PDD Holdings: Competition Picking Up

Back in May, I said PDD Holdings (NASDAQ:PDD) was growing quickly and attractively priced, but controversies surrounding the company kept me on the sidelines. Since then, the stock in up about 13%, outperforming the nearly 9% return in the S&P.

Company Profile

As a reminder, PDD run the Pinduoduo e-commerce platform in China, as well as the Temu platform internationally. The latter was launched last September to help the company expand beyond China and give customers the ability to purchase direct from global manufacturers, brands, and other sellers.

The company’s primary offering is its Pinduoduo platform, which uses a team purchase model to get users to make group purchases at lower prices. The bulk of its revenue comes from online marketing services where it matches product listings showing up in search results to its online marketplace. Transaction services, where it charges merchants fees for value-added services, make up just over 20% of its revenue. Under 1% of its sales come from direct merchandise sales.

Post-Earnings Surge

Shares of PDD surged 19% the session after it reported strong Q1 results. However, it has since given back some of its gains.

In my original write-up, I noted that PDD had some controversy around it. One was that the Pinduoduo app had been accused of spying on users. This was not brought up on the company’s earnings call, nor did appear to have any impact on its Q1 business, although the accusations came out after the quarter. Whether Chinese consumers are aware of the accusations is uncertain, and there haven’t been any follow-up news stories since.

Another concern was that the U.S.-China Economic and Security Review Commission had put out a report that raised concerns over Temu in April. PDD once again remained tight-lipped about the platform in Q1.

When asked about Temu and its metrics on its Q1 earnings call, VP of Finance Jun Liu was brief in his response, saying: “Well, this business is currently in its early stage and compared to our overall scale. Its revenue contribution is small. For Temu, as we mentioned before, our focus is always how to better understand consumer needs and how to satisfy this need. Financial metrics will be a natural result of our value creation. We will follow our financial discipline and ROI-driven approach when evaluating each investment opportunity.”

However, third-party trackers continue to show that Temu is experiencing explosive growth, even if PDD management won’t talk about it. Bloomberg Second Measure, which tracks credit and debit card transactions, noted that Temu surpassed Chinese rival Shein in May, recording 20% higher sales. Meanwhile, Apptopia shows Temu as being one of the most downloaded and used iOS apps through this year.

PDD being closed lipped around Temu despite its seeming success is a bit odd. The company appears to be basically buying users with enticing introductory deals and hoping they stick around, but even so, most companies would be bragging about the growth they are seeing.

The same Bloomberg article notes that controversy surrounding Temu has not let up. It talked about the low quality of its products and the company looking to drive down the cost of its most popular products, disrupting Chinese supply chains in the process. Shein, meanwhile, has sued the company in U.S. court over infringement and unfair competition.

Increasing competition was another issue I brought up in my original article, and PDD said on its Q1 call that competition continues to intensify and that it has even gotten malicious orders from competitors looking to disrupt its operations. For its part, the company said the competition motivates it to move more quickly and build out a healthy ecosystem.

The effects of increased competition though could be seen during China’s 618 shopping festival, which happens in June. While luxury goods and cosmetics were strong, they are not areas that PDD competes in. Overall consumption was considered soft despite deep discounting. Taobao, Tmall, and JD.com, meanwhile, all launched significant subsidy programs to compete with Pinduoduo.

Clearly, it looks like competitors have PDD in their crosshairs. Thus, while the stock rallied on solid Q1 results, it does seem like competition only increased going into one of the bigger Chinese shopping days of the year. This could certainly set the company up for disappointment down the line.

Valuation

PDD trades at 12.6x the 2023 EBITDA of $6.28 billion and 9.7x the 2024 EBITDA consensus of $8.13 billion.

On a PE basis, it trades at 16.9x EPS estimates of $4.25. Based on the 2024 consensus for EPS of $5.28, it trades at 13.6x.

It's projected to grow revenue 35% in 2023 and 2% in 2024.

The stock trades at a much higher valuation than its Chinese e-commerce peers, but is projecting much stronger growth.

Conclusion

Given its projected growth, PDD is pretty attractively priced, even though it trades at a higher multiple than its Chinese e-commerce peers. However, the company clearly is being targeted by its Chinese rivals, which can certainly lead to questions about whether its projected growth will start to slow down. The second quarter should help provide some good answers given that the 618 holiday festival and competitors’ deep discounts will fall into this period.

Temu, meanwhile, appears to be growing the top line rapidly, although the economics behind that growth likely isn’t very strong. There also remains a lot of controversy surrounding the fast-growing e-commerce platform. I don’t like that the company barely talks about this endeavor, which is a bit of a red flag for me.

Overall, I can see why investors can get excited about PDD and the opportunities in front of it. The stock has shown strong growth, China is reopening, it has an exciting potential second growth engine with Temu, and the stock isn’t expensive. That said, I think there are a lot of questions that need to be answered by the company regarding Temu metrics as well as about the spying accusations. As such, I still would stay away from the stock until there is more clarity on those issues, as well as the impact of competition.