Brief TMT & Internet: HK Connect Discovery Weekly: Eligibility Adjustment (2019-03-15) and more

In this briefing:

1. HK Connect Discovery Weekly: Eligibility Adjustment (2019-03-15)
2. SUTL: Puteri Harbor Construction Started Last Week, Membership Sales to Follow, Cash = 84% of MktCap
3. PagerDuty IPO Preview
4. Re-Launching Coverage of ZTO Express with Sell Rating and US$13.31 Target Price
5. Reliance Communications Ltd: A Complete Mess

1. HK Connect Discovery Weekly: Eligibility Adjustment (2019-03-15)

In our Discover HK Connect series, we aim to help our investors understand the flow of southbound trades via the Hong Kong Connect, as analyzed by our proprietary data engine. We will discuss the stocks that experienced the most inflow and outflow by mainland investors in the past seven days.

We split the stocks eligible for the Hong Kong Connect trade into three groups: component stocks in the HSCEI index, stocks with a market capitalization between USD 1 billion and USD 5 billion, and stocks with a market capitalization between USD 500 million and USD 1 billion.

In this insight, we will provide an analysis of the performance of selected stocks that just joined the Stock Connect last week. 

2. SUTL: Puteri Harbor Construction Started Last Week, Membership Sales to Follow, Cash = 84% of MktCap

Sutl Enterprise (SUTL SP) did not grow revenues in 2018 as it continued to operate only its flagship Sentosa marina. Change is coming as it has 9 projects in the pipeline which could dramatically alter the financial future of the company by FY21. 

The biggest news is the groundbreaking of Puteri Harbor in Malaysia last week. With a sales gallery opening by May 2019, it will be very interesting to follow the progress on this project and its contribution to SUTL’s top/bottom-line results in FY19/FY20.

SUTL is misunderstood by investors because management disclosure is lacking and liquidity is poor. The valuation of SUTL could be improved if investors had a better understanding of the earnings trajectory we could expect in FY19-FY21.

We realize the Tay family is not looking to sell its stake anytime soon so is not concerned about its current market cap. We caution that this might not be a smart way to run a publicly listed company as a more expensive ‘currency’  (stock price) might help the company be taken more seriously when attempting to make acquisitions overseas. 

However, this does not alter the fact that 84% of the market cap is cash and the EV of this consistently profitable company is barely 6.7M USD. SUTL is undeniably one of the cheapest stocks on SGX.

3. PagerDuty IPO Preview

PagerDuty Inc (PD US) is a US based software company which is ready to complete its IPO in the next several weeks. Founded in 2009, PagerDuty helps companies to respond quickly when their websites go down. PagerDuty’s software helps companies to respond to items such as customer complaints and helps companies to spot problems. The company is known for capitalizing on its AI (Artificial Intelligence) models to quickly solve problems of why websites go down. 

The company has an excellent, diversified base of more than 10,000 customers in 90 countries including IBM, The World Bank, Airbnb, Netflix, GE, and Gap. One of the strong points of PagerDuty is the fact that it has gathered massive amounts of data from its more than 10,000 customers. The company also boasts a very high customer retention rate (139% net retention rate). A combination of the company’s strong AI capability coupled with the increasing amounts of Big Data provide a strong competitive advantage for the company since its AI capability may improve and get smarter with additional Big Data and continuous problem solving of why websites go down.

PagerDuty was most recently valued at $1.3 billion in September 2018 in a private market valuation (led by T.Rowe Price Group investing $90 million in the company), representing 16x the company’s annual revenue of $79.6 million as of 12 months ending January 2018. 

4. Re-Launching Coverage of ZTO Express with Sell Rating and US$13.31 Target Price

ZTO Express (ZTO US)‘s earnings will fail to meet the high expectations of sell-side analysts and investors who seeit as a cheap proxy for Chinese e-commerce activity.

China’s express sector revenue grew 43.5% YoY in 2016, the year ZTO went public. Last year, revenue growth was just half that (21.8%), and we expect the sector’s growth to continue to moderate over the next few years.

The express sector is also evolving in ways that will put downward pressure on profitability and require greater investment from the express companies.

We expect the profitability of ZTO’s express business to decline in the medium-term as the company adjusts to slowing demand and emerging sector trends. Our earnings estimates, which are far below consensus figures, reflect these challenges.

ZTO suffers from declining earnings quality and two accounting issues that we feel make it a risky, unattractive investment. Our 12-month target price for ZTO is US$13.31, based on 16 times our blended 2019-20 EPS estimates. We rate the stock Sell.

5. Reliance Communications Ltd: A Complete Mess

The legal battle between Reliance Communications (RCOM IN) and its lender group has further intensified after the Supreme Court directed the company to submit INR4.53bn within four weeks. The Court ruled that Chairman Anil Ambani had wilfully not paid INR5.5 bn to Swedish Telecom equipment maker Ericsson (Lm) Tel-Sp Adr (ERIC US). In our view, the situation has become almost untenable for RCOM and Mr. Ambani as the company will struggle to sell off its spectrum and other assets in time. In addition, The spectrum sale is yet to be resolved and this means that raising funds quickly remains a challenge. We have revised our recommendation for RCOM 6.5% 20s from NEUTRAL to UNDERWEIGHT due to the on-going negative headlines which we believe is an asymmetric downside risk to the bonds. This is despite some positive developments we highlighted in our last report (Reliance Communications Ltd. •Too Few Steps Forward• dated 18-Oct-18) and our recovery calculation in our previous report (Reliance Communications: Waiting to Exhale  dated 07-Jul-18), which is proven wrong by the market.