Lingering In The Shadows of China's Prolonged Real Estate Downturn

Transactions on the company's supply chain financing platforms grew just 7% in the first quarter as it failed to reduce its reliance on property-related customers

Key Takeaways:

• Transactions on Linklogis' platforms increased just 7% in the first quarter, far slower than the 45% rise in the first quarter of 2024 and 28% for all last year
• The company has been trying to reduce its reliance on real estate-related sectors, such as infrastructure and construction, but it isn't making much headway

Linklogis Inc. (9959.HK) appears to be hitting a wall in its attempts to extricate itself from the shadows of China's prolonged real estate downturn.

The company has been one of the many casualties of that long-running slump due to its heavy reliance on customers from related sectors like infrastructure and construction for its cloud-based supply chain financing services. With no end to the property downturn in sight, the company has been trying to expand its customer base into other sectors. But its first-quarter business update released last week shows it isn't making much headway.

That's somewhat understandable. In the current shaky economic environment, Linklogis can't simply chase any potential customers just to speed up its growth and diversification, since it still needs to find high-quality users that will meet their payment obligations.

That means the company, like many other financiers, needs to walk a fine line between growing its business and managing risks. Perhaps reflecting its struggle to balance those two, the total volume of transactions on its platforms increased just 7% to 100 billion yuan ($13.7 billion) in the first quarter from the year-earlier period. That's a sharp slowdown from 45% year-on-year growth in the first quarter of 2024, as well as 28% growth for all last year.

In supply chain financing, a company, sometimes called an "anchor," uses unpaid bills it owes to its suppliers to help them obtain financing, leveraging its own creditworthiness to benefit its suppliers. Both the anchor and suppliers benefit because the former gets more time to pay its bills, while the latter can get cash to finance their operations. Linklogis' platforms are designed to make supply chain financing easier for all involved parties by digitalizing everything from management of underlying assets to securitization.

Supply chain financing in China has grown fast in recent years, partly because of a general shortage of credit available to small and medium-sized enterprises (SMEs) from traditional banks. But when times are rough, like now, this corner of the financing universe can feel the pinch too, as Linklogis is showing.  

The company's overall transaction volume would have shrunk in the first quarter, if not for its "Multi-tier Transfer Cloud" product, which saw a 37% rise in transaction volume to single-handedly outweigh decreases for other services, including "AMS Cloud" and "ABS Cloud." In Linklogis' latest business update, CEO Charles Song attributed the contraction of transactions on the other platforms to "subdued" market sentiment and delays in issuance of asset-backed securities (ABS).

Slow revenue growth

Linklogis' revenue growth in the first quarter probably lagged the uninspired 7% increase in its transaction volume and may have even fallen, given that its fees are under pressure. It didn't provide an actual revenue figure in the first-quarter update. But last year, the company's 19% revenue growth for the year trailed its 28% growth in transaction volume.

Specifically, fees for the company's Multi-tier Transfer Cloud platform seem lower than those for AMS Cloud and ABS Cloud, considering that the rapid transaction growth of Multi-tier Cloud isn't translating into proportionate revenue gains. Multi-tier Transfer Cloud is a relatively new product for Linklogis, but it has already become the company's mainstay. The service converts receivables from transactions between small and medium-sized enterprises (SMEs) and their customers into digital payment obligations (Digipos) through the use of blockchain technology.

Multi-tier Transfer Cloud overtook AMS Cloud as Linklogis' biggest product in terms of transaction volume only in 2022, and has grown exponentially since then. The volume of transactions on Multi-tier Transfer Cloud surged 82% in 2023, and grew another 52% last year. But Linklogis' revenue from its main supply financing services actually declined in 2023 and increased only about 18% last year.

The company's customer acquisition has also slowed, which suggests that it's having some difficulty finding new users for its products, particularly outside real estate-related sectors. For example, the total number of its anchor enterprise partners, its largest customer group, increased 45% last year, while it almost doubled as recently as 2021.

Meanwhile, Linklogis' dependence on property-related customers deepened last year, even though such clients have probably become riskier and thus are less desirable due to the market's ongoing woes. The proportion of infrastructure and construction, and real estate sectors in Linklogis' total transaction volume increased to a combined 51% last year from 44% in 2023 and 48% in 2022. This means that many of the company's newly acquired customers are from those sectors, or that existing customers from those areas became more active on Linklogis' platforms. Neither possibility looks ideal for Linklogis, given the gloom over China's property market.

Reflecting heightened stress among the company's customers, its impairment losses almost tripled last year, erasing most of its gross profit. As a result, its net loss swelled, even though its revenue grew.

Although Linklogis is essentially a platform operator, it does face some liability when its customers fail to pay their bills. This is because the company collects supply chain assets like unpaid bills that can be securitized, and then carries them on its own balance sheet temporarily for certain periods, a process known as "warehousing." If a company defaults on its bills during a warehousing period, Linklogis must swallow any resulting losses in the form of impairment costs.

Shares of Linklogis, which is backed by internet giant Tencent, have lost more than 90% of their value since the company's IPO in 2021, including a 31% decline this year alone, to trade at a modest price-to-sale (P/S) ratio of 2. That said, valuations are also depressed for other online financiers such as FinVolution Group (FINV.US), which is profitable and yet has a P/S ratio of just 1. This shows how investors are cautious on this group of companies due to their exposure to vulnerabilities in China's current weak economy.

That means Linklogis still has a long way to go to win over investors.