 Good day fellow investors. Let's analyze JD.com. The online retailer in China that many think is the Chinese Amazon but then on the other hand others say that it will never reach Amazon's potential growth because it doesn't invest that much into technology. So we are going to go through my three years of notes on JD's conference calls to get really a good vision on what the management is doing, how are they delivering on their promises and what is the real potential for the stock? Is it the next Amazon or not? Then we're going to dig through the most important issues that bother the stock at the moment and develop an investment strategy for the long term to see how to position yourself or how to position JD in your portfolio. At the end you should have a good comprehensive objective overview of the risk reward when investing with JD. These are the key pillars to look at when looking at JD. Also the key pillars but also what we're going to discuss today, competition with Alibaba, collaboration with others, Tencent, WeChat, growth, how it is slowing down but still strong online to offline strategy, the technology, automated delivery, etc., margins. What's the possibility of improving those margins of making them sustainable strong over time? My earnings models, growth rates, target prices, value, present values for the stock, the bear thesis, the short thesis, JPM and Asian analysts, what are they saying? Investment strategy, my approach to JD and other Chinese stocks and then comparison, a short model comparison to Alibaba. So let's start by going through an overview of JD by discussing what has the management said during the last three years of the conference call notes that I love to listen because then you really get a feeling about the company, the stock and what the management is doing. So from 2015 it's very interesting that they close the C2C platform, PiPi, that they bought from Tencent due to too much trouble with counterfeit items and this also shows JD's strategies. They are investing and they will see what will they be able to leverage on their platform or not. So nothing, not everything will be a win, there will be misses but we'll see how much will that influence the company. They also invested in BitAuto with Tencent, one billion and that also didn't develop that well. Then they have investments with Google, Walmart for the global expansion but also they invested into Walmart's part. They're in China, they bought them out, paid in equity, Walmart insisted to get the equity so that was very interesting. They now have invested in Farfetch, the online luxury global retail is going to be listed I think today or tomorrow. So another investment where JD has collaboration with then they say that they will open 1000 convenience store, 1000 of them per day in order to reach one million convenience store as they spread around China. Not much of that is going on as the model probably hasn't yet taken traction but it is something the management is thinking. However be careful with the promises because those promises were made a long time ago and nothing yet has happened there. Also they are targeting the same customer that Alibaba has so given there is a competitor in the market with a larger user base they think it will be easier to grow as Alibaba teaches consumers to use and buy online. Their quarter they have 266 million active customers, very valuable middle class and upper middle class customers. So there are a lot of buzzwords, one million shops in China, global strategy, global growth, profitability with their logistics but I have been hearing those buzzwords for already a while. This doesn't mean JD is bad or missing. We have just to put things into perspective and be objective. Let's dig deeper, let's dig into the growth. So the key point for the growth strategy is combination offline, online and they want to get to the market leadership position to grow margin because of economies of scale. So the key drivers of growth are technology, ticket size and talent. However the growth has been slowing down, now it is expected to be between 25% and 30%. 2015 it was above 40% so it's really slowing down and they have had some issues already in July from the conference call but they are happy that it is getting better in August. We will see how will that reflect Q3 earnings. Just to note on the growth they have started and invested a lot in the apparel business but Alibaba simply shuts them down. They told the merchants that if they want to be on Alibaba they can't be on JD and a lot of them simply switched to Alibaba and you might say it's unfair, you might say it's fair but really Alibaba is the dominant player and JD is gaining market share, is gaining traction but it's not that easy. So Alibaba is the Amazon, not JD. That's something we have to accept objectively. Let's see further what is the potential for JD and the key is by looking at the margins but before that let's look about the technology. So JD has said that they will have drones for their delivery, here we have one, here we have another one drones technology investment etc etc. Oh these are from ZTO and Alibaba. So when you hear another buzzword technology, artificial intelligence, big data and when you hear those buzzwords in China every company is investing in that, everybody. So it's not a competitive advantage, it's a competitive must where you have to invest, where you have to have it without that you are dead in China. So don't think and this is so cool, everybody has it, everybody is doing it and everybody can copy the other people in a second. So that's China and accept it. Forget about competitive advantages. So let's talk about margins. Simply go to the conference call, this is a transcript. So they don't give on the short term but the Sydney Huang from JD says, I think medium to long term comparing their margins with other offline retailers, their margin is still lagging behind on average roughly 10 plus percent. So that's the opportunity. Then on the expense line they hope to scale everything and bring the JD mole expense ratio to the top of online retailers in China because they can do things more efficiently than their competitors. And then the goal is for the management to first party, net margin should be at least similar to the best offline retailers, which traditionally ranging from three to five percent. If you consider the more competitive environment, you'll take a haircut, you'll still get two percent to four percent. And then on top of that, you have the marketplace business, which has good benchmark in China. So the management targets, if you listen to the conference calls, they always saying long term, long term will reach two to four percent net margins. But they are not reaching that and they are constantly investing to keep the net margins close to zero, negative 0.51, 1.5 was the maximum when the stock price was exploding. And then again down. So a very, very tough, highly competitive environment with razor fin margins. That's extremely important to understand. JD is a retailer, online retailer with razor fin margins because the competitive environment is very tough. And the question is when will the management reach those targets of two, three percent net margins that will make the company sustainably profitable? Because they are promising that their goal is not short term margins. They are sacrificing those in order to reach long term constant growth with margins by being the leader in a sector leading in the environment so that they can keep the margins higher. For now it's not succeeding because others are also playing the same game, but Alibaba is having better margins. So something to keep in mind. What scares investors? It's the non-linearity. So as they say, if there is an excess in margins we might put the excess return back into the business so lower the margins to pursue future growth. The goal is to make sure that margins will increase steadily over a very, very long period of time. And this hasn't happened lately over the last few quarters. There has been a slow, constant increase in margins for the past three years, 0.5% per year. And then in less few quarters the management said, oh, we're going to postpone the growth, the profitability for later. And that's what really crashed the stock because investors get scary and they say, okay, if they postpone it for later, when and is it ever going to come? Because that promise of constantly increasing sustainable margin has been broken by the management. Further, if you look about logistics, everybody says that they have the best logistics in the market. But if you look at what the management is saying, they firmly believe that JD logistics will transform from a cost center to a profit center over the next few years. So all the other logistics are very profitable. I made a video on ZTO Express, but JD isn't yet and everybody is investing, everybody is competing. So when will they become profitable? The management was announcing that they will be profitable from day one, which isn't the case at the moment. So that's another thing to think about. They are expanding, they have increased their warehouses from, I don't know, 2.5 million square meters to 12, 10, 12 million square meters. They have been opening warehouses one day over the past year. So it's amazing what they are doing. The question is, when will they be able to scale that? And that's always, okay, when we go to margins, when we go to competition, razor fin, how will they, when will they be able to monetize that? The management isn't giving any guidance and that's what's carrying the market. But there is some, it's something to keep in mind because I think that somewhere in the future they will manage to reach those margins and that will be your return if you are investing in JD. But more about that in the later part of the video when we discuss the strategy. Further, there's something important, hidden value. They have over 2.5 million square meters of logistic properties that they actually bought at a very low price they are getting from the government. So they can sell those, lease them back and get a lot of value unlocking from the balance sheet because it's low value on the balance sheet because they buy it for cheap. Now let's discuss the margins and put them into an earnings model. So the target margins 2 to 4% net margin. So that's something I have to put on the revenue, put revenue growth between, I don't know, 15 in a bad case, 25, 30% in a good case, put it in an earnings model and see what comes out. But the problem is I'm already estimating 3% net margin or 2% you'll see in the model. If that doesn't happen, then everything falls apart for JD. So the key is that the management has first to deliver on the margins and then we can estimate the value of JD from that perspective. So the revenue is 61 billion dollars growth 25% per year. Let's assume over the next five years earnings at 2018 at 3% net margin would be 1.83 billion. Number of shares outstanding 1.5 billion earnings per share at 3% margin would be 1.26. So I'll be using a 3% margin to start with because that is what the management expects and probably they will hit it somewhere in the future. And that's the key to watch as an exit strategy from JD because then you can put it in a model and see okay what's the buying price, what's the selling price. So if there is growth at 25% per year over the next five years and we put the price earnings ratio of 15 on 2023 earnings I expect a 15% yearly return from investing anywhere and especially in China now therefore the discount rate at 15 I get that the stock is undervalued. From that perspective the present value is 28 and the current stock price is 25. This should deliver a 15% return if the management hits the 3% net margin somewhere they will. If there is a slowdown in China due to trade wars economy whatever let's say JD gets to 15% growth rate and we slash the price earnings ratio to 10 which is not unusual for Chinese companies the stock is severely overvalued the present value is 12.60 compared to the current stock price. To be fairly valued at 25 dollars which is the current stock price the company has to first reach the 3% net margin then grow at 22% per year over the next five years and have a PE ratio of 15 in 2023. So the question is will the management hit those margins what will be the valuations given the non-linearity in margins I think that they will hit it somewhere sometimes but it will not be sustainable but from an investing perspective you have to buy on the bed and then sell on the good news. Let's see the bed let's see the bear thesis to see to know a little bit more about JD and that it isn't such a long-term powerful investment but can really be a buy-cheap sell high play. So first JD thinks after getting its most bearish target on Wall Street from JPE Morgan JPM slash target from 37 to 25 on the back of slow and gross merchandise value growth lighter margins and accelerated investments however JPM is really slashing here on the short term because that's what the company said we're going to increase investments lower margins for a while in order to improve margins later so typical analyst behavior they slash the price after the stock has fallen that's I hate that analyst behavior but that's JPM let's go into a better bear thesis from an Asian analyst from an Asian hedge fund manager that really trashes the business model of JD something to keep in mind before investing. So smoke and mirrors the JD come story this was 30th May of 2018 JD had 20 buys eight holes and just one sell probably his sell so his conclusion is that there is nothing magical nor differentiated about its business franchise to suggest it will be able to make a profit in the next five years and justify the current market cap. The huge amounts of capital raised have been recklessly deployed management actions do not suggest that they believe in the success of their own company. Let's see what is that discussion about if we look at the prices of electronics which is the most sold item on JD we can see that other competitors are there in the price so it's all about logistics and same day delivery but the Chinese consumer is really worried and focused on prices so it's not an easy environment to compete in so JD doesn't have a pricing environment and prices are already higher than on other platforms so that's one issue. Further on the capital raised JD raised almost 11 billion in capital since the IPO since 2014 so that's a lot of money but their capital has been recklessly deployed pi pi acquisition bit out acquisition impairments one billion there the Walmart acquisition paid a lot in equity but will that be impaired too we will see so a year later than the announced there has been no JD convenience store yet when JD logistics was spun off Richard Liu said that it would be profitable from day one and will seek a separate listing that isn't didn't come so it's still a cost JD has told investors that they are the Amazon plus Walmart and hence its potential has been unappreciated the thesis is that Amazon has Amazon web services prime Alexa Amazon go Kindle media video whilst JD has none of those this just to difference between investments property plant and equipment with Amazon 50 billion with a cumulative depreciation of 20 billion versus JD 1.9 billion and 160 million already depreciated so we have the bull thesis and the bear thesis bull thesis I think both will be right the JD model isn't sustainable in the long term can you make money by investing in JD yes because they will hit those margins at some point in time they will do something just to improve the stock price maybe issue new shares get new capital because it's a very very highly competitive environment whatever they do Alibaba is a step ahead of them and they are really competing in a highly razor thin margin environment so there is value they are building very their network has value which means that the stock will be very volatile so you have to put things into perspective from an investing strategy how am I going to approach investing in JD if I want that to be my exposure to China so my strategy is I'm looking at the complete Chinese stock market JD will go on my watch list for now I'm not going to buy now because I'm still comparing with other hundreds of companies that I'm analyzing in China that's what I'm doing for my stock market research platform so every day I analyze one or two stocks and then add one or two days for the in-depth analysis and what I see that JD when I put that into comparison is a good potential investment but doesn't have really the margin of safety that I'm looking for yet at the lower price it might have however it might spike to 17 the next few years so if you want to invest in that be sure to have a strategy okay what if it goes to 20 what do I do what if it goes to 15 what it if it goes to 10 and then spikes back be ready to make volatility your friend that's the best way to invest in JD and in many other Chinese companies so if they manage to get an average net profit margin of just 2% then the earnings are slashed down at the price earnings ratio of 15 we get a target price of 16 a fair value so that makes JD extremely overvalued add a valuation of 10 that many extremely profitable Chinese companies have and you get to a present value of just 11 for the stock so fair value low range of 11 the stock is already down 50% it might go again 50% down given the volatility in the Chinese market and everything going on with the mumbo jumbo trade war so compare the risks that similar Chinese stocks offer see at what point JD is overvalued undervalued here a comparison with Alibaba that if Alibaba grows at 40% at the price earnings ratio of 15 then the stock price is undervalued the present value is similar to the current present value JD has been growing lately at 30% Alibaba at 60% so Alibaba is really exploding globally is the market leader so you might want to see how that fits your portfolio on the portfolio investment strategy in China I think the exposure has to be between 10% when things are good in China and 30% when things are bad in China because whether we like it or not China will be the dominant economy in the next few decades so you have to have a portfolio exposure but be sure to manage it carefully by buying low and selling high not doing the other way around 2007 it was high 2009 10 it was cheap then it was high in 2014 2016 it was again cheap and now it's getting again cheap again so exposure should be increased but carefully select which stocks you are going to invest in I'm going to compare JD as you have seen on the table with many other companies and then I'm going to decide okay what will be my exposure to China on the positive side and I think it will happen if JD grows at 22% and I attach a valuation ratio of 20 on a profit margin of 3 which when JD hits that 3% net profit margin will create extremely positive market sentiment the present value of the stock is at 43 and the stock price in 2023 is 68 so if you invest now in 25 you can expect somewhere in the next five years that the stock price hits 50 60 70 and that's an investment strategy however you have to be open for the downside nobody knows when will the management hit those margins that's the key that's the key to watch but the only way to invest in JD is accept the volatility make volatility your friend it's the second player in the market it has value JD Walmart Google are invested there it's expanding it's growing the margins will be volatile non-linear so you have to expect extreme volatility because as you see analysts don't like volatility don't know how to model volatility so that's something you have to be ready for when investing in JD will the stock go to 50 60 probably in the next five years so that's a positive will the stock go to 20 will the stock go to 12 I don't know but given the sentiment in China if there is slowed down in the economy if there is more trade wars if there is more selling it can go to 12 so that's the range you have to keep in mind when investing in JD will JD go bankrupt positive cash flows I don't see bankruptcy or similar issues will they leverage on the logistics but yes but they will have extreme competition razor fin margins industry that's something to keep in mind thank you for watching looking forward to your comments I'll see you on Friday after the US market stock closes with the long-term fundamental stock market news see you in the next video