
We believe
competition of time
spend of leading
mobile apps will
eventually impact
monetization outlook
of those apps losing
user attention.
World Cup YY, Momo
During World Cup period (mid
June-mid July), due to conflict of
timing (8-12PM), less live
streaming users will watch/tip on
the platforms.
Temporal reduction
of time and
monetary spend on
entertainment
alternatives
2-3% of negative impact to
revenue
2-3Q18
We believe World Cup
will have similar
impact to time spent
on YY/Momo platform
but more influence on
YY revenue due to its
relatively high revenue
concentration of top
spenders.
Increasing regulation on
online live broadcasting
YY
CAC blacklisting a number of
online broadcasting hosts on YY
platform including Tian You, one
of the most famous hosts on YY
Live
Temporal reduction
of revenue in 1Q18
Unclear 1Q18
Please refer to our
Note
Increasing regulation on
online information
dissemination
Weibo
CAC requested Weibo to suspend
its 'hot topic' function for a week in
1Q18 due to its involvement of
inappropriate content.
Temporal reduction
of revenue in 1Q18
for Weibo
Unclear 1Q18
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Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Air-ticket VAS cross-sale Ctrip
Ctrip introduced an opt-in option in
October last year by removing part
of the default purchase of bundled
products. After the strict execution
of de-bundling VAS products, we
think the worst seems to be over
Structural
Due to the contraction of
cross-sale business, we
expect topline growth to
slow down to 18% YoY in
2018 vs. 39% in 2017. We
also expect a flattish OPM in
2018 vs. + in 2017.
Permanent
Please refer to our
Note
Increasing regulation on
online lending
Jianpu
Regulator enforces 36% APR cap
on online cash loans, banning
loan facilitators from providing
guarantee on loans and capping
leverage and funding sources of
micro lenders.
Structural
Thanks to business
transition post introduction
of the new regulation policy
and its asset-light nature,
the impact to Jianpu seems
under control
Permanent
Please refer to our
Note
Increasing industry
competition
Alibaba, JD,
Vipshop;
Alibaba,
Tencent; Ctrip
Industry competition is getting
intensified in ecommerce,
payment and online travel market
Although it's not a
structural issue, it
may last for quite a
while
Intense promotion and
couponing will hurt
profitability of these
companies
Unclear
Depreciation of RMB
All covered
companies
RMB depreciated some 5%
against US$ in 2Q18
Unclear
EPS in US$ will be impacted
by 5% if benchmarking to
1Q exchange rate
Unclear
Source: . Morgan.
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Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Table 2: China Internet comp table
Ticker Price PT
Mkt
Cap EV CY18E CY19E CY20E CY18E CY19E CY20E CY19E CAGR
(USDm) (USDm) PE PE PE PS PS PS PEG 20-21E
China internet portals
Baidu BIDU US USD USD 260 88,957 81,688 x x x x x x x %
Sogou SOGO US USD USD 14 4,103 3,027 x x x x x x x %
Sina SINA US USD USD 180 5,968 4,485 x x x x x x x %
Tencent 700 HK HKD HKD 480 451,718 457,769 x x x x x x x %
China Literature 772 HK HKD HKD 85 8,125 7,052 x x x x x x x %
Phoenix New Media FENG US USD USD 290 200 x x x x x x x %
Renren RENN US USD N/A 144 151 N/A N/A N/A x N/A N/A N/A N/A
WUBA US USD N/A 9,839 9,235 x x x x x x x %
WBAI US USD N/A 561 474 N/A N/A N/A N/A N/A N/A N/A N/A
Mean x x x x x x x %
Social & streaming
YY YY US USD USD 155 6,199 4,293 x x x x x x x %
Tian Ge 1980 HK USD N/A 966 752 N/A N/A N/A N/A N/A N/A N/A N/A
Weibo WB US USD USD 142 19,426 18,393 x x x x x x x %
Momo MOMO US USD USD 62 8,532 7,562 x x x x x x x %
Bilibili BILI US USD USD 16 3,378 3,175 -215 x x x x x x x N/A
iQiyi IQ US USD N/A 23,063 23,030 x x x x x x N/A N/A
Huya HUYA US USD N/A 7,190 7,024 x x x x x x x %
Mean x x x x x x x %
Online verticals
Fang Holdings SFUN US USD USD 1,421 1,786 x x x x x x x %
Leju LEJU US USD USD 224 60 x x x x x x x %
Bitauto BITA US USD USD 38 1,797 278 x x x x x x x %
Mean x x x x x x x %
China online games
Netdragon 777 HK HKD N/A 1,157 947 x x x x x x N/A N/A
Kingsoft 3888 HK HKD N/A 3,632 2,711 x x x x x x N/A N/A
Changyou CYOU US HKD N/A 788 -262 x x N/A x x x N/A N/A
NetEase NTES US USD USD 290 34,790 29,568 x x x x x x x %
Forgame 484 HK HKD N/A 143 49 N/A N/A N/A N/A N/A N/A N/A N/A
IGG 799 HK HKD N/A 1,777 1,554 x x x x x x N/A N/A
Boyaa 434 HK HKD N/A 209 -59 x x x x x x N/A N/A
Mean x x x x x x x N/A
China travel
Ctrip CTRP US USD USD 45 22,965 22,810 x x x x x x x %
Tuniu TOUR US USD N/A 986 503 N/A x x x x x N/A N/A
Mean x x x x x x x %
China e-commerce
Alibaba BABA US USD USD 230 491,012 482,639 x x x x x x x %
Vipshop VIPS US USD USD 18 6,491 5,751 x x x x x x x %
JD US USD USD 38 51,936 49,647 x x x x x x x %
Jumei JMEI US USD N/A 309 -45 N/A N/A N/A N/A N/A N/A N/A N/A
Mean x x x x x x x %
China Internet Finance
Jianpu JT US USD USD 8 890 656 x x x x x x N/A N/A
Yirendai YRD US USD N/A 1,173 714 x x x x x x N/A N/A
China Rapid
Finance XRF US USD N/A 127 52 x x x x x N/A N/A N/A
Noah Holdings NOAH US USD USD 3,043 2,737 x x x x x x N/A N/A
Qudian QD US USD N/A 2,742 1,371 x x x x x x N/A N/A
Mean x x x x x x N/A N/A
Source: . Morgan estimates, Bloomberg. Prices are as of July 27, 2018.
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Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Tencent
We tweak down our 2018/19 revenue forecasts by 4%/5% as we revise down both
smartphone and PC games revenue, as well as other revenue. As a result, we cut our
18E/19E/20E non-GAAP EPS by 6%/4%/4%, respectively.
Expect near-term weakness in gaming revenue
We turn more cautious on online games performance (esp. smartphone games) in 2Q
and coming quarters. We revise smartphone games and PC games revenue down
by13%/2% for 2018E and by 8%/1% for 2019E. Key reasons leading to our
downward revisions include:
The suspension of online games approval in recent months because of
tightened regulations on content, as well as government bodies’
restructuring of China. Our conversations with industry experts suggest that
the suspension may last until end of 2018, which is longer than market
expectations.
Delayed monetization of PUBG Mobile. The two games achieved over
50m DAU in total and have impacted the active users of other incumbent
games. Monetization of PUBG Mobile may continue to be delayed in next
1-2 quarters.
Incumbent key games losing usage to PUBG Mobile. We think the games
that have been impacted include Honor of Kings, League of Legends and
Cross Fire, which have similar arena-battle or shooting features.
We believe the first two reasons are more short-term issues and most likely will be
resolved in six months, and the negative impact on online games revenue will
gradually taper off from the end of 2018. We remain constructive on smartphone
games performance in 2019 in light of the monetization of PUBG Mobile (through
either PUBG IPed games or new in-house developed games with similar features
and appeals) and Fortnite Mobile.
Tweaking down other revenue due to increase in reserve fund ratio
Other revenue line will also be impacted in the next few quarters due to an increase
in reserve fund ratio (from ~40% currently to 100% in early 2019) as required by
PBoC, the central bank of China.
We, however, believe the impact on revenue is insignificant, as payment -related
revenue is primarily contributed by merchant fees and withdrawal fees. We estimate
interest revenue from customer reserve funds only accounts for less than 10% of total
other revenue in 2Q18. We revise down other revenue forecasts in 18/19 by 3%/4%.
Revised valuation
We reduce our Jun-19 PT to HK$480 as a result of 6%/4%/4% cut in 18E/19E/20E
non-GAAP EPS. Our PT is based on 2019E non-GAAP EPS of HK$, 20-21E
EPS CAGR of %, and a PEG of . Our PT implies 34x 19E P/E and 25x 20E
P/E.
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Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Table 3: Forecast revisions
Source: . Morgan estimates, Bloomberg, Company data.
Quarterly results preview
Our 2Q18 non-GAAP EPS forecast for Tencent is , generally in line
with Bloomberg consensus. We expect total revenue to grow by 35% YoY and
reach in 2Q18, 2% below Bloomberg consensus.
We expect total VAS revenue to grow by 18% YoY and reach in
2Q18.
1) We forecast smartphone games revenue to decline by 12% QoQ to
RMB19bn in 2Q18, with YoY growth rate to decelerate to +29% YoY. 2Q
performance was primarily affected by delayed monetization of PUBG
Mobile and, to a less extent, suspension of new games approval.
2) We expect PC games growth to decline by 8% YoY, which to some extent
was because of the structural decline of PC games market, and was also
dragged by LoL performance. We forecast PC games revenue to decline by
5% for full-year 2018.
3) Core SNS revenue (excluding allocation from smartphone games revenue)
will reach in 2Q18 (+41% YoY).
We expect online ad revenue to grow by 47% YoY and reach in
2Q18. Social ads will continue to outgrow media ads.
YE 31 Dec
RMBm JPM old JPM new % change Consensus % delta JPM old JPM new % change Consensus % delta JPM old JPM new % change Consensus % delta
VAS 206,248 191,586 -7% 262,351 250,330 -5% 308,721 295,491 -4%
SNS 81,748 77,299 -5% 108,152 104,406 -3% 129,152 125,002 -3%
Online games 124,500 114,287 -8% 154,199 145,924 -5% 179,569 170,489 -5%
PC games 53,530 52,619 -2% 51,640 51,196 -1% 49,229 48,825 -1%
Mobile games 104,922 91,171 -13% 151,624 140,047 -8% 192,695 179,869 -7%
Advertising 61,484 61,484 0% 91,058 91,058 0% 127,648 127,648 0%
Brand ads 20,561 20,561 0% 24,567 24,567 0% 28,888 28,888 0%
Performance ads 40,923 40,923 0% 66,491 66,491 0% 98,761 98,761 0%
Others 82,026 79,177 -3% 131,497 126,749 -4% 186,254 181,818 -2%
Net Revenue 349,758 332,247 -5% 337,051 -1% 484,906 468,137 -3% 450,908 4% 622,623 604,957 -3% 572,790 6%
Gross profit 167,777 157,194 -6% 161,316 -3% 231,041 222,026 -4% 213,288 4% 303,665 291,844 -4% 269,784 8%
Operating profit 120,171 113,310 -6% N/A 155,731 150,122 -4% N/A 208,336 199,953 -4% N/A
Operating profit (non-GAAP) 113,483 106,272 -6% N/A 155,404 149,493 -4% N/A 210,488 201,786 -4% N/A
PBT (GAAP) 116,279 109,418 -6% 107,418 2% 151,839 146,230 -4% 135,702 8% 204,444 196,061 -4% 177,306 11%
Net income (Non-GAAP) 86,610 80,984 -6% 83,966 -4% 120,932 116,333 -4% 111,176 5% 164,068 157,194 -4% 142,099 11%
Net income (GAAP) 92,220 86,594 -6% 84,477 3% 121,776 117,177 -4% 107,722 9% 164,912 158,038 -4% 139,042 14%
EPS, GAAP (RMB) -6% 4% -4% 10% -4% 16%
EPS, Non GAAP (RMB) -6% -5% -4% 3% -4% 9%
Margin analysis (%)
Operating margin (GAAP) % % N/A % % N/A % % N/A
Operating margin (non-GAAP) % % N/A % % N/A % % N/A
Net margin (GAAP) % % % % % % % % %
Net margin (non GAAP) % % % % % % % % %
YoY %
Revenue 45% 40% 41% 39% 41% 34% 28% 29% 27%
Gross profit 41% 34% 35% 38% 41% 32% 31% 31% 26%
Operating profit 41% 25% N/A 30% 32% N/A 34% 33% N/A
Operating profit (non-GAAP) 42% 30% N/A 37% 41% N/A 35% 35% N/A
Net income (GAAP) 37% 21% 26% 32% 35% 28% 35% 35% 29%
Net income (Non-GAAP) 36% 24% 29% 40% 44% 32% 36% 35% 28%
EPADS (GAAP)
Diluted 28% 21% 30% 41% 35% 33% 41% 35% 27%
EPADS (Non GAAP)
Diluted 32% 24% 24% 49% 44% 28% 41% 35% 28%
2020E2019E2018E
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Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
We expect non-GAAP operating margin decrease to % in 2Q18, down
QoQ and YoY. Margin drag will come from:1) continued revenue
mix shift to mobile games, 2) weaker monetization of in-house games (HoK,
PUBG Mobile, QQ Speed, etc.) 3) investments in payment, video content, and
cloud.
Key things to watch
Update on the online games approval issue and how does this impact the 2H18
games launch
User growth and monetization strategies of legacy titles
Mobile games pipeline in 2H18 and 2019.
Ad monetization plans
Key risks
Regulations (on games approval, general content censorship, etc.)
Competition on other entertainment formats on time spent and usage
Margin pressure due to investments (in video content, payment, etc.)
Faster-than-expected aging of legacy PC games
Inability to launch successful new games
Alibaba
Our FY1Q19 revenue estimate of RMB81bn (+62% YoY/+31% QoQ) is in line
with consensus. Our FY1Q19 EPS (RMB , +12%YoY/+55% QoQ) estimate
is 4% higher than consensus. We expect core customer management+
commission revenue to deliver a resilient 30% YoY growth this quarter.
It is worth noting that the growth trajectory for the company’s core advertising +
commission business of China retail marketplaces may grow slower in 1H and faster
in 2H in FY19. It’s mainly because the company didn't add ad inventory or make
major algorithm upgrade in FY2H18, which creates a relatively easy comp for
FY2H19. Its earnings growth rate may exhibit the same pattern this year, as the
margin impact from Intime and Cainiao should gradually diminish when they reach
consolidation anniversary.
Table 4: Growth trajectory (YoY) for core China retail business and group adjusted EBITDA
FY1Q19 FY2Q19 FY3Q19 FY4Q19
Customer management + commission 30% 34% 40% 42%
Customer management 27% 33% 44% 46%
commission 39% 38% 30% 32%
Adjusted EBITDA 19% 27% 31% 62%
Source: . Morgan estimates.
We expect group’s non-GAAP EBITDA margin to decline by YoY to
%, mainly due to: 1) continued investments in New Retail, logistics and digital
content, and 2) consolidation of . We think the key swing factor for margins
come from . We note has scaled up investment in promotion and
infrastructure after Alibaba’s acquisition. We believe the acquisition of is
9
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
strategically important, as it could serve as logistics infrastructure and traffic entry to
Alibaba's New Retail initiatives. We’re looking for management to share more color
on investment plan and competitive strategy for the business, as well as related
margin impact.
Core commerce: We forecast China retail revenue to grow 56% YoY this
quarter, with advertising + commission revenue increasing by 30% YoY. Due to
consolidation of and continued investments in new initiatives, we expect
core commerce EBITA margin to decline by YoY to 45% this quarter.
Cloud: We expect cloud business to grow 102% YoY growth to RMB this
quarter, with non-GAAP EBITA margin of -5%.
Digital media & Entertainment: Thanks to exclusive online broadcasting of
World Cup (benefiting Youku’s ad and subscription business), we expect to see
growth acceleration for D&E segment this quarter (JPMe revs + 40% to RMB
). We see potential downside risk to our segment margin forecast (JPMe
non-GAAP EBITA margin of -35%), given its heavy investment to obtain
exclusive online distribution rights of World Cup.
Key things to watch:
Trends of core commerce revenue, margin and key operating metrics
Progress in New Retail
Update on investment plan in key areas and related margin impact
Update on key affiliates such as Ant Financial and Cainiao
Impact from macro headwind
Key risks:
Slower-than-expected core commerce growth
Lower-than-expected margins due to aggressive investments.
Intensified industry competition
BIDU
Our 2Q revenue (, up 23% YoY/23% QoQ) is 1% higher than
consensus, while EPS forecast (, down 6% YoY/8% QoQ) is 9% lower
than consensus. We see potential upside risk to our and consensus 2Q earnings
forecast.
We expect online marketing service revenue to reach (up 20% YoY/25%
QoQ), supported by: 1) 60% QoQ growth in feeds ads to reach in 2Q
supported by strong growth in DAU (up c10% QoQ to 150m in June) and relatively
low monetization compared to Toutiao. 2) 20% QoQ growth in core search ads on
strong ads seasonality in 2Q.
10
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
We see upside risk to consensus 2Q18 margin (consensus now model 2Q18 adj npm
of %, down QoQ) on operating leverage on revenue seasonality and
back-end loaded content cost/SG&A spending in 2018.
We see downside risk to consensus 3Q18 revenue (up 19% YoY/9% QoQ) on
potential spin off of FSG, which has c5% negative impact to revenue, partially offset
by potential ad dollar budget from Sogou (JPMe ~1% of Baidu 3Q18 revenue) due to
its 10 days‘ suspension of auction based ads.
Key things to watch:
Key metrics for Mobile Baidu/feeds ads
Content cost/Opex plan in 2018
Update on AI/autonomous car initiatives
JD
We expect JD’s 2Q top-line to grow by 31% YoY/22% QoQ to RMB 122bn,
largely in line with consensus. Our 2Q EPS estimate (, -9% YoY/-14%
QoQ) is 11% lower than consensus. However, we believe 2H margin outlook is
more important to the stock price than 2Q results and we expect positive
commentary on diminishing margin drag from JD Logistics.
As 2Q/4Q is the major ecommerce promotional season, there should be a sequential
margin retreat in these two quarters. We expect the company to deliver a positive
% non-GAAP OPM in 2Q19 (vs. % in 1Q and % in 2Q last year) despite
the negative impact from logistics and technology investments.
We expect core 1P categories such as home appliance and FMCG to continue to
deliver healthy growth, while 3P apparel remains under pressure due to intensified
competition. As 2H18 is a low base for 3P business (apparel merchant departure
happened in Jun last year), we think 3P GMV may see some growth acceleration in
2H19. For advertising business, the company launched personalized recommendation
before this year's , and the initial feedback is positive. We expect the company's
advertising revenue to grow 50% in 2019.
On the margin side, the deep loss margin for logistics business is mainly due to: 1)
relatively low utilization rate of newly added logistic facilities, and 2) aggressive
pricing strategy to attract customers and grow scale. With non-JD 3
rd
party order
volume continuing to pick up, we expect the loss ratio of JD Logistics to gradually
narrow this year and its negative impact on group margins should diminish. JD
Mall’s margin should see a steady improvement this year, while the improvement
pace is still pressured by intensified industry competition.
Key things to watch:
GMV/top-line growth trend and 3Q guidance
2Q JD Mall margin and margin impact from logistics business
11
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Management’s view on industry competition
Key risks:
Slower-than-expected GMV/revenue growth
Lower-than-expect margins due to industry competition and investment in
initiatives
NetEase
Our 2Q revenue forecast (RMB 17b, up 27% YoY/20% QoQ) is 3% higher than
consensus, while EPS forecast (, down 20% YoY, up 107% QoQ) is
13% higher than consensus. For 2Q, we believe what’s important is a business
turnaround trend as opposed to magnitude of earnings beat.
We expect online game revenue to reach (up 7% YoY/15% QoQ) in 2Q,
mainly supported by 20% QoQ growth in mobile game from: 1) rebound of legacy
titles such as FWJ, Ghost, 2) revenue contribution from new titles Knives Out
(mainly in overseas market) and Chu Liuxiang (mainly in China market), we forecast
global revenues from Knives Out and Chu Liuxiang runs at RMB7-8b annualized
run-rate in 2Q18. We believe Street consensus adj NPM of % in 2Q18
(compared to 26%/9% in 2Q17/1Q18) is too conservative, given normalized S&M
(JPMe % of total revenue in 2Q18, compared to %/% in 4Q17/1Q18)
after irrational user acquisition spending on Knives Out in previous quarters.
We continue to see positive trend of NetEase online game business in 3Q18: 1) Chu
Liuxiang launched new summer vacation update & homeland system in mid-July and
ranked within in Top 10 of iOS top grossing league since then, 2) Onmyoji cooperate
with Inuyasha (犬夜叉), a famous Japanese comic to launch new expansion pack in
early July, which also support monetization (the game ranked at of top iOS
grossing league on July 11). 3) Knives Out maintain strong momentum in Japan
market, while Identity V, NetEase's asymmetrical survival game reached of
top iOS download league in Japan since early July.
Key things to watch:
Key game pipeline in 2H18/2019
Update on key metrics for Yanxuan/Kaola
Game/eCommerce Opex guidance for 2H18/2019
China Literature
Our 1H18 revenue forecast (RMB2,466m) is 10% lower than consensus, while
EPS forecast () is 3% higher than consensus. We expect total revenue to
reach RMB2,466m in 1H18, up 28% YoY. Online reading revenue will grow by 31%
12
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
YoY and reach RMB2,138m in 1H18; while IP operations revenue will be
RMB183m, +17% YoY.
We expect online reading MAU to start to pick up moderately in 1H18, thanks to: 1)
the cooperation with Tencent Video on content distribution, 2) cooperation with
white-label handset makers on pre-installation, 3) more promotional efforts on
WeChat Reading. We expect more meaningful recovery in user growth in 2H18.
On the monetization side, we think 1H18 revenue will benefit less from the user
growth recovery due to relatively low monetization efficiency of newly acquired
users. However, we expect faster growth in 2H18 as: 1) the monetization of new
users of online reading business will gradually unfold, 2) a few co-invested IP
operations projects will hit the market.
Key things to watch
Launch schedule of IP operations projects in 2H18 and 2019
User growth strategy
Key risks
Limited monetization of new users
Competition from other entertainment formats on time spent
Unsatisfactory performance of IP operations projects.
Weibo
Our 2Q18 revenue forecast (US$429m) is 1% higher than consensus, and EPS
forecast (US$) is 3% higher than consensus.
We expect total revenue to grow 69% YoY in 2Q18, decelerating from +76%
YoY growth in 1Q. We forecast SME ads revenue to increase by 48% YoY
to US$186m in 2Q18 (down from +53%/+78% YoY in 1Q18/2Q17), while
KA ad revenue will maintain strong growth (+107% YoY), reaching
US$166m in 2Q18.
On the user front, we believe the phenomenal success of Tik Tok in the past
few months (30m/70m/150m DAU in Jan/Mar/Jun 2018) has brought
impact to many social and entertainment formats in China including online
games, long-form video, etc., Weibo being no exception. We forecast
Weibo MAU growth to slow down to +17% YoY in 2Q18 vs. +21%/+25%
YoY in 1Q18/2017.
Key things to watch
Sustainability of emerging short-video platforms and impact on other
entertainment formats
User growth strategy in 2H18
Growth outlook of SME and KA ads
13
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Key risks
User growth slowdown
Competition from other entertainment formats on time spent and ad budgets
YY
We tweak down 2018 revenue forecasts by 2% to factor in World Cup impact to
near- term live broadcasting business in 3Q18. We maintain our 2019/20 revenue
estimate as we believe the near-term incident will not impact YY's long term revenue
outlook. Therefore, we cut our 2018E adj EPS by 2%.
We expect World Cup to have short term impact on YY's 3Q18 revenue.
Compared to Momo, YY has higher revenue concentration from top-paying users
(90%+ revenue from YY Live comes from top 10% of paying users, compared to 60-
70% of Momo). Therefore, its revenue will be easier to be impacted by paying
behavior of top spenders during World Cup session. Meanwhile, we expect Host
Battalion (主播团战), the new entertainment features on YY Live platform to have
limited positive support on monetization in 3Q due to limited adoption of top hosts.
Therefore, we cut YY's 3Q18 revenue forecast by 7% to factor in short-term impact
from the World Cup.
Figure 3: Earnings revisions
Source: Company data, . Morgan estimates.
Quarterly results preview
Our YY 2Q revenue (, up 41% YoY/13% QoQ) & EPS (, up
16% YoY/12% QoQ) are in line with consensus. We expect YY’s 2Q revenue to
YE 31 Dec
RMBm JPM old JPM new % change Consensus % delta JPM old JPM new % change Consensus % delta JPM old JPM new % change Consensus % delta
Net revenues 15,888 15,570 -2% 15,718 -1% 19,635 19,632 0% 19,873 -1% 22,974 22,971 0% 23,609 -3%
Gross profit 6,075 5,941 -2% 5,966 0% 7,359 7,357 0% 7,451 -1% 8,610 8,609 0% 8,866 -3%
Opex (2,682) (2,631) -2% (2,884) (2,884) 0% (3,317) (3,316) 0%
Product development (1,029) (1,013) -2% (1,105) (1,105) 0% (1,291) (1,291) 0%
Sales (1,032) (1,008) -2% (1,137) (1,136) 0% (1,296) (1,296) 0%
G&A (620) (609) -2% (642) (642) 0% (729) (729) 0%
Operating profit (GAAP) 3,406 3,322 -2% N/A 4,474 4,474 0% N/A 5,293 5,292 0% N/A
Operating profit (non GAAP) 3,785 3,702 -2% N/A 4,568 4,568 0% N/A 5,387 5,386 0% N/A
PBT (GAAP) 4,151 4,089 -2% 3,452 18% 4,891 4,889 0% 4,634 5% 5,831 5,837 0% 5,662 3%
Net income (GAAP) 1,734 1,680 -3% 1,903 -12% 4,205 4,203 0% 3,854 9% 5,015 5,020 0% 4,618 9%
Net income (Non-GAAP) 3,538 3,485 -2% 3,280 6% 4,299 4,297 0% 4,028 7% 5,109 5,114 0% 4,827 6%
EPADS (GAAP)
Diluted (RMB) -3% -15% 0% 6% 0% 4%
EPADS (Non GAAP)
Diluted (RMB) -2% 3% 0% 0% 0% -1%
Margin analysis (%)
Gross margin % % % % % % % % %
Operating margin (GAAP) % % N/A % % N/A % % N/A
Operating margin (non-GAAP) % % N/A % % N/A % % N/A
Net margin (GAAP) % % % % % % % % %
Net margin (non GAAP) % % % % % % % % %
YoY %
Net revenue 37% 34% 36% 26% 26% 28% 17% 17% 20%
Gross profit 33% 30% 31% 24% 24% 25% 17% 17% 21%
Operating profit (GAAP) 26% 23% 35% 35% 18% 18%
Operating profit (non GAAP) 29% 27% 23% 23% 18% 18%
Net income (GAAP) -30% -33% -24% 150% 150% 129% 19% 19% 10%
Net income (Non-GAAP) 30% 28% 20% 23% 23% 16% 19% 19% 12%
EPADS (GAAP)
Diluted (RMB) -35% -37% -26% 145% 145% 132% 16% 16% 11%
EPADS (Non GAAP)
Diluted (RMB) 22% 20% 16% 21% 21% 20% 15% 16% 17%
2020E2019E2018E
14
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
be in line with consensus, supported by QoQ rebound of YY Live (up 12% QoQ) and
strong momentum of Huya (up 16% QoQ), which is partially offset by negative
influence from World Cup on core live broadcasting business. We expect
MAU/Paying user for YY (YY Live+Huya) to mildly pick up from 1Q level as there
is no major upgrade in 2Q.
Current valuation implied YY Live 2018 P/E of 7x
YY is now trading at 12x 2018E non-GAAP P/E based on JPMe. As shown below,
stripping out the Huya valuation (assuming 20% holdco discount), YY Live only
trades at 7x 2018 P/E, vs. 21% JPMe non-GAAP net profit CAGR in 19-20E.
Table 5: Current valuation implied YY Live 2018 P/E of 7x
Current YY Share price (US$)
Current valuation (US$m) 6,200
Huya market cap (US$m) 7,190
Huya % of valuation in YY (assume 20% holdco discount) 36%
Huya valuation to YY (US$m) 2,560
YY valuation ex Huya (US$m) 3,640
YY Live net profit (2018, Non-GAAP) (US$m) 492
YY Live implied 2018 P/E 7
Source: Company data, . Morgan estimates.
Key things to watch:
YY Live’s new initiatives pipeline in 2H18.
Huya monetization/user acquisition strategy in 2H18/2019
Bigo key metrics update.
Momo
Our 2Q revenue (US$482m, up 54% YoY/11% QoQ) is in line with consensus,
while EPS forecast (US$, up 84% YoY/down 5% QoQ) is 5% higher than
consensus. We see potential upside risk to 2Q results and 3Q guidance.
We expect Momo's revenue to be in line with consensus supported by strong
seasonality of live broadcasting and initial revenue contribution from Tantan, Which
partially offset by negative impact from World Cup in June (match time of World
Cup conflict with live broadcasting, thus influencing tipping behavior) and RMB
depreciation (Momo reports financial in USD, JPMe 2-3% negative influence to
revenue). We expect potential upside to 2Q adj NPM as we expect Momo’s S&M
expense to be back-end loaded in 2018. We expect both MAU/paying users to grow
healthily sequentially supported by: 1) Fans Group Fight (粉丝团战) in April
focusing on long-tail users rather than top spenders, 2) World Cup card collection
campaign in June.
We believe the recent share price weakness of Momo is mainly due to investor
concerns on: 1) launch of live broadcasting service of Douyin/Huoshan, which could
impact live broadcasting revenue of Momo in the long term, 2) scale of impact from
15
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
World Cup on 2Q print. However, we believe Momo's core value as an alternative
social network remains intact, which enables it to acquire new live broadcasting
users with relative low cost. Meanwhile, we believe Tantan's monetization is still in
the early stages if compared to Tinder. We expect a meaningful improvement of
Tantan monetization in 2H18 after launching new subscription service in mid-July
2018.
Key things to watch:
Guild-driven live broadcasting model update
Revenue-sharing scheme and user acquisition strategy update
Tantan monetization/cost/user/paying user update
New product initiatives for Momo in 2H18/2019
Bilibili
We tweak down our 2018 revenue forecasts by 4% as we revise down our 2H18
mobile game revenue forecast, due to low visibility in timing of online game
approval resumption. We revise up 2019E/2020E revenue by 2%/5% to factor in
more positive view on MAU growth and monetization outlook as a result of change
in marketing strategy. We cut 2018E/19E/20E adj NPM by to
factor in higher user acquisition cost assumptions. As a result, we cut our 2018E/19E
adj EPS from US$ to -US$ and tweak up 2020E adj EPS
by 2%.
Expect near-term headwinds in MAU growth
Bilibili app was removed from major Android app stores due to content
regulatory issue
On July 26, various mobile apps including Bilibili, Miaopai, Onion Video (洋葱视频,
a short video app) were removed from major Android app stores, such as
Yingyongbao (Tencent), Xiaomi, Huawei etc for 30 days, mainly due to CAC
(Cyberspace Administration of China)’s recent content regulation of mobile short
video platforms. Users can still download Bilibili app via its mobile website on
Android platform.
On July 27, Bilibili made an official announcement to start a round of content review
in accordance with the CAC requirement. Bilibili will double the size of its current
content censorship team and will build a new content censorship center in Wuhan.
Negative impact to Bilibili’s near-term (2H18) MAU growth: 1) mobile app store
is the key mobile user acquisition channel for Bilibili, while mobile accounted for
80%+ of Bilibili MAU. 2) July/August (summer vacation) is the key user acquisition
period for Bilibili, as its main audience is Generation Z users. Therefore, we expect
meaningful impact to Bilibili's near-term MAU growth.
We expect Bilibili to invest in user acquisition in 2H18/2019, which could weigh
on margin, but positive for long term monetization outlook. We expect Bilibili to
step up investment in its key user acquisition channels, such as mobile app
store/offline marketing campaign after the one-month suspension, which could weigh
16
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
on margins. However, we believe such strategy is positive for long-term
monetization outlook for Bilibili: 1) MAU/time spent is the fundamental driver for
Bilibili's various revenue drivers: game, advertising, live broadcasting. 2) more
appealing for high-quality PUG content provider as Bilibili attracts more users.
Table 6: Bilibili: MAU assumptions
(mn) 4Q18 4Q19 4Q20
New
Old
New vs. Old -7% 1% 3%
Source: Company data, . Morgan estimates.
Tweak down 2H18 mobile game revenue forecasts due to
low visibility in timing of online game approval resumption
We tweak down 3Q/4Q mobile game revenue forecasts by 8%/12% to factor in
limited new game revenue contribution
Bilibili has three exclusive licensed game (Untouchable Palm/BanG Dream!/A3!)
scheduled to launch in 2H18. However, due to recent suspension of online game
approval in China, visibility in the launch time of these new titles remains low.
Therefore, we tweak down 3Q/4Q mobile game revenue forecast by 8%/12% to
factor in uncertainty in new game launch time.
FGO grossing performance remains healthy, expect (accounting) revenue to
decline QoQ in 3Q due to less deferred revenue recognition from spring festival
campaign
FGO's grossing performance remains healthy. After launching new expansion pack
‘CCC in June 5, FGO ranked as high as in China iOS top grossing league. We
expect future launch of new expansion packs, such as new chapter 'Underworld' in
Sep 2018 to support FGO’s grossing performance.
While we expect stable trend of grossing for FGO in 3Q, we expect FGO's
accounting revenue to decline on QoQ basis due to less deferred revenue recognition
from spring festival campaign in 1Q.
Figure 4: FGO ranked of China iOS top grossing game league after launch of expansion
pack ‘CCC’
Source: AppAnnie.
17
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Figure 5: Earnings revisions
Source: Company data, . Morgan estimates.
Quarterly results preview
Our Bilibili 2Q revenue is 2% lower than consensus. We expect Bilibili to report
in-line 2Q revenue within guidance, supported by 8% QoQ growth of mobile game
(healthy FGO grossing trend, deferred revenue from 1Q)/14% QoQ growth of live
broadcasting and VAS (healthy premium membership growth)/66% QoQ growth of
advertising (continued ramp up of feed ads). We forecast a Non-GAAP EPS of
vs. consensus of . We expect MAU to grow by 5% in 2Q,
lower than 8% sequential growth in 1Q due to weak seasonality. We expect potential
downside risk to 3Q18 guidance due to limited new game revenue contribution.
Sogou
Our 2Q revenue (US$299m, up 42% YoY/21% QoQ) is 1% lower than
consensus, while EPS forecast (US$, down 12% YoY/up 59% QoQ) is in line
with consensus. We expect Sogou’s revenue to grow by 21% QoQ/42% YoY in
2Q18, mainly supported by 21% QoQ/43% YoY growth from search and related ads.
We expect Sogou's adj NPM to grow by QoQ to reach % in 2Q, mainly
due to operating leverage in TAC.
Meanwhile, we see downside risk to consensus 3Q18 revenue due to: 1)
suspension of auction-based ads in early July. We estimate the incident to have 9-
10% of negative impact to 3Q18 revenue (consider 10 days’ auction ads impact and
some ripple effect on advertiser sentiment), 2) headwind from Rmb depreciation, as
Sogou report revenue in USD (JPMe c6% negative influence). However, as a
company’s intrinsic value is based on its earnings-generating capability in future
years, as opposed to next quarter, we believe impact from this incident to Sogou’s
YE 31 Dec
RMBm JPM old JPM new % change Consensus % delta JPM old JPM new % change Consensus % delta JPM old JPM new % change Consensus % delta
Net Revenue 4,230 4,066 -4% 4,131 -2% 6,628 6,747 2% 6,650 1% 9,464 9,936 5% 9,240 8%
Mobile games 3,041 2,874 -5% 3,858 3,948 2% 4,755 5,030 6%
Live broadcasting and VAS 526 530 1% 1,003 1,020 2% 1,837 1,874 2%
Advertising 609 607 0% 1,681 1,693 1% 2,746 2,905 6%
Others 54 54 0% 86 86 0% 126 126 0%
Gross profit 1,144 1,101 -4% 1,069 3% 2,321 2,359 2% 2,139 10% 3,624 3,810 5% 3,416 12%
Operating profit (GAAP) (84) (214) 154% N/A 711 580 -18% N/A 1,604 1,659 3% N/A
Operating profit (non GAAP) 104 (26) -125% N/A 920 789 -14% N/A 1,813 1,868 3% N/A
PBT (GAAP) (59) (192) 223% (83) 131% 723 584 -19% 655 -11% 1,620 1,662 3% 1,422 17%
Net income (GAAP) (130) (277) 113% (118) 134% 582 471 -19% 600 -22% 1,300 1,333 3% 1,094 22%
Net income (Non-GAAP) 58 (89) -254% (123) -27% 791 680 -14% 572 19% 1,509 1,542 2% 1,044 48%
EPADS (GAAP)
Diluted (RMB) () () 113% -2% -19% -15% 3% 41%
EPADS (Non GAAP)
Diluted (RMB) () -254% -18% -14% 23% 2% 47%
Margin analysis (%)
GP margin % % % 26% % % % 32% % % % 37%
Operating margin (GAAP) % % % N/A % % % N/A % % % N/A
Operating margin (non-GAAP) % % % N/A % % % N/A % % % N/A
Net margin (GAAP) % % % -3% % % % 9% % % % 12%
Net margin (non GAAP) % % % -3% % % % 9% % % % 11%
YoY %
Revenue 71% 65% 67% 57% 66% 61% 43% 47% 39%
GP 108% 100% 95% 103% 114% 100% 56% 62% 60%
Operating profit (GAAP) -62% -5% N/A -945% -371% N/A 126% 186% N/A
Operating profit (non GAAP) -172% -82% N/A 788% -3097% N/A 97% 137% N/A
Net income (GAAP) -29% 51% -36% -548% -270% -607% 123% 183% 82%
Net income (Non-GAAP) -157% -12% 21% 1272% -864% -566% 91% 127% 83%
EPADS (GAAP)
Diluted -80% -56% -55% -456% -235% -255% 122% 181% 70%
EPADS (Non GAAP)
Diluted -116% -75% -69% 990% -706% -503% 89% 125% 88%
2020E2019E2018E
18
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
intrinsic value is limited. Upside to Sogou’s earnings and market share estimates lies
in commercial co-operation with Tencent in relation to WeChat search, which again
has nothing to do with the incident. Therefore, we suggest investors buy Sogou on
dips for WeChat search upside. (For more detail on this, please refer to our note
published on July 12, 2018: Sogou: Resuming auction-based search ads).
Key things to watch:
Update on competitive landscape in OEM traffic acquisition
TAC/Opex outlook in 2H18/2019
Update on WeChat operation/input method monetization
Ctrip
Our 2Q revenue estimate of (+15% YoY/+10% QoQ) is in line with
consensus. Our 2Q EPS estimate (, -14% YoY/-63% QoQ) is 10%
below consensus. We expect non-GAAP OPM to decline YoY to % in
2Q, mainly due to the contraction of high-margin bundles sales business and
continued investment in global expansion and lower-tier city penetration.
Due to the continued impact from VAS de-bundling, we expect transportation
revenue to only grow 4% YoY in 2Q. We feel further downside risk from de-
bundling is limited, while more meaningful recovery is more likely to happen in 4Q,
based on an easy comp last year. Given the increasing macro headwind and
depreciation of RMB, we suggest investors closely watch management’s tone on its
business momentum in 3Q, especially the impact on outbound travel and domestic
high-end hotel business.
Key things to watch:
Revenue growth trend by key segment
Management’s comment on macro headwind
Update on competitive landscape
Progress in lower-tier city penetration and global expansion
Key risks:
Potential further de-bundling activity in train/bus ticket business
Growth slowdown of travel market
Government may allow OTAs to charge service fee for air/train ticket distribution
to customers, which would bring upside risk to our current topline and earnings
forecasts
19
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Vipshop
We forecast the company’s revenue to grow 20% YoY/6% QoQ to RMB 21bn
in 2Q18, in line with consensus. Our 2Q EPS estimate is in line with consensus.
We think 3Q top-line guidance is important to the stock price as it will indicate
whether the company makes meaningful progress in synergy generation from
Tencent/JD collaboration.
Although the initial conversion rate from JD/Tencent's traffic entries is not
satisfactory, we see gradual improvement in recent social commerce activities with
orders from its Wechat Mimi app surpassing 370k during its promotion (c4% of
its daily active order during the period). Our synergy analysis suggests the company
should be able to deliver 22% revenue CAGR during 19-20E even with conservative
assumptions. We expect to see increasing margin pressure for Vipshop in 2018, due
to: 1) intensified industry competition, 2) increasing marketing spend to drive new
user growth, and 3) product mix shifts to lower-margin standardized categories.
Key things to watch:
Progress in JD/Tencent’s cooperation
Update on industry competition
logistics investment plan and margin trend
Key risks:
Lower-than-expected financial benefits from traffic injection
Intensified industry competition
Lower-than-expected margins due to intense competition and logistics investment
20
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Tencent
Key catalysts for the stock price: Upside risks to our view: Downside risks to our view:
• Monetization of content-based
subscription services
• Smartphone games momentum
• Moments Ads monetization
• Monetization of cloud services
• Mini-game monetization
• Stronger-than-expected WeChat Moments ads
monetization
• Ramp-up of new monetization initiatives (. O2O,
internet finance, etc.)
• Stronger-than-expected mobile games performance
• Regulations (on games approval, content, etc)
• Competition of emerging entertainment formats
• Game aging on both PC and mobile
• Lack of successful new mobile game titles
• Margin pressure from new investments (. cloud and
payments)
Key financial metrics FY17 FY18E FY19E FY20E Valuation and price target basis
Revenues (RMBm) 237,760 332,247 468,137 604,957 We have an Overweight rating on Tencent with a Jun-19 PT of HK$480. Our
PT is based on 2019E non-GAAP EPS of HK$, 2020-21E EPS CAGR
of % and a PEG of . PT implies a 2019E P/E of 34x and a 2020E
P/E of 25x.
Revenue growth (%) % % % %
Operating profit (RMBm) 82,023 106,272 149,493 201,786
Operating margin (%) % % % %
Tax rate (%) % % % %
Net profit (RMBm) 65,126 80,984 116,333 157,194
EPS (RMB)
EPS growth (%) % % % % Mobile games revenue trend
DPS (RMB)
BVPS (RMB)
Operating cash flow (RMBm) 106140 136375 203178 223342
Free cash flow (RMBm) 74,210 89,946 145,877 155,095
Interest cover (X) NM NM NM NM
Net margin (%) % % % %
Sales/assets (X)
Debt/equity (%) % % % %
Net debt/equity (%) % % % %
ROE (%) % % % %
Key model assumptions FY17 FY18E FY19E FY20E
APA of ACG games (million) 82 72 66 60
ARPU of ACG games (RMB) 534 547 562 562
Total active IM accounts (million) 834 795 806 813
Source: Company data and . Morgan estimates. Source: Bloomberg, Company daa and . Morgan estimates.
Sensitivity analysis Operating profit EPS JPMe vs. consensus, change in estimates
Sensitivity to FY18E FY19E FY18E FY19E EPS (RMB) FY18E FY19E
5% chg in online game revenue 3% 3% 3% 3% JPMe old
5% chg in online community
revenue 1% 1% 1% 1% JPMe new
5% chg in sales & marketing
expense 1% 1% 1% 1% % chg -6% -4%
5% chg in G&A expenses 2% 2% 2% 2% Consensus
Source: . Morgan estimates. Source: Bloomberg, . Morgan estimates.
54%
80%
64%
45%
54%
28%
0%
20%
40%
60%
80%
100%
FY14 FY15 FY16 FY17 FY18E FY19E FY20E
Mobile games revenue (RMBbn) YoY growth
21
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Tencent
Share Price: HK$, Date of Price: (30 Jul 18), Bloomberg 700 HK, Reuters
(Year-end Dec, Rmb mn) FY17 FY18E FY19E FY20E FY17 FY18E FY19E FY20E
Net Sales 237,760 332,247 468,137 604,957 ROE(%) % % % % 52-Week range
Operating Profit (EBIT) 90,302 113,310 150,122 199,953 ROIC(%) (%) (%) (%) - Shares Outstg 9,429MN
EBITDA 103,043 136,921 171,679 261,559 Cash 105, 43, 28, 12, Market Cap(US) US$441,202MN
Pre Tax Profit 88,215 109,418 146,230 196,061 Equity 277, 359, 469, 614, Free float -
Reported Net profit 71,510 86,594 117,177 158,038 Qtr GAAP EPS (Rmb) 1Q 2Q 3Q 4Q Avg daily vol. shares
Reported EPS (Rmb) EPS (17) Avg daily val (HK$) 8,
P/E (x) EPS (18) E Dividend Yield %
Adj. EPS * EPS (19) E Index (NASD) 2,
Adj. P/E (X) 1M 3M 12M Price Target
EV/EBITDA (x) Abs. Perf.(%) (%) (%) % Price Target End Date 30-Jun-19
P/B (x) Rel. Perf.(%) (%) % % Price Date 30 Jul 18
Y/E BPS (Rmb)
Source: Company, J. P. Morgan estimates, Bloomberg. * Note: Excluding share-based compensation expense.
Investment Thesis, Valuation and Risks
Tencent (Overweight; Price Target: HK$)
Investment Thesis
We see near-term weakness of Tencent’s smartphone games business due to: 1)
suspension of online games approval, 2) delayed monetization of PUBG Mobile, and
3) competition of other entertainment formats. While 2Q18 smartphone games
revenue is likely to face a sequential decline, we believe most of the negative factors
will be resolved in 6 months. We remain constructive on smartphone games
performance in 2019 in light of the monetization of PUBG Mobile (through either
PUBG IPed games or new in-house developed games with similar features and
appeals) and Fortnite Mobile. Overweight.
Valuation
Our Jun-19 PT of HK$480 is based on 2019E non-GAAP EPS of HK$, a
2020E-21E EPS CAGR of %, and a PEG of . We adopt PEG as our primary
valuation methodology, as it balances valuation multiple and growth prospects. Our
PT implies a 2019/20E P/E of 34x/25x.
Risks to Rating and Price Target
Downside risks to our view include:
Core games aging faster than expected.
An inability to launch successful mobile game titles continuously.
A slower-than-expected ramp-up of mobile ad revenue.
Video content spend.
Higher investments in new initiatives (., cloud and Internet finance) due to
intensified competition, leading to margin pressure.
22
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Tencent: Summary of Financials
Income Statement - Annual FY16A FY17A FY18E FY19E FY20E Income Statement - Quarterly 1Q18A 2Q18E 3Q18E 4Q18E
Revenue 151,938 237,760 332,247 468,137 604,957 Revenue 73,528 76,632 87,851 94,236
COGS (67,439) (120,835) (175,052) (246,111) (313,113) COGS (36,486) (40,884) (47,219) (50,463)
Gross profit 84,499 116,925 157,194 222,026 291,844 Gross profit 37,042 35,747 40,632 43,772
SG&A (34,198) (50,213) (70,134) (95,504) (117,892) SG&A (14,900) (15,783) (18,274) (21,177)
Adj. EBITDA 62,791 103,043 136,921 171,679 261,559 Adj. EBITDA 36,595 31,767 34,161 34,398
D&A (6,674) (12,741) (23,611) (21,557) (61,606) D&A (5,903) (5,903) (5,903) (5,903)
Adj. EBIT 58,154 82,023 106,272 149,493 201,786 Adj. EBIT 25,272 25,133 27,752 28,116
Net Interest 0 0 0 0 0 Net Interest 0 0 0 0
Adj. PBT 53,677 79,936 102,380 145,601 197,894 Adj. PBT 24,299 24,160 26,779 27,143
Tax (10,193) (15,744) (20,092) (26,321) (35,291) Tax (5,746) (4,480) (4,911) (4,954)
Minority Interest (352) (961) (2,732) (2,732) (2,732) Minority Interest (683) (683) (683) (683)
Adj. Net Income 45,420 65,126 80,984 116,333 157,194 Adj. Net Income 18,313 19,517 21,480 21,674
Reported EPS Reported EPS
Adj. EPS Adj. EPS
DPS DPS - - - -
Payout ratio % % % % % Payout ratio - - - -
Shares outstanding 9,376 9,408 9,431 9,435 9,439 Shares outstanding 9,429 9,430 9,431 9,432
.
Balance Sheet & Cash Flow Statement FY16A FY17A FY18E FY19E FY20E Ratio Analysis FY16A FY17A FY18E FY19E FY20E
Cash and cash equivalents 71,902 105,697 43,554 28,708 12,784 Gross margin % % % % %
Accounts receivable 10,152 16,549 18,820 26,518 34,268 EBITDA margin % % % % %
Inventories 263 295 1,296 1,826 2,359 EBIT margin % % % % %
Other current assets 66,837 55,905 129,967 188,949 274,189 Net profit margin % % % % %
Current assets 149,154 178,446 193,637 246,001 323,600
PP&E 24,602 32,671 37,694 44,771 53,916 ROE % % % % %
LT investments 96,584 143,756 142,480 141,204 139,928 ROA % % % % %
Other non current assets 125,559 199,799 303,259 433,301 536,819 ROCE % % % % %
Total assets 395,899 554,672 677,069 865,277 1,054,263 SG&A/Sales % % % % %
Net debt/equity (%) (%) (%) (%) (%)
Short term borrowings 12,278 15,696 15,696 15,696 15,696
Payables 51,752 84,270 107,568 162,143 180,995 P/E (x)
Other short term liabilities 37,167 51,774 68,517 92,598 116,843 P/BV (x)
Current liabilities 101,197 151,740 191,782 270,436 313,533 EV/EBITDA (x)
Long-term debt 57,549 82,094 82,094 82,094 82,094 Dividend Yield % % % % %
Other long term liabilities 50,906 43,745 43,745 43,745 43,745
Total liabilities 209,652 277,579 317,621 396,275 439,372 Sales/Assets (x)
Shareholders' equity 186,247 277,093 359,449 469,001 614,891 Interest cover (x) - - - - -
Minority interests - - - - - Operating leverage % % % % %
Total liabilities & equity 395,899 554,672 677,069 865,277 1,054,263
BVPS Revenue y/y Growth % % % % %
y/y Growth % % % % % EBITDA y/y Growth % % % % %
Net debt/(cash) (53,145) (46,237) (36,582) (79,472) (127,058) Tax rate % % % % %
Adj. Net Income y/y Growth % % % % %
Cash flow from operating activities 65,518 106,140 136,375 203,178 223,342 EPS y/y Growth % % % % %
o/w Depreciation & amortization 12,741 23,611 21,557 30,374 39,251 DPS y/y Growth % % % % %
o/w Changes in working capital 10,967 9,801 15,196 69,181 13,083
Cash flow from investing activities (70,923) (96,392) (191,548) (207,668) (224,387)
o/w Capital expenditure (17,248) (31,958) (46,430) (57,301) (68,247)
as % of sales % % % % %
Cash flow from financing activities 31,443 26,598 (9,586) (12,972) (17,496)
o/w Dividends paid (4,606) (5,998) (9,586) (12,972) (17,496)
o/w Net debt issued/(repaid) - - - - -
Net change in cash 28,464 33,795 (62,143) (14,846) (15,925)
Adj. Free cash flow to firm 48,301 74,210 89,946 145,877 155,095
y/y Growth % % % % %
Source: Company reports and . Morgan estimates.
Note: Rmb in millions (except per-share data).Fiscal year ends Dec. o/w - out of which
23
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Alibaba
Key catalysts for the stock price: Upside risks to our view: Downside risks to our view:
• Monetization rate improvement
• Cloud computing
• Stronger-than-expected improvement of mobile
monetization efficiency
• Faster-than-expected international expansion
• Portfolio company asset appreciation
• Slower-than-expected mobile monetization
• Intensified industry competition
• Regulations
Key financial metrics FY16 FY17 FY18 FY19E Valuation and price target basis
Revenues (RMBm) 101,143 158,273 250,266 399,629 We maintain our OW rating on Alibaba. Our Dec-18 PT of US$230
includes US$185 from core e-commerce business, US$18 from
cloud computing, US$7 from media and entertainment, US$19
from investments and net cash.
Revenue growth (%) % % % %
EBITDA (RMBm)
52,340 74,456 105,792 140,433
EBITDA margin (%) % % % %
Tax rate (%) % % % %
Net profit (RMBm) 71,460 43,675 63,985 73,911
EPS (RMB)
EPS growth (%) % % % % Non-GAAP EBITDA margin trend
DPS (RMB)
BVPS (RMB)
Operating cash flow (RMBm)
56,836 80,326 125,942 171,477
Free cash flow (RMBm) 45,348 57,892 77,813 130,844
Interest cover (X)
Net margin (%) % % % %
Sales/assets (X)
Debt/equity (%) % % % %
Net debt/equity (%) % % % %
ROE (%) % % % %
Key model assumptions FY16 FY17 FY18E FY19E
China retail GMV (RMB bn) 3,092 3,767 4,820 6,017
Blended take rate (%) % % % %
Mobile take rate (%) % % % %
Source: Company data and . Morgan estimates. Source: Bloomberg, Company data and . Morgan estimates.
Sensitivity analysis EBITDA EPS JPMe vs. consensus, change in estimates
Sensitivity to FY19E FY20E FY19E FY20E EPS (RMB) FY19E FY20E
5% chg in China retail GMV 8% 7% 7% 6%
ppt chg in blended take rate 7% 7% 6% 6% JPMe
Consensus
Source: . Morgan estimates. Source: Bloomberg, . Morgan estimates.
%
%
%
%
%
%
%
%
%
%
%
%
FY16 FY17 FY18 FY19E FY20E
Non-GAAP EBITDA margin
24
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Alibaba Group Holding Limited
Share Price: $, Date of Price: (27 Jul 18), Bloomberg BABA US, Reuters BABA
(Year-end Mar, Rmb mn) FY17 FY18 FY19E FY20E FY17 FY18 FY19E FY20E
Net Sales 158,273 250,266 399,629 574,960 ROE(%) % % % % 52-Week range
Operating Profit (EBIT) 48,055 69,314 91,828 125,063 ROIC(%) - - - - Shares Outstg 2,610MN
EBITDA 74,456 105,792 140,433 185,223 Cash 143, 170, 217, 284, Market Cap(US) US$494,386MN
Pre Tax Profit 60,029 100,403 95,863 131,733 Equity 324, 408, 507, 638, Free float -
Reported Net profit 43,675 63,985 73,911 106,229 Qtr GAAP EPS (Rmb) 1Q 2Q 3Q 4Q Avg daily vol. shares
Reported EPS (Rmb) EPS (18) Avg daily val ($) 3,
P/E (x) EPS (19) E Dividend Yield -
Adj. EPS * EPS (20) E Index (NASD)
Adj. P/E (X) 1M 3M 12M Price Target
EV/EBITDA (x) Abs. Perf.(%) % % % Price Target End Date 31-Dec-18
P/B (x) Rel. Perf.(%) (%) (%) (%) Price Date 27 Jul 18
Y/E BPS (Rmb)
Source: Company, J. P. Morgan estimates, Bloomberg. * Note: Excluding share-based compensation expense.
Investment Thesis, Valuation and Risks
Alibaba Group Holding Limited (Overweight; Price Target: $)
Investment Thesis
Despite a heavy investment strategy across new retail, International, digital content,
cloud, etc., we feel incrementally more positive on Ali’s near- and long-term outlook
due to: 1) a solid core domestic ecommerce business (Tmall and Taobao), which in
FY18 achieved GMV and revenue growth acceleration, gained market share in B2C
and maintained relatively stable margin vs. FY17. More importantly, the high-margin
cash cow is expected to grow a solid 35-40%, based on FY19 rev guidance. 2)
Financial impact from new investments seems manageable, partly due to a strong
core domestic ecommerce, partly due to improving efficiency of new initiatives
(Hema, etc.). In our view, Alibaba remains well-balanced with mature and solid cash
cow driving near-term, leading position in emerging market opportunities for mid-
term earnings growth (cloud, Internet finance) and pro-active investments in
potential long-term growth opportunities (new retail, logistic, International, etc.)
Valuation
We have an Overweight rating on Alibaba. We adopt a SoTP approach to value
Alibaba, which yields a total valuation of US$598bn and a Dec-18 PT of US$230.
Key assumptions include:
US$483bn for core commerce business or US$185 per share, based on CY2019E
net profit of US$24bn and a P/E of 20x.
US$46bn for cloud computing services or US$18 per share, based on CY2019E
revenue of US$7bn and a P/S of 7x.
US$19bn for media and entertainment business or US$7 per share, based on
CY2019E revenue of US$5bn and a P/S of 4x.
US$34bn for equity investment (US$13 per share) and US$16bn for net cash
(US$6 per share).
25
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Risks to Rating and Price Target
Key downside risks: (1) large Chinese internet companies such as Tencent and Baidu
could pose a threat to Alibaba’s Local Services business; (2) investments in digital
content could be a long-lasting effort and bring margin pressure in the long term;
(3) the progress of mobile monetization improvement might be slower than expected,
along with the sustainability of China’s retail marketplace GMV and revenue growth
in the longer run; (4) potential government scrutiny of Internet content and activity in
China; and (5) potential investor concerns around corporate structure.
26
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Alibaba Group Holding Limited: Summary of Financials
Income Statement - Annual FY17A FY18A FY19E FY20E FY21E Income Statement - Quarterly 1Q19E 2Q19E 3Q19E 4Q19E
Revenue 158,273 250,266 399,629 574,960 - Revenue 81,353 90,561 128,573 99,141
COGS (59,483) (107,044) (201,889) (307,652) - COGS (39,863) (46,186) (64,287) (51,553)
Gross profit 98,790 143,222 197,740 267,308 - Gross profit 41,490 44,375 64,287 47,588
SG&A (28,553) (43,540) (63,260) (84,619) - SG&A (13,006) (14,564) (18,335) (17,355)
Adj. EBITDA 74,456 105,792 140,433 185,223 - Adj. EBITDA 29,776 31,777 47,384 31,495
D&A (5,284) (15,909) (24,040) (34,565) - D&A (5,944) (5,860) (6,521) (5,715)
Adj. EBIT 69,172 97,003 126,399 165,031 - Adj. EBIT 26,776 28,477 43,584 27,561
Net Interest 5,888 26,929 3,335 5,670 - Net Interest 834 834 834 834
Adj. PBT 81,146 128,092 130,434 171,701 - Adj. PBT 27,710 29,511 44,618 28,595
Tax (13,776) (18,199) (26,087) (34,225) - Tax (5,542) (5,902) (8,924) (5,719)
Minority Interest 2,449 2,681 4,934 5,921 - Minority Interest 1,234 1,234 1,234 1,234
Adj. Net Income 60,516 85,776 108,482 146,197 - Adj. Net Income 23,202 24,642 36,728 23,910
Reported EPS - Reported EPS
Adj. EPS - Adj. EPS
DPS - - - - - DPS - - - -
Payout ratio - - - - - Payout ratio - - - -
Shares outstanding 2,572 2,610 2,652 2,705 - Shares outstanding 2,632 2,645 2,658 2,672
.
Balance Sheet & Cash Flow Statement FY17A FY18A FY19E FY20E FY21E Ratio Analysis FY17A FY18A FY19E FY20E FY21E
Cash and cash equivalents 143,736 170,433 217,916 284,356 - Gross margin % % % % -
Accounts receivable 29,060 37,711 60,218 86,638 - EBITDA margin % % % % -
Inventories - - - - - EBIT margin % % % % -
Other current assets 9,720 9,720 9,720 9,720 - Net profit margin % % % % -
Current assets 182,516 217,864 287,854 380,714 -
PP&E 20,206 36,444 60,374 91,929 - ROE % % % % -
LT investments - - - - - ROA % % % % -
Other non current assets 304,090 374,755 459,553 557,071 - ROCE % % % % -
Total assets 506,812 629,063 807,781 1,029,713 - SG&A/Sales % % % % -
Net debt/equity (%) (%) (%) (%) -
Short term borrowings 14,897 14,897 14,897 14,897 -
Payables 47,186 84,915 160,152 244,051 - P/E (x) -
Other short term liabilities 31,688 35,248 41,028 47,813 - P/BV (x) -
Current liabilities 93,771 135,060 216,078 306,761 - EV/EBITDA (x) -
Long-term debt 76,835 73,281 72,050 72,050 - Dividend Yield - - - - -
Other long term liabilities 12,085 12,085 12,085 12,085 -
Total liabilities 182,691 220,426 300,213 390,896 - Sales/Assets (x) -
Shareholders' equity 281,791 366,307 465,238 596,487 - Interest cover (x) NM NM NM NM -
Minority interests 42,330 42,330 42,330 42,330 - Operating leverage % % % % -
Total liabilities & equity 506,812 629,063 807,781 1,029,713 -
BVPS - Revenue y/y Growth % % % % -
y/y Growth % % % % - EBITDA y/y Growth % % % % -
Net debt/(cash) (52,004) (82,255) (130,969) (197,409) - Tax rate % % % % -
Adj. Net Income y/y Growth % % % % -
Cash flow from operating activities 80,326 125,942 171,477 215,704 - EPS y/y Growth % % % % -
o/w Depreciation & amortization 14,292 8,789 14,034 20,192 - DPS y/y Growth - - - - -
o/w Changes in working capital 7,259 32,637 58,511 64,264 -
Cash flow from investing activities (78,364) (95,692) (122,763) (149,264) -
o/w Capital expenditure (17,546) (25,027) (37,965) (51,746) -
as % of sales % % % % -
Cash flow from financing activities 32,914 (3,554) (1,231) 0 -
o/w Dividends paid - - - - -
o/w Net debt issued/(repaid) 29,333 (3,554) (1,231) 0 -
Net change in cash 36,918 26,697 47,483 66,440 -
Adj. Free cash flow to firm 57,892 77,813 130,844 159,418 -
y/y Growth % % % % -
Source: Company reports and . Morgan estimates.
Note: Rmb in millions (except per-share data).Fiscal year ends Mar. o/w - out of which
27
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Baidu
Key catalysts for the stock price: Upside risks to our view: Downside risks to our view:
• Monetization of in-feed ads
• Higher-than-expected margin recovery from potential subsidy
reduction in O2O and recovery of core search business
• Video business revenue growth and margin improvement
• Further improvement in mobile monetization
• Lower-than-expected investments
• Monetization of new search scenarios
• Cannibalization between in-feed ads and search ads
• Impact from competition on ad pricing and/or agency
rebate
• Increased traffic acquisition cost on PC in order to retain
traffic
• Higher-than-expected investment in O2O
Key financial metrics FY16 FY17 FY18E FY19E Valuation and price target basis
Revenues (RMBm) 70,549 84,810 103,940 125,101 Our Dec-18 PT of US$260 is based on an SOTP that includes:
US$213/share for core ads, US$17/share for iQiyi, US$14/share for
investment and US$18/share for net cash.
Revenue growth (%) % % % %
Operating profit (RMBm) 10,049 15,690 21,860 25,100
Operating margin (%) % % % %
Tax rate (%) % % % %
Net profit (RMBm) 13,219 22,270 25,284 26,456
EPS (RMB)
EPS growth (%) % % % % Non-GAAP operating margin
DPS (RMB)
BVPS (RMB)
Operating cash flow (RMBm) 22,258 32,880 24,433 40,539
Free cash flow (RMBm) 17,115 26,743 16,963 31,614
Interest cover (X)
Net margin (%) % % % %
Sales/assets (X)
Debt/equity (%) % % % %
Net debt/equity (%) % % % %
ROE (%) % % % %
Key model assumptions FY16 FY17 FY18E FY19E
Search revenue (RMBm) 57,620 67,431 79,800 92,826
Transaction service revenue
(RMBm) 6,517 53,243 0 0
Source: Company data and . Morgan estimates. Source: Bloomberg, Company data and . Morgan estimates.
Sensitivity analysis EBIT EPS JPMe vs. consensus, change in estimates
Sensitivity to FY18E FY19E FY18E FY19E EPS (RMB) FY18E FY19E
5% chg in search revenue 6% 6% 5% 6%
5% chg in transaction service
revenue 2% 2% 2% 2% JPMe
Consensus
Source: . Morgan estimates. Source: Bloomberg, . Morgan estimates.
50%
37%
28%
20%
17%
22%
25% 24%
0%
10%
20%
30%
40%
50%
60%
FY12 FY13 FY14 FY15 FY16 FY17 FY18E FY19E
Non-GAAP operating margin
28
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Share Price: $, Date of Price: (27 Jul 18), Bloomberg BIDU US, Reuters BIDU
(Year-end Dec, Rmb mn) FY17 FY18E FY19E FY20E FY17 FY18E FY19E FY20E
Net Sales 84,810 103,940 125,101 146,619 ROE(%) % % % % 52-Week range
Operating Profit (EBIT) 15,690 21,860 25,100 32,834 ROIC(%) - - - - Shares Outstg 347MN
EBITDA 30,682 27,773 27,602 35,766 Cash 11, 29, 63, 82, Market Cap(US) US$88,416MN
Pre Tax Profit 21,345 25,500 27,180 35,184 Equity 130, 153, 175, 204, Free float NA
Reported Net profit 18,300 21,450 22,010 29,049 Qtr GAAP EPS (Rmb) 1Q 2Q 3Q 4Q Avg daily vol. shares
Reported EPS (Rmb) EPS (17) Avg daily val ($)
P/E (x) EPS (18) E Dividend Yield -
Adj. EPS * EPS (19) E - - - - Index (NASD)
Adj. P/E (X) 1M 3M 12M Price Target
EV/EBITDA (x) Abs. Perf.(%) % % % Price Target End Date 31-Dec-18
P/B (x) Rel. Perf.(%) (%) (%) % Price Date 27 Jul 18
Y/E BPS (Rmb)
Source: Company, J. P. Morgan estimates, Bloomberg. * Note: Excluding share-based compensation expense.
Investment Thesis, Valuation and Risks
(Neutral; Price Target: $)
Investment Thesis
We are turning incrementally more positive on Baidu, given the improving growth
outlook and the profitability of core Baidu (1Q18 non-GAAP OM 40%, up 5ppt QoQ
on a seasonally soft quarter). We believe the stock is likely to react positively to the
earnings announcement in the near future as short-term investors chase the
momentum and long-term investors revisit the equity story. In addition, 2Q earnings
might offer further earnings upside if the traffic acquisition spend remains rational.
Nonetheless, we don’t think it’s a thesis-changing quarter, as: (1) core Baidu grew
only 26% YoY off an easy comp – it remains a question how much core Baidu will
decelerate in 2H18 off a much tougher comp; (2) while feed ads continue to ramp up,
it seems partially cannibalistic to core search at the moment (JPMe core search grew
12% YoY in 1Q18 vs. feed ads 320% YoY); and (3) the stronger-than-expected
margin was partially due to seasonal or one-off reasons, such as iQiyi content
broadcast timing, slower user acquisition spend during CNY, etc.). We suggest long-
term investors stay on the sidelines for more visibility on core Baidu growth
sustainability in 2H18.
Valuation
We adopt a SoTP approach to value Baidu and reach a total valuation of US$92bn
and a Dec-18 PT of US$260. The key assumptions of our valuation include:
US$74bn for the core ads business (US$213/share), based on FY18E net profit of
US$5bn and a 15x 2018E P/E.
US$6n for iQiyi (US$17/share), based on its market cap and Baidu’s %
shareholding, applying a 20% holding discount.
29
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
US$ for the equity investment in Ctrip (US$12/share)/Eleme (US$2/share)
and US$ for net cash (US$18/share).
Risks to Rating and Price Target
Upside risks include: (1) a higher-than-expected margin recovery; (2) the
monetization of new search scenarios; (3) a major breakthrough in new initiatives,
such as AI and autonomous driving; and (4) lower-than-expected investments.
Downside risks include: (1) cannibalization between in-feed ads and search ads;
(2) the impact of competition on ad pricing and/or agency rebates; (3) increased
traffic acquisition costs; and (4) higher-than-expected investments in O2O and video
content.
30
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
: Summary of Financials
Income Statement - Annual FY16A FY17A FY18E FY19E FY20E Income Statement - Quarterly 1Q18E 2Q18E 3Q18E 4Q18E
Revenue 70,549 84,810 103,940 125,101 146,619 Revenue 20,907 25,768 27,755 29,510
COGS (35,279) (43,062) (48,384) (58,999) (66,018) COGS (9,903) (12,204) (12,987) (13,291)
Gross profit 35,270 41,748 55,556 66,102 80,601 Gross profit 11,004 13,564 14,769 16,219
SG&A (14,641) (12,156) (16,076) (19,335) (22,176) SG&A (2,851) (3,975) (4,457) (4,793)
Adj. EBITDA 15,157 30,682 27,773 27,602 35,766 Adj. EBITDA 8,283 8,997 9,651 10,511
D&A (3,451) (11,748) (2,079) (2,502) (2,932) D&A (2,937) (2,937) (2,937) (2,937)
Adj. EBIT 11,706 18,934 25,694 29,546 38,044 Adj. EBIT 5,346 6,060 6,714 7,574
Net Interest 1,184 1,539 1,832 2,080 2,350 Net Interest 469 437 454 471
Adj. PBT 17,192 24,590 29,334 31,626 40,394 Adj. PBT 7,623 6,497 7,168 8,046
Tax (2,914) (2,995) (4,488) (4,249) (4,938) Tax (1,120) (1,018) (1,131) (1,219)
Minority Interest 37 12 1,146 0 0 Minority Interest 1,146 0 0 0
Adj. Net Income 13,219 22,270 25,284 26,456 34,259 Adj. Net Income 5,734 5,303 5,860 6,650
Reported EPS Reported EPS
Adj. EPS Adj. EPS
DPS - - - - - DPS - - - -
Payout ratio - - - - - Payout ratio - - - -
Shares outstanding 347 347 349 349 349 Shares outstanding 348 348 349 349
.
Balance Sheet & Cash Flow Statement FY16A FY17A FY18E FY19E FY20E Ratio Analysis FY16A FY17A FY18E FY19E FY20E
Cash and cash equivalents 10,898 11,084 29,647 63,063 82,938 Gross margin % % % % %
Accounts receivable 4,109 4,571 6,067 6,737 8,270 EBITDA margin % % % % %
Inventories - EBIT margin % % % % %
Other current assets 84,751 135,514 135,902 135,987 136,044 Net profit margin % % % % %
Current assets 99,759 151,169 171,616 205,787 227,252
PP&E 11,294 12,475 16,314 20,936 26,352 ROE % % % % %
LT investments 45,690 56,283 56,283 56,283 56,283 ROA % % % % %
Other non current assets 25,254 31,801 31,801 31,801 31,801 ROCE % % % % %
Total assets 181,997 251,728 276,015 314,806 341,687 SG&A/Sales % % % % %
Net debt/equity (%) (%) (%) (%) (%)
Short term borrowings 4,583 39,730 39,730 39,730 39,730
Payables 28,654 27,523 25,501 39,156 33,192 P/E (x)
Other short term liabilities 12,865 14,804 18,469 21,595 25,391 P/BV (x)
Current liabilities 46,102 82,057 83,700 100,481 98,313 EV/EBITDA (x)
Long-term debt 34,471 35,812 35,812 35,812 35,812 Dividend Yield - - - - -
Other long term liabilities 3,682 3,487 3,487 3,487 3,487
Total liabilities 84,255 121,356 122,999 139,780 137,612 Sales/Assets (x)
Shareholders' equity 97,742 130,372 153,016 175,026 204,075 Interest cover (x) NM NM NM NM NM
Minority interests - Operating leverage (%) % % % %
Total liabilities & equity 181,997 251,728 276,015 314,806 341,687
BVPS Revenue y/y Growth % % % % %
y/y Growth % % % % % EBITDA y/y Growth (%) % (%) (%) %
Net debt/(cash) (51,105) (43,525) (62,088) (95,504) (115,379) Tax rate % % % % %
Adj. Net Income y/y Growth (%) % % % %
Cash flow from operating activities 22,258 32,880 24,433 40,539 28,224 EPS y/y Growth (%) % % % %
o/w Depreciation & amortization 3,451 11,748 2,079 2,502 2,932 DPS y/y Growth - - - - -
o/w Changes in working capital 5,638 6,575 (242) 16,027 (3,757)
Cash flow from investing activities (35,911) (76,935) (5,918) (7,123) (8,348)
o/w Capital expenditure (4,189) (4,829) (5,918) (7,123) (8,348)
as % of sales % % % % %
Cash flow from financing activities 14,447 44,557 0 0 0
o/w Dividends paid 0 0 0 0 0
o/w Net debt issued/(repaid) 6,851 3,554 0 0 0
Net change in cash 939 186 18,563 33,416 19,876
Adj. Free cash flow to firm 17,115 26,743 16,963 31,615 17,813
y/y Growth % % (%) % (%)
Source: Company reports and . Morgan estimates.
Note: Rmb in millions (except per-share data).Fiscal year ends Dec. o/w - out of which
31
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Key catalysts for the stock price: Upside risks to our view: Downside risks to our view:
• Robust GMV growth, both 1P and 3P
• Margin improvement
• Faster-than-expected GMV growth
• Faster-than-expected direct sales margin expansion
• Faster-than-expected growth in 3P business
• Execution risk of category expansion
• Intense market competition and investment in
new initiatives may delay margin improvement
Key financial metrics FY16 FY17 FY18E FY19E Valuation and price target basis
Revenues (RMBm) 260,186 363,339 469,544 583,347 Our Dec-18 PT of US$38 is based on DCF valuation, which
includes: (1) a risk-free rate of %; (2) an equity risk premium of
% in the China market; (3) a beta of ; (4) a discount rate of
%; and (5) a terminal growth rate of 3%.
Revenue growth (%) % % % %
Operating profit (RMBm) 956 3,101 5,158 10,116
Operating profit margin (%) % % % %
Tax rate (%) % % % %
Net profit (RMBm) 1,001 5,084 6,346 11,719
EPS (USD)
EPS growth (%) % % % Non-GAAP net margin trend
DPS (RMB) 0 0 0 0
BVPS (RMB)
Operating cash flow (RMBm) 12,400 24,821 31,950 25,408
Free cash flow (RMBm) (25,178) (16,765) 16,024 9,414
Interest cover (X) (25) (5) (5) (6)
Net margin (%) % % % %
Sales/assets (X)
Debt/equity (%) % % % %
Net debt/equity (%) % % % %
ROE (%) % % % %
Key model assumptions FY16 FY17 FY18E FY19E
No. of active customers (million)
GMV per active customer (RMB) 2,905 3,107 3,238 3,325
Source: Company data and . Morgan estimates. Source: Bloomberg, Company data and . Morgan estimates.
Sensitivity analysis EBITDA EPS JPMe vs. consensus, change in estimates
Sensitivity to FY18E FY19E FY18E FY19E EPS (RMB) FY18E FY19E
1% chg in sales growth 11% 8% 18% 11%
1% chg in COGS 10% 8% 16% 10% JPMe
Consensus
Source: . Morgan estimates. Source: Bloomberg, . Morgan estimates.
%
% %
%
%
% %
%
-4%
-3%
-2%
-1%
0%
1%
2%
3%
FY12 FY13 FY14 FY15 FY16E FY17E FY18E FY19E
Non-GAAP net margin (non-GAAP)
32
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
, Inc.
Company Data
Shares O/S (mn) 1,478
Market Cap (Rmb mn) 363,508
Market Cap ($ mn) 53,514
Price ($)
Date Of Price 27 Jul 18
Free Float(%) -
3M - Avg daily vol (mn)
3M - Avg daily val ($ mn)
3M - Avg daily val ($ mn)
CCMP
Exchange Rate
Price Target End Date 31-Dec-18
, Inc. (Reuters: JD, Bloomberg: JD US)
Rmb in mn, year-end Dec FY16A FY17A FY18E FY19E FY20E
Revenue (Rmb mn) 260,186 363,339 469,544 583,347 695,049
Net Profit (Rmb mn) (3,474) (12) 3,345 6,635 12,481
EPS (Rmb) () ()
DPS (Rmb) - - - - -
Revenue growth (%) % % % % %
EPS growth (%) (%) (%) (%) % %
ROCE % % % % %
ROE % % % % %
P/E (x) NM NM
P/BV (x)
EV/EBITDA (x) -
Dividend Yield - - - - -
Source: Company data, Bloomberg, . Morgan estimates.
Investment Thesis, Valuation and Risks
, Inc. (Neutral; Price Target: $)
Investment Thesis
We rate Neutral due to: 1) a deterioration of near-term margin outlook as a
result of stepping up investments in logistics and R&D and lack of visibility of long-
term earnings contribution from these investments, 2) a decrease of free cash flow
generation capability due to a change in cash conversion cycle in relation to 3P
business. While JD's core commerce (JD Mall) GM improved by 40bps YoY in
1Q18, we see increasing downside risk to its margin outlook due to 1) a more
competitive environment as Alibaba is likely to be more aggressive in competition,
and 2) JD's more aggressive R&D investment strategy. We estimate 2018 to be the
first year of Non-GAAP net margin decline since 2015 (JPMe % vs % in
2017). Moreover, JD's mid to longer term margin visibility declines given
uncertainties around length of investment cycle, magnitude of financial return and
competitive dynamics. Downgrade to Neutral
Valuation
We use DCF as our valuation methodology and derive a Dec-18 PT of US$38. Key
assumptions in our DCF valuation include: (1) a risk-free rate of %; (2) an equity
risk premium of % in the China market; (3) a beta of ; (4) a discount rate of
%; and (5) a terminal growth rate of 3%.
Risks to Rating and Price Target
Downside risks to our rating and price target include:
Intense market competition and investment in new initiatives may delay margin
improvement.
Execution risk of category and marketplace expansion.
Slower-than-expected GMV/revenue growth.
33
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
Upside risks to our rating and price target include:
Faster-than-expected recovery of 3P apparel business.
Faster-than-expected monetization progress in new initiatives such as logistics.
Faster-than-expected margin expansion.
34
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
, Inc.: Summary of Financials
Income Statement - Annual FY16A FY17A FY18E FY19E FY20E Income Statement - Quarterly 1Q18A 2Q18E 3Q18E 4Q18E
Revenue 260,186 363,339 469,544 583,347 695,049 Revenue 100,128 122,214 108,772 138,430
COGS (220,699) (311,113) (402,253) (496,871) (587,416) COGS (85,970) (105,839) (91,677) (118,767)
Gross profit 39,487 52,226 67,290 86,476 107,633 Gross profit 14,158 16,375 17,094 19,663
SG&A (15,236) (19,393) (22,840) (27,405) (32,314) SG&A (4,567) (6,254) (5,248) (6,771)
Adj. EBITDA 5,518 8,177 10,137 15,729 23,301 Adj. EBITDA 1,002 527 2,390 1,846
D&A (3,633) (4,193) (3,991) (4,667) (5,558) D&A (998) (998) (998) (998)
Adj. EBIT 1,884 3,984 6,146 11,063 17,744 Adj. EBIT 4 (470) 1,392 849
Net Interest 222 1,541 1,920 2,827 3,592 Net Interest 317 480 480 480
Adj. PBT 671 4,839 8,783 13,489 20,936 Adj. PBT 1,628 (187) 1,676 1,132
Tax (180) (143) (904) (2,023) (3,140) Tax (151) 0 (418) (335)
Minority Interest - - - Minority Interest - - - -
Adj. Net Income 1,001 5,084 6,346 11,719 18,758 Adj. Net Income 1,047 907 2,433 1,959
Reported EPS () () Reported EPS ()
Adj. EPS Adj. EPS
DPS - - - - - DPS - - - -
Payout ratio - - - - - Payout ratio - - - -
Shares outstanding 1,402 1,422 1,438 1,467 1,496 Shares outstanding 1,427 1,434 1,441 1,449
.
Balance Sheet & Cash Flow Statement FY16A FY17A FY18E FY19E FY20E Ratio Analysis FY16A FY17A FY18E FY19E FY20E
Cash and cash equivalents 19,772 25,688 43,552 54,375 77,010 Gross margin % % % % %
Accounts receivable 17,464 16,359 21,855 27,152 32,351 EBITDA margin % % % % %
Inventories 28,909 41,700 45,647 56,385 66,660 EBIT margin % % % % %
Other current assets 40,787 31,281 41,281 52,027 57,048 Net profit margin % % % % %
Current assets 106,932 115,029 152,335 189,939 233,069
PP&E 7,397 12,574 22,669 32,586 42,664 ROE % % % % %
LT investments - - - - - ROA % % % % %
Other non current assets 46,044 56,452 56,452 56,452 56,452 ROCE % % % % %
Total assets 160,374 184,055 231,456 278,977 332,185 SG&A/Sales % % % % %
Net debt/equity (%) (%) (%) (%) (%)
Short term borrowings 17,723 200 200 200 200
Payables 43,988 74,338 99,186 122,516 144,842 P/E (x)
Other short term liabilities 43,030 43,713 60,172 74,860 90,107 P/BV (x)
Current liabilities 104,740 118,251 159,558 197,576 235,149 EV/EBITDA (x) -
Long-term debt - - - Dividend Yield - - - - -
Other long term liabilities 14,414 13,416 13,416 13,416 13,416
Total liabilities 119,154 131,666 172,974 210,992 248,565 Sales/Assets (x)
Shareholders' equity 41,220 52,389 58,483 67,985 83,620 Interest cover (x) NM NM NM NM NM
Minority interests - - - - - Operating leverage (%) % % % %
Total liabilities & equity 160,374 184,055 231,456 278,977 332,185
BVPS Revenue y/y Growth % % % % %
y/y Growth % % % % % EBITDA y/y Growth (%) % % % %
Net debt/(cash) (2,049) (25,488) (43,352) (54,175) (76,810) Tax rate % % % % %
Adj. Net Income y/y Growth (%) % % % %
Cash flow from operating activities 8,767 24,821 31,950 25,408 37,926 EPS y/y Growth (%) % % % %
o/w Depreciation & amortization 3,633 4,193 3,991 4,667 5,558 DPS y/y Growth - - - - -
o/w Changes in working capital 3,008 16,285 21,864 11,239 17,078
Cash flow from investing activities (48,269) (37,498) (14,086) (14,584) (15,291)
o/w Capital expenditure (4,460) (8,089) (14,086) (14,584) (15,291)
as % of sales % % % % %
Cash flow from financing activities 40,699 19,235 0 0 0
o/w Dividends paid - - - - -
o/w Net debt issued/(repaid) 13,105 0 0 0 -
Net change in cash 1,908 5,917 17,863 10,824 22,635
Adj. Free cash flow to firm 4,506 22,076 16,141 8,421 19,581
y/y Growth (%) % (%) (%) %
Source: Company reports and . Morgan estimates.
Note: Rmb in millions (except per-share data).Fiscal year ends Dec. o/w - out of which
35
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
NetEase
Key catalysts for the stock price: Upside risks to our view: Downside risks to our view:
• Mobile games performance
• Continued ramp up of non-gaming initiatives
• Outperformance of non-gaming business
• Slower-than-expected game aging
• Launch of new game titles
• Faster-than-expected game aging
• Uncertain lifecycle of mobile games
Key financial metrics FY16 FY17 FY18E FY19E Valuation and price target basis
Revenues (RMBm) 38,179 54,102 74,323 95,061 We have an OW rating on NetEase with a Jun-19 PT of US$290 which
includes: 1) US$254 from core business, 2) US$34 from eCommerce. PT
implies a 2019E P/E of 20x.
Revenue growth (%) % % % %
EBITDA (RMBm) 12,956 12,956 11,165 15,345
EBITDA margin (%) % % % %
Tax rate (%) % % % %
Net profit (RMBm) 12,595 12,712 10,767 12,600
EPS (RMB)
EPS growth (%) % % % % Operating margin, non-GAAP
DPS (RMB)
BVPS (RMB)
Operating cash flow
(RMBm) 15,488 11,889 12,284 12,628
Free cash flow (RMBm) 13,895 9,494 9,492 9,062
Interest cover (X)
Net margin (%) % % % %
Sales/assets (X)
Debt/equity (%) % % % %
Net debt/equity (%) % % % %
ROE (%) % % % %
Key model assumptions FY16 FY17 FY18E FY19E
Online game revenue
(RMBm) 27,980 36,282 43,731 48,947
eCommerce revenue
(RMBm) 4,542 11,670 22,676 37,505
Source: Company data and . Morgan estimates. Source: Bloomberg, Company data and . Morgan estimates.
Sensitivity analysis EBITDA EPS JPMe vs. consensus, change in estimates
Sensitivity to FY18E FY19E FY18E FY19E EPS (RMB) FY18E FY19E
5% chg in gaming revenue 5% 5% 4% 4%
5% chg in COGS -3% -3% -3% -3% JPMe
Consensus
Source: . Morgan
estimates. Source: Bloomberg, . Morgan estimates.
%
%
% %
%
% %
0%
10%
20%
30%
40%
50%
60%
FY13 FY14 FY15 FY16 FY17 FY18E FY19E
Operating margin, non-GAAP
36
Asia Pacific Equity Research
31 July 2018
Alex Yao
(852) 2800-8535
@
NetEase
Share Price: $, Date of Price: (27 Jul 18), Bloomberg NTES US, Reuters NTES
(Year-end Dec, Rmb mn) FY17 FY18E FY19E FY20E FY17 FY18E FY19E FY20E
Net Sales 54,102 74,323 95,061 114,745 ROE(%) % % % % 52-Week range
Operating Profit (EBIT) 12,154 10,058 11,295 13,492 ROIC(%) % % % - Shares Outstg 132MN
EBITDA 12,956 11,165 15,345 13,492 Cash 2, 6, 10, 13, Market Cap(US) US$35,080MN
Pre Tax Profit 13,012 10,996 12,607 15,005 Equity 47, 54, 63, 74, Free float
Reported Net profit 10,708 8,024 9,244 11,042 Qtr GAAP EPS (Rmb) 1Q 2Q 3Q 4Q Avg daily vol. shares
Reported EPS (Rmb) EPS (17) Avg daily val ($)
P/E (x) EPS (18) E Dividend Yield %
Adj. EPS * EPS (19) E Index (NASD)
Adj. P/E (X) 1M 3M 12M Price Target
EV/EBITDA (x) Abs. Perf.(%) % % (%) Price Target End Date 30-Jun-19
P/B (x) Rel. Perf.(%) % (%) (%) Price Date 27 Jul 18
Y/E BPS (Rmb)
Source: Company, J. P. Morgan estimates, Bloomberg. * Note: Excluding share-based compensation expense.
Investment Thesis, Valuation and Risks
NetEase (Overweight; Price Target: $)
Investment Thesis
We expect NetEase to end a 6-quarter estimates downgrade cycle with its lackluster
earnings growth starting to recover in 2Q18 and peaking in 1Q19 (JPMe 123% YoY
Non-GAAP EPS growth in 1Q19), driven by 1) stable performance legacy games 2)
increasing revenue contribution from new games (. Knives Out, Chu Liuxiang
(CLX), Ni Shui Han, etc.) and 3) a more rational S&M strategy. While uncertainties
around new game monetization, including govt approvals, still exist, we believe risk-
reward of the share price to be tilted towards the upside because: 1) new games that
were launched in late 2017 and early 2018 start to show good user stickiness and
monetization trend (JPMe global revenues from Knives Out and Chu Liuxiang runs
at RMB7-8b annualized run-rate in 2Q18) and the two should meaningfully boost its
RMB36b 2017 gaming revenue base 2) with fundamentals starting to improve and
share buyback program in place, we expect limited downside risk to P/E multiples
(core biz ex-ecommerce currently trading at 14x JPMe 2019 PE). Overweight.
Valuation
We value NetEase on an SOTP basis due to the different development stages and
financial profiles of the core gamin
