In 2022-2023, Pinduoduo $PDD Holdings  (PDD.US)$ has surged an impressive 151%, with its share price once recovering to almost two-thirds of its peak. This rally shines in contrast to the wider slump in Chinese tech stocks, with giants like Alibaba and JD.com falling to just a quarter of their historic highs, dropping 34% and 57%, respectively.

Amid a stark contrast where Pinduoduo's stock soared, Alibaba shares plummeted. By November 2023, Pinduoduo eclipsed Alibaba as the most valuable e-commerce platform in China.

Despite low consumer confidence and intense competition in the e-commerce sector, Pinduoduo has surged ahead. Can it maintain its lead? We'll need to keep an eye on its financial reports to see.

Pinduoduo will release its latest earnings results on August 26. Each earnings release may signal a potential investment opportunity, but before diving in, investors need to understand how to interpret their financial statements.

For Pinduoduo's financial reports, we may focus on three key areas: changes in growth rate, shifts in profitability, and how actual performance compares to expectations.

1. Growth rate

To evaluate Pinduoduo's performance, we should consider two aspects of its growth rate: the company's own trends and a comparison with its e-commerce peers.

Pinduoduo's countercurrent rise is most evident in its rapid revenue growth. From Q1 2022 to Q1 2024, Pinduoduo's revenue growth accelerated, with the latest quarter showing an over 130% year-over-year(YoY) increase. This swift growth may have been a key driver behind the significant rise in its stock price.

Two main factors fueled Pinduoduo's revenue engine. Initially, Pinduoduo became a major beneficiary amid economic uncertainty as its low-price strategy resonated with consumer demand of cuting back on costs. Later, the explosive international expansion through Temu propelled another crucial surge in revenue.

How does Pinduoduo stack up against its e-commerce competitors, primarily Alibaba and JD.com? Let’s compare the revenue growth rates and the sales expense ratio among these three giants.

Starting with revenue growth, a faster rate may suggest a more competitive edge. Since Q2 2022, Pinduoduo's revenue growth has consistently outshone Alibaba and JD.com, which showed only single-digit growth. Pinduoduo has not only maintained but accelerated its growth each quarter, grabbing a larger slice of the market in the process.

The sales expense ratio may be a key indicator of competitiveness. An increasing trend can indicate a disadvantage. Conversely, a declining ratio might suggest higher competitiveness.

For Pinduoduo, this figure has been improving. Despite the expected ups and downs from big sale events like 618 and Double 11, Pinduoduo's sales expense ratio has been trending down, from 47.2% in the first quarter of 2022 to 27% by the first quarter of 2024. On the other hand, Alibaba's sales expense ratio ranged between 10% and 13%, while JD's remained stable with a slight decrease.

Looking ahead, it might be overly optimistic to expect Pinduoduo to keep continuously doubling its growth rate. Even maintaining a 30% growth rate could prove difficult. The remarkable growth of Pinduoduo's international business, particularly with Temu, is something we should continue to watch.

The critical questions are: Can Pinduoduo keep outpacing its rivals in revenue growth, and can it sustain or further improve its sales expense ratio? The answers to these questions will tell us a lot about the company's ability to keep its lead in the competitive e-commerce space.

2. The change in profitability

The second important point to note from Pinduoduo's financial report may be the change in profitability, specifically the gross margin and net margin.

Pinduoduo's gross margin initially rose and then fell from the first quarter of 2022, peaking mainly due to the scale effect of rapid revenue growth. However, since the third quarter of 2022, the gross margin has been declining each quarter, dropping a total of 18 percentage points from 79.1% to 60.5%.

This decrease isn't due to diminishing profitability in domestic operations but largely because of significant investments and user subsidies in the newly promoted Temu international business and the recent Pinduoduo Grocery venture during their rapid expansion phases.

While Pinduoduo hasn't disclosed revenue and profit performance by individual business segments, it's likely that the gross margin for these new ventures is negative in the early stages, contributing to the overall decline in gross margin.

Despite this, Pinduoduo's overall gross profit has significantly increased. The decline in gross margin has also been narrowing. In the four quarters of 2023, the declines were 7.1, 6.2, 3.2, and 0.5 percentage points, respectively. By Q1 2024, the gross margin reached 62.3%, showing signs of stabilization and recovery. This suggests that the potential losses from Temu and Duoduo Grocery might be improving or even turning profitable.

In terms of net margin, while Pinduoduo has once seen an increase in absolute net income levels, the margin has decreased overall, mainly due to the significant drop in gross margin. However, the decrease in net margin is much less than that in gross margin, thanks to effective cost control in operating expenses.

By Q4 2023, Pinduoduo's net margin rose to about 26.2%, improving both year-over-year and quarter-over-quarter. By Q1 2024, Pinduoduo's net margin further increased to 32.3%, setting a new record high.

Pinduoduo has reduced its sales expense ratio from 39.6% in Q3 2022 to 27% in Q1 2024, R&D expenses from 7.6% to 3.4%, and SG&A expenses from 2.6% to 2.1%. The overall operating expense ratio decreased from 49.7% to 32.5%, mitigating the impact of the gross margin decline on net margin.

This improved operational efficiency is a key competitive advantage in the cutthroat e-commerce industry. Moving forward, monitoring Pinduoduo's operating expense ratio and its subsequent effect on net margin will be crucial to gauge the company's sustained competitive advantage.

3. Actual Performance vs. Performance Expectations

Pinduoduo discloses its revenue in a consolidated manner without breaking it down by business segment. Additionally, the company's management rarely shares operational data with the public ahead of financial reports. Thus, Pinduoduo's earnings can be quite unpredictable, and actual performance may significantly differ from Wall Street analysts' expectations, leading to substantial stock price volatility post-earnings release.

On moomoo, we can see a comparison of Pinduoduo's forecasted and actual performance. For example, in the past five quarters, Pinduoduo has consistently exceeded expectations, resulting in significant post-earnings stock price surges every time. Given this track record, the market may have high expectations for Pinduoduo's upcoming financial reports.

For instance, analysts currently project Pinduoduo's Q2 2024 revenue to be $100.1 billion, as shown on moomoo. If the actual results significantly beat this forecast, it could positively impact the short-term stock price. Conversely, if the performance falls short, it could create short-term negative sentiment.

What if Pinduoduo's earnings meet expectations? It might still be seen as a negative, given the company has exceeded expectations four times in a row. To further boost the share price, merely meeting the mark may not suffice; outstanding performance may be needed.

Having read this far, you may now have a deeper understanding of how to interpret Pinduoduo's financial reports. It's noteworthy that the release of earnings reports from prominent companies may present unique trading opportunities for different types of investors.

For instance, if an investor, after analyzing past reports and considering recent developments, believes a company's latest earnings will send positive signals and boost the short-term stock price, they might consider taking a long position. This could involve buying the underlying stock or purchasing call options.

Conversely, if the investor expects the earnings to be unfavorable and potentially pressure the stock price, they might consider taking a short position, either through short selling or buying put options.

If the report's outcome is unclear but volatility is expected, they might use a straddle strategy, buying both calls and puts.

However, investors should carefully assess their risk tolerance, particularly when considering high-risk trades like short selling or options, before making any trading decisions.

In summary:

In terms of growth, Pinduoduo's revenue has significantly outpaced its peers, and its sales expense ratio is declining, indicating strengthening competitiveness. We should observe whether the company can continue this trend.

Pinduoduo's gross margin initially dropped due to costly ventures like Temu but has since stabilized and rebounded. Improved operating expense ratios have driven the net margin to a record high. Going forward, we may monitor the gross margin rebound and the company's ability to maintain high operational efficiency to sustain this elevated net margin.

With respect to performance projections, since Pinduoduo tends to have a high degree of earnings variability, it's important to compare actual financial performance with the expected benchmarks. A significant outperformance of the projections could provide a boost to the stock price.

Each earnings report may present new investment opportunities, so investors should align their strategies with their risk capacity.