My views on China; New in-depth look at the Chinese company behind Temu; The perils of trying to time the market; My No. 1 travel tip
1) I'm fascinated by China... And in many ways, I'm an admirer.
The country's economic growth over the past half century – in which it has lifted more than 1 billion people out of poverty – is unparalleled.
Its people are hard-working, ambitious, and laser-focused on education. Ironically, in light of the country's communist past, they are capitalists at heart.
Meanwhile, China's history and art are extraordinary.
Overall, I've enjoyed all the half-dozen trips I've taken there, starting in 1992.
But investing there is another matter...
Capitalism in China is the Wild West – I would compare it with the U.S. 150 years ago. I know plenty of people who've been defrauded – and have no recourse. Analysts and researchers who discover fraud have been imprisoned.
And, most relevant for my readers, the percentage of Chinese stocks listed on U.S. exchanges that turn out to be frauds is alarmingly high.
Heck, there's even a movie about it, The China Hustle (available on Hulu), which features some of my short seller friends like Carson Block of Muddy Waters Research who exposed many of the frauds.
So, those thinking of investing in China need to be very careful – or simply do what I've done and put it in the "too hard" bin. In other words, I stay away.
That view is reinforced today by a new article in the Financial Times by Dan McCrum...
He's the brave journalist who exposed the massive fraud at payments processor Wirecard, which was once one of the most valuable companies in the entire German stock market (for more on this, I highly recommend his book, Money Men: A Hot Startup, A Billion-Dollar Fraud, A Fight for the Truth).
In McCrum's new article, The mysterious rise of the Chinese ecommerce giant behind Temu, he takes a hard look at PDD (PDD). The company operates e-commerce platform Pinduoduo and online marketplace Temu.
PDD trades on the Nasdaq exchange and has a market cap of nearly $160 billion, trailing only Alibaba (BABA) as the most valuable Chinese company trading in the U.S. This is despite all sorts of weirdness, which McCrum highlights:
[Why] does PDD look like much smaller peers when staff levels and research spending are compared? Why haven't competitors described the impact of PDD's rise? Why do balance sheet metrics move at a different pace to revenues? How does a $200bn company own less than $150mn worth of hard assets?
These questions add up to a bigger one: why do U.S. investors have so much confidence in an opaque operation whose financial statements seem to lack much pattern or explanation, and whose operations, management, auditors and regulators sit in a distant untouchable jurisdiction?
Later, McCrum continues:
Yet few have promised as much to investors as PDD. It operates like eBay and Amazon's third party marketplace, connecting buyers with sellers to take a cut of each transaction and charging merchants to advertise on its platform.
In its most recent quarter those revenues almost doubled versus the previous year, to $9.4bn, prompting Alibaba founder Jack Ma to exhort his former company to "change and reform" in response. PDD reported $2.5bn of cash flow, even as it appears to throw very large sums at the expansion of Temu.
And as McCrum notes, PDD has a miniscule headcount and physical footprint compared with its bigger competitors:
It has achieved this with a headcount that upends all assumptions about ecommerce logistics: it started last year with 12,992 employees, an order of magnitude less than Alibaba and a small fraction of Amazon's 1.5mn staff...
Where Alibaba spends $5bn a year on property and equipment, including the upkeep of 1,100 warehouses, PDD owns just $146mn of hard assets – mainly office equipment and IT hardware and software...
Staff use pseudonyms and know little about other teams. The structure is flat, with a small group of decision makers directing the "grassroots", young people chosen for their poverty or debt obligations which motivate them to work long hours...
Over 2020 and 2021, PDD reported selling $2bn worth of merchandise without disclosing any stocks of inventory on its balance sheet, or the costs of those goods sold, two standard retail accounting items. Then it stopped selling mystery merchandise as abruptly as it started.
McCrum documents how things got even weirder after the founder left in 2021:
Having lost Rmb27bn ($4.2bn) in three years, PDD reported earnings of Rmb2.4bn ($380mn) for the second quarter of 2021. It was a key moment, as the group had raised $11.6bn from sales of stock and debt that converts into shares to support a spend-now-for-profits-later business model...
[Co-CEO Chen Lei] then announced a plan for the first Rmb10bn of profits to be generated by PDD. He intended to spend it all on an "agricultural initiative" without a clear business purpose...
It is unclear how, or even if, the money was spent. PDD has not subsequently detailed the initiative in its financial statements, which are audited by a Chinese arm of EY, and continued to report profits. Research and development spending that year rose only slightly to $1.5bn in total, similar in scale to eBay rather than Alibaba's $8bn annual spend on product development.
Inconsistent financial statements are another warning flag – here's more from McCrum:
In the blow-out recent quarter, marketing services grew at roughly the same pace they have since the middle of 2021, about 40 per cent year-on-year. But over the same period, transaction fee revenues grew at more than three times the rate of marketing services.
Based on the transaction fee rate PDD reported in 2021, that would suggest an improbable level of activity, making the PDD ecosystem twice the size of Alibaba and on a par with the $2.2tn annual output of the Italian economy.
Instead, PDD must be charging its merchants a lot more. Asked about the trend on a 2022 earnings call, Chen said user engagement had contributed to earnings growth and that "it is common to see fluctuations between quarters"...
A liability still detailed on PDD's balance sheet, meanwhile, signalled a much slower pace of growth for [gross merchandise value ("GMV")].
At the end of September each year from 2018-21, the money "payable to merchants" ranged from seven to nine days' worth of annual GMV. The most recent figure thus suggests estimates for 2023 GMV of $400bn to $500bn.
McCrum raises another warning flag – competitors don't notice PDD:
In the battle of online flea markets, Alibaba's Taobao reported improving take rates and growing merchant numbers last month that hardly indicate obliteration by Pinduoduo. Alibaba's executives have not addressed their upstart rival by name on any of their earnings calls.
Outside China, both eBay and US discount chain Five Below said last year they hadn't seen any impact on their business from Temu. Amazon didn't mention it when reporting results this month...
Lastly, McCrum notes that the company doesn't have a CFO:
Instead it is on its fourth "vice-president of finance" since the 2018 initial public offering, if a period when [Pinduoduo founder Colin Huang] added the job to his duties is counted.
Putting it all together...
This smells like yet another fraud that China has foisted upon gullible American investors (including Wall Street analysts, 53 of whom (out of 56) have a "buy" rating on the stock).
Avoid PDD at all costs!
(By the way, I'm so fascinated by China that I have a personal e-mail list dedicated to it – to sign up, simply send a blank e-mail to: china-subscribe@mailer.kasecapital.com.)
2) I've seen many different variations of this analysis, but they all show the same thing...
Trying to time the market is nearly impossible – and even a tiny mistake is very costly.
For example, over a 30-year period from 1990 to 2019, investors would have earned a healthy 7.7% annualized return from simply holding the S&P 500 Index. But if they missed the best day each year – one day – their returns were cut in half to 3.9%. And missing the best two days wiped out nearly all returns – a mere 0.8% annually.
This post on X (formerly known as Twitter) shows the breakdown:
3) I've been to 12 countries in the past month, so travel tips are on my mind...
This article in yesterday's Wall Street Journal, Airlines Are Coming for Your Carry-Ons, underscores another reason for my No. 1 travel tip – using this rolling backpack, which is only $79.99 on Amazon (it's $69.99 if you have Amazon Prime):
I almost always pull it behind me using the telescoping handle and wheels. But when I'm riding a bike or scooter, I can pull out the straps and wear it as a backpack. It's also remarkably spacious – I've traveled for up to two weeks with just this one bag!
And the WSJ article highlights another time I'll wear it as a backpack: when I'm boarding a plane.
As the article notes, airlines are increasingly stopping passengers and forcing them to consolidate or, worse yet, check their carry-on bags because they're too big or the overhead bins are full.
If I have to check the bag, I don't have access to my computer, charger, snacks, etc. – and face a minimum 15-minute wait at baggage claim at my destination.
To make sure this doesn't happen, I pull out the straps and sling the bag over my shoulder like this (and I have never had a problem!):
Best regards,
Whitney
P.S. I welcome your feedback – send me an e-mail by clicking here.