FingerMotion’s Risk Profile Is Improving (NASDAQ:FNGR)

I am following up on my previous analysis of FingerMotion, Inc. (NASDAQ:FNGR) in light of the Da Ge announcement and thawing of US/China relations.

In my last analysis, I rated FingerMotion a sell for the following reasons:

• China was cracking down on foreign companies, Bain & Co and Mintz, for example, causing significant political risk.
• FingerMotion had no clear path to profitability as costs grew faster than revenue, and the balance sheet deteriorated.
• The stock was overvalued on every traditional measure.

Since my last analysis, FingerMotion is down 42%, while the S&P 500 is up over 5%.

In addition to the lower price making valuation more compelling, FingerMotion’s risk profile is beginning to soften. Political risk is starting to ease as China and US relations thaw, the business significantly improved profitability throughout 2023, and new businesses have the potential to be high-margin and high-cash flow. With the above in mind and a price target range of $2.60 to $5.90, I am raising my rating from sell to hold.

Political Risk Is Easing

As a reminder, FingerMotion is incorporated in Delaware, but its entire operation is in China (PRC) and Hong Kong.

Last summer, US and China tensions continued to escalate and China even approved a law on espionage that was used to target foreign companies.

Fortunately, this risk seems to be slowly easing following a November meeting between the two countries. Economists have noted the sharp decline in foreign investment in China, alongside a slowing economy, which leads them to believe China needs to improve relations and attract an inflow of investment.

Looking at the Blackrock Geopolitical risk dashboard, you can see the summer spike followed by the ongoing November decline.

Profitability Has Improved Significantly

FingerMotion is still pre-profit, which has been a drain on the balance sheet. During my last analysis, costs seemed to be virtually unmanaged, with operating expenses even surpassing gross profit and no apparent path to profitability.

In the last two quarters, however, profitability has improved significantly across nearly every line on the income statement. In Q2, they nearly broke even.

Cost of goods sold as a percent of revenue improved 5ppt year-over-year from 93% to 88%. G&A expense as a percent of revenue improved 8ppt from 26% to 18%. And Marketing, R&D, Interest, and Stock Comp all decreased materially year-over-year.

While there is still work to be done, this is the most forward momentum in profitability growth and cost management, looking back across all historical financials.

New Businesses Could Be Cash Cows

FingerMotion’s new businesses, including a recent announcement, have the potential to be high-margin cash cows that can accelerate profitability.

On January 10th, FingerMotion announced a new consumer app called Da Ge that linked car owners with service providers in car washing, detailing, and maintenance. FingerMotion currently operates at an 88% cost of revenue. Compare that to other app-based businesses that don’t directly deliver a product (Seeking Alpha data for most recent fiscal year):

• Uber: 69% cost of revenue
• Airbnb: 18% cost of revenue
• Lyft: 70% cost of revenue

Based on the press release, results will begin impacting the financials in Q4 2024.

Prior to this announcement, FingerMotion was signing multiple deals for its big data platform “Sapientus.” This is a B2B product (read: higher margin) that makes use of the data from the core consumer business to support insurance, healthcare, government, and financial services.

As of Q2, big data revenue had more than tripled versus prior year. And the growth opportunity is sizable. China’s big data storage market is expected to grow by at least 20.9% which is a proxy for the expected industry growth. Here are the gross margins for big data businesses (Seeking Alpha data for most recent fiscal year):

• Salesforce: 27% cost of revenue
• Snowflake: 35% cost of revenue

Success in any one of these businesses would drive material improvement to net income and cash flow.

Current Price Is In Range

Previously, I was unable to do a DCF analysis since there was no clear path to profitability. Now that I have favorable trends to work with, I ran two scenarios generating a price target range of $2.60 to $5.90.

In the first scenario, which is the base case, I assumed the following:

• Revenue and cost trend from 23 to 24 continues in the near term
• 15% discount rate with an elevated risk premium due to lack of profitability and corporate structure
• 10% long-run growth rate, which is a conservative reduction from the 18% CAGR forecasted for the Chinese AI/Digital Tech market

This analysis generated the low end of the range at $2.60, or 16% downside from today’s pricing.

In the second scenario, which is the high-growth case, I assumed the following:

• Revenue growth rate doubles in the near term from launch of new business initiatives and costs scale
• 10% long-run growth rate, which is a conservative reduction from the 18% CAGR forecasted for the Chinese AI/Digital Tech market
• 15% discount rate with an elevated risk premium due to lack of profitability and corporate structure

This analysis generated the high end of the range at $5.90, or 90% upside from today’s pricing.

Wall Street analysts support the upside case at the higher end of my range with a strong buy rating and an average price target of $5.00 or 61% upside.

The quant rating and the inherent valuation multiples support the downside case beyond the lower end of my range with a strong sell rating.

Verdict

Given the recent improvements in FingerMotion’s financial performance, alongside the thawing US-China relations, the risk profile of the company has softened. Although there are positive signs like the potential for new businesses and improved profitability, uncertainties still exist due to the company’s history of unprofitability and the volatile geopolitical landscape.

The current price in the low $3s falls within DCF price target range of $2.60-$5.90, suggesting that the stock is fairly valued at the moment. This, combined with the contrasting views from Wall Street and quant metrics, supports my recommendation to hold. I will be closely monitoring the company’s progress in profitability, the impact of new business ventures, and the evolving geopolitical situation. This cautious approach balances the potential upside with the still-present risks.