JD.com: Seriously Undervalued And Unloved

Investors in JD.com, Inc. (NASDAQ:JD) were likely hammered into submission as JD re-tested lows last seen in October 2022 recently. As such, weak investors who loaded JD, as they expected to leverage on China's leading first-party or 1P online retailer, likely fled, as they didn't expect JD's recovery to make such a disastrous turnaround, heading back into the abyss.

I also didn't expect JD to suffer such a battering as it recovered remarkably through its January 2023 highs. While a bull trap or false upside breakout at that level was expected to cause a pullback, I didn't anticipate a re-test of its October lows as investors fled in a hurry.

I assessed that the sellers had gotten it right. China's nascent economic recovery has failed to materialize according to initial expectations, putting a further recovery in the second half at greater risk.

Given JD.com's inherently lower profit margins due to its 1P-heavy model, market operators likely needed to reflect higher execution risks to account for more challenging macroeconomic headwinds.

The Chinese government has recently attempted to bolster the economy, as China's central bank acted last week to cut the rate on its "seven-day repurchase operations from 2% to 1.9%, the first decrease in short-term rates since August."

The People's Bank of China followed up with more cuts this week, reducing the rates on its one-year and five-year loan prime rate, or LPR, to bolster the faltering property market. However, the move could have disappointed the market, as previous forecasts called for a more aggressive cut, given the challenges that China's real estate market is facing.

I assessed that investors need to determine if it's sufficient to stem the recent slide and negative sentiments in China's property market, which is fundamental to a recovery in consumer sentiments.

Given the challenging state of the global economy, China needs to rely more on domestic consumption to boost its economic recovery. However, consumers' expectations of the wealth effect from a more robust property market recovery have been missing, leading to a more subdued recovery in retail sales (12.7% growth) recently, which fell short of the consensus estimates (13.7%). It also came well below April's 18.4% gain, as investors worry whether the momentum could fall further.

JD has a significant moat through its well-integrated logistics business that's best-in-class and one of the critical sources of its competitive advantages. However, the company's relatively low profitability built on the back of its 1P model suggests that its fortunes are intricately tied to the cyclical forces of China's recovery.

Moreover, JD lacks a secular cloud computing growth driver, unlike Alibaba (BABA), which could have diversified its business model further with more exposure to less cyclical headwinds.

With that in mind, I believe the market reaction to JD's highs to reflect higher cyclical uncertainty in China's recovery is justified. However, that doesn't mean that I think the extent of its hammering is reasonable, which I assessed as too harsh.

JD's valuation remains attractive with a free cash flow or FCF yield of 6.7%, well above its 10Y average of 4.3%. The company's robust cash and short-term investments balance of $28.7B provides a significant source of liquidity for further expansion and investment opportunities. Its restructuring plans are also moving constructively, expected to lift its profitability further.

As such, I believe JD.com's growth and margin expansion story is still very much in the earlier stages, even though it requires superb execution, hampered by a relatively weak Chinese economy.

However, with the headwinds likely baked into its valuation at the current levels, I assessed that JD's recent recovery is still constructive for investors to add more, even if they missed its April lows.

Despite the pessimism that led to JD's lows in April, I gleaned a bear trap or false downside breakdown, suggesting dip buyers returned to defend JD from a further selloff.

As such, I assessed that it lent further credibility that JD could have bottomed out (hopefully) this time following the double dip, with October's lows as the first significant dip.

Still, I gleaned that buyers have returned with more caution this time after getting burned if they chased its previous momentum surge leading to its January highs.

However, that means that investors who missed adding more exposure over the past two months are still afforded a relatively attractive opportunity to capitalize.

Rating: Buy

Important note: Investors are reminded to do their own due diligence and not rely on the information provided as financial advice. The rating is also not intended to time a specific entry/exit at the point of writing unless otherwise specified.

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