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What's So Special About the Latest Chinese IPO Pinduoduo (PDD)?

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The latest in a series of Chinese IPOs, Pinduoduo PDD made its debut last Thursday, listing as an ADR on NASDAQ and closing up 40.5% from its initial price of $19 per share. Investors are buzzing with excitement about Pinduoduo, but sentiment has since cooled down.

A Lot Can Happen in 3 Years

Pinduoduo is founder and CEO Colin Huang’s fourth startup. Since its inception three years ago, the platform has amassed an active user base of over 340 million, larger than the entire US. To get a better idea of the app’s business model, one can think of it as the Chinese Wish.com, an ecommerce platform that seeks to offer decent quality products for a very cheap price (also read: LeBron James and 2 Other Reasons Investors Should Care About Wish.com).

The application is backed by Tencent TCEHY and offers extremely low-priced products aimed at discerning consumers in less developed regions of China. Product offerings range from home appliances to groceries, and discounts can run as high as 90%. Pinduoduo sells many products in bulk, such as a 10-box bundle of tissue for $1.90 and bedsheets for $1.50.

PDD maintains a direct-to-consumer model that keeps shipping prices and bulk orders cheaper. According to data from research institute Jiguang, 56% of Pinduoduo’s users are located in cities at or below tier 3. China utilizes a tiered system that divides its cities into four categories based on GDP. Large metropolitan areas like Beijing and Shanghai fall under tier 1, while tier 3 and 4 cities are smaller economies.

Pinduoduo’s rapid growth has been possible thanks to aggressive social media sharing campaigns. Another key factor is the company’s use of group-buying, a concept which will remind many investors of Groupon (GRPN - Free Report) . For those unfamiliar, group buying refers to the practice of offering products at a specific price point provided a minimum number of users make the purchase.

PDD’s annual gross merchandise volume reached $14.7 billion in just 2 years, a feat which took Alibaba BABA subsidiary Taobao 5 years and JD.com JD 10 years, according to TechCrunch reports. PDD currently boasts an annual gross merchandise volume of $38.5 billion, representing an astounding 600% year-over-year growth.  

Plenty of Work Left to Do

Although Pinduoduo’s momentum has been startling, the platform is not without its issues. The company has faced numerous complaints domestically about the quality of its products and the numerous counterfeits listed. While PDD has boosted investments to curb the issue, more needs to be done. The company also saw a complaint filed against it in a New York federal court in the days before its IPO. A diaper maker under the name Daddy’s Choice, which is based in Beijing, alleges that Pinduoduo is selling a counterfeit version of its product.  

Investors should also note that PDD is not yet profitable. The company saw a net loss of $29.5 million the first quarter of 2018 alone, bringing it on track to post its largest full-year loss yet. It had previously doubled its losses to $77 million in 2017. While it isn’t uncommon for new IPOs to be unprofitable, the current trend reflects PDD’s high price of traffic acquisition, which is worth monitoring.

In response to PDD’s discount model, Alibaba and JD have released their own discount applications. Pinduoduo will thus need to put the $1.6 billion it raised through Thursday’s IPO to good use as it fights these giants.  

Outlook

It seems the concerns are piling up as the market learns more about Pinduoduo, with shares having lost 19% from Thursday’s closing price of $26.70. But CEO Huang is optimistic, writing in the IPO prospectus that he sees company’s next stage as “a combination of Costco and Disneyland.”

According to Pinduoduo’s annual consumer rights protection report for 2017, it removed 10.7 million problematic product listings and blocked 40 million suspicious external links. The firm also created a $22 million fund to handle after-sales disputes.

PDD’s next earnings release will be a better indicator of next year’s outlook. While now may not necessarily be the best time to make a play, Pinduoduo could be on track to establish itself as the next big fish in China.

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