Meitu – Crazy selfies
Very risky proposition leaves too little on the table.
Meitu has 446m active users but its revenue comes almost exclusively from selling smartphones which is unlikely to convince investors to pay $6bn at IPO.
Meitu was founded in 2008 but really came to attention with the creation of a series of apps that focus on selfies, photo editing, beauty and fashion.
This is because its main app, Mitu Xiu Xiu, has 446m MaUs which has spawned a whole series of related apps that allow for make-up or other adjustments to be made to selfies.
As a result of its huge success in winning users, it has filed for an IPO with the Hong Kong Stock Exchange and hopes to raise around $500m at a valuation of $5bn – $6bn.
This is where the wheels become to come off as in H1 2016 the company generated just RMB585m ($85m) in revenues of which 95% came from the sale of 290,000 smartphones.
Meitu made 20% gross margins on these devices which is line with the rest of the smartphone industry and leads me to believe that EBIT margins on its devices are around 2-4% in the best instance.
On that basis alone we would not pay more than $150m valuation for Meitu but there is the app business to consider.
A user base of 446m is potentially worth a vast amount of money but only if ways can be found to monetise those users.
This is where Meitu is really struggling as it is currently generating RMB0.01 per user per month from its apps or around $8.5m per year.
Edison’s assessment of the Chinese Digital Life pie estimates that the total opportunity is around RMB8.50 per user per month with 100% coverage.
I think that Meitu’s apps cover 17% of the pie giving a total maximum opportunity of RMB1.44 per user per month.
If we gross this up to estimate the maximum revenues Meitu could generate if it executes flawlessly, we end up with a figure of RMB7.73bn or $1.12bn per year.
This could reasonably be expected to grow at around 7-10% per year should this goal ever be hit.
If we benchmark this performance against Tencent, we can reach a blue-sky valuation of $9bn.
The issue is that an IPO at $6bn means that investors are already paying 66% of the best-case scenario which we think skews the risk substantially to the downside.
Furthermore, there are already signs of waning popularity as Meitu’s apps are nowhere to be seen in the Chinese app store charts unless one looks in the reasonably obscure photo and video category.
Consequently, we think that the decision to invest has to be based on an assessment of the management’s ability to execute on the monetisation of its apps and even then we would be looking for a substantial discount to the proposed price.
If we were hugely confident in the management and its ability to execute as well as fend off the threats from its far bigger and more powerful competitors (Baidu, Alibaba and Tencent), we might be convinced to pay a post IPO valuation of $2.5bn.
Given that it raised money in April 2016 at a valuation of $3.7bn, we suspect that the IPO will have to come at a value far above that which we consider fair.
Another IPO to avoid.
Disclaimer - Past performance is no guarantee of future results. Inherent in any investment is the potential for loss. This material is being provided for informational purposes only and nothing herein constitutes investment, legal, accounting or tax advice, or a recommendation to buy, sell or hold a security. This document may contain materials from third parties, which are supplied by companies that are not affiliated with Edison Investment Research. Edison Investment Research has not been involved in the preparation, adoption or editing of such third-party materials and does not explicitly or implicitly endorse or approve such content. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. It should not be assumed that any investments in securities, companies, sectors or markets identified and described were or will be profitable. All information is current as of the date of publication and is subject to change without notice. While based on sources believed reliable, we do not represent this material as accurate or complete. Any views or opinions expressed may not reflect those of the firm as a whole. Edison Investment Research does not engage in investment banking, market making or asset management activities of any securities. The material has not been prepared in accordance with the legal requirements designed to promote the independence or objectivity of investment research.