INTERNET: Mogu, China Techs Learn Importance of Profits

Bottom line: Shares of recently listed loss-making Chinese tech firms like Mogu are likely to languish as long as they post losses, but could gain some new life if and when they can show sustained profits.

“Show me the profits.” That seems to be the message coming from Wall Street these days to a group of profit-challenged Chinese tech companies whose shares are languishing following IPOs over the past year. We’ll look at one such case involving online fashion site Mogu (NYSE: MOGU), which seems to typify the trend of shares that have tanked since their recent offerings.

But first we need to start with some broader background about what’s going on with Chinese high-tech IPOs in the US these days. The current wave of such listings not only in New York but also in Hong Kong dates back nearly two years, marking one of the longest-running windows I can recall in the two decades I’ve covered this group.

Before the window opened in late summer 2017, the market had gone for around three years without any major openings. China tech watchers might recall that the curtain unofficially came down on the last window with the blockbuster $25 billion IPO by e-commerce giant Alibaba (NYSE: BABA) in September 2014.

With a backlog of three years worth of companies in the pipeline, the best companies naturally ended up at the front of the line to make listings and got relatively good receptions. It goes without saying that “best” should include being profitable, since profits are ultimately what gives a company its value.

But with the passage of time, most of the best companies had pretty much made offerings by about this time last year. Even before that happened, many companies that I’ll politely call “second-best of class” were already making their way into the market. Most of those had good enough stories to tell in terms of the size of their addressable market and growth prospects.

But the place where this second group lacked was in profits. Most notable among that group are companies from the high-tech education sector, which uses online technology to bring together students and teachers in a wide array of classes and instruction formats. Most of those are losing money, and names like Sunlands (NYSE: STG) and Puxin (NYSE: NEW) all now trade well below their IPO prices since making listings in the current window.

Banking on Fashion

With that broader background in mind, let’s look at Mogu, which is part of a newer generation of e-tailers that combines online selling with other elements to entice buyers, in this case by adding social networking elements. One of my contacts pointed out the company has a close US peer in the newly listed Revolve Group (NYSE: RVLV), which makes for a good comparison.

Whereas Mogu declined sharply since its IPO last December, the opposite has been true for Revolve in the week of trade since its debut. Mogu shares now trade at $3.80 apiece, meaning they’ve lost nearly three-quarters of the value from their IPO price of $14. By comparison, Revolve shares have more than doubled from their IPO price of $18 to their latest close of $40.40.

My contact, who I’ll disclose has ties to Mogu, put together a nice fact sheet pointing out the similarities between these two companies. Mogu actually has far more active customers, 32.8 million to be precise, compared with Revolve’s far more modest 1.2 million. Here I’ll quickly add my view that investors should take these kinds of figures from Chinese companies with a grain of salt, as such companies are famous for inflating such data points.

Revolve does seem to have an edge over Mogu in terms of quality over quantity, since its average order size is $279, compared with a much skimpier $10-$30 for Mogu. That could reflect the common Chinese mindset that more is always better, even when getting to that more means losing money. That bottom line is quite clear in the two companies’ profits. Revolve posted a profit of about $31 million last year, compared with Mogu’s loss attributable to shareholders of more than 1 billion yuan ($144 million) for its most recent fiscal year.

So the bottom line in all this really does seem to be the bottom line. In this case, there’s really just no substitute for profits, which is a lesson that many Chinese companies are learning when they think they can sell Wall Street investors on their big growth stories. That’s not to say that some of these companies may not be good investments over the longer term. But given the volatile and ultra competitive situation in China, plus the obsession with market share at any cost, I too would probably want to see some profits before giving any of these companies serious consideration.