Article / 13 May 2015 at 4:52 GMT

Earnings preview: VIPshop set for stable 2015

China Watcher / Shanghai
China
  • VIPshop will report first-quarter earnings on Wednesday night 
  • Investors will be looking for signs of more sustainable orders growth
  • Product line and logistics network expansion will underpin 2015 recovery

By Neil Flynn

Chinese online retailer VIPshop has an impeccable earnings history, as it has always beaten revenue and earnings consensus since its US initial public offering in early 2012. After several years of impressive growth, the firm looks to be entering a more sustainable stage of growth, with management expanding product range and improving logistics networks into smaller cities in China. VIPshop is set to report its fiscal first-quarter earnings after the close of the US markets on Wednesday, and investors should focus on these four key points from the earnings release and the subsequent conference call.

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  In 2015 the firm will target growth in smaller Tier 3 and Tier 4 Chinese cities. Photo: iStock

Will 2015 see a recovery in order growth?

The fourth quarter saw strong growth in both active customers and total orders, as the firm benefited from the seasonally strong quarter. The two biggest shopping events, Single’s Day and 12.12, saw active customers grow 114% annually and total orders grow 99.4% annually. Year on year growth in these two operating metrics has been declining since the firm's IPO, which is natural for a firm of VIPshop’s size, so investors should start to see these metrics converge towards a steady state annual growth rate during 2015.

VIPS User Metrics
Source: VIPshop Investor Relations  

We have seen that the average order per customer has been declining since the beginning of 2013, which has been disappointing. Average orders per customer fell below 3.0 in the third quarter of 2013, and reached a low of 2.68 in the third quarter of 2014. Although the seasonally strong fourth quarter saw average orders grow to 3.11 and 2.89 in 2013 and 2014 respectively, investors should be concerned if the first three quarters of 2015 fail to exhibit a recovery.  

VIPS Orders
Source: VIPshop Investor Relations 

Product line expansion

In order to boost average orders per customer, the firm has expanded its product range, and management sees strong potential in the Tier 2 product categories of home goods, baby and children’s wear. Originally a fashion apparel retailer, VIPshop saw strong growth in its cosmetics business during 2014 after the acquisition of LeFeng, and benefited from Jumei’s disappointing year. By expanding its product range, investors should be looking for signs that these Tier 2 goods are showing notable gross merchandise volume growth during the first quarter.

VIPshop is expanding its product range in a way that maintains its female-orientated business model. The apparel and cosmetics business lines are predominantly for women, and the expansion into baby and children’s clothing, as well as home products, should help to boost the average order per customer. It will also help to increase its successful mobile monetisation platform, because as the firm adds more female-focused products, it can suggest more flash sales through its mobile platform, which would increase impulse purchases.

The biggest concern for shareholders is that as a female-apparel-focused firm, VIPshop built itself a niche position in China's online retail market. While it successfully toppled Jumei as the top online cosmetics retailer in China, this happened much more quickly than the firm expected, due to Jumei’s management deciding to minimise the amount of products sold through third-party merchants. As VIPshop enters into these new product categories, it is directly rivaling the much bigger JD.com and Alibaba, who are both entering into the flash sales market in which VIPshop has been so successful. However, the firm has maintained strong relationships with suppliers while building its flash sales business, and this should help it to compete with JD.com and Alibaba. 

Last mile delivery 

As I discussed after the release of the firm’s fourth-quarter earnings, a key strategy for VIPshop in 2015 is to expand its logistics network into smaller cities. The firm has been developing its own "Last Mile" logistics infrastructure, in order to reduce its reliance on third-party courier services. As of the end of 2014, the Last Mile infrastructure covered approximately 50% of the firm’s total orders, and this should rise to 75% by the end of 2015. Having a proprietary logistics network is particularly important during the Chinese New Year holiday, because third-party courier firms don’t work during the festival. As an example, when I used JD.com during Chinese New Year, if I purchased a product from JD.com’s inventory, the firm would use its own logistics network to deliver the product within 24 hours. If I purchased a product from a third-party merchant, I would have received it three weeks later, due to courier firms being closed for the festival.

VIPshop saw 52% of GMV coming from the larger Tier 1 and Tier 2 cities during the fourth quarter, but investors should see this contribution decline slightly during 2015 as the firm targets growth in the smaller Tier 3 and Tier 4 cities. China’s online retailers have all been expanding their logistics infrastructure in order to serve these smaller cities, because brick and mortar retail in these cities isn’t particularly developed, and hence the product range available to consumers is low. As the middle-class society in these regions grows, they demand a wider range of goods, so as large online retailers enter these markets, there should be a high initial rate of revenue growth.

VIPshop has a business model that is particularly suited to these regions, because the firm sells designer products at low prices. China is known for its insatiable demand for brand name goods, and this is more prevalent in smaller cities, were they are less common, and can hence be bought in order to demonstrate a consumer’s social standing.

Government stimulus to drive VIPshop’s revenues?

Over the past few months, domestic Chinese equity markets have been rallying, with the support of the government, in order to encourage consumption and house purchases. The problem is that in the large Tier 1 cities such as Beijing and Shanghai, house prices are still far too expensive for the majority of people, and hence it is likely that the increase in disposable income will be spent online. 

I expect to see that revenues declined sequentially for the first time in the firm’s public history, but if the firm has seen a notable increase in consumption during the first quarter from the domestic equity rally, then investors may see that this is a driver for revenues throughout the rest of the year.

Earnings history

VIPshop has a very impressive history of consistently beating revenue and earnings consensus since its 2012 IPO. However, the share price reaction is typically dictated by management’s revenue guidance and the conference call. The May $26 straddle closed night at a mid price of $2.45 on the screen, which suggests that between now and expiry on Friday, the market is implying a 9.5% move. This looks slightly expensive, given that the average three-day post earnings share price move was 8.8% in 2014, 11.89% between 2013 and 2014, and 8.74% since its IPO. Investors should be aware that 2013 was a particularly volatile year for VIPshop in terms of post earnings share price reactions.

VIPshop earnings history
VIPS Earnings History
Source: VIPshop Investor Relations  

VIPshop has always beaten revenue and earnings consensus, so investors should expect to see another consensus-beating quarter from the Guangzhou based firm. In addition, sequential revenue growth has always been positive, which is unusual for an online retailer in China, as the calendar fourth quarter typically sees the largest revenue, due to the big Single’s Day and 12.12 shopping events, whilst the subsequent first quarter is relatively quiet due to the Chinese New Year festival. Although this hasn’t been the case for VIPshop, investors should prepare for declining sequential revenue growth in the first quarter. As I have discussed in my Baidu and Alibaba earnings coverage, the late timing of the Chinese New Year meant that the first quarter was unusually slow for Chinese firms, and revenue growth should be lower than in previous years. In addition, the unusually strong fourth quarter will likely have seen consumers make purchases that would typically have been made in the calendar third and first quarters, but due to the big discounts seen at Single’s Day and 12.12 , these purchases were made in the fourth quarter. 

VIPshop revenue
VIPS Revenue Surprises
Source: VIPshop Investor Relations 
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VIPshop adjusted its ADS/share ratio from 2:1 ADS per share to 1:5 ADS per shares in the third quarter of 2014, but by using the previous ratio, we can see that VIPshop has a very impressive track record of earnings growth. Analyst consensus is for non-GAAP diluted EPADS to be $0.10 ($1.00 when using the previous ratio), which would represent the first sequential earnings decline in the firm’s history as a public company. However, due the firm’s consistent record of beating earnings consensus, investors should be looking for reported EPADS of between $0.11 and $0.12.

VIPshop EPADS
VIPS Earnings Surprise
Source: VIPshop Investor Relations 



– Edited by Susan McDonald


Neil Flynn is a portfolio manager at Alcuin Asset Management. Follow Neil or post your comment below to engage with Saxo Bank's social trading platform.
4y
SimpleRun SimpleRun
Enjoyed another great article Neil. Keep up the great work! -Carlo
4y
Neil_Flynn Neil_Flynn
Thanks Carlo, much appreciated
4y
moat888 moat888
I am new to this space and I took a look at VIPS for the first time a few days ago. When I went through its presentation slides (on ir.vip.com) I noticed, and was suspicious of, its beautiful Q/Q & Y/Y metrics and charts as outlined in the SA article today. The Y/Y, Q/Q, financials look too perfect to me (e.g. how could sales in every CQ1 be higher than CQ4 ... no seasonality like everyone else does in this space?).

My gut tells me something is not right with this management and company. Just a gut feeling at this point. I have not read the entire SA article yet, only its summary.
4y
Neil_Flynn Neil_Flynn
I saw that article too. I haven't had a chance to read it completely and check its points. The lack of seasonality in the earnings is unusual for the industry, but this will change when the Q1 earnings are released.

I'm also skeptical of any critical research that is published a day before the firm releases its earnings, but like i said, i haven't read it fully, so i will let you know what i think about it later.
4y
moat888 moat888
I had this feeling a few days ago before the SA article came out yesterday. Those Q/Q charts, improvements in all metrics, for the past three years are just too perfect -- that's what jumped out at me when I saw them.
4y
Neil_Flynn Neil_Flynn
VIP's management has just responded to these allegations: http://ir.vip.com/phoenix.zhtml?c=250900&p=irol-newsArticle&ID=2047571
4y
Neil_Flynn Neil_Flynn
Since the firm released that response, the share price has rallied 4%. These short sellers like to target Chinese firms, but i have always thought that big Chinese firms such as VIPshop are so forensically analysed by Wall Street analysts that if there was a problem, it would have been discovered already. That's why the Chinese firms that do have financial irregularities are those that are so small that western analysts don't cover them
4y
moat888 moat888
Neil: I read some of your earlier articles on this site yesterday. I noticed you wrote about KNDI a few months ago. Heads-up. I have looked at KNDI and I am certain it is a fraud (related party dealings, no technology, stock long promoted by people who are paid by management covertly)

Don't get me wrong Neil. My intentions are good. I have a lot of respect for you. You are doing very impressive work at age 27. I can say with certainty that I was totally clueless when I was 27.

Keep up the good work! I learned a lot about the Chinese e-commerce space reading your articles. It's incredible how competitive and fast changing things are.
4y
Neil_Flynn Neil_Flynn
Fully appreciate it. I am on the fence about Kandi. I agree with your point that there are concerns within the investment community about its finances. I personally haven't looked into their finance in serious detail so i can't comment on them, but my point with that report was based on my bullish outlook on the electric vehicle industry in China. I have followed Kandi from afar, and it is very volatile amongst western investors. In reports prior to my Kandi research, i had been looking into the industry, and my trade view was based on strong industry fundamentals resulting in a bullish reaction in Kandi's share price.
4y
moat888 moat888
I did not read it yet, but clearly the SA author has done a lot of work on VIPS.

In case you missed it, this was in the comments sections. He wrote:

"Re-read the report--it is based upon VIP' own financial statements and comments.
Harvard Grads have also manipulated financial statements--see ENRON.
I am not biased against Harvard Grads as I happen to be one. Just saying that this fact alone is not a basis for believing VIPS' financial statements."

FYI, I have a lot of respect for professional short sellers. I have seen them up close, they do their homework. IMO it's not a negative he decided to publish this on SA 48 hours before ER. That's a good way to get maximum exposure and take the fight to management directly. He also sent his entire report to management and BODs. This is fascinating to watch. I'll be following this story going forward.

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