Weilong’s Hong Kong IPO Valuation Halved as Investors Lose Appetite –

Key Takeaways:

• Weilong is reportedly seeking to raise $500 million and is valued at $4.9 billion, both of which are nearly half that from a year ago
• The company has maintained strong sales, but profitability has stalled, triggering a switch to foreign markets in search of new growth drivers

By Ken Lo

They say third time’s a charm and it certainly appears to be the case for Chinese spicy snack maker Weilong Delicious Global Holdings Ltd., which finally received approval last month for a listing in Hong Kong after a troubled year-long effort and two previous failed attempts.

However, 12 months later there now appears a much reduced appetite among investors for its shares, with both its valuation and the amount it seeks to raise halving from levels a year ago.

So, what happened? It’s shrinking fortunes can be attributed to a list of woes including stalled profits despite rising sales, an over-reliance on third-party offline distributors, problems raising capital and the aforementioned delay in receiving approval for the Hong Kong IPO.

The troubles began in May last year when it submitted its first IPO prospectus with a purported plan to raise $1 billion, but failed to get approval within the prescribed six-month period. Its second application filed in November also failed.

Finally on June 27, the company’s listing was approved, with Morgan Stanley, CICC and UBS Group as its sponsors.

But it wasn’t just its repeated inability to secure approval for an IPO that has investors spooked. Weilong’s one and only round of pre-IPO fund-raising also encountered hiccups. Kicked off in May last year, the funding round attracted big names like Citic Private Equity Funds Management, Hillhouse Capital, Sequoia Capital China, Tencent Investment and Yunfeng Financial Group, securing an impressive valuation of 61 billion yuan ($9.1 billion).

But right from the beginning the process was plagued by severe delays due to its beleaguered  IPO campaign and was not completed until May this year, with investors eventually forking out just 4.43 billion yuan in exchange for 13.5% of the company, bringing the company’s valuation down by nearly half to 32.8 billion yuan. Unsurprisingly, rumors abound that its funding target for the IPO might also have been halved to $500 million, according to a Bloomberg News report.

Weakening profitability

Adding to these woes is the company’s flagging profit growth. Last year, while its operating revenue reached 4.8 billion yuan, a year-on-year increase of 16.5%, its net profit grew by just 1% to 827 million yuan as a result of an increase in sales and management expenses.

Even adjusted net profit, which is reflective of actual business operations, totaled just 908 million yuan, an increase of 10.6%, yet still nearly 6 percentage points lower than the growth in operating revenue.

It is worth noting that the 153 million yuan the company logged under net total of other revenues, 135 million yuan was attributable to government subsidies. So, without the largesse from the government, it would have reported a loss last year, clearly indicating a need for new growth drivers to bolster profitability.

Considering it was ranked the No. 1 spicy snack food company in China in terms of retail earnings by Frost & Sullivan, which was cited in its prospectus, Weilong and its investors could be forgiven for thinking the company should be doing better.

In fact, the company’s seasoned flour and spicy vegetable snack products were the nation’s best sellers, with soybean products rounding out its three main product categories, according to Frost & Sullivan. Last year the earnings of its flour and vegetable products reached 2.92 billion yuan and 1.66 billion yuan, respectively, growing by 8.5% and 42.5% year-on-year with gross margins of 35.9% and 22.7%.

However, overall it only has a 6.2% market share due to the severely diffuse nature of the market and low entry threshold.

Its soybean and other new products unveiled in recent years earned only 218 million yuan last year, a decline of 17% and also lower than the 245 million yuan in 2019. The impressive gross margins of 37.9% for the new products belies the fact that they are not popular with consumers and that Weilong’s strategy to create new revenue streams by launching new products has been a resounding dud.

Reliance on distributors

Its over reliance on offline sales and third-party distributors has also dented investor appetite for its IPO. Despite the overwhelming popularity of online shopping among China’s consumers, Weilong’s direct online sales last year totaled only 251 million yuan or just 5.2% of total revenue.

The excessive reliance on offline distributors has proven a perennial handicap that has been hard to overcome. Weilong admitted as much in its prospectus, listing its dependence on third-party distributors to bring products to market and the lack of control over these entities and other smaller distributors and retailers as a major risk factor.

This admission comes even as the number of distributors it works with declines. By the end of last year, it had partnerships with more than 1,900 offline distributors covering 690,000 retailers across China. However, this number has been on a decline over the past three years, down from 2,592 in 2019 to just 1,924 last year.

Fewer orders from distributors, failure to renew contracts with them or distributors choosing products made by Weilong’s competitors means that its business operations and financial performance have taken a sizable hit.

In the hope of countering these setbacks, the company is pushing ahead with plans to expand production capacity, which it will fund partly from cash raised via the IPO. By the end of 2025, it aims for total production capacity in all three categories to reach 175,000 tons, an increase of around 50% from the end of last year.

It will also build another factory in Central Eastern China which will come online in 2023, churning out an additional 59,400 tons every year.

As the company already has enough capacity to meet domestic demand, it is looking to expand its footprint abroad. By the end of last year, it had recruited 23 overseas distributors in Southeast Asia and North America, which is a wise step given the sluggish growth of the domestic retail market in China this year.

Still, despite Weilong’s rocky road to an IPO and stalled profits, it still ranks competitively among some of its leading peers in terms of value. Given the lack of IPO details, we can use Weilong’s adjusted net profit last year of 908 million yuan to calculate its potential IPO valuation and arrive at an estimate of 32.8 billion yuan and a price-to-earnings (P/E) ratio of 36.

This is right alongside some of the bigger names including Chacha Food Co. (002557.SZ), Three Squirrels Inc.(300783.SZ) and Bestore (603719.SH), which all registered price-to-earnings (P/E) ratios in the range of 30 to 40.