ATRenew

Chinese recycler at 7x 2024 PE with a long runway for growth

I have found another interesting Chinese stock that is just too cheap to ignore. They just keep luring me in! I can’t help it, there is just nowhere else in the world where you can buy stocks at these absurd valuations right now. Almost half of my portfolio is now in Chinese stocks.

You can guess the company name based on the following characteristics:

• A compounder with a sizable and growing moat and a long growth runway.

• Currently trades at an estimated 7x 2024 earnings. 

• Returning capital through buybacks.

• Significant room for margin expansion.

• Most of its market cap is net cash.

• In the recycling business.

Chinese stocks and pharmaceuticals both look incredibly mispriced at the moment. I will have one, and possibly two write-ups on US traded pharma stocks soon as well (behind paywall). They are not liquidations, but actually pharma companies with promising product(s) and profits already. I remember saying to myself a year ago that pharma stocks are outside my circle of competence. But when an asset class gets to a certain absurd level of cheapness, I think that matters less and less. 

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Disclaimer: Readers of this blog should do their own due diligence before buying or selling any of the mentioned stocks, since I have been wrong before and cannot guarantee all information in this write-up is 100% factual. I may buy or sell the above mentioned stocks at any time. I am not your financial advisor. Past success is no guarantee for future success.

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But now first let’s get into…

… ATRenew (RERE). They are a fully integrated recycler and seller of used electronics (mostly phones). They collect used electronics through a network of almost 2000 offline stores and through their online platform AHS recycle. They then run these electronics through their almost fully automated facilities (see video here) for quality control and then sell them on their B2C and B2B online platforms.

RERE is by far the largest player and has about 10% market share in a very fragmented market, while the Chinese used phone market is expected to grow at a 12% cagr until 2030. They derive a competitive advantage from:

• Having a trusted brand (buying or selling a used phone or laptop does require some trust, which is in short supply in China), the company has even been featured on Chinese state TV. Data security is especially an important consideration for consumers.

• Highly automated large scale facilities using in house developed proprietary technology making more accurate value assessments at a lower cost vs the competition. Allowing the company to buy products at a higher price compared to the competition and give a higher quality guarantee.

• Network effect from their online selling platforms.

• Extensive supply chain for sourcing used electronics.

• Economies of scale.

• Strategic partnership with JD and various large phone manufacturers (they have kiosks in Apple’s retail stores).

Adjusted earnings (there is a $41 million amortisation charge of a cooperation agreement with JD which is non economic, more on that below) in 2023 were about $18 million on $1.83bn in revenue. Management expects to expand operating margins by 1% per year. So that means adjusted earnings will approx. be $0.2-0.25/share in 2024 on expected revenue of $2.26bn and $0.4/share on $2.8bn in 2025. On a share price of $1.7. When fully consolidated further down the road, margins could go as high as 5-6%. 

Due to the capital light nature and high turnover of inventory of this business ROIC is very healthy at >20% already if they hit their targets in 2024, and will only expand. I think 25-30% revenue growth is reasonable given that the company guided 24-27% growth in Q1.

Revenue growth drivers will be increased ownership of pre owned devices (China ranks far below other countries), taking further market share and expanding into value added services like refurbishing phones (currently about 6-7% of revenue) which carries higher margins of 6%. 

What I like so much about this stock is that a lot of things neatly lines up: 

• Get the business for almost free due to its large net cash balance. Cheap on earnings too, not really paying up for growth.

• The financials are clean and believable without red flags, no VIE structure and unlikely to be a fraud due to JD ownership.

• Huge growth runway ahead for both revenue and margins. This is one of the few stocks I own where I feel comfortable predicting double digit revenue growth rates for another 5+ years. 

• Company is returning capital. I would have preferred a $40m buyback instead of the announced $20m, but still significant at ~7% of the market cap.

• A solid and expanding moat in an industry which will obviously have demand 10-20 years from now with active state support from the CCP due to their desire for a more circular economy. So no worries that the government will mess it up.

• Stock doesn’t yet easily screen as cheap, giving a plausible reason for why it is cheap. This will probably change within the next couple of years providing a nice catalyst.

There are several risks here, one of which is that JD will compete with RERE as the amortisation of the business cooperation agreement with JD runs off this year. This 5 year agreement was signed with the acquisition of Paipai (RERE’s B2C marketplace) from JD in 2019. 

I consider this unlikely for several reasons as JD owns 33% of RERE shares. Competing with RERE would be costly for JD due to RERE’s sizable competitive advantages, and hurt the value of their RERE shares. 

I think JD would first try to make at least a lowball bid for the shares they do not own before they would try to compete. And they would have to probably offer a 100% premium at minimum due to the sizable net cash balance. 

Part of this cooperation agreement is that RERE is the exclusive provider of trade in services on JD. The risk is that JD will use other trade in services as this cooperation agreement ends. Again I think this is unlikely as RERE does not really have a competitor at the moment that offers the same combination and quality of service as RERE. The only serious competitor is Xianyu, which is owned by Alibaba, a competitor of JD. Making RERE the exclusive buyer of used electronics benefits JD as it boosts the value of their RERE shares and it benefits JD’s customers as RERE will offer the best price and service. 

The most likely outcome in my opinion is that the JD cooperation agreement will be extended this year. 

Then obviously there is also the China risk. But if a company like this were trading in the US it would probably trade at 4-5x the current valuation. So I think that is already more than priced in. There is even a chance JD will step in, team up with the CEO (who owns 11% of RERE) and take this private if the shares keep trading at these depressed levels. I would not count on that though.

I think upside within the next year if revenue growth comes in at ~25%+ is at least $3-3.5/share. With meaningful upside beyond that if the company keeps performing well. I am long RERE shares at $1.7/share. 

Further reading:

Letter from ATRenew CEO

More in depth Zacks research report

20 min interview with chief strategy officer of ATRenew

ATRenew mentioned on state television