GigaCloud Stock: It May Be Just The Beginning (NASDAQ:GCT)

My Thesis

In my recent article on Trump Media & Technology (DJT), I highlighted what I believe is a crucial aspect of investing: the ability to discern what the consensus overlooks. When selecting stocks for investment, it’s imperative to perceive what others may miss. In my view, this keen insight is pivotal for successful investing – in that article about DJT, I gave an example with Pfizer (PFE) stock:

I firmly believe that the only way to beat the market is to take positions that deviate from the prevailing consensus. Take, for example, an investor evaluating the growth prospects of a stalwart like Pfizer. Despite strong and steadily rising financial metrics, the stock chart reveals a persistent downtrend that seemingly disregards recent improvements and future earnings forecasts. If you invest in Pfizer under these circumstances, you’re essentially betting against market sentiment and believing that the growth potential is greater than what Wall Street recognizes. That’s what an “out of consensus” bet is all about.

Why did this stick in my mind? Allow me to explain. I believe GigaCloud Technology Inc. (NASDAQ:GCT) stock serves as a prime illustration of how investors can take a contrarian out-of-consensus stance, with the risk-to-reward ratio favorably aligned in their favor.

My Reasoning

Firstly, it’s crucial for me to clarify the precise meaning of “consensus” in this context. Here, I’ll delineate between two main interpretations and the way I use them.

The first refers to the Wall Street analysts’ average quantified expectation concerning a company’s growth prospects, which is the most conventional definition. If we delve into what precisely the market anticipates regarding GigaCloud’s EPS trajectory, we observe that the consensus predicts a roughly 15.5% CAGR rate for the next 3 years. So if you hold the assumption that the company’s actual EPS growth will surpass this projected figure and you go purchase the stock based on this premise, this way you’re engaging in a trade that goes against the consensus.

The second interpretation, in my view, revolves around the sentiment (or narrative) surrounding a stock. This entails the market’s expectation of a particular eventuality; it might encompass regulatory uncertainties or the likelihood of the company losing a key client, even reputational risks that have materialized. Should any of these risks become widely acknowledged in the market, the company’s valuation typically undergoes a significant markdown. In such scenarios, an investor who doesn’t share the prevailing opinion on these risks would be betting against the consensus when buying the stock.

From my current observation, it seems that GigaCloud is more in line with the second interpretation. Its valuation is at a significant discount due to prevailing market sentiment with regard to fears of possible, alleged management misconduct. Let’s get to the bottom of the origins of these fears and examine why they are unlikely to be founded in reality.

In case you didn’t follow the company before, GigaCloud Technology Inc. operates as a global provider of end-to-end B2B e-commerce solutions, primarily focused on large parcel merchandise, particularly furniture. Despite having a single reporting segment, GigaCloud’s revenue streams seem to be quite diversified across services, 1P, and Off-Platform e-commerce, targeting manufacturers, resellers, and consumers across different countries, including Japan, the US, Germany, and others. In many ways, the business model the company has developed (management describes GCT as a “pioneer in global end-to-end B2B e-commerce solutions for large parcel goods”), according to GCT’s IR materials, solves part of the long-classic supplier fulfilled retailing business model’s challenges:

Such solutions turned out to be beneficial not only to the company’s partners but also to GCT itself: As of March 31, 2024 (TTM data), the company’s Gross Merchandise Volume (GMV) surged to $907.7 million, reflecting a robust 64.0% year-over-year growth (a 3-year CAGR of over 25%). The acceleration of growth was driven by an expansion in active buyers (+29.1% YoY) and increased spending per active buyer (+27.0% YoY) – the key unit economic metrics every distributor company should try to make better. Consequently, Q1 FY2024 revenues reached $251.08 million, marking a notable 96.5% YoY increase.

Despite its principal executive offices being in the U.S., most of GigaCloud’s employees are situated in China and Southeast Asia, contributing to lower operating expenses relative to competitors like Amazon (AMZN) and Alibaba (BABA) – hence the efficiency in terms of margins. In Q1 2023, GCT recorded an impressive adjusted EBITDA of $34.5 million (+74% YoY), with margins falling to 13.74% from 15.76% last year. This reduction in EBITDA margin seems to me to be a return to normality rather than the result of a serious business problem. GCT’s overall growth led to an EPS of $0.84, significantly exceeding the consensus estimate:

Moreover, when we compare GigaCloud with other a bit larger companies within the same industry, GCT maintains a clear advantage in terms of margin. Also, its profitability metrics such as ROE or ROCE appear stronger (on average). The asset turnover ratio is also lower than the average of the peer group, which isn’t good, but in my opinion, it isn’t a critical flaw, either.

Furthermore, with zero debts and significant free cash flow generation (FCFF = $51.2 million in FY2023; around $11.3 million in Q1 2024), GCT repurchased ~$1.6 million worth of shares last year, leaving ~$23.4 million remaining in its buyback program. The company’s growing net cash and investments on the balance sheet reached $196.2 million as of the end of Q1 2024 – it’s around 12.41% of the whole market cap as of today if my math is correct.

So as you can see, the company has shown robust growth in recent years; This significant expansion stands out from the lackluster performance of its direct peers, many of whom are clinging to outdated business models as far as I know. It’s understandable that GigaCloud’s remarkable business expansion has caused skepticism among some analysts – one notable case was the short report published by Culper Research a few months ago. Their report alleged fraudulent transactions within GigaCloud’s operations, questioning their business practices. I recommend everyone read Culper’s reasoning to understand the position of many bears in the market right now. Quite quickly after the short report was published, GigaCloud concluded an independent review initiated in response to the concerns raised. They engaged external experts (including FTI Consulting (FCN) and White & Case LLP) to conduct a thorough examination. After careful scrutiny, they determined that the claims made in the report lacked substantiation.

The revelation and subsequent allegations served as a catalyst for the share’s recovery after a significant short-lived decline – currently, GigaCloud stock is trading near its all-time highs again. However, the consensus, which is influenced by the negative perception due to the reputational risk from the report, remains skeptical, leading to mispricing.

Consider the facts: The stock is up over 7.5x since the beginning of May 2023. Yet GigaCloud still trades at 13.5 times next year’s GAAP earnings, which is remarkably low compared to the sector median of ~16.5 times. Yes, Seeking Alpha’s Quant System indicates a decline in “Valuation” over the last six months, moving from “A” to just “C-“. Nonetheless, let’s consider the growth rates as well – GigaCloud is trading at a staggering 89% discount compared to the whole sector if we try to value it through the TTM PEG ratio:

The mispricing becomes clear when we look at the implied P/E multiples beyond 2024: If the EPS consensus for 2025 holds true, GigaCloud will trade at around 10 times earnings in a year. This corresponds to a discount of around 29% compared to the current sector average. And this doesn’t even take into account the potential premium that the company should achieve due to its growth rates, which exceed the market’s norms many times over.

A few words about the management outlook: GCT anticipates next quarter’s revenue of ~$272.5 million at the midpoint, reflecting strong YoY growth of 78%. Recent acquisitions, such as Noble House and Wondersign, should fuel further expansion into India and Canada, complementing previous expansions into Mexico, Colombia, and Turkey.

As we continue to integrate Noble House and the Wondersign acquisitions, we expect to see ongoing revenue growth and the powerful synergies that we believe will create an even more robust and efficient online B2B marketplace.

Source: GCT’s management commentary

Also, just recently GigaCloud launched Branding-as-a-Service ((BaaS)) to boost sellers’ product competitiveness, broadening their supplier base to include products from the regions I mentioned above and enhancing product diversity.

In my opinion, the current consensus estimates regarding the top-line expansion may even turn out to be too pessimistic.

Risk Factors To Consider

Firstly, GigaCloud is pioneering a relatively new business model, which makes direct comparisons difficult. So, predicting its performance over a longer historical horizon is subject to uncertainty due to unpredictable impacts from business cycle turns and economic downturns. This uncertainty is crucial to acknowledge.

There is also a risk that Culper’s allegations, which may not be entirely true in this case, may contain some elements of truth. Such revelations could significantly devalue the stock, especially considering that it has soared so strongly in recent weeks and months.

Furthermore, I base my analysis on several rather risky assumptions about the future development of the company. For example, I assume that the current consensus is too pessimistic; however, there is always the possibility that the market has insights that I’m not aware of or that Wall Street analysts’ estimates are, in fact, too optimistic. Additionally, when talking about undervaluation, I take into account the market “norms”, which may not be applicable to GCT whose market capitalization hasn’t exceeded $2 billion so far. It’s conceivable that the discount seen in the stock’s key multiples could be justified given the business size.

Your Takeaway

So what happens if the risks described above don’t materialize for GigaCloud? Then we’re dealing with a company whose reputation took a hit from accusations it has vehemently denied, but I suspect the shadow of those accusations still lingers, unfairly impacting GigaCloud’s valuations. The firm is expanding not only in absolute terms but also geographically, broadening its global market presence and potential addressable market. At the same time, GCT’s key margins are increasing, with no peak in sight at the moment. In my opinion, it could take a few more quarters for the current valuation discount to unwind. Even assuming that GigaCloud doesn’t receive a valuation premium for its exceptional growth, the basic average-reversion in terms of P/E ratio would imply a potential upside of 29% from current prices (12-month objective). I’ve therefore decided to rate GCT stock as an out-of-consensus “Buy” today, with a favorable risk-to-reward for investors.

Good luck with your investments