A closer look at Meituan-Dianping

Eleanor Creagh

Australian markets strategist, Saxo Bank

As we previously discussed, Tencent-backed Meituan-Dianping, a Beijing-based technology startup unlike any other and China’s answer to Groupon, Uber Eats, and Yelp all rolled into one platform, has filed for a Hong Kong IPO. Full details of the listing are still yet to be released, but it is rumoured that Meituan have started taking orders for their Hong Kong IPO at HK$60 to HK$70 apiece for 480.27 million new Class B shares, valuing the company at US$50 to US$55 billion. Meituan plans to price September 13 (Australian Eastern Standard Time) and will start trading on September 20 AEST. 

Meituan is China’s leader in O2O (offline-to-online) services, creating a one-stop super app for a range of services, from haircuts, manicures and massages, to movie tickets, food delivery and hotel bookings. 

Meituan has delivered impressive revenue growth at 744% from 2015 through to 2017, but despite growing revenue at a startling pace the company is still unprofitable. In 2017, revenue increased to 33.9bn yuan ($5.2bn), up 161% from a year earlier. Last year the company still posted a loss of 18.99bn yuan per the prospectus, although after adjusting for changes in the value of convertible redeemable preference shares, share-based compensation expenses and other items adjusted net loss was recorded as 2.85bn yuan; this is approximately half the net loss recorded in 2016. Operating loss is trending down and if the top line growth accelerates on the same trend along with the rapid acquisition of new users, then the potential to turn a profit is there.
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Source: IPO prospectus, Saxo Bank
Given the lack of profits valuing Meituan on traditional metrics is hard, estimating that revenue could grow to $70bn this year, continuing the growth in revenues seen through to April this year. Meituan is targeting a valuation of $50-55bn, so the company is valuing itself at 5.1x FY'18 revenues. To put this in perspective Alibaba, comparable in terms of the online marketplace with a food delivery component (Ele.me), trades on an EV/FY18 Sales ratio of 10.05.

CTrip.Com, China’s most popular online travel agency and Meituan's biggest competitor in the travel services industry, trades on a EV/FY18 Sales ratio of 4.9. It must be noted that both these businesses are profitable while also growing rapidly; Alibaba grew revenues 61% in the last year while remaining profitable.

In April 2018 Meituan had 290m monthly active users (MAU) and last generated over 5.8bn transactions with over RMB 357bn in gross transaction volume. Comparing with Alibaba, which has 576m MAU spending more than RMB 5 trillion this year, the valuation discount seems warranted.
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Source: IPO prospectus, Saxo Bank
The problem for Meituan comes from its food delivery segment, which accounts for two-thirds of revenue. This segment of the business is cash-burn heavy and operates on thin margins of just 9%. According to the company’s prospectus, the daily average food delivery for the four months ending April 2018 was 14.1m. During this time period, the revenue generated from the food delivery segment of the business was RMB 9.7bn but the cost of revenue was RMB 8.7bn. This works out as an average cost/food delivery of RMB 5, with revenue/delivery of RMB 6.

The food delivery segment of the business is labour-intensive and highly competitive so raising prices or charging more for delivery isn’t an option without losing customers.  

Meituan faces intense competition within the food delivery industry from Alibaba backed Ele.me, with other competitors like Baidu having been squeezed out due to price wars. Earlier this year, Ele.me announced plans to spend RMB 3bn in order to battle with Meituan for majority share of the Chinese $1.3tn food retail and service industry, according to data from iResearch. This competition for market share has proven to be costly and will continue to dent margins as the spend required to market and attract new users will remain high.

Additionally, the cost of retaining users is high, in 2017 Meituan spent RMB4.2bn on promotions and subsidies. 
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Source: IPO prospectus, Saxo Bank
Meituan's travel and hotel segment of the business is far more profitable, operating on gross margins of 88%. This segment of the business is similar to Groupon and allows users to purchase vouchers for services like massages and manicures, as well as booking hotels and other travel-related services.

Meituan wants to become a one-stop shop for Chinese consumers' every need, so the intention is for users ordering food delivery to be converted across to the higher-margin segments of the business. According to the prospectus, 80% of users who booked travel services were converted through the app from the food delivery segment. This is compelling in order to offset the thin margins generated within the food delivery business. The rising demand for travel and tourism in China will benefit Meituan in the long term, especially as this segment of the business operates on higher margins.

The number of Chinese nationals traveling overseas is estimated to reach 230m over the next five years, rising from 130m in 2017. This coupled with growing demand for online services will generate long term tailwinds for Meituan's hotel and travel booking services.

Other metrics, however, paint a less compelling picture; in the last year, the transaction value per user only rose 26%, indicating that once users are active they do not actually increase their spend by very much. This is combined with the fact that average transactions per user is only 18.8 times per year, meaning frequency of use is on average once every 2.7 weeks.

Whilst there is significant upside potential for Meituan, the industry is highly competitive and expansion will not come without challenges. Given the fast-growing online consumer service industry in China. the growth potential certainly exists in order to drive profitability, but it is likely this will come with significant marketing costs also in order to grow the user base.

The IPO will provide funds for Meituan to compete within the growing Chinese e-commerce industry, allowing the firm to grow user numbers at the same rapid pace and sustain growth, which is a necessity for Meituan to drive eventual long-term profitability through economics of scale as revenue growth will then surpass operating costs.

Investors in Meituan will need to focus on the extreme top line growth and wait for the company to deliver on profits.

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