Vipshop: Undervalued Based On Fundamentals

Summary

• Vipshop is one of China’s leading online discount retailer. The Company offers popular branded products such as apparel, shoes, accessories and cosmetics products at discount prices.
• Vipshop’s financials look superb and the valuation ridiculously cheap. The company is down more than 88% from all-time highs, and I believe the stock may have found a bottom.
• Analysts expect VIPS to continue growing, estimating 2023, 2024, and 2025 revenues at $18.4 billion, $19.5 billion and $20.5 billion respectively. Consensus implies a CAGR of greater than 5%.
• I value VIPS based on a residual earnings framework, and my calculation implies that VIPS is currently 45% undervalued, with a fair base-case target price of $12.59. Buy.

Amidst Covid-19 challenges and lockdowns of major cities, regulatory crackdowns, geopolitical risks and a slowing economy, investing in China remains risky. However, there are some true bargain opportunities available for risk-seeking investors. One company that I really like is Vipshop – also an ex-favorite of Bill Hwang, the legendary hedge fund manager who blew up his fund in early 2021. Vipshop’s financials look superb and the valuation ridiculously cheap. The company is down more than 88% from all-time highs, and I believe the stock may have found a bottom. In this article I use a residual earnings valuation, based on analyst consensus, a WACC of 10.5% and terminal value growth equal to nominal GDP. My calculation implies that VIPS is currently 45% undervalued, with a fair base-case target price of $12.59. Buy.

Company Overview

Vipshop is one of China‘s leading online discount retailers. The Company offers popular branded products such as apparel, shoes, accessories and cosmetics products at discount prices. Ever since Vipshop has launched operations in 2008, the company has enjoyed strong interest and growth, attracting more than 200 million shoppers and over 21,000 brand partners. The company’s customer base is primarily composed of females between 18-40 years. Vipshop’s business model creates value for customers by offering a low-cost way to shop premium products and value for merchandise suppliers/business partners by giving an opportunity to monetize their off-seasonal and excess inventory quickly. Furthermore, customers enjoy the stimulating dynamic of hunting within a frequently updated portfolio available at flash-sale opportunities for limited time periods. The company has been listed on the New York Stock Exchange since March 2012.

Financials

Vipshop’s growth has consistently outperformed the growth of the broad market. In the period of 2018 to 2021, Vipshop grew revenues from 12.8 billion to 18.1 billion, representing a 3-year CAGR of above 12%. Grow in net income was even stronger, as profits more than doubled from $305 million in 2018 to $788 million in 2021. In 2021, Vipshop achieved a net-income margin of 4.4% and recorded EPS of $1.14/share. Cash from operations was recorded at $1.05 billion (higher than net income), indicating that the company’s earnings are good quality.

Vipshop’s balance sheet is very strong. The company ended the year 2021 with $3.4 billion in cash and cash equivalents and only 505 million in debt. Thus, the company is holding a net-cash position of almost $3 billion. For reference, VIPS market capitalization is 5.5 billion. Investors might also appreciate that the company announced a $1 billion share-repurchase program in Q1 2022.

Analysts expect VIPS to continue growing, estimating 2023, 2024, and 2025 revenues at $18.4 billion, $19.5 billion and $20.5 billion. Consensus implies a CAGR of greater than 5%. Earnings in 2023, 2024 and 2024 are estimated to be $1.24, $1.36 and $1.47. If analysts are correct, the 2024 earnings would imply that VIPS is currently trading at a 2-year forward P/E of 5.7.

Valuation

What could be a fair per-share value for VIPS? To answer the question, I believe a discounted earnings framework is the best framework to assess a cash-cow asset such as VIPS. That said, I have constructed a Residual Earnings framework based on the EPS analyst consensus forecast until 2025, a WACC of 10.5% and a TV growth rate equal to nominal GDP growth of 3.5%. And based on my assumptions, the calculation returns a fair share price of $12.59/share, implying an undervaluation of 45.5%.

I also enclose a sensitivity analysis based on varying WACC and TV growth combination, so investors can value VIPS based on the scenario that best reflects their fundamental view on the company. For reference, red cells imply an overvaluation, while green cells imply an undervaluation as compared to VIPS’s current valuation. As you note, all testes combinations imply an undervaluation.

 

Risks And Challenges

I have identified the following downside risks that could prevent VIPS from reaching the valuation target price are: First, although discount retailers are counter-cyclical assets, a much stronger economic slowdown than expected could negatively impact VIPS operations. Second, much of VIPS share price volatility is explained by investor sentiment towards risk assets and China equities. Thus, investors are advised to monitor the broader performance of China-based equities. Third, competition with Alibaba and JD could impact not only new user growth momentum, but also top-line revenue and profit-margins. Fourth, with regard to the ongoing SEC-China audit dispute, VIPS has been identified by the SEC for a potential delisting. While the situation seems to gradually improve, investors should monitor the ADR-listing debate. As of early 2022, VIPS is not listed in Hong Kong, but may plan to list.

Conclusion

Personally, I believe accumulating VIPS at current price levels (< $10/share) is not only a bargain opportunity, but also a smart tactical positioning in the current macro-environment. VIPS has strong earnings, high operating cash-flow and a best-in-class balance sheet. Moreover, the company’s business model is counter-cyclical, as the demand for discounted merchandise has historically increased in periods of slowing consumer confidence. I conclude my article with a clear buy recommendation and a base-case target price of $12.59/share. If you have any questions, feel free to send me a note in the comments.

Author: Cavenagh Research, Seeking Alpha