Crisis Creates New Tech Leaders
Timothy Fung, Head of Equity Advisory, Asia
In our September issue, we pointed out that that China technology stocks are rightly correcting a tactical overshoot. The Hang Seng Technology Index ended up correcting approximately 12% from peak to trough (Diagram 1).
We reiterate our view that the current weakness is an opportunity to pick up exposure as we remain bullish on the long term structural trends within the sector. Overall we do not think valuations are stretched, especially when compared against earnings growth potential.
DIAGRAM 1: HANG SENG TECHNOLOGY INDEX CORRECTED AS MUCH AS 12% IN SEPTEMBER
Why do we prefer these Tech sub-segments – Ecommerce and Food Delivery, Mobile Gaming, eHealthcare, Fintech?
The Covid-19 pandemic has been rocket fuel for adoption of new internet services, from online groceries, food delivery, eHealthcare, and fintech to online education, creating exciting new investment opportunities, and boosted by the world’s largest 5G network rollout. Let us discuss why we prefer these sub-segments in turn.
Ecommerce and Food Delivery
The pandemic has accelerated online migration of shoppers and merchants. China ecommerce penetration jumped to 30% of nationwide retail sales in 1H20, the highest rate globally, and may hit ~40% by 2026, driven by livestreaming, new categories (eGrocery and eHealth) and new markets (lower-tier cities).
Livestreaming has made shopping fun, and gross merchandise value (GMV) in this segment will likely double in 2020 (Diagram 2).
eGrocery and food delivery demand surged amid Covid-19 (Diagram 3) and we expect each market size to grow rapidly in the next few years as shoppers are likely to avoid crowded wet-markets, supermarkets and restaurants. More users now visit online than offline supermarkets.
DIAGRAM 2: CHINA LIVESTREAMING GMV
Source: iiMeIDA, CLSA, as of September 2020
DIAGRAM 3: CHINA RETAIL ONLINE PENETRATION BY CATEGORY
Source: Euromonitor, CLSA, as of September 2020
China food delivery gross transaction value (GTV) grew at a phenomenal 51% 3-year compound annual growth rate (CAGR) to RMB578 billion in 2019 (Diagram 4). It was hit hard by the Covid-19 outbreak initially, but since lockdown measures were lifted, food delivery platforms have seen strong user activity recovery.
DIAGRAM 4: CHINA FOOD DELIVERY GTV
Source: iResearch, CLS0, as of September 2020
1H20 has seen acceleration in mobile gamer base expansion as the lockdown has helped reactivate dormant players. Mobile game revenue growth stayed strong at +28% year-on-year in 2Q20 (Diagram 5), despite traffic normalisation post work/school resumption, suggesting not only an expanded gamer base but also an improved engagement level and paying penetration. We remain positive on the sector, thanks to the structural tailwinds on an expanding gamer base, with medium-term upside from further monetisation of popular IPs (intellectual property).
DIAGRAM 5: CHINA MOBILE GAME MARKET SIZE
Source: Credit Suisse, as of September 2020 The above chart is for reference only and does not represent current or future performance.
Recent geopolitical tensions have led to concerns on overseas expansion plans of Chinese online game companies. At the current stage, direct revenue exposure to the US is small. Yet global aspiration of leading Chinese developers remain unwavering, and we stay confident in them getting a larger share in the global market, notably in markets like Japan and Korea, underpinned by their leading mobile game content and operational capabilities.
eHealthcare is reaching mass adoption and an opportunity with a long runway given the inadequate healthcare system and a rapidly ageing population. China healthcare system still heavily relies on public hospitals especially top rated Class III hospitals which make up only 8% of hospitals nationwide but account for 40% of beds and handle half of the country’s patients. Long waiting time, cross province travel and high out-of-pocket expenses have been persistent problems. The ageing population and the Covid-19 pandemic have pushed the government to accelerate healthcare reform to provide affordable and accessible healthcare services.
The State Council initiated its “Internet+Healthcare” policy in late 2018 but relaxed regulations further amid the Covid-19 pandemic, such as issuing more internet hospital licenses, allowing prescription drugs to be sold online, and for online healthcare services to be covered by social health insurance. Current online medicine sales penetration is at only 3.3% as of 2019, representing a large opportunity for all online players (Diagram 6).
DIAGRAM 6: CHINA ONLINE PHARMACY GMV AND PENETRATION
Source: Frost & Sullivan, Bloomberg, as of 2016 The above chart is for reference only and does not represent current or future performance.
Fintech services are riding a boom driven by rising disposable income/demand for financial services, underserved markets by incumbent financial institutions and rapid online adoption. China already has by far the world’s highest ePayment adoption at approximately 40% of consumer payment transaction (Diagram 7), well ahead of 7-15% in advanced countries. This lends well to a rapid adoption of fintech especially given that consumers are already using so many of the other services provided by the duopoly in China’s ePayment market, which have a combined approximately 95% share and deep moat. Financial services (wealth management products, loans, insurance) and technology services (biometric identity verification, blockchain etc.) are next growth engines with high margin.
We think investors underappreciate the breadth and depth of internet giants’ exposure to key fintech segments. Given many leading fintech companies are yet unlisted, a good way to play this theme is via internet giants with significant fintech exposure.
DIAGRAM 7: CHINA ONLINE PENETRATION OF FINANCIAL PRODUCTS
Source: CLSA, PBOC, CBIRC, AMAC, company data, Payment and Clearing Association of China, as of September 2020 The above chart is for reference only and does not represent current or future performance.