BITAUTO HOLDINGS LTD -ADR BITA
January 23, 2019 - 9:32pm EST by
flubber926
2019 2020
Price: 17.33 EPS 2.5 3
Shares Out. (in M): 71 P/E 2.45 2
Market Cap (in $M): 1,237 P/FCF 0 0
Net Debt (in $M): -800 EBIT 0 0
TEV ($): 437 TEV/EBIT 0 0

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Description

BitAuto

BitAuto is a leading provider of internet content and marketing services for China’s automotive industry. Through it’s Yixin subsidiary (47% owned and consolidated) the company is also engaged in e-commerce related automotive financing.

The company was founded by Mr. William Li in the year 2000 and has been chairman since 2005. Tencent Holdings, Baidu and JD.com are all significant shareholders in BitAuto, and its Yixin subsidiary (where prior to it’s November 2017 IPO the three companies invested US$550 million cash).

BitAuto’s LTM revenue growth is north of 15% in their subscription (advertising) business and north of 40% in its transaction (auto financing) business. The underlying business is doing very well and growing rapidly. This is not a broken business model by any means in our opinion, quite the contrary. It is a neglected stock but we believe that because of a multitude of factors that might well change soon enough.

We believe this company has many of the characteristics we’ve seen in multi-bagger stocks. Namely good management with sound capital allocation skills, a strong competitive position, high barriers for new entrants, a very large addressable market, strong (and improving margins), revenue growth and a low multiple. The point being upside is large enough but nicely, downside seems very limited. A good combination to have.

 

As a starting point, I’ll begin by addressing the company’s current valuation (all figures in USD):

 

Current price $ 18

Market cap $ 1,300 million

Un restricted cash $ 800 million

Yixin market cap (47% ownership) $ 806 million

Value ascribed to BitAuto core advertising business ($306 million)

 

As seen above, the market is valuing BitAuto’s core advertising business (which will produce at least $150 million in cash this year) at a negative $306 million. 

Another way to look at this is the following- if we value Yixin at zero and the restricted cash BitAuto has at zero as well, we’re paying US$500 million ($1.3 billion market cap less US$800 million unrestricted cash) for an asset that generates US$150 on their advertising and subscription business (with depressed margins), meaning we’d be paying roughly 3.5x 2019 depressed P/E.

 

BitAuto’s main competitor in China is Autohome. (ATHM, US listed). ATHM (down 40% from it’s 12 month highs), trades at a forward 6.2x revenue and 19x EPS multiple. We believe BitAuto is a much better business than Autohome overall and that it’s Yixin subsidiary provides great upside optionality that ATHM doesn’t currently have. Having said that, if BitAuto where to be trade at ATHM multiples, its shares would trade for $35 on an EPS basis and $70 on a revenue basis. Versus it’s current price of $18 per-share.

It is our belief however that BitAuto should command a premium multiple to ATHM for the reasons we’ll discuss later on. The point we’re trying to make is that downside appears limited on any angle we might find. Immediate upside could be 2 to 4x from here although we believe the secular thesis is so strong, our medium to longer term potential upside is in excess of 10x the current price.

The bear case for both BitAuto and Autohome lies in the challenging economic environment currently seen in China and the effects the latter has caused on overall consumption and specifically auto sales in the country. 

We believe China has many levers to pull and that these economic reality could begin to change sooner rather than later (we need to consider that China has been significantly slowing down for a full three years now) and that the Chinese secular growth story is not at all broken. Having said that, for this thesis to work (given the large extent of undervaluation) even a mild recovery will do in our opinion. However, this is by no means a macro call. BitAuto has been able to manage through these difficult times (and consistently grow) given the strength of its business model. We believe the company has enough scale now and that BitAuto 2.0 is a rapid expansion in its profitability.

Not only are we getting paid right now to take on the very profitable advertising and subscription business. If we were to value Yixin at zero and forget about the restricted cash on the balance sheet, I believe this company (on its subscription business) will be able to generate profits of somewhere between $5 per share in the next two or three years (street estimates for 2019 are $1.80 per share, we believe the actual number will be closer to $2.5 per share), thus implying we are now able to buy BitAuto very profitable subscription business at close to 3.5x 2022 earnings and get the optionality implied in Yixin (the financing business) for free.

 

The write-up is structured as follows:

 

  1. BitAuto business
  2. China’s Auto Advertising business and trends
  3. China’s emerging Auto Financing business and the Yixin opportunity
  4. BitAuto versus Autohome in the AdTech business
  5. BitAuto competitive advantages
  6. William Li’s background
  7. Ownership of BitAuto and potential catalysts related to this
  8. Consensus expectations and why we believe they will be revised upward
  9. Why is the stock so cheap?
  10. Valuation scenarios
  11. A timeline of possible near-term catalysts that should lead to a re-rating of BITA

 

 

BitAuto business

 

Let’s begin by stating that this company is not stagnant at all. Revenues have grown at a 42% pace for the last eleven years since 2007. They’ve been able tosuccessfully position themselves as one of the two Chinese companies (the other being Autohome) that lead the auto related advertising space in that country.

 

The company has two business lines:

Advertising and subscription business (which includes their Digital marketing solutions business)

Transaction services business (auto financing through Yixin)

 

Let’s first delve into the core advertising and subscription business (roughly 50% of the business with LTM sales of RMB 5.4 billion or USD $818 million.

In this business little growth is expected in terms of growing the dealer base. BitAuto covers 19,000 independent automobile dealers (serviced by 30,000 salespeople) and Autohome has a similar base. Penetration in the dealer base is already higher than 80%. Although penetration can grow, we believe it will be marginal and that the dealers with the best economic proposition are already serviced by both companies.

 

Going forward growth will come by a combination of two factors:

  1. Servicing the 100,000 “unauthorized” dealers in China 
  2. Pricing and added value services to existing dealers

 

We believe BitAuto has the stronger hand in both respects, compared to Autohome.

The “unauthorized” dealers are very important since they contribute around 40% of China’s new car sales.

BitAuto has the first mover advantage here with respect to the competition. The company began targeting this base early last year and has now over 20k of the total 100k dealers as clients in a special targeted product. Important to mention that product/subscription is yet to be monetized. The company currently charges nothing to these dealers. The strategy was to enroll them, let them see the added value partnering with BitAuto would mean in terms of sales conversions, grabbing share and later on monetizing that new client base. BitAuto has always said they’d find ways to begin monetization of this set of dealers in calendar 2019. We believe this is a huge growth driver in the Ad&Subs business and have yet to see any estimate from the sale side from segment contribution here.

To be fair, Autohome has also begun to look into the “unauthorized” dealer opportunity, but they have an important 12 month or so lag versus BitAuto. Needless to say not all of the 100k dealers are the same size or have the same potential. BitAuto has captured 20% of the base in under 12 months but that 20% is the higher value dealers in their opinion.

BitAuto generates average revenues from its current dealer base of $3,800 dollars per month. If the company were able to monetize a quarter of that in the new “unauthorized”  segment, that’d imply 25% earnings growth by itself. However as said, they’ve only just captured 20% of the relevant market. We believe saturation will be closer to 75% of the market so there’s room to grow here. Point being they’ve clearly secured the first mover’s advantage.

With respects to pricing of their subscription packages, we believe the company is successfully conducting a two-fold strategy: Encouraging their dealer clients to upgrade to their “premium” subscription package (which is pricier but at the same time allows for much more functionality, targeting and ultimately better conversion) and also continuing to innovate in further upgrades and add-ons to their offering that will also be eventually monetized.

Just recently, news broke that a group of influential dealers terminated their business relationship with Autohome due to price hikes the company was taking. Of course, dealers, are suffering themselves the soft economic conditions prevalent in China, and selling less cars. I believe both internet verticals (BitAuto and Autohome) have some leverage on pricing due to many factors- namely their scale, the conversion improvement they achieve versus other forms of advertisement and the low subscription price compared to the dealers total expenses. Having said this, nobody appreciates price hikes however good a platform when the dealers are having a tough time themselves. 

It is my opinion that BitAuto is navigating these difficult economic times in China in a much smarter way. Instead of following Autohome’s path (and risk the relationship with their clients long term) they are instituting gradual price improvements as new high value services are provided to the auto dealers. If the auto dealer cannot justify the added cost in better conversion or sales, BitAuto is not hiking prices on their existing subscription. 

In this respect, the collaboration of BitAuto with its important shareholders (Tencent, JD and Baidu) is of utmost importance in our opinion. The “big three” online players in China have ample resources and technology that they are actively sharing with their partner and thus, I believe BitAuto has a resource advantage which is unparalleled in the online auto related business in China.

Turning into the Transactions services business, serviced by BitAuto’s (47% owned) Yixin, we believe this is a great business to be in and was a great early move by BitAuto’s management. To be clear, others including Autohome, are following but because of Yixin’s early lead we believe they are quickly securing market share (#1 position) in the fast growing independent auto financing business in China.

 

Allow me to provide some history on Yixin itself.

Going back to 2015/2016, Yixin was just starting as a company and they were able to obtain a “financial guarantor company” license, which was essential for Yixin’s business but because of BitAuto’s long running history of revenue and profitability required the parent company’s help in order to eventually obtain. (more on this later)

Having said that, in the meantime Yixin has grown significantly in loan originations, a USD $550 million capital infusion from (JD, Tencent) was made and during late 2017, was followed by an IPO where the company sold 14% of its capital at a price of HKD7.70 per share, the 8th most oversubscribed IPO in any China related company (560x oversubscribed) which at the offering price valued Yixin at USD$6.5 billion.

Fast forward to today and Yixin (2858 HK) trades at 25% it’s offering price, which currently value the company at USD $1.6 bn.

The obvious question is what happened that caused this 75% drop in Yixin’s share price?

We believe that the risk of further regulation was the main case (more so than any economic weakness in China since Yixin has been grew at a 45% pace last year).

Just after Yixin IPO’d new regulations designed to rein in the online lending sector came into effect in China.

Beijing made a priority to better regulate China’s shadow banking and lending sector, amid skyrocketing personal and household debt levels (unsecured consumer lending via Chinese online platforms more than tripled in 2017 to US$140 billion). Part of the new policy has been the creation of a multi-department state body “tasked by central government to rein in risks in the internet finance sector”.

Late 2017, again just after the IPO, the regulatory body issued an urgent notice to provincial governments urging them to suspend regulatory approval for online microlenders, an action that was widely perceived to be a precursor to a wider set of controls.

The news sent shockwaves through the sector. How “micro-loans” will be regulated going forward isn’t yet clear, but the rapidly growing auto financing sector certainly took a hit due to the added uncertainty.

When asked directly about the risk and uncertainties this new government actions might present, Yixin Group’s CEO Zhang commented that the policies for regulating the financial leasing and auto financing sector were already in place and that the new regulations targeted “cash lending”. 

Fast forward 13 months or so and apparently Mr. Zhang was right. There have been no indications from Beijing that they view the growing online auto financing sector as a “bubble” or so. Meanwhile Yixin grew its revenue base by over 45% in calendar 2018 in our opinion. Not only that, but how revenue grew is important. 

Let's go back to the guarantee that BitAuto has on Yixin (which we believe is an important part of the reason of the valuation disparity vs. Autohome): BitAuto’s CFO clearly stated during the company’s Q12018 conference call the following:

“The agreement will go on as when- Yixin has grown to the point where they’re able of taking over that license. BITA will allow Yixin to transfer this license over to Yixin. I think the timeframe that’ll probably happen will be sometime in 2019, but regardless, moving forward, the majority or almost all of Yixin’s loan facilitation business, will seek out a third-party instead of this particular company”.

Yixin’s strategy since its beginnings was to migrate as much of its business to “third-party” loan facilitation vs. a self operated financing business. Scale was needed and now we’re well onto the implementation of that strategy.

To put this in perspective, in the third quarter of 2018, Yixin facilitated 123,000 financed automobile transactions, with an aggregate loan amount of RMB 9.8 billion (approximately USD $1.5 billion) through its loan facilitation services (third-party) and the self-operated financing business. Yixin’s third-party loan facilitation transactions contributed approximately 24% of the total transaction volume up from 19% in the previous quarter.

Importantly, the company guided to third-party loan facilitation of 40% which is indicative of the traction they’re being able to achieve. Our conversations with the company suggested that the actual third-party loan facilitation will actually exceed that 40% target during the fourth quarter, and they are targeting a full 50-60% of 2019 auto loans to be facilitated through third parties in 2019.

We believe the latter is of utmost importance for BitAuto and Yixin to be correctly valued in the capital markets. The reason is  twofold: 1. Third-party loan facilitation is much more accretive to earnings (25% margins vs. 17% margins in the self-operated model), 2. As more loans are driven through third parties, gross and operating margins increase and finally, perhaps most importantly, 3. The credit risk perception in BitAuto decreases. We actually believe there is little credit risk (as seen by the 180 plus days past-due ratio of 0.53% in Yixin’s self-operated finance business as of the third quarter. In any event, as loans run-off, the USD$ 500 million cash that BitAuto maintains in its balance sheet as restricted cash, should become unrestricted and push the overall cash position to USD$1.3-1.4 billion soon enough.

Street estimates for Yixin in 2019 are revenue of roughly USD$900 million and net income of $150 million. Thus Yixin is now trading at only 10x earnings, while we believe both top line growth and profitability will surprise to the upside as well.

 

 

China’s Auto Advertising business and trends

 

According to iResearch, in 2010 only 13% of total Auto advertising spending was online, versus 32% being directed to TV, 26% to outdoor advertising, 22% newspapers and magazines and 7% approximately through radio advertisement.

In 2013 online spending surpassed outdoor advertising spending and the same happened for TV advertising in 2016.

It is estimated that total Auto related advertising spend in 2018 will be 42% online, 28% TV, 20% outdoors and 10% in magazine and newspapers. Going forward the fastest growing category is expected to be online advertising, reaching 46% share next year.

Online advertisement is expected to grow at a 15% pace 2018/20 of which verticals should grow at roughly the same rate (namely BitAuto and Autohome), capturing roughly 38% of the overall online ad market.

Online verticals have maintained a very unique value proposition for consumers, advertisers and other participants in the value chain (namely dealers and agents). For consumers, online verticals offer more dedicated information than general online information platforms. For businesses across the value chain, online verticals generate better conversion rates as their users are specific and intention driven. In essence despite a relatively lower user base vs. other large internet platforms, online vertical users are much more targeted which imply higher commercial value. 

We believe both BITA and ATHM core advertising business is relevant and both companies large user base and affiliation make new entrants difficult because of network effects and overall scale.

Not to say there is no competition in the space. New emerging traffic gateways such as Toutiao, Tik Tok, Baidu newsfeeds and Yidian as well as social platforms such as Weibo and WeChat Moments will capture some wallet share given their high usage, however we believe both companies have created a certain moat that should protect their leadership to some extent.

Part of the moat is the user base itself. Over 55% of BitAuto and Autohome’s users are between 30 and 39 and male vs. an average age of 44 and 70% male for the five major portals in China. These users usually have stronger intention to purchase vehicles and have good understanding of the auto market and vehicle models. 

Going forward we believe that BitAuto is better positioned than Autohome given the large amounts of investment the company has made in its platform to not only remain relevant but continue to capture share. In essence BitAuto has favored reinvesting in it’s offer (both content and product) versus maximizing profits which has been the case for Autohome. We believe the latter will contribute to a stronger moat derived of its strong user engagement and with superior offerings to advertisers.

 

China’s emerging Auto Financing business and the Yixin opportunity

 

A number of independent reports estimate that the total spend on auto aftermarket services (auto loans, insurance, maintenance, etc) during the vehicle’s lifetime exceeds the purchase price of the vehicle. Assuming a 10 year life cycle (according to a Jpm study), life spent is split 49.1% on the acquisition itself, 6.7% on auto loan interests, 18.7% in insurance and 25.6% on aftermarket services such as maintenance.

According to 2017 China Auto Finance Almanac, the penetration rate of auto financing services (loan attach rate) for new cars in China was roughly 38.6% in 2017, as compared to over 70% in developed countries such as the U.S., the U.K. and Germany. Within the auto financing market, online auto/financing loans have an approximate 30% share.

In terms of Auto Insurance, according to the Insurance Association of China, the penetration rate was just 4% and over 50% of the online insurance revenue was generated by the insurance companies’ own channels.

As for used car sales, according to iResearch, e-commerce penetration in used car sales was 12.7% in 2017.

Needless to say as the above data demonstrates, the opportunity is huge and Yixin has established itself as the leading independent online platform with over 1 million financed transactions as of 3Q18.

Various reports agree that the overall market cap opportunity for online platforms should reach a value of over US$50 billion in 2020. (RMB70-100bn revenue opportunity) where Yixin has a very clear first mover advantage.

We’ve read various reports (I suggest you read JP Morgan’s “China Internet Vertical” August 2018 paper) that explain the long runway ahead in terms of the independent financing opportunity in autos in China. Yixin has a clear lead, and although competition will enter the space, most estimates are for Yixin to maintain it’s long term leadership with a 10-15% market share in the sector.

We believe Yixin’s strategic investors (Tencent, JD) also lend credibility and resources to the platform itself and should help make Yixin an established, household provider in this space.

 

BitAuto versus Autohome in the AdTech business

 

Both companies have done great and have established themselves as the leaders in the auto related advertising space in China.

The sector is large enough for both companies to compete and thrive in our opinion.

The partnerships with Tencent, JD and Baidu are a big plus for BitAuto in our opinion. Multiple avenues exist to lever them in order to provide a better product that’d ultimately lead to much better conversions for their clients. We believe that long-term BitAuto has an advantage over Autohome because of these partnerships.

We do note, however that BitAuto has outspent Autohome by a wide margin (2-3x in the latest years) in order to gain more share and offer a better product for their dealer clients. Autohome has prioritized profitability during the last couple of years, and it’s share price has followed (almost 4x from early 2017 to mid 2018) as their profitability surprised to the upside (by almost 100% in 2017).

It is our opinion that BitAuto’s spending has been prudent and they’ve secured a good enough product that leads to better conversion rates and happy clients (dealers). They’ve spent on better content, on having celebrities and personalities pitch certain models, and creating the self publishing part of their website. Autohome has followed to a lesser extent. Having said this, we believe both companies have strong enough following and scale and reasonably good relationships with their dealer customers.

On that last point, we believe Autohome’s need for profitability came to an extreme recently when new price hikes were countered by exodus from important clients of them. In our opinion BitAuto takes a better balanced approach and the checks we’ve conducted with dealers have confirmed that. They value the effectiveness of their leads and believe they are long term partners of them. That can only help going forward to sustain any kind of moat.

With respect to profitability, we believe 2019 will mark the year when BitAuto’s profitability begins to accelerate to Autohome level. We are conservative in the sense we model three years to reach the same profitability now seen in Autohome, however, we’ve been told many times by management that our numbers are conservative. They are tilted towards two years at worst perhaps even less. The latter is certainly not consensus in any way.

 

 

 

BitAuto’s competitive advantages

 

We believe scale is no longer an advantage since it is similar to Autohome. It is of great importance to achieve scale but as both Autohome and BitAuto cover 80% of the possible dealer base, I believe product offering and ultimately efficacy (conversions) will make the difference.

In that respect, as said, I believe BitAuto’s partnerships with Tencent, JD and Baidu, strengthens its own moat.

BitAuto is ahead (by at least a year) in servicing the more than 100,000 unauthorized dealers in China compared with Autohome and it is a full three years ahead in the auto related financing opportunity.

 

 

William Li’s background

 

William Bin Li is known as the “godfather of cars” in China. A very respectable, self-made entrepreneur whose sole focus is the automotive industry.

He founded BitAuto in the year 2000, Yixin in 2015 and Nio (the Chinese alternative to Tesla) later on.

Nio recently went public at the NYSE raising USD$1.8 billion in it’s IPO. They delivered 10,000 cars in China last year (compared to Tesla’s roughly 18,000 cars a year ago) while being at a price point a full 40% lower.

William Bin Li serves as vice chairman of CADA (China Automobile Dealers Association) and was recognized as one of the top 10 most influential and distinguished people in China’s automobile dealer industry in the past 20 years.

Although he’s young (at 44) and a self-made billionaire he appears to be the least pretentious. He is famous for renting the apartment where he lives in Beijing citing that real estate prices have gone to the roof and it would be a bad allocation of capital on his part. 

We’ve conducted our own background checks which have confirmed all the above from different sources. Thus, we believe the jockey is a good one in BitAuto’s case.

 

 

Ownership of BitAuto and potential catalysts related to this

 

 

 

Let’s begin by discussing ownership:

 

JD.com Global Investment Limited 18,161,020 shares 25.4%

Snow Lake Capital (HK) Limited 13,200,000 shares 18.5%

Tencent Holdings Limited 7,528,789 shares 10.5%

Proudview Limited (Bin Li) 6,942,780 shares 9.7%

Invesco Ltd 6,453,942 shares 9.0%

Citic Capital Partners 4,648,884 shares 6.5%

Cox Enterprises Inc (Autotrader) 4,380,000 shares 6.1%

Morespark Limited (Tencent, JD, Baidu) 2,471,577 shares 3.5%

Baidu (non disclosed, see 20F) 2,307,904 shares 3.2%

Other directors and officers at BitAuto 428,839 shares 0.6% 

 

Total of long-term shareholdings 66,523,735 shares 93.2%

Shares remaining in float 4,876,265 shares 6.8%

Total shares outstanding 71,400,000 shares 100.0%

 

The interesting part about ownership of BitAuto is the following:

Major holders such as JD.com, Tencent, Baidu and Autotrader are not looking to trade their shares in the company. These are strategic investments into BITA business for the purpose of benefiting their own very large consumer platforms. Nor are it’s founder, directors and officers looking to trade the stock in our opinion.

Snow Lake Capital (now the second largest holder) just reported its ownership in BitAuto a couple of weeks ago, as they probably purchased in late November/December of 2018 when we saw large blocks trading.

Snow Lake by itself is a very interesting holder, ran by Sean Ma, a very accomplished US educated value investor in China, has consistently beat the market since the firm’s founding in 2019, investing solely in the technology, consumer, healthcare and financial sectors with a long-term view.. His firm’s AUM are US$1.5 billion, thus his investment in BitAuto is probably his largest ($231 million at today’s price) or 15.5% of his portfolio. He just made this investment thus he’s no seller.

 

I’m expanding here because in Bit Auto we have a special situation to be mindful of:

 

Short interest in BitAuto is 10,041,000 share or 14.1% of its shares outstanding.

We highlighted Invesco’s holdings since there is a chance they’ve sold/reduced and some of those blocks were the ones Snow Lake bought. We doubt it was Citic since they’ve been long time holders but they could’ve sold or reduced as well.

Let’s assume BOTH Invesco and Citic totally exited (something highly unlikely) that would increase the available float by 11,102,826 shares which should roughly cover the short interest outstanding. 

The final part of this puzzle is that in March of 2018, given what they thought was a severe undervaluation of its shares, management of BitAuto announced a USD$150 million share repurchase program that would be in effect for 12 months.

If executed at an average price of $19 per share (approximately where BITA has traded in the last twelve months) that would mean they’re buying around 7,894,000 shares. 

We have confirmed with management that they’ve executed on their buyback program and although they wouldn’t share the exact number of shares purchased, they confirmed their intention to do so as they report the fourth quarter earnings in March, exactly a year into the program.

We’ve never invested based on potential short squeezes, but in this case, we believe expectations will be raised in March and a great short squeeze could occur namely because of the fact there is just no available float to cover.

 

 

Consensus expectations and why we believe they will be revised upward

 

Not much is needed to turn the needle here as expectations are so low but we believe that given the continued growth of Yixin and the greater share of third-party financing in their business, BitAuto’s gross margin will begin to improve noticeably beginning 4Q2018. Bottom line results even more as general expenses continue to be curtailed (this already was noticeable in 3Q18).

The street expects around $1.8 per share in 2019 earnings for BitAuto (9.5x P/E) but our numbers are closer to $2.5 per share in a base case and above $3 per share in a bull case.

In any event, expectations are too low and we believe will be easily surpassed and revised.

 

Why is the stock so cheap?

We believe the stock is cheap because of the general sense that since BitAuto consolidates Yixin, credit risk in this subsidiary is worthy of a large discount.

We believe that as Yixin continues to grow (it is now self-sufficient in terms of funding) and the loan portfolio that BitAuto has continues to runoff, this risk will be less and less justifiable, if at all. Again we believe this will be a 2019 event.

Other factors (which we believe is the thesis behind shorts) are more macro related. As the Chinese economy slows car sales will continue to follow (note that 2018 marked the first year in 28 where total vehicle sales in China declined) and that the company’s moat will not be strong enough to support continued spending by already cash-strapped dealers.

Intuitively it might make sense, but we believe the lead conversion and service that BitAuto provides to its clients will continue to make sense to auto dealers as it did last year. On another note I’d say the time to invest is just before the Chinese economy begins to stabilize or even resume stronger growth, which perhaps might be now.

 

 

Valuation scenarios

 

Our goal was to first adequately make a case for a very limited downside. Remember we either get the advertising and subscription business for a negative US$300 million or if we value Yixin at zero and the restricted cash BitAuto has at zero as well, we’re paying US$500 million ($1.3 billion market cap less US$800 million unrestricted cash) for an asset that generated US$150 on their advertising and subscription business (with depressed margins), meaning we’d be paying roughly 3.5x 2019 depressed P/E.

Since the upside is multibagger potential, I’ll just share how we value the business as of now.

We believe the advertising and subscription business will have revenue of close to USD$1 billion in 2019. Using Autohome’s net margins to normalize, we estimate the earnings power of this business is roughly USD$400 million.

Yixin is trickier, but again we believe consensus is way off here, and have them earning closer to US$240 million in 2019 (consensus is at $150 million, also trading at 10x that number).

Thus we believe BitAuto’s earning power is closer to US$512 million ($400 million plus it’s proportional 47% stake in Yixin’s earnings) or close to $7.2 per share.

 

What multiple should you give to a great subscription style business that has 50-60% EBITDA margins and grows at a steady 12-15% for the foreseeable future? And how would you value the leader in China’s nascent online auto financing sector, growing revenues at a clip of 45% and with 17-20% margins?

My take it’s not less than a 10x multiple (implying $72 pps) without taking into consideration the ongoing buyback.

 

 

 

A timeline of possible near-term catalysts that should lead to a re-rating of BITA

 

  1. Fourth quarter earnings to be presented March 2019
  2. Update on buyback program also expected March 2019
  3. China announcing possible stimulus measures directed to the auto sector. (tax reliefs or incentives) - Could be any day.
  4. Positive resolution of China-US trade war. - Who knows?
  5. Stronger than expected margin improvement in the core advertising and subscription business (as SG&A continues to be reduced)-  throughout 2019
  6. Stronger than expected growth and market share for Yixin. - throughout 2019

 

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

  1. Fourth quarter earnings to be presented March 2019
  2. Update on buyback program also expected March 2019
  3. China announcing possible stimulus measures directed to the auto sector. (tax reliefs or incentives) - Could be any day.
  4. Positive resolution of China-US trade war. - Who knows?
  5. Stronger than expected margin improvement in the core advertising and subscription business (as SG&A continues to be reduced)-  throughout 2019
  6. Stronger than expected growth and market share for Yixin. - throughout 2019
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    Description

    BitAuto

    BitAuto is a leading provider of internet content and marketing services for China’s automotive industry. Through it’s Yixin subsidiary (47% owned and consolidated) the company is also engaged in e-commerce related automotive financing.

    The company was founded by Mr. William Li in the year 2000 and has been chairman since 2005. Tencent Holdings, Baidu and JD.com are all significant shareholders in BitAuto, and its Yixin subsidiary (where prior to it’s November 2017 IPO the three companies invested US$550 million cash).

    BitAuto’s LTM revenue growth is north of 15% in their subscription (advertising) business and north of 40% in its transaction (auto financing) business. The underlying business is doing very well and growing rapidly. This is not a broken business model by any means in our opinion, quite the contrary. It is a neglected stock but we believe that because of a multitude of factors that might well change soon enough.

    We believe this company has many of the characteristics we’ve seen in multi-bagger stocks. Namely good management with sound capital allocation skills, a strong competitive position, high barriers for new entrants, a very large addressable market, strong (and improving margins), revenue growth and a low multiple. The point being upside is large enough but nicely, downside seems very limited. A good combination to have.

     

    As a starting point, I’ll begin by addressing the company’s current valuation (all figures in USD):

     

    Current price $ 18

    Market cap $ 1,300 million

    Un restricted cash $ 800 million

    Yixin market cap (47% ownership) $ 806 million

    Value ascribed to BitAuto core advertising business ($306 million)

     

    As seen above, the market is valuing BitAuto’s core advertising business (which will produce at least $150 million in cash this year) at a negative $306 million. 

    Another way to look at this is the following- if we value Yixin at zero and the restricted cash BitAuto has at zero as well, we’re paying US$500 million ($1.3 billion market cap less US$800 million unrestricted cash) for an asset that generates US$150 on their advertising and subscription business (with depressed margins), meaning we’d be paying roughly 3.5x 2019 depressed P/E.

     

    BitAuto’s main competitor in China is Autohome. (ATHM, US listed). ATHM (down 40% from it’s 12 month highs), trades at a forward 6.2x revenue and 19x EPS multiple. We believe BitAuto is a much better business than Autohome overall and that it’s Yixin subsidiary provides great upside optionality that ATHM doesn’t currently have. Having said that, if BitAuto where to be trade at ATHM multiples, its shares would trade for $35 on an EPS basis and $70 on a revenue basis. Versus it’s current price of $18 per-share.

    It is our belief however that BitAuto should command a premium multiple to ATHM for the reasons we’ll discuss later on. The point we’re trying to make is that downside appears limited on any angle we might find. Immediate upside could be 2 to 4x from here although we believe the secular thesis is so strong, our medium to longer term potential upside is in excess of 10x the current price.

    The bear case for both BitAuto and Autohome lies in the challenging economic environment currently seen in China and the effects the latter has caused on overall consumption and specifically auto sales in the country. 

    We believe China has many levers to pull and that these economic reality could begin to change sooner rather than later (we need to consider that China has been significantly slowing down for a full three years now) and that the Chinese secular growth story is not at all broken. Having said that, for this thesis to work (given the large extent of undervaluation) even a mild recovery will do in our opinion. However, this is by no means a macro call. BitAuto has been able to manage through these difficult times (and consistently grow) given the strength of its business model. We believe the company has enough scale now and that BitAuto 2.0 is a rapid expansion in its profitability.

    Not only are we getting paid right now to take on the very profitable advertising and subscription business. If we were to value Yixin at zero and forget about the restricted cash on the balance sheet, I believe this company (on its subscription business) will be able to generate profits of somewhere between $5 per share in the next two or three years (street estimates for 2019 are $1.80 per share, we believe the actual number will be closer to $2.5 per share), thus implying we are now able to buy BitAuto very profitable subscription business at close to 3.5x 2022 earnings and get the optionality implied in Yixin (the financing business) for free.

     

    The write-up is structured as follows:

     

    1. BitAuto business
    2. China’s Auto Advertising business and trends
    3. China’s emerging Auto Financing business and the Yixin opportunity
    4. BitAuto versus Autohome in the AdTech business
    5. BitAuto competitive advantages
    6. William Li’s background
    7. Ownership of BitAuto and potential catalysts related to this
    8. Consensus expectations and why we believe they will be revised upward
    9. Why is the stock so cheap?
    10. Valuation scenarios
    11. A timeline of possible near-term catalysts that should lead to a re-rating of BITA

     

     

    BitAuto business

     

    Let’s begin by stating that this company is not stagnant at all. Revenues have grown at a 42% pace for the last eleven years since 2007. They’ve been able tosuccessfully position themselves as one of the two Chinese companies (the other being Autohome) that lead the auto related advertising space in that country.

     

    The company has two business lines:

    Advertising and subscription business (which includes their Digital marketing solutions business)

    Transaction services business (auto financing through Yixin)

     

    Let’s first delve into the core advertising and subscription business (roughly 50% of the business with LTM sales of RMB 5.4 billion or USD $818 million.

    In this business little growth is expected in terms of growing the dealer base. BitAuto covers 19,000 independent automobile dealers (serviced by 30,000 salespeople) and Autohome has a similar base. Penetration in the dealer base is already higher than 80%. Although penetration can grow, we believe it will be marginal and that the dealers with the best economic proposition are already serviced by both companies.

     

    Going forward growth will come by a combination of two factors:

    1. Servicing the 100,000 “unauthorized” dealers in China 
    2. Pricing and added value services to existing dealers

     

    We believe BitAuto has the stronger hand in both respects, compared to Autohome.

    The “unauthorized” dealers are very important since they contribute around 40% of China’s new car sales.

    BitAuto has the first mover advantage here with respect to the competition. The company began targeting this base early last year and has now over 20k of the total 100k dealers as clients in a special targeted product. Important to mention that product/subscription is yet to be monetized. The company currently charges nothing to these dealers. The strategy was to enroll them, let them see the added value partnering with BitAuto would mean in terms of sales conversions, grabbing share and later on monetizing that new client base. BitAuto has always said they’d find ways to begin monetization of this set of dealers in calendar 2019. We believe this is a huge growth driver in the Ad&Subs business and have yet to see any estimate from the sale side from segment contribution here.

    To be fair, Autohome has also begun to look into the “unauthorized” dealer opportunity, but they have an important 12 month or so lag versus BitAuto. Needless to say not all of the 100k dealers are the same size or have the same potential. BitAuto has captured 20% of the base in under 12 months but that 20% is the higher value dealers in their opinion.

    BitAuto generates average revenues from its current dealer base of $3,800 dollars per month. If the company were able to monetize a quarter of that in the new “unauthorized”  segment, that’d imply 25% earnings growth by itself. However as said, they’ve only just captured 20% of the relevant market. We believe saturation will be closer to 75% of the market so there’s room to grow here. Point being they’ve clearly secured the first mover’s advantage.

    With respects to pricing of their subscription packages, we believe the company is successfully conducting a two-fold strategy: Encouraging their dealer clients to upgrade to their “premium” subscription package (which is pricier but at the same time allows for much more functionality, targeting and ultimately better conversion) and also continuing to innovate in further upgrades and add-ons to their offering that will also be eventually monetized.

    Just recently, news broke that a group of influential dealers terminated their business relationship with Autohome due to price hikes the company was taking. Of course, dealers, are suffering themselves the soft economic conditions prevalent in China, and selling less cars. I believe both internet verticals (BitAuto and Autohome) have some leverage on pricing due to many factors- namely their scale, the conversion improvement they achieve versus other forms of advertisement and the low subscription price compared to the dealers total expenses. Having said this, nobody appreciates price hikes however good a platform when the dealers are having a tough time themselves. 

    It is my opinion that BitAuto is navigating these difficult economic times in China in a much smarter way. Instead of following Autohome’s path (and risk the relationship with their clients long term) they are instituting gradual price improvements as new high value services are provided to the auto dealers. If the auto dealer cannot justify the added cost in better conversion or sales, BitAuto is not hiking prices on their existing subscription. 

    In this respect, the collaboration of BitAuto with its important shareholders (Tencent, JD and Baidu) is of utmost importance in our opinion. The “big three” online players in China have ample resources and technology that they are actively sharing with their partner and thus, I believe BitAuto has a resource advantage which is unparalleled in the online auto related business in China.

    Turning into the Transactions services business, serviced by BitAuto’s (47% owned) Yixin, we believe this is a great business to be in and was a great early move by BitAuto’s management. To be clear, others including Autohome, are following but because of Yixin’s early lead we believe they are quickly securing market share (#1 position) in the fast growing independent auto financing business in China.

     

    Allow me to provide some history on Yixin itself.

    Going back to 2015/2016, Yixin was just starting as a company and they were able to obtain a “financial guarantor company” license, which was essential for Yixin’s business but because of BitAuto’s long running history of revenue and profitability required the parent company’s help in order to eventually obtain. (more on this later)

    Having said that, in the meantime Yixin has grown significantly in loan originations, a USD $550 million capital infusion from (JD, Tencent) was made and during late 2017, was followed by an IPO where the company sold 14% of its capital at a price of HKD7.70 per share, the 8th most oversubscribed IPO in any China related company (560x oversubscribed) which at the offering price valued Yixin at USD$6.5 billion.

    Fast forward to today and Yixin (2858 HK) trades at 25% it’s offering price, which currently value the company at USD $1.6 bn.

    The obvious question is what happened that caused this 75% drop in Yixin’s share price?

    We believe that the risk of further regulation was the main case (more so than any economic weakness in China since Yixin has been grew at a 45% pace last year).

    Just after Yixin IPO’d new regulations designed to rein in the online lending sector came into effect in China.

    Beijing made a priority to better regulate China’s shadow banking and lending sector, amid skyrocketing personal and household debt levels (unsecured consumer lending via Chinese online platforms more than tripled in 2017 to US$140 billion). Part of the new policy has been the creation of a multi-department state body “tasked by central government to rein in risks in the internet finance sector”.

    Late 2017, again just after the IPO, the regulatory body issued an urgent notice to provincial governments urging them to suspend regulatory approval for online microlenders, an action that was widely perceived to be a precursor to a wider set of controls.

    The news sent shockwaves through the sector. How “micro-loans” will be regulated going forward isn’t yet clear, but the rapidly growing auto financing sector certainly took a hit due to the added uncertainty.

    When asked directly about the risk and uncertainties this new government actions might present, Yixin Group’s CEO Zhang commented that the policies for regulating the financial leasing and auto financing sector were already in place and that the new regulations targeted “cash lending”. 

    Fast forward 13 months or so and apparently Mr. Zhang was right. There have been no indications from Beijing that they view the growing online auto financing sector as a “bubble” or so. Meanwhile Yixin grew its revenue base by over 45% in calendar 2018 in our opinion. Not only that, but how revenue grew is important. 

    Let's go back to the guarantee that BitAuto has on Yixin (which we believe is an important part of the reason of the valuation disparity vs. Autohome): BitAuto’s CFO clearly stated during the company’s Q12018 conference call the following:

    “The agreement will go on as when- Yixin has grown to the point where they’re able of taking over that license. BITA will allow Yixin to transfer this license over to Yixin. I think the timeframe that’ll probably happen will be sometime in 2019, but regardless, moving forward, the majority or almost all of Yixin’s loan facilitation business, will seek out a third-party instead of this particular company”.

    Yixin’s strategy since its beginnings was to migrate as much of its business to “third-party” loan facilitation vs. a self operated financing business. Scale was needed and now we’re well onto the implementation of that strategy.

    To put this in perspective, in the third quarter of 2018, Yixin facilitated 123,000 financed automobile transactions, with an aggregate loan amount of RMB 9.8 billion (approximately USD $1.5 billion) through its loan facilitation services (third-party) and the self-operated financing business. Yixin’s third-party loan facilitation transactions contributed approximately 24% of the total transaction volume up from 19% in the previous quarter.

    Importantly, the company guided to third-party loan facilitation of 40% which is indicative of the traction they’re being able to achieve. Our conversations with the company suggested that the actual third-party loan facilitation will actually exceed that 40% target during the fourth quarter, and they are targeting a full 50-60% of 2019 auto loans to be facilitated through third parties in 2019.

    We believe the latter is of utmost importance for BitAuto and Yixin to be correctly valued in the capital markets. The reason is  twofold: 1. Third-party loan facilitation is much more accretive to earnings (25% margins vs. 17% margins in the self-operated model), 2. As more loans are driven through third parties, gross and operating margins increase and finally, perhaps most importantly, 3. The credit risk perception in BitAuto decreases. We actually believe there is little credit risk (as seen by the 180 plus days past-due ratio of 0.53% in Yixin’s self-operated finance business as of the third quarter. In any event, as loans run-off, the USD$ 500 million cash that BitAuto maintains in its balance sheet as restricted cash, should become unrestricted and push the overall cash position to USD$1.3-1.4 billion soon enough.

    Street estimates for Yixin in 2019 are revenue of roughly USD$900 million and net income of $150 million. Thus Yixin is now trading at only 10x earnings, while we believe both top line growth and profitability will surprise to the upside as well.

     

     

    China’s Auto Advertising business and trends

     

    According to iResearch, in 2010 only 13% of total Auto advertising spending was online, versus 32% being directed to TV, 26% to outdoor advertising, 22% newspapers and magazines and 7% approximately through radio advertisement.

    In 2013 online spending surpassed outdoor advertising spending and the same happened for TV advertising in 2016.

    It is estimated that total Auto related advertising spend in 2018 will be 42% online, 28% TV, 20% outdoors and 10% in magazine and newspapers. Going forward the fastest growing category is expected to be online advertising, reaching 46% share next year.

    Online advertisement is expected to grow at a 15% pace 2018/20 of which verticals should grow at roughly the same rate (namely BitAuto and Autohome), capturing roughly 38% of the overall online ad market.

    Online verticals have maintained a very unique value proposition for consumers, advertisers and other participants in the value chain (namely dealers and agents). For consumers, online verticals offer more dedicated information than general online information platforms. For businesses across the value chain, online verticals generate better conversion rates as their users are specific and intention driven. In essence despite a relatively lower user base vs. other large internet platforms, online vertical users are much more targeted which imply higher commercial value. 

    We believe both BITA and ATHM core advertising business is relevant and both companies large user base and affiliation make new entrants difficult because of network effects and overall scale.

    Not to say there is no competition in the space. New emerging traffic gateways such as Toutiao, Tik Tok, Baidu newsfeeds and Yidian as well as social platforms such as Weibo and WeChat Moments will capture some wallet share given their high usage, however we believe both companies have created a certain moat that should protect their leadership to some extent.

    Part of the moat is the user base itself. Over 55% of BitAuto and Autohome’s users are between 30 and 39 and male vs. an average age of 44 and 70% male for the five major portals in China. These users usually have stronger intention to purchase vehicles and have good understanding of the auto market and vehicle models. 

    Going forward we believe that BitAuto is better positioned than Autohome given the large amounts of investment the company has made in its platform to not only remain relevant but continue to capture share. In essence BitAuto has favored reinvesting in it’s offer (both content and product) versus maximizing profits which has been the case for Autohome. We believe the latter will contribute to a stronger moat derived of its strong user engagement and with superior offerings to advertisers.

     

    China’s emerging Auto Financing business and the Yixin opportunity

     

    A number of independent reports estimate that the total spend on auto aftermarket services (auto loans, insurance, maintenance, etc) during the vehicle’s lifetime exceeds the purchase price of the vehicle. Assuming a 10 year life cycle (according to a Jpm study), life spent is split 49.1% on the acquisition itself, 6.7% on auto loan interests, 18.7% in insurance and 25.6% on aftermarket services such as maintenance.

    According to 2017 China Auto Finance Almanac, the penetration rate of auto financing services (loan attach rate) for new cars in China was roughly 38.6% in 2017, as compared to over 70% in developed countries such as the U.S., the U.K. and Germany. Within the auto financing market, online auto/financing loans have an approximate 30% share.

    In terms of Auto Insurance, according to the Insurance Association of China, the penetration rate was just 4% and over 50% of the online insurance revenue was generated by the insurance companies’ own channels.

    As for used car sales, according to iResearch, e-commerce penetration in used car sales was 12.7% in 2017.

    Needless to say as the above data demonstrates, the opportunity is huge and Yixin has established itself as the leading independent online platform with over 1 million financed transactions as of 3Q18.

    Various reports agree that the overall market cap opportunity for online platforms should reach a value of over US$50 billion in 2020. (RMB70-100bn revenue opportunity) where Yixin has a very clear first mover advantage.

    We’ve read various reports (I suggest you read JP Morgan’s “China Internet Vertical” August 2018 paper) that explain the long runway ahead in terms of the independent financing opportunity in autos in China. Yixin has a clear lead, and although competition will enter the space, most estimates are for Yixin to maintain it’s long term leadership with a 10-15% market share in the sector.

    We believe Yixin’s strategic investors (Tencent, JD) also lend credibility and resources to the platform itself and should help make Yixin an established, household provider in this space.

     

    BitAuto versus Autohome in the AdTech business

     

    Both companies have done great and have established themselves as the leaders in the auto related advertising space in China.

    The sector is large enough for both companies to compete and thrive in our opinion.

    The partnerships with Tencent, JD and Baidu are a big plus for BitAuto in our opinion. Multiple avenues exist to lever them in order to provide a better product that’d ultimately lead to much better conversions for their clients. We believe that long-term BitAuto has an advantage over Autohome because of these partnerships.

    We do note, however that BitAuto has outspent Autohome by a wide margin (2-3x in the latest years) in order to gain more share and offer a better product for their dealer clients. Autohome has prioritized profitability during the last couple of years, and it’s share price has followed (almost 4x from early 2017 to mid 2018) as their profitability surprised to the upside (by almost 100% in 2017).

    It is our opinion that BitAuto’s spending has been prudent and they’ve secured a good enough product that leads to better conversion rates and happy clients (dealers). They’ve spent on better content, on having celebrities and personalities pitch certain models, and creating the self publishing part of their website. Autohome has followed to a lesser extent. Having said this, we believe both companies have strong enough following and scale and reasonably good relationships with their dealer customers.

    On that last point, we believe Autohome’s need for profitability came to an extreme recently when new price hikes were countered by exodus from important clients of them. In our opinion BitAuto takes a better balanced approach and the checks we’ve conducted with dealers have confirmed that. They value the effectiveness of their leads and believe they are long term partners of them. That can only help going forward to sustain any kind of moat.

    With respect to profitability, we believe 2019 will mark the year when BitAuto’s profitability begins to accelerate to Autohome level. We are conservative in the sense we model three years to reach the same profitability now seen in Autohome, however, we’ve been told many times by management that our numbers are conservative. They are tilted towards two years at worst perhaps even less. The latter is certainly not consensus in any way.

     

     

     

    BitAuto’s competitive advantages

     

    We believe scale is no longer an advantage since it is similar to Autohome. It is of great importance to achieve scale but as both Autohome and BitAuto cover 80% of the possible dealer base, I believe product offering and ultimately efficacy (conversions) will make the difference.

    In that respect, as said, I believe BitAuto’s partnerships with Tencent, JD and Baidu, strengthens its own moat.

    BitAuto is ahead (by at least a year) in servicing the more than 100,000 unauthorized dealers in China compared with Autohome and it is a full three years ahead in the auto related financing opportunity.

     

     

    William Li’s background

     

    William Bin Li is known as the “godfather of cars” in China. A very respectable, self-made entrepreneur whose sole focus is the automotive industry.

    He founded BitAuto in the year 2000, Yixin in 2015 and Nio (the Chinese alternative to Tesla) later on.

    Nio recently went public at the NYSE raising USD$1.8 billion in it’s IPO. They delivered 10,000 cars in China last year (compared to Tesla’s roughly 18,000 cars a year ago) while being at a price point a full 40% lower.

    William Bin Li serves as vice chairman of CADA (China Automobile Dealers Association) and was recognized as one of the top 10 most influential and distinguished people in China’s automobile dealer industry in the past 20 years.

    Although he’s young (at 44) and a self-made billionaire he appears to be the least pretentious. He is famous for renting the apartment where he lives in Beijing citing that real estate prices have gone to the roof and it would be a bad allocation of capital on his part. 

    We’ve conducted our own background checks which have confirmed all the above from different sources. Thus, we believe the jockey is a good one in BitAuto’s case.

     

     

    Ownership of BitAuto and potential catalysts related to this

     

     

     

    Let’s begin by discussing ownership:

     

    JD.com Global Investment Limited 18,161,020 shares 25.4%

    Snow Lake Capital (HK) Limited 13,200,000 shares 18.5%

    Tencent Holdings Limited 7,528,789 shares 10.5%

    Proudview Limited (Bin Li) 6,942,780 shares 9.7%

    Invesco Ltd 6,453,942 shares 9.0%

    Citic Capital Partners 4,648,884 shares 6.5%

    Cox Enterprises Inc (Autotrader) 4,380,000 shares 6.1%

    Morespark Limited (Tencent, JD, Baidu) 2,471,577 shares 3.5%

    Baidu (non disclosed, see 20F) 2,307,904 shares 3.2%

    Other directors and officers at BitAuto 428,839 shares 0.6% 

     

    Total of long-term shareholdings 66,523,735 shares 93.2%

    Shares remaining in float 4,876,265 shares 6.8%

    Total shares outstanding 71,400,000 shares 100.0%

     

    The interesting part about ownership of BitAuto is the following:

    Major holders such as JD.com, Tencent, Baidu and Autotrader are not looking to trade their shares in the company. These are strategic investments into BITA business for the purpose of benefiting their own very large consumer platforms. Nor are it’s founder, directors and officers looking to trade the stock in our opinion.

    Snow Lake Capital (now the second largest holder) just reported its ownership in BitAuto a couple of weeks ago, as they probably purchased in late November/December of 2018 when we saw large blocks trading.

    Snow Lake by itself is a very interesting holder, ran by Sean Ma, a very accomplished US educated value investor in China, has consistently beat the market since the firm’s founding in 2019, investing solely in the technology, consumer, healthcare and financial sectors with a long-term view.. His firm’s AUM are US$1.5 billion, thus his investment in BitAuto is probably his largest ($231 million at today’s price) or 15.5% of his portfolio. He just made this investment thus he’s no seller.

     

    I’m expanding here because in Bit Auto we have a special situation to be mindful of:

     

    Short interest in BitAuto is 10,041,000 share or 14.1% of its shares outstanding.

    We highlighted Invesco’s holdings since there is a chance they’ve sold/reduced and some of those blocks were the ones Snow Lake bought. We doubt it was Citic since they’ve been long time holders but they could’ve sold or reduced as well.

    Let’s assume BOTH Invesco and Citic totally exited (something highly unlikely) that would increase the available float by 11,102,826 shares which should roughly cover the short interest outstanding. 

    The final part of this puzzle is that in March of 2018, given what they thought was a severe undervaluation of its shares, management of BitAuto announced a USD$150 million share repurchase program that would be in effect for 12 months.

    If executed at an average price of $19 per share (approximately where BITA has traded in the last twelve months) that would mean they’re buying around 7,894,000 shares. 

    We have confirmed with management that they’ve executed on their buyback program and although they wouldn’t share the exact number of shares purchased, they confirmed their intention to do so as they report the fourth quarter earnings in March, exactly a year into the program.

    We’ve never invested based on potential short squeezes, but in this case, we believe expectations will be raised in March and a great short squeeze could occur namely because of the fact there is just no available float to cover.

     

     

    Consensus expectations and why we believe they will be revised upward

     

    Not much is needed to turn the needle here as expectations are so low but we believe that given the continued growth of Yixin and the greater share of third-party financing in their business, BitAuto’s gross margin will begin to improve noticeably beginning 4Q2018. Bottom line results even more as general expenses continue to be curtailed (this already was noticeable in 3Q18).

    The street expects around $1.8 per share in 2019 earnings for BitAuto (9.5x P/E) but our numbers are closer to $2.5 per share in a base case and above $3 per share in a bull case.

    In any event, expectations are too low and we believe will be easily surpassed and revised.

     

    Why is the stock so cheap?

    We believe the stock is cheap because of the general sense that since BitAuto consolidates Yixin, credit risk in this subsidiary is worthy of a large discount.

    We believe that as Yixin continues to grow (it is now self-sufficient in terms of funding) and the loan portfolio that BitAuto has continues to runoff, this risk will be less and less justifiable, if at all. Again we believe this will be a 2019 event.

    Other factors (which we believe is the thesis behind shorts) are more macro related. As the Chinese economy slows car sales will continue to follow (note that 2018 marked the first year in 28 where total vehicle sales in China declined) and that the company’s moat will not be strong enough to support continued spending by already cash-strapped dealers.

    Intuitively it might make sense, but we believe the lead conversion and service that BitAuto provides to its clients will continue to make sense to auto dealers as it did last year. On another note I’d say the time to invest is just before the Chinese economy begins to stabilize or even resume stronger growth, which perhaps might be now.

     

     

    Valuation scenarios

     

    Our goal was to first adequately make a case for a very limited downside. Remember we either get the advertising and subscription business for a negative US$300 million or if we value Yixin at zero and the restricted cash BitAuto has at zero as well, we’re paying US$500 million ($1.3 billion market cap less US$800 million unrestricted cash) for an asset that generated US$150 on their advertising and subscription business (with depressed margins), meaning we’d be paying roughly 3.5x 2019 depressed P/E.

    Since the upside is multibagger potential, I’ll just share how we value the business as of now.

    We believe the advertising and subscription business will have revenue of close to USD$1 billion in 2019. Using Autohome’s net margins to normalize, we estimate the earnings power of this business is roughly USD$400 million.

    Yixin is trickier, but again we believe consensus is way off here, and have them earning closer to US$240 million in 2019 (consensus is at $150 million, also trading at 10x that number).

    Thus we believe BitAuto’s earning power is closer to US$512 million ($400 million plus it’s proportional 47% stake in Yixin’s earnings) or close to $7.2 per share.

     

    What multiple should you give to a great subscription style business that has 50-60% EBITDA margins and grows at a steady 12-15% for the foreseeable future? And how would you value the leader in China’s nascent online auto financing sector, growing revenues at a clip of 45% and with 17-20% margins?

    My take it’s not less than a 10x multiple (implying $72 pps) without taking into consideration the ongoing buyback.

     

     

     

    A timeline of possible near-term catalysts that should lead to a re-rating of BITA

     

    1. Fourth quarter earnings to be presented March 2019
    2. Update on buyback program also expected March 2019
    3. China announcing possible stimulus measures directed to the auto sector. (tax reliefs or incentives) - Could be any day.
    4. Positive resolution of China-US trade war. - Who knows?
    5. Stronger than expected margin improvement in the core advertising and subscription business (as SG&A continues to be reduced)-  throughout 2019
    6. Stronger than expected growth and market share for Yixin. - throughout 2019

     

    I do not hold a position with the issuer such as employment, directorship, or consultancy.
    I and/or others I advise hold a material investment in the issuer's securities.

    Catalyst

    1. Fourth quarter earnings to be presented March 2019
    2. Update on buyback program also expected March 2019
    3. China announcing possible stimulus measures directed to the auto sector. (tax reliefs or incentives) - Could be any day.
    4. Positive resolution of China-US trade war. - Who knows?
    5. Stronger than expected margin improvement in the core advertising and subscription business (as SG&A continues to be reduced)-  throughout 2019
    6. Stronger than expected growth and market share for Yixin. - throughout 2019

    Messages


    SubjectRe: Initial Questions
    Entry01/28/2019 11:46 PM
    Memberflubber926

    Thanks for your questions Honeycreek-

    1. The RMB925-950 M gap you mention is the amortization of intangible assets at BitAuto level. Namely the business cooperation agreement entered with Yixin. The intangible sits on BitAut's balance sheet and is expensed through it's P/L. 

    2. There are many investments (small online advertising related companies) that BitAuto has closed in the recent past. We value them at cost on a SOTP analysis.

    Hope this helps shed some light/clarify.


    SubjectRe: Moat
    Entry01/29/2019 12:04 AM
    Memberflubber926

    GV thank you for your thoughtful post. Interesting points raised indeed. However, I believe your comments help explain the "current perception" and why BitAuto trades at such a steep discount vs. Autohome.

    I don't agree with you in some points-

    1. The business itself: I don't think BitAuto's ecosistem is or ever has been subpar to Autohome's. IMO there is a great mismatch between reality and perception here. We've done many checks and the latter was our conclusion from that exercise. More than 2.6M DAU of Yiche and Auto Price APP tend to confirm our central thesis. I'm not sure advertising in the earlier part of the process (ATHM) vs. the latter one would be more valuable in any case. And I do believe the technology that BitAuto has developed (with it's partners) is very valuable.

    2. The partners: Autotrader (in 2012) and JD.com, Tencent and Baidu (in 2015) could've chosen to instead invest in Autohome. Let's remember that Autohome and BitAuto had a much similar valuation at that time. I believe they invested in William Li and his vision for this company. I don't agree BITA was "saved" in any way by them and the "dilution" was the price to pay. I think there's much more to it and only time will tell if the investments were accretive to the company. My two cents is that the "moat" grows through these partnership and that Autohome has little advantage if any long term.

    3. On Yixin, yes, Autohome could penetrate a very open market. So far it has a big lead and the financial resources (and technologies) to keep maintaining/growing it's share in this very high growth opportunity. Autohome is a show me story, Yixin isn't.

    I'd say that IMO BitAuto is not even close to being "backed into a corner" as you imply. However, the important point here is you're getting this company now for a "distressed price" when the business is all but distressed. Autohome can do many things right and not be a great investment (just because of it's current valuation) whereas BitAuto is so cheap that any improvement in both businesses can cause a meaningful revaluation. As said, that's because of current valuation but if both companies were similarly valued, I'd choose BitAuto over Autohome anyday. We'll have to wait and see how the story plays. 

    Although we evidently disagree, thanks again for your thoughtful comments.

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