Smartphone manufacturer Xiaomi Corp remains upbeat on its global shares offer, despite some doubts over the company’s future cashflows and a possible investor backlash following the decision to indefinitely postpone plans for a listing on Chinese stock exchanges.
About 2.18 billion shares will be offered today, with Xiaomi expected to raise somewhere between US$4.7 billion and $6.1 billion before an over-allotment option is exercised. This is well down from earlier forecasts of US$10 million that had anticipated a Chinese offering.
Scheduled to debut on the Hong Kong bourse on July 9, the company has priced its shares in a range of HK$17-$22 (US$2.17-$2.80) each, which represents a multiple of 22.7–29.3 times the 2019 earnings forecast by the underwriting syndicate.
This values Xiaomi at US$54.3 billion to $70.3 billion, which is also below the figure of US$100 billion earlier quoted by company executives and even the revised target of more than US$70 billion.
One explanation for the lower valuation might be that investors are concerned about Xiaomi’s potential to increase its profit margins, Hao Hong, chief strategist at Hong Kong-based broker BOCOM International, told CNN Money.
“The explosion of Xiaomi has been at the low end of the market. It’s not taking the premium end of the market like Apple and Samsung. That’s why its profit margins are very difficult to expand,” he said.
One of the selling pitches by founder and chairman Lei Jun is the bold claim that Xiaomi offers “world-class products at half the price”, which greatly reduces its margins. Xiaomi promises to keep the net profit margin below 5%, with any excess being returned to customers, a pledge that some new investors might find hard to stomach.
Lei insists his company maintains excellent design and outstanding quality, but is able to keep prices as close as possible to cost through highly efficient retail channels.
“We are an innovation-driven internet company committed to the principle of ‘amazing products at honest pricing’,” Lei said at a press conference for the initial public offering in Hong Kong on Saturday. “In the future, Xiaomi has huge potential for growth.”
At the moment, however, Xiaomi relies mostly on its smartphones: the company shipped more than 92 million devices last year, making it the fifth-biggest smartphone maker in the world. Xiaomi also makes laptops and other hardware, as well as some unrelated consumer household goods, but 70% of revenues come from a product that has a design strikingly similar to Apple’s iPhone.
Xiaomi’s product costs only half as much as the iPhone, yet its price-earnings ratio is double. And the quality of earnings does matter. Apple recorded revenues of US$61 billion last quarter, thanks to an admirable margin of 40% on the iPhone; Xiaomi reported 34.4 billion yuan (US$5.29 billion) in revenues with an overall 12.5% margin. The Chinese company’s mobile phone margin was even lower, at 5.1%.
Lei said in response to the high valuations claim that Xiaomi deserved to have an earnings multiple higher than that of Apple and Tencent combined because of its extraordinary mix of technologies.
“We’re a very rare company that can do hardware, e-commerce and internet services,” the CEO declared.
Asked at the press conference about the reliance on smartphones, Lei said he expected Xiaomi to expand its product range and move into new markets outside China. It is now selling phones in 74 countries.
“I agree the smartphone market in the next 10 years will grow slowly. But still, it is a giant market,” Lei said.
Documents published by Xiaomi last month show that the company’s revenues soared nearly 70% last year to around 115 billion yuan (US$18 billion), while operating profit more than tripled to 12 billion yuan (US$1.9 billion). Since it started in 2010, Xiaomi has now accumulated more than 100 billion yuan ($15.37 billion) in revenues.
This suggests that it may have fully recovered from a setback in 2016, when delivery problems reduced smartphone sales and eroded profits.
Whether investors are confident it has the earnings capacity to move forward will be fully tested this week, as will Lei’s famous saying: “Good company earns money. Great company earns trust.”