Thanks to cost controls, online food delivery giant Meituan turned a profit in the third quarter after languishing in the red for nearly two years. But it warned that the pandemic would take a heavier toll on its results in the last three months of the year

Key Takeaways:

  • Meituan beat market expectations for third-quarter earnings, posting 1.22 billion yuan in net profit and 3.53 billion yuan in adjusted net profit, helped by a stronger performance in its core local commerce business and narrower losses on new ventures
  • Tencent’s biggest shareholder, South Africa’s Naspers, is considering a sale of Meituan shares, casting uncertainty over the stock price

By Ken Lo

Food delivery giant Meituan (03690.HK) has finally served up an appetizing profit for investors after two lean years, but can it follow up with the next earnings course?

Despite tough Covid lockdowns and flagging consumer demand, Meituan posted better than expected earnings in the third quarter from both its core businesses, such as food delivery, and its newer commercial ventures. Cost controls paid off and revenues grew strongly, putting the company back in the black after seven quarters of losses.

The results posted last Friday showed total revenue grew just over 28% to 62.62 billion yuan ($8.89 billion) in the three months to end-September.  For a clearer idea of the dynamics, it’s worth taking a closer look at Meituan’s two main divisions: the core local commerce business, which includes food delivery and shopping platforms, and its new ventures such as Meituan Select.

During the third quarter, revenues from the core business rose almost 25% year on year to 46.33 billion yuan, generating an operating profit of 9.32 billion yuan, more than double the year-earlier amount. The operating profit margin also jumped 8.9 percentage points to 20.1%. The company attributed the rise to higher gross margins from food delivery and its “Meituan Instashopping” business as well as lower expenses for its in-store, hospitality and tourism business.

Revenues also rose at the new businesses that had been dragging down earnings since 2020. This business category logged 16.29 billion yuan in revenues for the quarter, a year-on-year rise of nearly 40%. Its operating loss shrank by almost a third to 6.77 billion yuan, with the company pointing to efficiencies in the retail and grocery businesses.

With its old business bringing in more money and the new business losing less cash, the company reported a net profit of 1.22 billion yuan, compared to a loss of nearly 10 billion yuan in the third quarter of last year. The company’s operating profit margin returned to positive territory at 1.6%, from minus 20.7% a year earlier.  The company reported a non-IFRS adjusted net profit of 3.53 billion yuan, a strong improvement on the loss of 5.53 billion yuan in the same period of last year.

Pandemic disruption

But mounting Covid cases and the prospect of increased lockdowns across China could derail the recovery. The company’s managers warned that the pandemic could take a heavier toll on business in the fourth quarter, although they were upbeat about the longer term prospects once the pandemic abates.

The company also addressed reported ambitions in Hong Kong, describing it as a useful testing ground for overseas expansion because of the cultural, culinary and linguistic connections with the mainland.  But the company stressed that its strategy was still at an early stage of planning and implementation.

Judging by the share price reaction, investors think the company may have finally turned a corner towards a brighter future. After the earnings release, Meituan’s Hong Kong shares rose for three straight days, climbing a cumulative 20% to HK$163.6 on Wednesday.

Analysts are generally upbeat, despite Meituan’s caution about ongoing business conditions.

Goldman Sachs noted in a report that the company’s outlook for the fourth quarter was weaker than its analysts had been expecting. A fall in in-store business was projected to be in the double digits while growth in takeout orders was expected to have fallen to the middle of single-digit territory in October and November. But the investment bank expects the company’s operating profit from core business to continue to grow rapidly, coupled with progress on cost controls to narrow losses on the new businesses. Therefore, Goldman Sachs has kept its “overweight” rating for the company while revising the price target down to HK$216 from HK$235.

KGI Asia is also optimistic about the long-term prospects, despite the warnings of a tough fourth quarter. Head of investment strategy Kenny Wen said Meituan had delivered impressive quarterly results, with particularly strong momentum in its core business and smaller losses on the newer ventures.

Most major investment banks have set a target price above HK$200 for the company right now. But Wen is concerned that the stock price will be under pressure in the short term and could struggle to push past HK$200 in the medium term.

Possible sell-off by Naspers

The market is on edge about the risk of a big Meituan share sell-off by Naspers,the major South African shareholder of Tencent (700.HK). Naspers is due to get 262 million Meituan shares from Tencent as dividends, and has said it will consider selling them. Other investors may dump shares anyway to avoid being stung by a sharp price drop, a factor weighing on the stock for now.

The company said it would seek contact with Naspers to explain its business outlook and long-term strategies. But KGI’s Wen believes Naspers is unlikely to be swayed because the group needs a big capital influx for share buybacks. In the past Naspers unloaded several large quantities of Tencent stock, suggesting it may not hesitate to part with shares in a non-core business such as Meituan.

Tencent announced on Nov.16 that it would distribute 958 million Meituan B shares in kind to its shareholders, leaving it with fewer than 2% of shares in the food delivery firm. The Naspers block of shares, based on Meituan’s closing price of HK$163 on Thursday, would be valued at HK$42.7 billion ($5.47 billion).

With Meituan’s stock on the rise, its projected price-to-earnings (P/E) ratio has reached 67 times, dwarfing the 10 times of Alibaba (BABA.US; 9988.HK) and 17 times of JD.com (JD.US; 9618.HK), its fellow online titans. With a possible Naspers sell-off on the horizon, investors would be wise to see how the company fares through the end of the year, before taking any action.

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