In this briefing:
- Huishang Bank: Subpar Earnings and Asset Quality Indicate Caution
- The Two Flavours of Kool-Aid
- Bilibili Offering: Unnecessary and Opportunistic
- China Construction Bank: Not Strategically Dear
- China’s New Semiconductor Thrust – Part 1: Why and How?
1. Huishang Bank: Subpar Earnings and Asset Quality Indicate Caution
Huishang Bank Corp Ltd H (3698 HK) looks interesting at first. Some trends are moving in the right direction and the valuation is hardly stretched.
So it seems. Closer inspection reveals subpar earnings quality and pressure on the top line from an elevated growth in funding costs and a double-digit reduction in income from non-credit earning assets. Impairments weighed heavily on the bottom line. Underlying “jaws” were extremely negative, putting the decrease in the Cost-Income ratio into perspective.
An improving NPL ratio of 0.95% (or 1.04% depending on which one you use) does not tell the whole story at all. Asset quality issues, of course, come through in the income statement with writedowns and loan loss provisions consuming a huge (and increasing) chunk of pre-impairment profit. The Balance Sheet exhibits strains and stresses from an explosion of doubtful loans, rising substandard loans, and arguably an unhealthy expansion of special mention loans. At least “unimpaired past-due” loans have moderated though they stand at 45% of headline NPLs. Some key capitalisation metrics are deteriorating while liquidity erodes given the 23% growth in credit which flatters the problem loan picture.
2. The Two Flavours of Kool-Aid
Suning, Alibaba, & Tencent Holdings join forces with three state-owned auto co’s to challenge Didi on ridesharing in China. LYFT Kool-Aid becomes more toxic with five new strategic developments in the past week. lululemon’s DTC reaches nearly 30% of sales in Q4.
- lululemon: lululemon is looking to further leverage its cult-like following by investing in its digital ecosystem and launching a nationwide membership program as DTC reaches nearly 30% of sales in Q4.
- Dollarama & Sleep Country Canada: We continue to caution against these value traps as Dollarama is still focusing on the base of the value pyramid and Sleep Country’s structural risk continues to rise with Casper looking to IPO.
- Lyft: In the past week, there have been five new major strategic developments that add to the toxicity of the LYFT Kool-Aid.
My heart pounded as I sat in the WeWork conference room on Thursday, staring at the Skype screen, waiting to be interviewed live on Yahoo! Finance’s morning show by its host, Alexis Christofouros, on why I wasn’t drinking the LYFT Kool-Aid. I wish I could go back on the show as since I published my report just a week ago, there have been five major strategic developments, adding to the toxicity of the LYFT Kool-Aid. But I’m excited about the upcoming stampede of unicorns as my mindset is what Heidi Grant Halvorson and E. Tory Higgins call “promotion focus”, as they describe in their book Focus: Use Different Ways of Seeing the World for Success and Influence: “Promotion focus is about maximizing gains and avoiding missed opportunities. Prevention focus, on the other hand, is about minimizing losses” Just like we saw with the dotcoms nearly two decades ago, promotion-focused investors are now in danger of getting caught up in the “cult-like following” of these unicorns and drinking what I call the “pink Kool-Aid”.
Prevention-focused investors are also at risk of drinking the Kool-Aid. But the Kool-Aid in this case is blue, not pink, and the danger is the toxicity of “blue Kool-Aid” increases as the rate of structural disruption increases. For example, back in January 2008, I warned investors to stop drinking Yellow Pages’ “blue Kool-Aid” as I was worried the accelerating shift to online and emergence of the then new online disruptors like Facebook and Craigslist would increase its business risk profile. And I continue to caution investors against drinking the “blue Kool-Aid” of Canadian retailers like Dollarama and Sleep Country Canada as they still operate mainly at the base of the value pyramid.
3. Bilibili Offering: Unnecessary and Opportunistic
On Monday, Bilibili Inc (BILI US) unveiled plans to raise around $192 million (based on the closing price of $18.95 per ADS) through a public offering of 10.6 million ADS and a concurrent offering of $300 million convertible senior notes. Also, certain selling shareholders will offer 6.5 ADS in the offering.
We believe bilibili’s fundamentals are mixed as rapid monthly active users (MAUs) and non-mobile games growth is offset by a declining margin and higher cash burn. Overall, the proposed offering is unnecessary and highly opportunistic, and we would not participate in the offering.
4. China Construction Bank: Not Strategically Dear
China Construction Bank (601939 CH) FY18 results reflected stability and some encouraging signs of positive fundamental momentum. The highlights were a positive “underlying jaws” of 220bps, fortified Capital Adequacy, enhanced Provisioning, and firmer net interest spread and margin. Liquidity remains prudent with credit and deposit growth both expanding by mid-single digits. In addition, the top-line exhibited solid growth with funding expense growth (an issue elsewhere) only mildly in excess of interest income growth. Sharply higher asset loan loss provisions reflected the ongoing battle with troubling systemic asset quality challenges.
CCB is committed to becoming a core comprehensive service provider for smart city development, in alignment with government strategic targets. In terms of technology, AI robots (in wealth management, for example), Intelligent Risk Management Platforms, Biometric verification plus a public and private “cloud ecosphere” are evolving. Big data is developing with data warehouse integrating internal and external data; with enterprise data management and application architecture; and via working platforms. CCB is wedded to IoT, blockchain as well as big data in industry chain finance, via internet-based “e Xin Tong”, “e Xin Tong” and “e Qi Tong”. The bank has a strategy of Mobile First, provision of internet-based smart financial services, booming WeChat banking, and integration of online banking services that combines transactions, sales, and customer service.
Automation and “intelligence” is the bedrock of risk management: the key area today of what is a highly leveraged system. Here, CCB is integrating corporate and retail early warning systems and unifying the monitoring of different exposures. Management launched a “new generation” retail customer scorecard model, elevating the level of automation and “intelligence” of risk metrics. In addition, the bank is attaining greater recognition and control of fraud. Regarding the remote monitoring system, CCB is adapting to the fast development of information, network and big data technology, by building a monitoring system with unified plans, standards, software and hardware.
While CCB trades at a P/Book of 0.8x (regional median, including Japan) and a franchise valuation of 9% (regional median, including Japan), the Earnings Yield of 17.4% is well in excess of regional median of 10%. The combination of a top decile PH Score™, capturing fundamental momentum, an underbought technical signal, and a reasonable franchise valuation position CCB in the top decile of opportunity globally. For a core strategic policy bank, this represents an opportunity.
5. China’s New Semiconductor Thrust – Part 1: Why and How?
China’s current efforts to gain prominence in the semiconductor market targets memory chips – large commodities. This three-part series of insights examines how China determined its strategy and explains which companies are the most threatened by it.
In the first part of this series we will see what motivated China to enter the market and how it plans to do so.
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