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Elevator Pitch
ZTO Express (Cayman) Inc. (NYSE:ZTO) [2057:HK] shares are awarded a Hold rating. Previously, I touched on the major industry-specific and company-specific factors that could influence ZTO’s financial results and share price performance in my October 17, 2023 update.
My latest article previews ZTO Express’ Q4 2023 financial results that will be announced next month. I think that ZTO will register faster top-line growth and slower bottom-line expansion in the fourth quarter of 2023 as per market expectations. Given that I don’t expect positive surprises with ZTO Express’ Q4 2023 results announcement, I leave my existing Hold rating for ZTO unchanged.
The Market Has A Mixed Opinion Of ZTO’s Q4 Performance
ZTO Express will reveal its financial performance for the final quarter of the previous year on March 19 after trading hours. The analysts hold the view that ZTO will report a mixed set of Q4 2023 results in the following month, based on the current consensus financial projections for the company.
According to S&P Capital IQ’s consensus data, the sell side forecasts that ZTO’s revenue growth in RMB terms will accelerate from +1.5% YoY for Q3 2023 to +11.4% YoY in Q4 2023. ZTO Express’ consensus Q4 2023 top-line growth estimate is also superior to its actual Q4 2022 sales increase of +7.1% YoY.
Separately, the market estimates that ZTO Express’ YoY bottom-line expansion will decelerate from +37.7% in Q2 2023 and +20.9% in Q3 2023 to +6.6% (source: S&P Capital IQ) for Q4 2023. It is worth highlighting that the consensus fourth quarter normalized EPS growth forecast of +6.6% is lower than the consensus Q4 top-line expansion projection of +11.4%.
In a nutshell, the sell side analysts anticipate that ZTO will achieve a faster pace of top-line growth in Q4 2023, but they think that a decline in profitability will have a negative impact on the company’s earnings expansion for the same quarter. My opinion is that the market’s expectations of ZTO Express’ Q4 2023 financial performance are fairly reasonable, as detailed in the subsequent two sections of the article.
Industry Statistics And Corporate Disclosures Have Positive Read-Throughs For Q4 Revenue Outlook
I am of the view that it is realistic to expect ZTO’s revenue growth to accelerate in Q4 2023.
A January 22, 2024, news article published in Chinese state media China Daily made reference to data released by “the State Post Bureau” that pointed to a +19.4% increase in express delivery volume for Mainland China. As a comparison, the Mainland Chinese express delivery sector posted a relatively slower volume growth of +16.7% in the third quarter of last year, as highlighted at ZTO’s Q3 2023 earnings briefing. In other words, the Chinese express delivery industry recorded a higher growth rate in Q4 2023 vis-à-vis Q3 2023.
Late last month, ZTO issued a press release on January 23 outlining takeaways from its recent corporate event known as “National Network Conference.” Specifically, ZTO Express revealed at the “National Network Conference” in January 2024 that its volume share in the Chinese express delivery sector expanded by +80 basis points from 22.1% in 2022 to 22.9% in 2023. Notably, ZTO’s 22.9% full-year 2023 market share (in terms of volume) was higher than the company’s Q4 2023 volume share of 22.4% (source: third quarter earnings call).
In summary, the express delivery sector in China grew faster in the fourth quarter of 2023, and ZTO Express continued to gain share in the Mainland Chinese express delivery market. Therefore, it isn’t far-fetched to anticipate robust sales growth for ZTO in the fourth quarter of the prior year.
Margins Are Likely To Have Come Under Pressure In The Fourth Quarter
The current consensus fourth quarter EPS estimate implies that the market sees ZTO’s operating margin and net margin contracting by -3.3 percentage points QoQ and -4.3 percentage points QoQ (source: S&P Capital IQ), respectively in Q4 2023.
Pricing pressure is a key factor that would have likely contributed to profit margin compression for ZTO Express. The company acknowledged at its Q3 2023 results call in November last year that its “profit is meeting resistance” due to “radical price competition” and the “low price for volume trade-off” strategy adopted by its rivals. ZTO’s Average Selling Price or ASP declined by -14% YoY and -6% QoQ in Q3 2023 as disclosed in its investor presentation slides.
It is noteworthy that ZTO revealed its decision to abandon its end-2023 market share target at its third quarter results briefing. The company is aware that its profitability will take a greater hit if it insists on achieving a certain level of market share without regard for pricing and margins. This sends a clear signal that there are expectations of ZTO Express’ peers continuing to compete aggressively on price going forward.
Also, ZTO Express might not be able to derive the same level of expense savings for Q4 2023 as it did in previous quarters. At the company’s third quarter earnings briefing, ZTO noted that “cost efficiency gain in the third quarter once again exceeded expectations.” But the company also emphasized at the most recent quarterly earnings call that its “self-owned facilities and transportation fleet” are already at the “most optimum capacity because that is where our cost is the most efficient.”
As per S&P Capital IQ data, ZTO’s EBIT margin increased for five consecutive quarters on a QoQ basis between Q2 2022 and Q2 2023, but the company’s EBIT margin eventually declined by -2.9 percentage points QoQ in Q3 2023. This suggests that ZTO Express might have already reached a point where it has realized its full-cost optimization potential to a large extent.
Final Thoughts
ZTO’s results disclosure next month isn’t likely to be a re-rating catalyst for the stock, as I expect the company to announce in-line Q4 2023 results. Also, ZTO Express appears to be fairly valued based on a comparison of its EV/Revenue multiple and EBIT margin metric.
A rule of thumb indicates that a stock boasting a 10% EBIT margin deserves to be valued at 1 times EV/Revenue. ZTO’s consensus FY 2023 EBIT margin estimate of 26.0% (source: S&P Capital IQ) warrants an EV/Revenue ratio of 2.60 times as per this rule, which is close to the stock’s current consensus next twelve months’ EV/Revenue multiple of 2.56 times.
