Dingdong rings up more profits as revenue sags

The online grocer’s revenue fell in the third quarter, as it continued to report profits in China’s fiercely competitive food delivery sector

Key Takeaways:

• Dingdong’s revenue decreased about 14% year-on-year in the third quarter as it withdrew from less profitable cities
• The company is resorting to cost cuts and interest income to stay in the black, while trying to boost sales of higher-margin private label products

By Warren Yang

Many things in life are relative. Likewise, just how well Dingdong (Cayman) Ltd. (DDL.US) is doing depends on how you look at it.

The online grocer is now profitable, which is no mean feat because it – like most of its online and offline peers – operates on thin margins in a fiercely competitive market. The company’s ability to make profits sets it apart from many up-and-coming Chinese tech startups that struggle in the red despite their flashy products and rapid growth. Dingdong’s achievements also contrast sharply with the demise of Missfresh Ltd. (MF.US), which once was its major rival.

Despite that, you can only grow so much, even in a huge market like China, and Dingdong appears to be hitting a wall in terms of boosting revenue. At the end of the day, investors want growth, especially in a young tech venture like Dingdong. It’s also important to note that despite its ability to report profits, Dingdong’s actual business is still losing money and it relies on non-operational factors to shore up its bottom line.

Dingdong’s revenue decreased about 14% year-on-year to 5.2 billion yuan ($705 million) in the third quarter, according to its latest results released last Thursday. While such declines never look good, Dingdong attributed the fall to its withdrawal from some of the less-profitable cities where it operated to focus on the most lucrative centers like its base in East China.

To compensate for the revenue loss, the company cut costs to massively narrow its operating loss. And its interest income increased substantially, while its interest expenses decreased, probably because of a decrease in its outstanding bank loans. As a result, Dingdong made a net profit, albeit a tiny one, reversing a loss a year earlier.

On a non-GAAP basis, which excludes share-based compensation expenses, the company made a net profit for a fourth consecutive quarter. Dingdong management made sure to talk that up that point in the company’s latest earnings report.

“Sustaining profitability over the past four consecutive quarters on a non-GAAP basis is critical for both Dingdong and the industry,” Dingdong founder and CEO Liang Changlin said.

He also touted the company’s ability to navigate “the difficult macro-economic and competitive environment,” its “flexibility and adaptability” and its confidence that it will be able to “maintain sustainable long-term growth.”

All of those things are indeed laudable. A major challenge for Dingdong is that people in China just aren’t buying groceries online as actively as they did during the Covid-19 pandemic. After all, many people still prefer to see, smell and touch the fresh meat and produce that are Dingdong’s specialties as long as there’s a nearby market.

Missfresh demise

It also doesn’t help that Dingdong must still compete with a host of other businesses, even after the demise of Missfresh. While Dingdong focuses on fresh groceries, it vies with general e-commerce platforms that have specialty grocery services, including ones run by Alibaba (BABA.US; 9988.HK) and Pinduoduo (PDD.US). Also, traditional brick-and-mortar grocery chains are increasingly coming out with similar offerings to Dingdong’s, including cheap or free delivery when people order online.

With so many choices of very similar products and services, it’s becoming difficult for a company like Dingdong to find new growth to fatten its bottom-line profits. So the company is under growing pressure to control costs, and its latest results show it is quite capable in that regard. In this case, at least some of those cuts are probably coming from its withdrawal from less-profitable cities.

But a company can cut such costs only so much. Especially for Dingdong, making more drastic reductions may be difficult due to its heavy cost structure by operating its entire business chain. Its services require expenses for a wide range of activities, from procurement to processing to delivery. Its gross profit margin did improve a little bit, but it was still just about 30% in the third quarter.

To improve its profitability, Dingdong is trying to boost sales of private-label products, which have higher margins than fresh food that is identical to what its rivals offer. In August, it rolled out Dingdong-branded thin rice wrappers used to make dumplings and wonton and generated 16 million yuan in sales in two months, said CEO Liang on the company’s earnings call.

Its challenges aside, Dingdong’s ability to simply survive in such a tough climate puts it light years ahead of Missfresh, whose spectacular crash could soon be nearing an end. After racking up losses and burning through cash since its inception in 2014, Missfresh last year shut its flagship distributed mini-warehouse operations that enabled it to deliver goods within an hour. It also closed other businesses, including one that helped to digitalize wet markets.

While its cost structure was too heavy to make profits, Missfresh had the added woes of an accounting scandal. It was trying to transform into a digital marketing agency by acquiring a Hong Kong firm after raising about $27 million through a new share sale. But last Friday, the company – whose market value now stands at just $8 million – said that plan had fallen through, and its shares would be delisted.

Dingdong’s mini streak of profits looks impressive, especially compared with Missfresh’s demise, and arguably deserves some recognition. But investors don’t appear too impressed with the latest results, given a 7% drop in the company’s stock price on the day of its earnings release.

Perhaps they simply don’t like the online grocery business to begin with. Dingdong shares have also lost more than 90% of their value since their IPO a little more than two years ago. They trade at a price-to-sales (P/S) ratio of just 0.14 and a similarly low forward price-to-earnings (P/E) ratio of 5.9. Sun Art (6808.HK), operator of the popular RT-Mart supermarket chain, trades at a similarly depressed P/S of just 0.17, reflecting a broader lack of investor interest in grocery operators.

Some investors may think Dingdong deserves more credit for being able to find profits in a difficult sector. But the grocery business has always been a tough sell compared with other higher-margin businesses with less competition. In such an environment, the best way for Dingdong to win over investors is to reignite its growth by offering more differentiated products and services to steal customers from its rivals.

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