Secoo Expects Tenfold Earnings Growth in Q3

Secoo (NASDAQ: SECO) recently announced preliminary third-quarter revenue and earnings estimates, and the numbers were stunning. The Chinese luxury e-tailer expects to generate $145.8 million to $147.3 million in revenues, which would equal 42%-44% annual growth. That marks an acceleration from the 30% sales growth it posted during the first half of 2017.

Its gross merchandise volume (GMV) -- the total value of all orders, excluding cars -- should reach $204.7 million to $208.9 million, which represents 64%-65% annual growth. That also marks an acceleration from 51% GMV growth in the first half of the year.

On the bottom line, Secoo's expected non-GAAP earnings of $5.3 million to $5.9 million would represent about tenfold growth from the prior-year quarter. Its GAAP earnings are expected to rise 782%-900% annually to a range between $4.5 million and $5.1 million. Those figures indicate that Secoo should finish the year with its first ever profit, compared to merely narrowing losses in 2015 and 2016.

CEO Richard Rixue Li stated that those growth figures met the company's expectations and that Secoo continues to enjoy its "leading position in the upscale products and services market in China." The company also announced that Li would personally purchase up to an aggregate of $5 million in shares on the open market after Secoo released its full third-quarter earnings report.

Secoo's preliminary report lifted the stock by about 11% on Nov. 2, but the stock remains nearly 40% below its September 2017 IPO price of $13. Why is the market still so bearish on Secoo, and does that fear represent a buying opportunity for long-term investors?

Plenty of bullish catalysts

Secoo is China's largest stand-alone luxury e-tailer with 15.1 million registered members, and reportedly controls about 25% of the country's online market for luxury brands. Its largest investor (with an 18.5% stake) is IDG Capital, the parent company of research firm IDC and various U.S. tech publications.

Secoo holds distribution partnerships with top brands like Versace and Ferragamo, and benefited from the ongoing problems with counterfeit goods in bigger marketplaces like Alibaba's (NYSE: BABA) Taobao and Tmall. It also recently signed a deal with the European Confederation of the Footwear Industry (CEC) to sell shoes from more than 10 European countries to Chinese customers.

To protect its niche from bigger marketplaces, Secoo focuses on so-called second-, third-, and fourth-tier cities in China, which have rising income levels but limited access to luxury brands. It also recently opened five brick-and-mortar stores as showrooms for its products, which are ordered online, and plans to open five more by the end of the year. Secoo also lets Tencent (NASDAQOTH: TCEHY), which owns China's top messaging app, WeChat, analyze is customer data. Secoo uses that data to customize its shopping recommendations.

Secoo's stock trades at just 0.9 times sales and 0.3 times its enterprise value. Those valuations seem very cheap for a profitable company with accelerating double-digit sales growth. Secoo isn't followed by many analysts, but Jefferies -- which was one of the IPO's underwriters -- recently rated the stock as a "buy" with an $18 price target. The stock closed on Nov. 7 at $8.10.

But the bears aren't convinced

However, Secoo's stock remains down due to several major concerns. First, the stock's 23% drop on its first trading day on Sept. 22 raised red flags, since it plunged at the open without ever reclaiming its IPO price of $13. That meant some early investor(s) -- not an insider who would be subject to lockup restrictions -- was very eager to sell. But we know that seller wasn't IDG Capital, which was subject to restrictions and recently stated that it won't sell any shares even after those restrictions are lifted.

The other major concern is competition. Alibaba's Tmall and (NASDAQ: JD), the two largest B2C (business-to-consumer) marketplaces in China, both recently launched dedicated platforms for luxury goods. Tencent is also partnering with luxury brands to sell products directly within WeChat, while the brands themselves are launching more direct-to-consumer channels across China.

The bears believe that it's only a matter of time before those rivals render Secoo obsolete. However, investors should note that Secoo has a first mover's advantage, and that Alibaba and already sold luxury goods in their marketplaces (just not dedicated sites) for about two years.

There's also the odd disparity between Secoo's 15.1 million registered users and its 0.2 million "active" customers (defined as a person who makes at least one purchase during the specified period) in the first half of 2017. That's up from 0.16 million in the first half of 2016, but Secoo hasn't explained why it has so many more registered accounts than active shoppers.

The key takeaway

Secoo is still a very speculative stock, but I think there's a lot of upside potential at these prices. The company's business is widely misunderstood, and its main customers -- who spend an average of 3,500 yuan ($528) per order -- probably won't switch to Tmall or anytime soon. Nonetheless, Secoo still needs to address the growing concerns about the competition if it hopes to win over more investors.

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Leo Sun owns shares of Secoo Holding Limited-ADR and Tencent Holdings. The Motley Fool owns shares of and recommends The Motley Fool has a disclosure policy.