Liquidating JD.com, expanding Sam's Club, the favorite of the middle class

In yesterday's article "Internet Stocks Actively Returning Shareholders", the analysis of shareholder returns in the Internet sector was discussed. JD.com was the company with the highest shareholder return in the first half of the year, repurchasing $3.3 billion in the first half of the year, reducing total shares by 7%. With only $400 million left in the repurchase quota, it is unknown whether the board of directors is willing to increase the quota.

Coincidentally, today the second largest shareholder, Walmart, cleared out 144.5 million shares of JD.com, with each ADR trading at a price of 24.85-25.85 yuan, at a discount of about 11.8%, amounting to between $3.59-3.74 billion. Following this, Walmart will no longer hold JD.com shares, but the two parties will continue to cooperate, with JD.com responsible for the timely retail channel distribution business of Walmart and Sam's Club.

After the news of Walmart's clearance, JD.com fell by over 10%, wiping out the 11% increase since the second quarter report. Also, JD.com used up the remaining $400 million repurchase quota this morning.

Walmart's reduction of $3.6-3.9 billion is equivalent to JD.com's repurchase of $3.7 billion this year, essentially offsetting each other. Although from the perspective of net cash - market value valuation, JD.com is very cheap, without repurchases, there would still be significant short-term pressure on the stock price. In last week's shareholder meeting, the management did not approve new quotas. Will Walmart's reduction this time perhaps force the management to increase the repurchase quota?

Setting aside political factors, the reason for Walmart's reduction is more likely to be that they are becoming competitors with JD.com.

The changing environment, Sam's Club's crazy expansion in China

Walmart first invested in JD.com in June 2016, when Walmart exchanged its 1 号店 business for 145 million A-class common shares newly issued by JD.com, accounting for 5.3% of JD.com's total share capital. In December of the same year, Walmart increased its holdings in JD.com, raising its stake to 10.1%.

It is worth noting that from the time Walmart started investing, from 2016 until now, in terms of stock price, Walmart definitely did not earn much from JD.com, basically selling in the lowest range, with a stock price increase of only 10-20% on average.

If Walmart had reduced its holdings near historical highs, it could have made a profit of more than double its investment. Selling JD.com at this stage is clearly not profitable Why is Walmart selling JD at this stage?

According to Walmart, reducing its stake in JD is to recoup cash flow so that Walmart can focus on investing in the Chinese market. This also refers to the phenomenon of consumer stratification behind the accelerated expansion of Sam's Club membership stores in China in recent years.

We can consider Walmart's investment in JD in 2016 as a stage of the rise of e-commerce in China. During this stage, Walmart was unable to compete with e-commerce in China, so investing in JD was reasonable.

From 2016 to 2020, the market share of JD and Alibaba continued to expand, with the two companies monopolizing 80% of the domestic e-commerce market. During this period, traditional offline supermarkets and hypermarkets lost a considerable share to e-commerce, community group buying, and online grocery shopping.

After 2021, due to the impact of mask-wearing on consumption downgrading, low-cost e-commerce platforms such as Pinduoduo and Douyin began to erode the market share of JD and Alibaba. The market share of JD and Alibaba (Taobao + Tmall + JD) has decreased from the original 80% to the current 50%. Pinduoduo, representing consumer downgrading, has increased its market share from 13% in 2020 to 21% this year, while Douyin has increased its market share from 5% in 2020 to 19% this year. The entire consumption environment is indeed trending towards low prices.

At the same time, the competitive landscape of traditional offline supermarkets has been changing over the past three years.

As we all can feel, in the past two years, Sam's Club and Costco have been opening more stores, while traditional supermarkets like Walmart and Carrefour have been closing stores continuously. Since 2022, Walmart has closed 60 traditional hypermarkets.

Firstly, it has become more difficult to do business. The overall environment is moving towards low-cost consumption, and traditional supermarkets are affected by store rent and labor costs. It is difficult for offline stores to compete with e-commerce on price. Secondly, traditional supermarkets have fewer product categories. Apart from price, consumers have fewer product choices compared to e-commerce. Considering the price issue, their competitiveness is naturally weaker than e-commerce.

However, the challenge lies in how offline supermarkets can offer a wide range of product categories for consumers to choose from (requiring large spaces), while keeping store rent and labor costs low enough to compete with e-commerce on price.

For those who can achieve the above two points, high requirements are placed on enterprise operations and supply chains. This explains why Sam's Club and Costco have been successful offline in China, meeting the conditions of having a wide range of SKUs, fast turnover, low prices, and large quantities.

Most importantly, the models of these two companies are already mature, making it easy to accelerate expansion in China. There are hardly any competitors of the same scale domestically, and opening a new store in each city leads to instant success.

Looking at Walmart's second-quarter report, Walmart China's net sales in the second quarter were $4.6 billion, approximately 33 billion RMB, a year-on-year increase of 17.7%. The penetration rate of Walmart China's e-commerce reached 49%, with e-commerce sales growing by 23% year-on-year, and the customer traffic at Sam's Club in China reaching a new high Management mentioned that in terms of total revenue, the best-performing stores are all Sam's Club stores in China, and they will continue to expand Sam's Club stores in China. In addition, management also mentioned that although low to middle-income consumers are Walmart's core customer base, Walmart has also attracted customers with annual incomes exceeding $100,000 in recent years and continues to expand its market share in high-income households.

From the figure below, including the under-construction Sam's Supermarket, there are currently a total of 48 Sam's Club stores in China.

So, going back to the mentioned consumer downgrading, does it not exist for Sam's Club stores? Because the products at Sam's Club stores are not necessarily the cheapest.

Of course, this exists. Although the overall consumption environment is not good, the customer base of Sam's Club stores is middle-class consumers. By using a membership system, most customers capable of repeat purchases have already been screened out. The purchasing power of these consumer groups will be better. Based on the pursuit of low prices in the overall environment, they also pursue product quality, which better fits the profile of middle-class consumers.

In 2023, the sales of Sam's Club stores in China were 80 billion, with 5 million members, and based on last year's data, each member spent an average of 16,000 yuan per year.

Especially, Walmart is also engaged in a price war offline. According to Walmart's CEO, groceries account for more than half of total sales, with prices about 25% lower than traditional supermarkets. Not only Walmart stores, but the overall prices of Sam's Club stores have also decreased compared to the same period last year.

Conclusion

It is not difficult to understand why Walmart is clearing its stake in JD.com. Firstly, because it continues to expand Sam's Club in China, and the e-commerce channel is also rapidly developing. The relationship between the two has changed from a past cooperative relationship to a direct competitive relationship. Although there was competition in the past, the expansion was not as fast. Now that the businesses overlap, clearing the stake to recoup cash flow and then betting on its own business in China.

Another reason is that in such a macro environment, it is almost difficult for JD.com to turn the tide when its market share is besieged. From the perspective of investment return, Walmart believes that it is better to invest in its own business rather than continue to hold JD.com.

For JD.com, it will definitely affect short-term stock price performance, but there is no need to be too pessimistic. At least it is not selling at a high level. The current undervaluation provides the market with an opportunity for rational thinking. If this had happened one or two years ago, JD.com might have dropped by more than 8% in a day.

Is JD.com expensive now? With around 140 billion in net cash and a market value of 300 billion, can it increase its share buyback in the future? This is something that needs to be considered calmly