Kingdee Inches Back Toward Profitability as Transformation Accelerates

One of China’s oldest software makers said three-quarters of its revenue came from cloud-based services last year, tripling its share of the company’s revenue pie compared with 2017

Key Takeaways:

• Kingdee said its revenue rose roughly 17% in 2022, led by growth at double that rate for its cloud-based software services
• The company expects to report a loss of as little as 7 million yuan for the second half of the year, as it inches back to profitability after first falling into the red in 2020

By Doug Young

As one of China’s older software makers, Kingdee International Software Group Co. Ltd. (0268.HK) has been making a difficult but necessary transition these last few years as it transforms from its roots as a traditional software maker to a provider of cloud-based software as a service (SaaS). The company’s latest early look at its full-year performance for 2022 shows it could be inching its way back to profitability as it emerges in its new form.

Founded at the end of the 20^th century in 1999, Kingdee operated profitably for years before slipping into the red in 2020 as its then-core enterprise resource planning (ERP) software entered a state of decline. The company began aggressively building up its cloud-based SaaS a few years earlier, which relies more on services than software sales, and thus is more reliable as a recurring revenue source.

Its latest preview of its 2022 financial results shows the company is still operating in the red, with negative cash flow. But it also shows Kingdee may be coming tantalizingly close to returning to its former glory days as a profitable company in its new SaaS form that looks more promising as a longer-term business model.

The company said it expects to report revenue of 4.8 billion yuan ($697 million) to 5 billion yuan for all of 2022, representing growth of 15% to 20% from 2021. Our calculations using data from the company’s interim report show Kingdee’s revenue grew roughly 17% in the second half of the year, which is about the same as the rate in the first half.

We’ll look more closely at the company’s revenue breakdown shortly, which shows its cloud-based SaaS business is growing more than quickly enough to offset declines in the fading ERP business. But first we’ll race ahead to Kingdee’s bottom line, which shows the company continues to make steady progress in its march back to profitability.

Kingdee said it expects to report a full-year loss of 363 million yuan to 423 million yuan, which would actually represent a widening of its 2021 loss of 302 million yuan. But subtracting the company’s losses in the first half of the year show its second-half loss was 67 million yuan at worst, and could be as little as 7 million yuan, meaning the second-half loss is quite likely to improve over its 54 million yuan loss in the year-ago period.

Investors didn’t react very strongly to the report, implying they were expecting this kind of progress. The company’s shares fell 0.9% on Wednesday, the day after the report’s release, but had gained back all of that and a little more in early Thursday trade.

The company’s stock is down about 15% so far this year, though it’s also up 60% from a trough last October when many offshore-listed Chinese stocks began to rally after more than a year of major declines. Investors seem to like its transformation story overall, giving it a current price-to-sales (P/S) of 10. That’s slightly ahead of Flowing Cloud Technology’s (6610.HK) 9.7, and more than double the 4.3 Weimob (2013.HK), which offers SaaS services for e-commerce companies.

Shifting revenue pie

Next, we’ll take a deeper dive into Kingdee’s transformation story, which dates back about a decade as China began aggressively building up the infrastructure like data centers and high-speed telecoms services that make such offsite cloud-based services possible. The company’s cloud-based services have grown steadily since then, making up about three-quarters of its revenue last year compared with just a quarter in 2017.

Kingdee and many others are chasing a market that’s expected to explode over the next few years as companies and consumers shift from using software based on their computers to more powerful offsite-based software that is regularly updated. Accounting firm McKinsey expects China’s public cloud market to grow from about $32 billion in 2021 to $90 billion in 2025, representing a near tripling in size.

Kingdee is squarely focused on the B2B segment of the market, offering cloud services to other companies in areas related to finance, taxes and human resources. Such customers tend to be less price-sensitive than ordinary consumers, which may be a reason why stocks for more consumer-focused companies like Kingsoft Cloud (KC.US; 3896.HK) command far lower premiums.

Kingdee said revenue for its own cloud services totaled between 3.6 billion yuan and 3.9 billion yuan last year, up 30% to 40% from a year earlier. That strong growth more than offset declines in the ERP business. Kingdee didn’t provide any ERP revenue figures in its latest report. But its report for the first half of last year showed that revenue from “ERP and other businesses” dropped by 18.1% for the period to 519 million yuan, accounting for about a quarter of revenue.

The cloud portion of the Kingdee’s revenue pie is likely to get bigger as that business continues to post strong growth and ERP declines. As that happens, the company could return to the kind of 20% to 30% growth rates it posted in the pre-pandemic period. The 19 analysts polled by Yahoo Finance seem to agree, forecasting, on average, that Kingdee’s revenue will rise 25% this year.

One factor that could boost the company even more is an end to China’s harsh pandemic controls at the end of last year. Those measures affected tech companies like Kingdee less than more consumer-focused companies. But they still had some impact by forcing them to limit their sales and marketing activities, and Kingdee cited “obstacles to some of the marketing and implementation activities of the group as a result of the Covid-19 pandemic in 2022,” as a factor behind its latest loss.

At the end of the day, Kingdee looks like a relative success story in the transformation it’s trying to undertake. Analysts polled by Yahoo Finance expect it to continue losing money this year, though they expect the losses to narrow by about half. And perhaps more importantly, most remain relatively bullish on Kingdee’s prospects, with eight out of 10 giving Kingdee a “buy” or “strong buy” rating.

To subscribe to Bamboo Works free weekly newsletter, click here