3Q24 results miss our expectations

Deppon Logistics announced its 3Q24 results: Revenue rose 1.0% YoY and 7.6% QoQ to Rmb9.85bn. Gross profit fell 6.9% YoY and 9.7% QoQ to Rmb731mn. Net profit attributable to shareholders fell 19.4% YoY and 23.3% QoQ to Rmb184mn. Recurring net profit grew 1.8% YoY and fell 15.6% QoQ to Rmb154mn. The firm's earnings for 3Q24 missed our expectations, mainly due to: 1) weak demand putting pressure on pricing; and 2) rising costs as the firm increased investment in incremental markets, such as specialized sectors.

Trends to watch

Demand in the less-than-truckload (LTL) market was weak, prompting the firm to strategically focus on its core express shipping products, which drove healthy revenue growth. Data from G7 shows that China's public logistics park throughput index fell by 7%, 6%, and 5% YoY in July to September, while industry demand remained weak, impacting the firm's pricing. In 3Q24, the firm's express shipping, express delivery, and other businesses generated revenues of Rmb8.88bn, Rmb535mn, and Rmb435mn, reflecting YoY changes of +1.2%, -18.0%, and +33.8%. The freight volume of the firm's core business (excluding network integration and vehicle business) rose by 9.4% YoY to 3.41mnt in 3Q24, indicating healthy organic growth.

Costs and expenses increased in 2H24 due to fine-tuning of product mix and increased investment in service resources. 1) Labor costs, transportation costs, rents, depreciation and amortization, and other costs as a percentage of revenue fell by 2.1ppt, increased by 4.4ppt, decreased by 0.7ppt, decreased by 0.4ppt, and decreased by 0.6ppt YoY in 3Q24. The transportation cost ratio rose notably, mainly due to: 1) a structural increase in the transportation cost ratio attributed to the rising volume of trucking and supply chain businesses, which constitute a significant portion of freight costs; and 2) the firm's increased investment in transportation resources to enhance customer experience, resulting in a 1.4ppt YoY increase in the fulfillment rate of its main products.

2) Expenses: In 3Q24, overall expenses fell by 15% YoY, and the expense ratio decreased by 1.0ppt YoY. Selling and G&A expenses rose by 47% and fell by 33% YoY, with their ratios to revenue increasing by 0.6ppt and decreasing by 1.32ppt. Selling expenses rose notably, mainly due to the firm's strategy to expand its coverage of professional markets and a significant YoY increase in the size of its sales team. G&A expenses were effectively reduced thanks to the flattening of the organizational structure and the rolling adjustment of the annual bonus withholding amount.

Industry landscape remains concentrated; we are upbeat on the firm's advantages in economies of scale and service quality. The firm continued to integrate with JD Express, and we see ample room for economies of scale. Meanwhile, the firm has been improving service experience, with the breakage rate and complaint rate per 10,000 parcels decreasing by 28% and 44% YoY in 1H24. In our view, the LTL logistics market has been undergoing consolidation in recent years. As a leading direct-operation express delivery company, we expect the firm to build a solid competitive advantage by leveraging its cost and service strengths, and we believe its earnings still have substantial growth potential.

Financials and valuation

We cut our 2024 and 2025 net profit forecasts 23.0% and 35.0% to Rmb847mn and Rmb944mn due to weak industry demand and the firm's increased resource investment in lower-tier markets. We maintain an OUTPERFORM rating, but as the firm's earnings are under temporary pressure, we cut our target price 10% to Rmb18.00 (21.8x 2024e and 19.6x 2025e P/E), offering 25.5% upside.

Risks

Disappointing growth of economic parcels; earnings from network integration projects and/or cost control disappoint.