Scouring the investable universe for emerging companies can be a harrowing exercise. So, how can we improve the process? By minimizing the downside risks in the selection process, translating into a higher level of confidence in our base-case and best-case scenarios. My willingness to enter Dada Nexus Limited (NASDAQ:DADA) such a short time after going public in June 2020 is the latest example.
Dada Nexus Limited is a Chinese company, operating in the on-demand retail and delivery space. On-demand retail and delivery is booming in China. A trend that continues to accelerate in a post COVID-19 world and a space we want exposure to. However, it wasn’t the industry in which DADA operates that initially caught my eye. It was the ownership stakes of JD.com, Inc. (NASDAQ:JD) and Walmart Inc. (NYSE:WMT), 47.4% and 9.9%, respectively, that I wanted to hitch delivery wagon to.
The formal partnership with the Chinese e-commerce giant, JD.com began in 2016 with DADA’s purchase of JD Daojia. The same year, Walmart Inc. made an initial investment of $50M, with a follow-on investment of $320M in 2018. We view these partnerships as a sustainable source of near-term and long-term revenue growth. Helping to stack the deck at Dada Nexus Limited in the form of visible sustainable growth.
JD.com’s recent and ongoing contribution to DADA’s revenue growth was reported in their inaugural Q2 2020 financials when they reported their first set of quarterly financials. Overall, Dada Nexus Limited’s Q2 revenue came in at $183.7M, up over 90%. The JDDJ arm of the business accounted for 37.4% of DADA’s overall revenue in the quarter, with revenues growing almost 98% (as did GMV). DADA expects revenue from JDDJ to grow 100% in 2020. As the JDDJ revenue mix increases, so will JD.com’s positive influence on revenue growth sustainability. We see this as a very encouraging sign.
No question, both the JDDJ and Dada Now platforms have been large beneficiaries of the COVID-19 pandemic, providing a significant tailwind for current and future growth. Hastened adoption of on-demand delivery and technology has also taken place in lower-tier cities in China. Revenues attributable to these locals rose 170% year over year.
Dada Nexus Limited continues their ongoing focus to increase their geographic footprint in 2020. DADA has grown the number of cities covered since March 2020 by 300 or +42%, passing the 1,000 mark in Q2 2020. As you would expect, the number of active DADA customers is also increasing rapidly (+71%).
The broad-based usage across China is very encouraging. Because, as volumes increase, so does the prospects of profitability. Operating loss margins improved by 5.25% and are projected to continue trending lower.
A large portion of these customers are expected to remain, given shifting consumer behavior, both pre- and post-COVID-19. The on-demand retail and delivery market in China isn’t cooling down anytime soon. Combining the prospects for growth with what I see as JD.com’s built-in “floor” gives DADA the favorable risk-return ingredient needed for alpha generation. In my opinion, the JD and WMT connection cannot be understated.
Lastly, let’s take a look at the brief chart history for DADA. Technical analysis/charting is the primary tool I use when determining my entry or exit point for an equity position that has successfully completed our stock selection process. However, the shorter the history of the stock, the less we can derive from technical analysis.
As you would expect, Dada Nexus Limited has had an up and down ride since unveiling the IPO in June. Support currently sits around $21.50. A level recently tested in early September, after August’s quarterly results sent the stock on a downward slide. Showing some resiliency since, the chart has righted itself, rising from September lows. Shares of DADA currently sit at the 50-day moving average.
One natural phenomenon of the IPO life cycle is the softness observed in share price as the end of the share “lock-up” approaches. This will occur for Dada Nexus Limited on December 2, 2020. Expect plenty of volatility in the interim, providing opportunities to open or add to a position in DADA.
As the vast majority of my followers know, I’m very cautious about purchasing stocks that have had their IPO within the last 12 months. I prefer others pay the early premium to drive the new car off the lot.
In the case of DADA, my comfortability and current holdings in JD.com provide a level of confidence not routinely given to such a young publicly traded entity. We view the ownership stakes of JD.com and Walmart as providing a “floor” to the revenues and accompanying growth of Dada Nexus Limited, helping to reduce the tail risk of an adverse outcome in the high growth but highly competitive Chinese on-demand retail and delivery market. We expect the stock to “deliver” some alpha… along with the groceries.
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Disclosure: I am/we are long DADA, JD. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I collaborated with my Gunderson Capital Management colleague, Barry Kyte Jr., CFA, on this article.