Asian Equities Analyst, Logistics & Transport, Tracking Traffic

Daniel Hellberg

Asian Equities Analyst, Logistics & Transport

Tracking Traffic

Focusing on Asian logistics, transportation, and travel companies

Equity Bottom-Up

Q2 results for China's six listed express companies are finally in, and while most companies continued to report depressed profitability, outcomes varied significantly. Several firms pursued volume growth aggressively in the period, sacrificing pricing in order to maximize the number of parcels flowing through their networks; others appeared to do just the opposite. In the Q2 numbers, there is little evidence either approach actually worked consistently well. 
Looking at the volume versus pricing 'tradeoff' over the last two years, there is also little evidence that using pricing to boost volumes actually increases profitability. Indeed, most of the six express companies we track reported Q220 gross profits at or below Q218 levels, despite the companies more than doubling parcel volumes during the period. 
In our view, most Chinese express companies are 'price takers' that offer commodity-like services which are hard to differentiate from what their peers offer. In the long-run, we believe attempts to control pricing by pursuing only select cargoes are unlikely to succeed, and that companies should focus almost purely on securing greater volume and beating down unit costs. Alas, even this approach is likely to result in significantly lower margins over time, in our view.
In this note we review Q220 results, then look back farther to see individual company performance in terms of volume growth, pricing change, and change in gross profit. We also note growing CapEx demands and show how each company's shares have performed so far in 2020. In the medium-term, we expect profitability and cash flow at most express companies to continue to suffer. 
Under the scenario we describe in this note, <a href="https://www.smartkarma.com/entities/maanshan-dingtai-rare-a" target="_blank" data-smartkarma-citation="entities:4128:1" rel="noopener">S.F. Holding (002352 CH)</a> continues to stand out. SF's time-definite products and its offerings in cold-chain, international, and local on-demand express truly differentiate it from the other five listed express companies. We believe SF can continue to increase its share of express sector profits and retain our BUY rating.

Q2 results for China's six listed express companies are finally in, and while most companies continued to report depressed profitability, outcomes varied significantly. Several firms pursued volume growth aggressively in the period, sacrificing pricing in order to maximize the number of parcels flowing through their networks; others appeared to do just the opposite. In the Q2 numbers, there is little evidence either approach actually worked consistently well. 
Looking at the volume versus pricing 'tradeoff' over the last two years, there is also little evidence that using pricing to boost volumes actually increases profitability. Indeed, most of the six express companies we track reported Q220 gross profits at or below Q218 levels, despite the companies more than doubling parcel volumes during the period. 
In our view, most Chinese express companies are 'price takers' that offer commodity-like services which are hard to differentiate from what their peers offer. In the long-run, we believe attempts to control pricing by pursuing only select cargoes are unlikely to succeed, and that companies should focus almost purely on securing greater volume and beating down unit costs. Alas, even this approach is likely to result in significantly lower margins over time, in our view.
In this note we review Q220 results, then look back farther to see individual company performance in terms of volume growth, pricing change, and change in gross profit. We also note growing CapEx demands and show how each company's shares have performed so far in 2020. In the medium-term, we expect profitability and cash flow at most express companies to continue to suffer. 
Under the scenario we describe in this note, S.F. Holding (002352 CH) continues to stand out. SF's time-definite products and its offerings in cold-chain, international, and local on-demand express truly differentiate it from the other five listed express companies. We believe SF can continue to increase its share of express sector profits and retain our BUY rating. 

A Price Vs. Volume Tradeoff? Not For Firms Offering Commodity-Like Chinese Express Services

Event-Driven

<a href="https://www.smartkarma.com/entities/alibaba-group-holding-ltd" target="_blank" data-smartkarma-citation="entities:787:1" rel="noopener">Alibaba Group (BABA US)</a> and <a href="https://www.smartkarma.com/entities/yto-express" target="_blank" data-smartkarma-citation="entities:20319:1" rel="noopener">YTO Express (600233 CH)</a> announced the former will increase its stake in the latter, from around 10.5% to 22.5%. BABA will purchase shares from YTO's co-founders, who will retain a controlling stake in the express company.
Although YTO's Q2 earnings results were slightly better than we expected, core margins remain depressed, and we do not believe the company's current level of profitability can sustain its medium-term investment plans. 
YTO has performed well over the past week or so on surprisingly firm Q2 results and it rose another 10% on the latest news regarding investment from BABA. However, given ongoing pressure on profitability, and the performance of rival <a href="https://www.smartkarma.com/entities/zhejiang-idc-fluid-control-co-ltd" target="_blank" data-smartkarma-citation="entities:18695:1" rel="noopener">Sto Express (002468 CH)</a> after it announced increased investment by BABA in early 2019, we would take advantage of recent strength to SHORT YTO. Within China's express segment, we continue to favor the fundamentals of <a href="https://www.smartkarma.com/entities/maanshan-dingtai-rare-a" target="_blank" data-smartkarma-citation="entities:4128:1" rel="noopener">S.F. Holding (002352 CH)</a>; a LONG SF Holding / SHORT YTO pair makes sense to us here.

Alibaba Group (BABA US) and YTO Express (600233 CH) announced the former will increase its stake in the latter, from around 10.5% to 22.5%. BABA will purchase shares from YTO's co-founders, who will retain a controlling stake in the express company.
Although YTO's Q2 earnings results were slightly better than we expected, core margins remain depressed, and we do not believe the company's current level of profitability can sustain its medium-term investment plans. 
YTO has performed well over the past week or so on surprisingly firm Q2 results and it rose another 10% on the latest news regarding investment from BABA. However, given ongoing pressure on profitability, and the performance of rival Sto Express (002468 CH) after it announced increased investment by BABA in early 2019, we would take advantage of recent strength to SHORT YTO. Within China's express segment, we continue to favor the fundamentals of S.F. Holding (002352 CH); a LONG SF Holding / SHORT YTO pair makes sense to us here.

Increased Investment from Alibaba a Blessing for YTO Express? Revisit STO Express & Think Again...

<figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/154/486/original/BANNER-LOGISTICS.png?1598199804" class="editor-image img-responsive" data-smartkarma-image-id="154486"></figure>
Headline express parcel volume growth remained firm in July, but the pace of growth moderated compared to May-June. Flooding in some regions may have contributed to the slowdown. 
On all the metrics we follow, most Chinese express companies continue to experience dramatic declines in pricing, which are hurting top-line growth and, of course, profitability. 
Disappointing Q2 results from <a href="https://www.smartkarma.com/entities/zto-express" target="_blank" data-smartkarma-citation="entities:23628:1" rel="noopener">ZTO Express (ZTO US)</a> and <a href="https://www.smartkarma.com/entities/best-inc" target="_blank" data-smartkarma-citation="entities:25494:1" rel="noopener">BEST Inc (BEST US)</a> show the stark choice companies face between capturing volume share and holding onto margins. Under current conditions, neither approach is likely to satisfy investors. 
Conclusion: within Chiina's express delivery sector, we continue to favor SF Holding. We expect growth and profitability of the rest of the sector to continue eroding in the medium-term.


Headline express parcel volume growth remained firm in July, but the pace of growth moderated compared to May-June. Flooding in some regions may have contributed to the slowdown. 
On all the metrics we follow, most Chinese express companies continue to experience dramatic declines in pricing, which are hurting top-line growth and, of course, profitability. 
Disappointing Q2 results from ZTO Express (ZTO US) and BEST Inc (BEST US) show the stark choice companies face between capturing volume share and holding onto margins. Under current conditions, neither approach is likely to satisfy investors. 
Conclusion: within Chiina's express delivery sector, we continue to favor SF Holding. We expect growth and profitability of the rest of the sector to continue eroding in the medium-term. 

TRACKING TRAFFIC/Chinese Express: July Growth Slows | Q2 Results Show Margin Vs Volume Tradeoff

Equity Capital Markets

By being selective about the parcels it handled and focusing on costs, <a href="https://www.smartkarma.com/entities/best-inc" target="_blank" data-smartkarma-citation="entities:25494:1" rel="noopener">BEST Inc (BEST US)</a> managed to lift gross margin slightly in Q2, despite difficult market conditions in its core express business. Still, Best lost money in the period (Net Loss -31 mn RMB).  Despite some progress on costs, Best continues to lag its peers' in terms of profitability -- and by a wide margin. In the Q2 numbers, we find nothing that convinces us Best will catch up to its Chinese peers any time soon. Recent media reports suggest Best could seek a second listing in Hong Kong in order to secure a higher valuation than it enjoys on NASDAQ; these reports also indicate the company could re-package assets, perhaps to focus purely on express and freight (now 77% of revenue, combined). But given its poor profitability, and the intensifying competition we see in the express segment, we don't think a new listing will lead to a higher valuation for Best. We remain negative on the company's medium-term prospects, but feel this is mostly reflected in its depressed share price. Retain HOLD rating.

By being selective about the parcels it handled and focusing on costs, BEST Inc (BEST US) managed to lift gross margin slightly in Q2, despite difficult market conditions in its core express business. Still, Best lost money in the period (Net Loss -31 mn RMB).  Despite some progress on costs, Best continues to lag its peers' in terms of profitability -- and by a wide margin. In the Q2 numbers, we find nothing that convinces us Best will catch up to its Chinese peers any time soon. Recent media reports suggest Best could seek a second listing in Hong Kong in order to secure a higher valuation than it enjoys on NASDAQ; these reports also indicate the company could re-package assets, perhaps to focus purely on express and freight (now 77% of revenue, combined). But given its poor profitability, and the intensifying competition we see in the express segment, we don't think a new listing will lead to a higher valuation for Best. We remain negative on the company's medium-term prospects, but feel this is mostly reflected in its depressed share price. Retain HOLD rating. 

Second Listing or Re-Packaging Assets Won't Fix Problems Revealed by Best Inc's Weak Q2 Results

Despite another quarter of strong parcel volume growth (+48% YoY in Q2), <a href="https://www.smartkarma.com/entities/zto-express" target="_blank" data-smartkarma-citation="entities:23628:1" rel="noopener">ZTO Express (ZTO US)</a> showed it could not convert more parcels into improved profitability. With unit pricing far exceeding unit cost reductions, ZTO's gross margin fell precipitously in Q2 (-500 bps YoY), and Operating Cash Flow fell by 37% YoY. ZTO management actually raised its full-year parcel volume targets slightly, but cut its expected Adjusted Net Profit target range from 5.4-5.8bn RMB (guidance from late May) to 4.8-5.2bn RMB, which represents a single-digit YoY decline in earnings. In short, Covid19 is boosting demand for its service, but an ongoing price war is decimating profitability. The mid-point of ZTO's new, lower guidance range puts the stock on 44x forward earnings. Given its declining margins, stagnant EPS growth, and past issues with accounting, we retain our SELL rating on ZTO.

Despite another quarter of strong parcel volume growth (+48% YoY in Q2), ZTO Express (ZTO US) showed it could not convert more parcels into improved profitability. With unit pricing far exceeding unit cost reductions, ZTO's gross margin fell precipitously in Q2 (-500 bps YoY), and Operating Cash Flow fell by 37% YoY. ZTO management actually raised its full-year parcel volume targets slightly, but cut its expected Adjusted Net Profit target range from 5.4-5.8bn RMB (guidance from late May) to 4.8-5.2bn RMB, which represents a single-digit YoY decline in earnings. In short, Covid19 is boosting demand for its service, but an ongoing price war is decimating profitability. The mid-point of ZTO's new, lower guidance range puts the stock on 44x forward earnings. Given its declining margins, stagnant EPS growth, and past issues with accounting, we retain our SELL rating on ZTO. 

Despite +48% Volume Growth, ZTO's Margins & Operating Cash Flow Fell Sharply in Q2

China

YTO Express Group Co., Ltd. provides global express services. The Company also provides general cargo warehousing, domestic air transport agency, car rental, supply chain management, and other related services throughout China..

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YTO Express (600233 CH)

A Price Vs. Volume Tradeoff? Not For Firms Offering Commodity-Like Chinese Express Services

Results varied Which approach worked? Market is rewa

Tracking Traffic

Increased Investment from Alibaba a Blessing for YTO Express? Revisit STO Express & Think Again...

Alibaba Group (BABA US) and YTO Express (600233 CH) announced the former will increase its stake in the latter, from around 10.5% to 22.5%. BABA...

Tracking Traffic

TRACKING TRAFFIC/Chinese Express: July Growth Slows | Q2 Results Show Margin Vs Volume Tradeoff

Headline express parcel volume growth remained firm in July, but the pace of growth moderated compared to May-June. Flooding in some regions may...

Tracking Traffic

Second Listing or Re-Packaging Assets Won't Fix Problems Revealed by Best Inc's Weak Q2 Results

By being selective about the parcels it handled and focusing on costs, BEST Inc (BEST US) managed to lift gross margin slightly in Q2, despite...

Tracking Traffic

Despite +48% Volume Growth, ZTO's Margins & Operating Cash Flow Fell Sharply in Q2

Despite another quarter of strong parcel volume growth (+48% YoY in Q2), ZTO Express (ZTO US) showed it could not convert more parcels into...

Tracking Traffic

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