3Q23 performance fell short of our expectations

The company announced 1-3Q23 results: revenue of 2.138 billion yuan, +9.6% year-on-year; net profit of 96 million yuan; net profit from net income of 96 million yuan, turning a year-on-year loss into profit; net profit after deduction of 145 million yuan, +174.2% year-on-year. Among them, 3Q23 revenue was 737 million yuan, +11.0% year over year; net profit of the mother was 0.04 million yuan, turning a loss from the previous year to profit; and net profit from non-return to the mother was 0.06 billion yuan, +194.0% over the same period last year. 3Q23 The performance fell short of our expectations due to asset impairment losses and high changes in the fair value of financial assets.

The main brand's revenue grew steadily, and offline direct sales resumed over the same period of 21 years. By brand, the revenue of the main brand in 3Q23 was +13.5% year-on-year to 672 million yuan, which is +2.9% compared to 3Q21. The number of Jiumuwang brand stores increased by a net of 9 during the period, with an average operating area of +6.0% year-on-year to about 158 square meters. We expect the main brand store efficiency to be +16.0% year-on-year during the period. Fun/Ziozia's revenue was -14.3%/+8.4% yoy to $0.34 billion, respectively. Among them, revenue declined due to Fun channel adjustments. Looking at each channel, 3Q23 online revenue was -13.6% year-on-year to $53 million, mainly affected by the decline in online traffic and changes in live streaming platform personnel. Offline direct management/franchise revenue was +28.7%/+11.6% year-on-year respectively to 205/438 million yuan. Direct channel strategy adjustments were faster than franchise, with direct sales revenue +9.9% compared to 3Q21.

3Q23 gross margin increased year-on-year, and inventory impairment and changes in fair value dragged down profits. The 3Q23 company's gross margin was +3.1ppt to 62.9% year on year, mainly due to the increase in gross margin driven by the shift of some franchise stores to direct operations. In terms of expenses, the overall good control since the second quarter has continued. The sales expense ratio was affected by the acceleration of store opening progress by +4.5ppt to 35.8% year on year, while the management and R&D expense rates were -3.0/-0.3ppt to 5.6%/1.5% year on year, respectively. Due to the company's withdrawal of inventory from franchised general stores and a one-time reduction in inventory prices, asset impairment losses amounted to +28.0% year-on-year to 155 million yuan. Overall, 3Q23 net profit margin was +8.9ppt to 0.5% yoy, minus net interest rate of +0.5ppt to 0.9% yoy.

The number of days of inventory turnover increased, and cash flow continued to improve. 3Q23 inventory was +13.8% year over year to 952 million yuan, and inventory turnover days were +3 days to 308 days year on year, mainly due to the increase in inventory of some franchisees to direct sales and 24 years of early production during the off-season. Net cash flow from operating activities in 3Q23 was $76 million, a continuous improvement over 2Q23.

Development trends

We expect rapid year-on-year growth in offline turnover in September-October. Among them, the growth rate of direct sales is faster than that of joining, all exceeding the same period in '21. We believe that the results of the company's channel strategy change are gradually showing. As the reform of ten-generation stores progresses and the share of shopping center stores increases further, the company's performance is expected to continue to improve.

Profit forecasting and valuation

Considering brand channel adjustments and inventory impairment risks, we lowered the company's 2023/24 profit forecast of 33.4%/12.5% to 1.94/358 million yuan. The current stock prices correspond to 29.6x/16.0x P/E in 2023/24, respectively. Maintaining an outperforming industry rating, considering the continued effects of the company's strategic changes, we lowered our target price by 10.9% to 11.5 yuan, corresponding to 34.0x/18.4x P/E in 2023/24, with room for 15.0% increase from the current stock price.

risks

The recovery in terminal demand falls short of expectations, risk of inventory impairment, and risk of loss of investment.