Xiaomi – Reality check pt V.

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Falling revenues reduces valuation to $3.6bn (92% below last raise). 

• Xiaomi has slipped to number 3 in its home market which combined with stagnation overseas continues to make the outlook increasingly bleak.
• Counterpoint Research indicates that in Q2 16A Xiaomi shipped 12.6m units (a decline of 26% YoY) in China and 14.5m globally representing a 23.6% decline YoY overall.
• Despite a big push overseas, Q2 16A volumes have been flat YoY at 1.9m units indicating that its strategy to win users over now and monetise them later is floundering badly.
• RFM research indicates that Xiaomi has two assets that are of value.
  • First: Its MIUI user experience.
  • MIUI is Xiaomi’s user experience which in China also carries its ecosystem but outside of China is Google compliant and carries the Google ecosystem.
  • Although the user interface is largely commoditised outside of China, I believe that things are different in China.
  • None of the big ecosystems (BATmen (see here)) have a user experience which defines their offering as most of their users are using stock Android or iOS.
  • This is a big reason why I think Xiaomi is still quite popular in China where 22m users have downloaded MIUI and used it to replace the user experience on their Android smartphones.
  • This is how Xiaomi can claim that it has 200m users despite RFM’s estimate that there are only 114m active Xiaomi handsets in use today.
  • Second: Its Chinese app store.
  • RFM calculates that Xiaomi’s app store has 15% market share measured by usage among smartphone users in China.
  • This indicates that almost all users who are using MIUI also use its app store to download the Digital Life services that they want.
  • This is a strong endorsement of its app store as the two leading app stores in China, Tencent and Qihoo, are not present on the device when it ships meaning that users are accustomed to picking and choosing the app store they want.
• Unfortunately, its other ecosystem assets such as its media consumption offering, its instant messaging service and its shopping service are dwarfed by the services offered by the BATmen.
• This means that although Xiaomi has a 44% score against the China Digital Life pie, none of its services are dominant and there are strong indications that engagement with these services is slipping (see here).
• This is critical because it is engagement with its ecosystem that will allow Xiaomi to begin to earn better than commodity margins should users begin to demand its devices.
• This is clearly not happening and the rise of Huawei and Oppo in the home market is a sign that Chinese users are increasingly indifferent to Xiaomi’s products.
• This is devastating for both its revenue outlook and its valuation as it looks like revenues could drop by 10-20% this year.
• Xiaomi raised money in December 2014 at $45bn and I find myself struggling to value the company anywhere near $5bn.
• At the time of its raise, I could get to a valuation of $21bn by comparing it to Apple (like everyone else) but instead of using sales (fundamentally flawed (see here)), I used EBIT and gave Xiaomi a 300% premium given its 100% growth at the time.
• However, with revenues now looking like they will decline by anything up to 20% this year, I can no longer justify a premium and arguably, I should apply a discount.
• RFM forecasts that Xiaomi will ship 59.7m units in 2016E which gives revenues of $14.9bn assuming ASPs of $250.
• 4% EBIT margin gives 2016E EBIT of $597m which if I apply a 6.0x EV/EBIT (17% discount to Apple) gives an EV for Xiaomi of $3.6bn.
• Investors being offered a valuation of more than $10bn to exit will be doing well in my opinion.