For professional clients only Client Update October 2020 China Equities China’s e-commerce and online services were among the few bright spots against the dismal economic backdrop Risk Factors this year. Many companies reported a surge in online This is a financial promotion for The FSSA China Strategy. sales during Covid that has remained elevated even as the This information is for professional clients only in the UK number of cases fell and lockdown measures eased. While and EEA and elsewhere where lawful. Investing involves sales at China’s bricks-and-mortar retailers fell by 19% over certain risks including: the first quarter, online shopping grew by 6% over the same – The value of investments and any income from them 1 may go down as well as up and are not guaranteed. period . Investors may get back significantly less than the original amount invested. Chinese millennials2 are largely responsible for this – Currency risk: the Fund invests in assets which are increased online expenditure. They have been feted as denominated in other currencies; changes in exchange the key drivers of China’s domestic consumption in recent rates will affect the value of the Fund and could create years, accounting for as much as 65% of the annual growth3. losses. Currency control decisions made by governments Young and highly educated with steady jobs, on the whole could affect the value of the Fund’s investments and this cohort has significant disposable income – particularly could cause the Fund to defer or suspend redemptions of its shares. those still living at home and without family responsibilities of their own. Having grown up with technology at their – Single country / specific region risk: investing in a single country or specific region may be riskier than fingertips, they are much more likely to purchase online than investing in a number of different countries or regions. via traditional channels. Their preferences and behaviours Investing in a larger number of countries or regions helps have been instrumental in the growth of the technology spread risk. sector in China. – China market Risk: although China has seen rapid economic and structural development, investing During the height of the pandemic, the take-up of online there may still involve increased risks of political and services accelerated further as new demographic groups governmental intervention, potentially limitations on the (such as the elderly) switched to online to buy food, allocation of the Fund’s capital, and legal, regulatory, economic and other risks including greater liquidity risk, healthcare products and other household necessities. Amid restrictions on investment or transfer of assets, failed/ Covid-lockdowns and with few options available, China’s delayed settlement and difficulties valuing securities. e-commerce penetration reached 30% of total retail sales in – Concentration risk: the Fund invests in a relatively small 1H 2020 (up from 26% pre-pandemic)4. number of companies which may be riskier than a fund that invests in a large number of companies. Until fairly recently, we had followed the rise of China’s – Smaller companies risk: Investments in smaller technology giants mostly from the sidelines. Our company companies may be riskier and more difficult to buy and research highlighted concerns with governance standards, sell than investments in larger companies. transparency levels and high valuations. Many of these For a full description of the terms of investment and issues have diminished and in some cases have improved the risks please see the Prospectus and Key Investor markedly. Over time, with additional research (and greater Information Document for each Fund. understanding of the risk vs. reward for such companies), we If you are in any doubt as to the suitability of our funds for your investment needs, please seek investment believed that a few stood out with the quality markers that we advice. usually look for. 1 Source: China’s Ministry of Commerce 2 Note: Those born in the 1980s and 1990s 3 Source: Millennials: China’s new economic force, Faisal Kidwai, 16th January 2019, on chinadaily.com.cn 4 Source: National Bureau of Statistics, CLSA, 1H 2020 figures Client Update October 2020 In this note, we have highlighted two companies that we Dianping, China’s answer to Yelp, which closed the loop of believe should continue to benefit from the rising tailwinds search-information-transaction for restaurant bookings and of e-commerce. Meituan Dianping is a “super app” that other lifestyle service offerings. has steadily increased users and monetisation, while ZTO Today, on-demand food delivery forms the majority of Express delivers billions of packages containing online Meituan Dianping’s gross transaction value (GTV). As a high purchases each year. frequency, low margin business it is just about breaking Both companies are industry leaders, with strong, dominant even; but, it serves as a relatively low cost way to capture franchises and competitive advantages that we believe new users and bring them into the Meituan ecosystem as are likely to persist. They have capable managers at the most people use these services regularly. helm, high governance standards and a long-term mindset. Meituan’s data suggest that its customers usually start with We believe they will not only benefit from the growth in food services and then progress to other services over e-commerce, but should be able to adapt to the changing time. More than 80% of new hotel bookings on the app competitive landscape and grow sustainably over the long were made by customers who had ordered food delivery or term. booked in-store dining first; and around half of those who use Meituan for more than three years eventually take up Rise of the “super app” more than five categories of services. Overall, the average With technology all around us, most of us have turned to number of transactions per user has doubled since 2016, to mobile applications (“apps”) to organise our daily lives. More 26 purchases per year. than 10 years on from Apple’s infamous catchphrase5, there truly is an app for everything. From messaging to Meituan’s strategy remains focused on growth. The meal deliveries and everything else in between – our company ploughs much of its revenue from advertising into social activities can be managed with just a few taps of a customer and merchant incentives to increase its user-base smartphone. and enhance customer stickiness. And its product offering continues to expand, as it explores new revenue streams to In China, many of these services have been bundled into enhance profitability (such as community group purchasing). an all-encompassing platform – the “super app”. Meituan Dianping is a good example of this integrated ecosystem We believe the management have been disciplined in the at work. The app includes takeout food delivery, fresh food pursuit of growth, keeping a close eye on the return on groceries, supermarket and pharmacy goods, restaurant and investment (ROI) of its new initiatives. They have closed travel bookings, movie bookings and entertainment tickets, a number of Ella Supermarket outlets due to low ROI, for and transportation services. As an O2O (online to offline) example, and shifted the car-hailing business from a direct business, Meituan offers products and services that are model to an aggregator model to improve returns. transacted online, but consumed offline “in the real world”. The chairman and CEO, Mr Wang Xing, is a serial Meituan is strong in both the online (consumers) and the entrepreneur whose previous forays into Chinese internet offline (merchants) arena. With more than 450 million users achieved some degree of success, but were short-lived. and six million businesses across the country, Meituan is by Xiaonei, a Facebook-like social networking website, was far the largest local services e-commerce platform in China. sold to China InterActive Corp due to lack of funding, while It is the leader in food delivery services (two out of every Fanfou, a Twitter-like microblogging platform, was subject to three food delivery orders in China are made on the Meituan censorship from the Chinese government and forced to shut app) and domestic hotel bookings (40% market share), while down. in-store dining and travel services are major profit centres. Such experiences can often shape future behaviours. Our Since its establishment in 2010, Meituan’s business has meetings with management and industry experts suggest evolved significantly. Its core offering began with local that Mr Wang has faced numerous challenges and “made deals on restaurant dining packages inspired by the all the mistakes entrepreneurs easily make”. Today, he group-discount company Groupon, and has gradually appears to be pragmatic and down-to-earth, and committed expanded into movies, travel services and on-demand to making Meituan a success, while his share ownership food delivery. Five years after launch, Meituan merged with (10%+) is reassuring from an alignment perspective. 5 In 2009, Apple’s advertising for the first iPhone and its App Store coined the phrase, “There’s an app for that! 2 Client Update October 2020 We like the culture of mutual trust and accountability that Mr In China, there are five main express delivery companies Wang has built here and believe it bodes well for the future each vying for a piece of the pie. Four of them – STO of the business. A number of the senior management team Express, YTO Express, ZTO Express and Yunda – were are his long-term associates, either schoolmates or partners established in Tonglu, a small county in Zhejiang Hangzhou in earlier ventures. The team have executed well in the past in the east of China. Due to their regional origins, the four and are highly regarded for their strategic decision-making, companies are known as the Tonglu group, or Tongda while senior managers from Tencent and Baidu add to the operators (though they are separate companies).