Coupang Q423: Topline Growth, Intensifying Competition, Big Question On Recent Acquisition

Recap

In our last article on Coupang (NYSE:CPNG), we highlighted Coupang’s strong position in logistics as a key factor in driving its market share growth. Additionally, we observed robust growth in Taiwan, surpassing the growth seen in South Korea post-Rocket launch. Yet, we believe that Coupang’s stock was trading within its fair value at $18 per share, which was derived from a 10-year DCF valuation model (12% WACC, 3.5% terminal growth).

Since our article was published, the stock price experienced a temporary decline to $14 per share, subsequently recovering to $18 per share. This significant drop was largely attributed to the market’s reaction to Coupang’s acquisition of Farfetch, a luxury e-commerce company.

This article will delve into the 4Q23 earnings results, intensifying competition against Chinese e-commerce players, and the recent Farfetch acquisition.

4Q23 Earnings Results

Please find the 4Q23 earnings summary below:

4Q23 net revenue grew 23% (Y/Y) and 6% (Q/Q) to $6.6 billion, which was driven by all of Coupang’s business segments. Excluding the impact of Fulfilment by Coupang (“FLC”) accounting change, the constant-currency revenue growth (20% Y/Y) would have been 940 bps higher. Active customers grew 16% (Y/Y) to 21 million. However, on a quarter-on-quarter basis, the growth rate actually decelerated. This could be attributed to the intensifying competition in the e-commerce space.

Net revenues per active customers increased 2.4% (Q/Q) and 1.7% (Y/Y). Despite each cohorts’ spending increasing by over 15%, management explained that younger cohorts typically have lower spending levels, which dragged down the unit economics. Historically, the average spending per user (in constant currency) appeared to have stabilized after experiencing a two-quarter consecutive decline:

• 4Q22: $298 average net revenue per user
• 1Q23: $323 (+8% Q/Q)
• 2Q23: $309 (-4% Q/Q)
• 3Q23: $296 (-4% Q/Q)
• 4Q23: $303 (+2% Q/Q)

Product Commerce

Product commerce net revenue increased by 21% (Y/Y) and 5% (Q/Q) to $6.3 billion, primarily driven by higher spending levels per customer and a growing adoption of new products and offerings. Furthermore, more merchants opted to utilize Coupang’s fulfilment centers, as FLC volume more than doubled on a year-on-year basis. Merchants count surged by 80%, with over 80% of Coupang’s merchants utilizing the FLC being small to medium enterprises.

Adjusted EBITDA came in at $444 million, marking an impressive nearly 70% growth year-on-year. The margin stood 7.1%, reflecting a 190 bps expansion compared to last year, including an additional 60 bps expansion attributed to the FLC accounting change.

Developing Offerings

Furthermore, revenue from developing offerings surged impressively by 105% (Y/Y) and 26% (Q/Q). We believe the growth was primarily driven by operations in Taiwan, where Coupang witnessed both customer count and revenues more than doubled in the last two quarters, according to management. In 3Q23 and 4Q23, revenue from developing offerings grew 39% (Q/Q) and 26% (Q/Q), respectively.

Adjusted EBITDA losses amounted to $150 million during the quarter, indicating a negative margin of nearly 55%, as Coupang allocated over $400 million in investments in the segment. Looking forward, management anticipates adjusted EBITDA losses of $650 million in 2024, excluding losses from Farfetch, largely driven by ongoing investment in Taiwan. The second fulfillment center is live in Taiwan and the company plans to open another this year.

Regarding the food delivery service, management noted that Eats’ order volumes have doubled since the introduction of WOW membership savings program. According to Mobile Index Insight, Coupang Eats’ market share increased from 14% to 21% in January, while its closest competitor, Yogiyo, saw its share decline from 29% to 24%. In addition to the up to 10% discounts for WOW members, Coupang Eats is rolling out free deliveries exclusively for Save Delivery service, which delivers orders in batches. E-commerce players typically improve unit economics as they are scaling up, which was further explained by management:

And as we see one-time investments such as new merchant acquisition promotions expire, we expect Eats’s positive underlying unit economics along with scale to drive cash generation in the future. What is equally exciting is the positive externalities we’ve seen in customer engagement across our products and offerings.

Overall, net income stood at $1 billion, as Coupang reported a one-time tax reserve adjustment of $895 million. Diluted earnings per share was $0.57, which would have been $0.08 excluding the one-time tax benefit. It is important to note that a temporary effective tax rate between 45% and 50% will be in effect in 2024, followed by an anticipated effective tax rate of approximately 25% thereafter.

Post share-based compensation free cash flow reached at $296 million. In 2023, the figure amounted to $1.45 billion vs. a negative $508 million. Moving forward, management expects that free cash flow will align more closely with EBITDA, as one-time working capital benefits inflated cash flow figures in 2023. Cash and cash equivalents stood at $5.2 billion.

Overall, we think Coupang delivered solid earnings results. Despite a deceleration in active customer growth on a quarter-on-quarter basis, we see that average spending per user has started to increase. Nevertheless, profitability was still dragged down by the Developing Offerings segment, as Coupang accelerates its investment in Taiwan. Still, Coupang succeeded in improving its product commerce profitability and generating billions of free cash flow with a robust cash position.

Heightened Competition From Chinese e-Commerce Players

Nevertheless, competition in the e-commerce space is intensified by aggressive Chinese players, such as Alibaba (NYSE:BABA)-owned AliExpress and Pinduoduo (NASDAQ:PDD)-owned Temu. According to Wiseapp, Retail, and Goods, AliExpress’ monthly active users (“MAU”) surged from 3.6 million a year earlier to 8.2 million in February, while Temu gained traction with 5.8 million MAU since its entry into the South Korean market in July 2023.

Chinese e-commerce players have been gaining traction by offering products well below market prices and providing free shipping. How? One of the reasons is their direct connection between manufacturers and customers without the intermediaries, thus lowering prices. Another factor is that they have renegotiated for much-lower shipping costs with Chinese logistics players. Additionally, AliExpress allows South Korean brands list on its platform with zero commission fees. This has led several local brands to establish partnerships with AliExpress, thus enabling them to offer their products at lower prices.

In terms of logistics, they have established partnerships with local logistics companies. CJ Logistics handles the delivery of AliExpress products, while Temu is affiliated with Hanjin. AliExpress has initiated a competitive bidding for domestic logistics companies to reduce shipping costs and to seek partners capable of handling massive orders.

And this does not stop there. AliExpress aims to invest $1.1 billion in Korea by 2027, including a $200 million investment in a fulfillment distribution center this year.

Chinese players have been following the playbook: offering discounts and promotions at the expense of huge expenses, investing money to build logistics network, and gaining scale by attracting more customers and merchants on-board. The next steps should be building customer loyalty, and eventually reducing incentives. Temu is said to have averaged a 40% loss on each order globally, although these figures have been unconfirmed by Temu.

How did Coupang respond? First, Coupang is expanding its Rocket Jikgu, a three-day guaranteed delivery service for products purchased overseas, to Japan. Additionally, it offers a 3,000 KRW discounts on orders purchased from Japan, the US, or China totaling 45,000 KRW.

Second, Coupang maintains its leadership in logistics and seeks to retain that lead. Temu’s delivery time ranges between 6 to 20 days, while the AliExpress Choice service can deliver within three days. On the other hand, Coupang’s Rocket Delivery has virtually all of orders delivered within a day.

This is due to Coupang’s substantial investments totaling $4.7 billion over a decade. In addition, Coupang is poised to invest 3 trillion KRW ($2.2 billion) over the next three years by building eight new fulfillment centers in Korea, aiming to ramp up Rocket Delivery coverage from 70% to 88% nationwide.

Let us look at what Bom Kim said during the 4Q23 earnings call:

It’s important to point out that we still have just single-digit share of over $560 billion projected retail market, just a massive opportunity in front of us. And the market is large enough to support many winners.

Customers are always going to seek the best selection, the best price and the best service. And they have a lot of alternatives, whether down the street or across the border from China, a 5-minute walk or a finger slipway. So we have to constantly find new moments of WOW for our customers to fight for and earn their royalty every day.

In our view, Chinese competitors are here to stay, capturing market share from smaller players. Meanwhile, Coupang will encourage its customers to subscribe to its membership program through discounts, as subscribed customers typically spend more and have a higher retention rate. However, Chinese players will eventually reduce promotions, while Coupang will still retain its market leadership thanks to its superior logistics capabilities built over a decade earlier. We expect intensifying competition in the near-term.

Farfetch Acquisition: A Good Deal?

Established in 2007, Farfetch is a global luxury e-commerce company with over $4 billion in GMV. Farfetch divides its business into three segments: Digital Platform, Brand Platform, and In-Store. The lion’s share of the company’s revenue stems from its Digital Platform business, which consists of first-party and third-party sales.

Nevertheless, Farfetch is facing significant challenges as it remains an unprofitable company and a cash-burning machine. 2021 was the only profitable year for the company, but that was actually driven by gain from embedded derivatives and remeasurement of put and call options. Things started to take a turn for the worse when the company began a series of acquisitions, accumulated debt, while larger brands started to focus on their own online and distribution operations, as cited in The New York Times.

Last year, Coupang agreed to acquire Farfetch and provide access to $500 million loans. Coupang’s management indicated that it intends to make Farfetch “self-funding” without an additional investment.

We question the rationale behind this acquisition, considering that Coupang initially was not actively looking for an M&A. Indeed, this acquisition will enable Coupang to tap into the €362 billion ($392 billion) personal luxury market, according to Bain & Company. However, competition becomes increasingly intensifying despite no prominent player in the market, according to Euromonitor. The research firm also noted that consumers still prefer to purchase offline for luxury goods.

Thus, it remains to be seen how Coupang will turn a loss-making business into a profitable one, considering that the company is relatively new to this market. This could be a one challenging task, in our view.

Valuation

According to data by Koyfin, Coupang is trading at 1x forward EV/S and 61x forward P/E. The stock’s P/E is 29x if we use 2025 EPS estimate.

We are still waiting for Farfetch to be consolidated into Coupang’s financials in 1Q24 before we update our model. Regardless, in the previous article, we mentioned that the current stock price implied a 13% average revenue growth and 9.5% operating margin in the long-run, which are already reasonable, in our view. Figure 9 shows that the markets have similar expectations implied to the stock price:

Nevertheless, this could change as Farfetch is taken into consideration. According to Euromonitor, the penetration rate of personal luxury e-commerce in South Korea still lagged that of the global market in 2023. Further international expansions that will expand the Total Addressable Market could also change the equations. But these factors largely depend on Coupang’s strategic executions of turning a loss-making business into a profitable one and of expanding into new markets.

In addition, we have some additional concerns on Coupang:

• Shrinking population and a high e-commerce penetration rate in South Korea.
• Despite a low penetration rate, Taiwan’s e-commerce market size likely much smaller than in South Korea.
• Intensifying competition with Chinese e-commerce players in the near-term.

Conclusion

Despite decelerating active customers quarter-on-quarter growth, we think Coupang had solid earnings results. Each segment grew strongly, and average spending per user demonstrated growth after a two-consecutive-quarter decline. Developing offerings still reported losses, driven by increased investment in Taiwan. Meanwhile, Coupang Eats is gaining traction, taking market share from its competitors at the expense of more promotions.

However, competition is intensifying as Chinese e-commerce players are gaining traction thanks to their low-priced strategies. We think they are here to stay. But Coupang will still maintain the lead in logistics thanks to its early investments.

Additionally, the acquisition of Farfetch will enable Coupang to tap into the personal luxury market. However, Coupang’s execution remains under question whether the company can turn a loss-making business into a profitable one, given its being relative new to this market and heightened competition.

Lastly, while we believe that Coupang’s growth potential has been priced into the stock, a successful execution of the Farfetch acquisition and further international expansions could change the equations. Key risks investors should consider are a shrinking population and a high e-commerce penetration in South Korea, the market size in Taiwan likely much smaller than South Korea, and near-term competition from Chinese players. Maintain HOLD. If you have any thoughts, please do not hesitate to comment below.