PDD Holdings (PDD, Financial), doing business as Pinduoduo, is one of the most successful e-commerce companies in China. Unlike competitors Alibaba (BABA) and JD.com (JD), Pinduoduo offers a unique “team buying” value proposition. This enables a consumer to partner up with friends and neighbors in order to benefit from bulk buying discounts of products. This is an incredibly innovative business model and has been one of the keys to Pinduoduo's success in China.
Now, the company has started to execute on its bold international expansion plans through the launch of its Temu app in the U.S. This article will take a look at the incredible tailwinds behind Temu and how it demonstrates the unique competitive advantages Pinduoduo has built for itself; let’s dive in.
Temu generates explosive growth
The Temu app was launched in September 2022 from the company's Boston location in the U.S. Since that point, its growth has been explosive. According to Earnest data, the app grew its sales an incredible 651% at its launch. Since that point, the app racked up 80% growth in October 2022 and a solid 26% growth in December 2022. These growth rates are “week over week” growth rate figures, which means growth has been truly astronomical.
In 2023, the growth still looks to have continued strong as the U.S. iOS app store states “Temu: Shop like a Billionaire” is the number one app downloaded in March and April 2023, surpassing TikTok and Instagram.
So you may be thinking, what makes this app so special? While on the face of things, it looks like any other e-commerce website with a series of products and deals, the big difference is that Temu is incredibly cheap as the company effectively connects Western buyers directly with manufacturers in China. I tried comparing a few popular products on Temu with Amazon (AMZN, Financial), such as a pebble bath mat, lamps, etc., and found Temu to be around one third cheaper. This is where the tagline “shop like a billionaire” comes in, as its products are so cheap consumers effectively get a class upgrade.
I also found the website user interface to be fairly international in its style, but it was extremely engaging. The products sold look to include many niche products which you didn’t relize you need until you see them. For example, it even offers things like self heating socks, an avocado slicer and a soap box drainer that can be hard to find in stores.
Therefore, I expect Temu to generate huge sales from niche goods at scale, which will of course benefit Pinduoduo. The app also has the potential to disrupt Amazon due to its cheaper prices, although since Pinduoduo doesn’t have the vast U.S. logistics infrastructure like Amazon, its delivery times are likely to be less favorable.
Growing financials
Pinduoduo reported growing financial results for the fourth quarter of 2022. The business generated revenue of $5.7 billion, which rose by a solid 37% per year, which rose to a 46% growth rate in the local currency.
I believe this growth rate was partially driven by the Temu app, but the full-quarter effects will show up in the first quarter 2023 results.
IMF forecasts estimate a 5.3% GDP growth rate for China in 2023, up from 3% in 2022. This is substantial especially given most of the Western world has stagnant to declining growth forecasts.
Pinduoduo's strong growth was partially countered by its operating expenses, which rose by 57% to $3.16 billion. The good news is ~81% of this expense increase was driven by sales and marketing costs, which rose by 56% year over year to $2.57 billion. I believe a solid advertising for user acquisition can actually be positive assuming a good return on advertising spend.
Pinduoduo's selling, general and administrative expenses also rose by nearly 300% to $237.9 million in the fourth quarter of 2022. This may seem terrible at first glance, but in the earnings call, management stated this was due to hiring in its core business and Temu segment. This is fine with me as it shows the company is still in growth mode - it must hire to meet demand. Research and development expenses also increased to $349 million, up 19% year over year. Given these R&D expenses only contribute to ~10% of total expenses, I deem these to be fairly reasonable.
Pinduoduo has a fortress balance sheet with $21.7 billion in cash, cash equivalents and marketable securities compared to total debt of approximately $2.4 billion.
Valuation
In order to value Pinduoduo, I have plugged its latest financial data into my discounted cash flow valuation model. Over the next four quarters, I have estimated 27% revenue growth, which I feel is fairly conservative given the company grew its revenue ~37% in the fourth quarter of 2022.
In years two through five, I have forecast an even faster growth rate of 28% per year, as the Chinese economy continues to roar and international e-commerce rebounds (benefiting Temu).
I have been fairly conservative with margin estimates, predicting just a 1.52% increase over the next eight years. This is because I expect the business to reinvest for growth, and e-commerce can be tough business in relation to margins, as I have discovered in my analysis of Amazon. One margin booster for Pinduoduo has been its R&D investments, which I have captialized.
Given the financials and my forecasts, I get an intrinsic value estimate of $227 per share. The stock is trading at around $65 per share at the time of writing and thus it is ~71.35% undervalued.
The GF Value chart indicates a fair value of $132.82 per share, rating the stock significantly undervalued.
Final thoughts
Pinduoduo is a tremendous e-commerce company and an incredibly creative business. I believe its “team buying” strategy is innovative and am honestly surprised to have not seen something similar in the West. The Temu app has taken the U.S. by storm and could potentially disrupt major players such as Amazon. This will definitely be one to watch as the e-commerce industry continues to grow.
