In last week's lecture for Peking University's Fall 2020 Value Investing Course, Chang Jing used Meituan Dianping (HKSE:3690, Financial) as a case study to illustrate the concept of economic moat and the relationship between economic moat and margin of safety.
Meituan Dianping is China's leading e-commerce platform for services. It operates some of the best-known mobile apps in China, including Meituan, Dianping, Meituan Waimai, Mobike and others. Its main mobile app, Meituan, offers over 200 service categories, including catering, on-demand delivery, car-hailing, bike-sharing, hotel and travel booking, movie ticketing and other entertainment and lifestyle services, and covers more than 2500 cities and counties across China. Meituan Dianping was officially listed on the Hong Kong Stock Exchange on Sept. 20, 2018.
For U.S. readers who might not be familiar with Meituan Dianping, you can think of the company as a one-stop internet platform which includes the same services offered by Expedia (EXPE, Financial), Yelp (YELP, Financial), Tripadvisor (TRIP, Financial), Grubhub (GRUB, Financial), Groupon (GRPN, Financial), Instacart and Lime. In Meituan's own words:
"With "eating" as its core business, Meituan is focusing on its "Food + Platform" strategy to build a multi-level technology service platform, covering the whole process from demand to supply in people's daily lives. Meanwhile, Meituan is striving to become a socially-responsible enterprise, with the goal to build smart cities and create a better life for people through the in-depth cooperation with government organizations, colleges and universities and research institutes, mainstream media, non-profit organizations and ecosystem partners."
Below is the Bloomberg screenshot for Meituan Dianping:
As we can see, Meituan Dianping is one of the best performing large cap companies this year with year-to-date return of more than 170%. With a stock price of 277.8 Hong Kong dollars ($35.84) and 5.15 billion total shares outstanding, its market cap reached HK$1.6 trillion at the end of October.
The company has a trailing price-earnings ratio of 437 and a forward price-earnings ratio of 265.15. Last year, Meituan Dianping's revenue was almost 1 trillion Chinese yuan ($150 billion), and its reported net profit was ¥2.2 billion. Granted, Meituan's current profitability level may not represent its true earnings power, but obviously investors are willing to pay a huge premium for the company.
Meituan Dianping's economic moat is very much like the other internet companies. With the internet companies, Chang mentioned that there are four common sources of economic moat we should think about – network effect, switching cost, platform advantages and ecosystem advantages.
As a frequent user of Meituan's mobile app, I think switching cost is pretty low because in each area in which Meituan offers service, there's a formidable competitor. For instance, in the case of Meituan Dianping's food delivery service, Alibaba's (BABA) Elema is a very strong competitor. Many consumers use both Elema and Meituan to order food delivery services. Similarly, in bike-sharing, there are Hello Bike and Didi Bike beside Meituan Bike and Meituan's Mobike. Consumers usually choose the closest and most decent-conditioned bike available. In grocery delivery, Meituan competes against even more players such as Alibaba's Elema, Pinduoduo, Xingsheng Select and Yonghui Life.
But while the switching cost is low, Meituan does enjoy powerful network effect, platform advantages and ecosystem advantages, as the Meituan mobile app offers so many services categories. Most Chinese smart phone users have to use Meituan's mobile app for at least some services on a daily basis.
Many investors view Meituan's management team, led by founder Wang Xing, as an important economic moat for the company. It is true Meituan's management team has proved that they are one of the best and most capable management teams in China. However, whether this is a long term sustainable economic moat is debatable.
Now if we apply Greenwald's framework, which breaks the intrinsic value down into three parts - assets value, earnings power and growth value - we'll see that Meituan Dianping's assets value is merely ¥60 billion, but its market cap is ¥1.4 trillion. There is a huge gap between the assets value and market cap. To justify Meituan's current valuation, Meituan has to have ¥1.34 trillion in earnings power and growth value. While Meituan's revenue is predicted to be over ¥110 billion this year, and analysts expect it to continue to grow rapidly in the next few years, its true profitability is a black box. Is a reasonable estimate of Meituan's profit margin 5%, 10%, 20% or 30%? It's very hard to know. Can Meituan grow its earnings 20% a year, 30% a year or 50% a year? Again, nobody knows. Therefore, Meituan's intrinsic value itself is a black box with many questionable assumptions. If the intrinsic value cannot be reasonable estimated, then no margin of safety can be calculated either.
We can compare Meituan to Kweichow Maotai (SHSE:600519, Financial), which I covered in a previous article. While Kweichow Maotai's assets value is also much less than earnings power value and growth value, we are more sure about Kweicho Maotai's true profitability level and its ability to maintain its current profitability level. We are somewhat confident about Kweichow Maotai's future growth prospective. Therefore, we can assess what level of margin of safety is implied at different market capitalization levels for Kweichow Maotai.
Conclusion
The point of the Meituan Dianping case study is not to encourage investors to ignore internet platform companies, but to offer a framework in terms of how to think about their intrinsic value and margin of safety when making investment decisions.
Chang suggested that because Meituan Dianping's assets value is very small compared to its market value, and that because it is very hard to come up with a reliable range of estimates with regards to Meituan Dianping's profitability level and growth prospects, there is very little, if any, margin of safety at the current price.
I would note that an important assumption is the unknowability of Meituan Dianping's profitability level and growth prospects. As the business develops, it may be more predictable. But for now, value investors have no choice but to stay away from Meituan Dianping.
Read more here:
- Notes From Peking University's Fall 2020 Value Investing Course - Lecture 4, Part 3
- Notes From Peking University's Fall 2020 Value Investing Course - Lecture 4, Part 2
- Notes From Peking University's Fall 2020 Value Investing Course - Lecture 4: Economic Moat​
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