Headline results continue to impress
VIPshop's first-quarter revenues of $1.389 billion beat analysts’ consensus of $1.275bn, and non-GAAP diluted EPADS of $0.13 beating the consensus of $0.10. Perhaps more impressive was that both revenues and earnings continued their streak of consistent sequential growth.
The fourth quarter for online retailers in China is typically the most lucrative because of the two major shopping events, Singles' Day and 12.12, while the first quarter is typically quiet due to the Chinese New Year holiday, which given its late timing this year should have affected revenue growth even more.
Source: VIPshop Investor Relations
Weak guidance signals steady-state growth
As I alluded to in my earnings preview
, I expect that over the coming quarters, investors will see VIPshop enter into a steady-state level of revenue growth, and this is illustrated by the revenue guidance annual growth trend.
The firm has previously always guided revenues to more than double on an annual basis, but with first-quarter guidance of 97.7% annual growth, and the significantly lower second-quarter guidance of 80.8% annual growth, investors need to readjust their expectations because the coming quarters will continue to see a notable slowdown in revenue growth.
Source: VIPshop Investor Relations
This poses a quandary for investors, because VIPshop is famous for having maintained a consistent 4,483% rally since its 2012 IPO, on the back of very strong revenue growth. But with this set to continue its decline, we may see further profit taking, after the share price has declined from the record highs reached in April.
VIPshop has achieved this growth by being relatively unchallenged in the flash sales business in China, but as the firm expands into third-party marketplace retail and cross-border e-commerce, as well as facing stronger competition in flash sales from the likes of JD.com and Alibaba, the following quarters will likely be more difficult for the firm as competition across all business units intensifies.
Cross-border e-commerce is a common theme among China’s online retailers, and we have been seeing rival firms target this aggressively. By working with overseas suppliers and brands, online retailers can sell these products to Chinese consumers, whose purchasing behaviour is becoming more refined.
VIPshop has a strong relationship with Chinese apparel suppliers but its dominant position may be under threat as cross-border e-commerce grows. Photo: iStock
The demand for quality overseas products is being met by cross-border e-commerce, and VIPshop should see strong growth in this business unit throughout 2015. However, my concern is that as larger rivals, who already have a more developed cross-border e-commerce business, set up their own flash sales platforms, VIPshop will be under increased competition.
The firm may have a strong working relationship with apparel suppliers in China, but as cross-border e-commerce grows, VIPshop will find it difficult to maintain its dominant position in the market because the likes of JD.com and Alibaba are working with large apparel and beauty suppliers. In addition, cosmetics retailer Jumei has been developing its cross-border e-commerce business in order to replace the GMV from its third-party marketplace business, which it closed last year.
After Jumei’s disappointing 2014, it will be interesting to see how it performed during the first quarter, as VIPshop recorded cosmetics GMV of $265 million, compared with $249m in the fourth quarter. Significant growth in Jumei’s cosmetics GMV will be driven by the cross-border e-commerce Jumei Global
business, and should give investors an indication as to the competition that VIPshop will face in the cosmetics business throughout 2015.
Continued expansion of Last Mile delivery service
In the fourth-quarter conference call, management stated that 50% of its total orders were delivered through its Last Mile proprietary delivery service, and during the first quarter, this had risen to 70%. The end-of-year target has also been increased from 75% to 80%. Last Mile now covers 29 of China’s 31 provinces, and the firm has accelerated its warehouse expansion plans in order to grow quickly in the rural areas of China. The firm currently has warehouse capacity of 1.1m square metres, and the year-end target is 1.6m sq/m.
This is important for the firm because it can improve the delivery times of its products. The courier industry in China is fragmented because businesses are very often locally focused. So should an order have to travel between different provinces, it will usually be delivered via several different delivery firms, and hence is likely to take several days.
By using its own proprietary delivery service, this can be avoided. Online retailers faced a major issue during Chinese New Year, because couriers stopped working during the holiday. This meant products that would usually be delivered within a few days were taking several weeks. However, by having its own logistics service, VIPshop is able to mitigate this risk, and deliver packages in a timely fashion.
Rising active customers and total orders
VIPshop reported improving customer metrics, as active customers grew 74.3% annually to 12.9m, total orders grew 90.6% annually to 38.5m, and average orders per user grew to 2.98, from 2.89 a quarter ago and 2.73 a year ago.
However, the caveat to this is that the firm decided to broaden the way that it defines active customers, total orders and repeat customers, in order to include buying activity over the third-party merchant marketplace platforms. Therefore while the rising customer and order numbers look impressive, they aren’t directly comparable to prior releases.
Management did state that for active customers, there would have been a sequential rise of 4.1% without considering the broadening of the definition, which implies that active customers would have been around 12.7m, compared with 12.2m in the fourth quarter.
Source: VIPshop Investor Relations. Create your own charts with SaxoTrader; click here to learn more.
VIPshop’s mobile platform is much more advanced than that of its rivals in China, as the first quarter saw 72% of GMV coming from mobile, compared to the industry average of 33%. This is mainly due to the nature of the flash sales business model, which encourages impulse purchases. By analysing consumer browsing behaviour and payment history, VIPshop gains a better understanding of consumer tastes, and can make product recommendations, in the same way that other online retailers do.
However, flash sales are both time sensitive and quantity sensitive, meaning that as soon as the offer expires, or the product is sold out, then the consumer cannot purchase the product. This encourages impulsive buying, and mobile is the most appropriate way to capitalise on this.
In terms of newly acquired customers, the firm is seeing that 75% are on mobile and 25% are on PC, which suggests that we will continue to see further divergence between these two. Going forward, mobile will reach a ceiling in terms of contribution to GMV, because PC will always be an effective way to shop online, particularly while at home. For the online retail industry as a whole, there’s a general consensus that this ceiling is between 70% and 80%, but VIPshop is already within this range, and investors should consider that there may not be much scope left for mobile contribution growth.
Being based in Shanghai, I very rarely see VIPshop advertised on billboards, and know very few people that use the site, as local Shanghainese prefer Alibaba and JD.com. However, in southern China, particularly in VIPshop’s hometown of Guangzhou, the site is very popular, because of an issue I discussed in the earnings preview
Tier 1 cities like Shanghai and Beijing have well-developed brick and mortar retail infrastructure, so fashionable clothes are easy to find and purchase. Likewise, as in any big city, Beijing and Shanghai are more conscious about seasonal fashion trends, because brands have their own stores in the major shopping districts. In smaller cities, such as Tier 2 and Tier 3, this brick and mortar infrastructure for brand-named clothing is underdeveloped, and being up to date with the current season’s trends isn’t as important.
VIPshop’s business model is suitable for these lower tier cities because although the clothes aren’t the current season’s trends, the company's customers don’t mind because they care more about wearing the brand. Investors have seen the firm invest in its Last Mile delivery service in order to service more of these smaller cities, and while this does open new markets in which to grow the active customer base, it is the only viable option for VIPshop to grow in China, because the firm has had limited success in Beijing and Shanghai.
It’s interesting to note that the firm typically reports its active customers and GMV split by combining Tier 1 and Tier 2 cities, which represents around 50% of the firm's business. When asked to split this between Tier 1 and Tier 2, management couldn’t provide an answer, which I expect illustrates my point. I would fully expect to see that Tier 2 cities contribute a lot more to the firm’s business than Tier 1. I would also expect to see that the home of the firm’s headquarters, Guangzhou, and regional hub Tianjin, would contribute more to the business than the wealthier Beijing and Shanghai.
– Edited by Gayle Bryant
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.