I am initiating coverage on JD.com (NASDAQ:JD) stock with a “Positive Outlook” and a “Buy” rating. Further, I have a long-term investment horizon.
The JD stock price has declined rather steeply from $32.20 toward the end of July to current levels of around $26. My opinion is that this correction of 19% provides a good entry opportunity. This coverage will discuss the factors that make JD.com stock a potential value creator.
The World’s Biggest Retail Market
In 2019, China is likely to become the biggest retail market in the world. Analysts expect retail sales to touch $5.6 trillion with 35% of that spending happening online.
As the broad market and online marketplace grows, there is immense opportunity for big players like Alibaba (NYSE:BABA) and JD.com.
There are comparisons between these two e-commerce biggies in China. However, considering the market size, I think both players can grow at a robust pace.
My view is underscored by the point that China’s retail market is expected to grow at a CAGR of 10.6% from 2019 through 2024.
Clearly, there is a big market opportunity here. And JD.com stock is well positioned to leverage this growth with an expanding active customer base. In addition, the company has robust logistics, which can help it make strong inroads in under-penetrated markets within China.
Premium Brands Bolster JD Stock
China’s swelling upper and middle class implies more purchasing power and higher demand for premium products.
One of the key trends in the Chinese retail market is the willingness to pay for high-quality products. This has translated into higher demand for Western brands.
According to Bain & Company, Chinese spending represented 33% of the global luxury market in 2018. Further, overseas purchase of luxury goods will increase from 27% in 2018 to 50% by 2025.
This information is relevant while analyzing JD stock because of the following reason: JD.com has been focused on attracting premium brands to its e-commerce platform. Some major international brands that have launched flagship stores on JD.com include AEG, ORIS, Tissot, Zespri, among others.
I see two potential benefits. First, exclusive agreements with premium brands to sell on JD.com will imply sustained growth in active consumers, gross merchandise volume and revenue.
Second, premium brand sales are likely to provide JD stock with higher sales commission. This will potentially expand margins and cash flow in the long term.
It is noteworthy that the company’s profitability has already been improving with scale. The company’s non-GAAP gross margin has increased from 10.8% in 2014 to 14.1% in 2018. As premium brand sales increase, gross margin is likely to trend higher with an ultimate impact on cash flows.
Financial Flexibility and Global Growth
For the first quarter of 2019, JD.com reported free cash flow of RMB 2.2 billion. This implies an annualized cash flow in the range of RMB 8 billion to RMB 10 billion. Strong cash flows provide the company with ample flexibility to sustain robust growth.
It would be interesting to monitor the company’s strategy for global expansion. JD.com has been eyeing Europe and it can be a potentially big market for the long term. The company has already launched in South Korea with Southeast Asia being another growth market for the company.
The key point is that strong cash flows will allow JD.com to look beyond China. Inorganic growth can support inroads in new markets.
Concluding Words on JD.com Stock
Economic slowdown in China is a near-term concern for retailers. However, China is making a gradual transition from a manufacturing-based economy toward a finer balance of production and consumption.
Urbanization, rising standard of living and increasing e-commerce adoption is likely to benefit JD stock. I expect strong revenue and cash flow growth to sustain in the coming years.
Therefore, the current sideways-to-lower movement in JD.com stock is an opportunity to accumulate with an initial investment horizon of 24 to 36 months.
As of this writing, Faisal Humayun did not hold a position in any of the aforementioned securities.
