PDD’s $55 billion stock crash is a warning sign for the Chinese economy

(Bloomberg) — One of the last remaining bright spots for Chinese consumption is fast fading, as the country’s economic malaise takes a toll on demand for even the most accessible goods.

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In the latest warning to global markets about the health of China’s economy, Temu owner PDD Holdings Inc. investors on Monday with an unusually gloomy outlook. The e-commerce company, which became a market darling with low-priced goods that helped boost sales and profits during China’s economic downturn, also reported revenue that missed estimates. During a briefing after the earnings results, CEO Chen Lei said at least eight times that sales and profits must “inevitably” decline as economic growth slows.

“We see many new challenges ahead, from changing consumer demand, intensifying competition and uncertainties in the global environment,” Chen, also one of PDD’s earliest hires, told analysts.

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The CEO and his lieutenants were careful to emphasize that they remained confident in Chinese consumption over the longer term – a major priority for Beijing as it rebalances the world’s second-largest economy. But the damage had been done. Shares of PDD fell 29%, which was the biggest drop ever, wiping out $55 billion in market value. Its biggest rivals Alibaba Group Holding Ltd. and JD.com Inc. followed suit, falling about 5% in Hong Kong.

PDD’s warning surprised investors because the company has long been seen as the main beneficiary of a Chinese “consumer downgrade” – its low-pricing strategy for Pinduoduo at home and Temu abroad was designed to appeal to price-conscious buyers at a time of unprecedented economic volatility.

The disappointing results were the latest in a series of warnings about the Chinese economy. This week, popular fast-food chain Din Tai Fung – long one of the most popular restaurant brands across the country – revealed it was closing more than a dozen outlets. Last month, Starbucks Corp. announced a 14% decline in Chinese sales in the June quarter.

“The big problem is the weakness of the Chinese consumer,” said Joshua Crabb, head of Asia-Pacific equities at Robeco Hong Kong Ltd. “Competition and a weak consumer will certainly be negative.”

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While Starbucks and Din Tai Fung have long struggled with volatile sentiment, PDD’s warnings were especially surprising because for years they reflected how cash-strapped Chinese consumers rejected luxury brands for cheaper alternatives.

Founded in 2014 by ex-Google engineer Colin Huang, the company has combined low prices with aggressive nationwide expansion and game-like elements on its platform in recent years to take market share from Alibaba and JD. It parlayed that formula into global e-commerce shopping app Temu, which it launched during the Super Bowl in 2023. That app has become a shopping phenomenon on par with Shein, becoming for a time one of the most downloaded U.S. apps.

That marked a remarkable sixfold gain in market value from the post-Covid declines of 2022, crowning Huang China’s richest person this month. But he only held the mantle for 18 days, until Monday’s sale.

China’s less affluent consumers outside the glitzy megacities drove much of PDD’s success. They are now a major source of uncertainty.

Consumption, a key driver of the economy, weakened this year after a recovery in spending following last year’s Covid reopening. Against the backdrop of widespread job and salary cuts and plummeting real estate prices, Chinese consumers have become more cautious about their spending, leading to intense price wars in sectors such as autos.

Retail sales rose just over 3% in the first seven months of 2024, far worse than the pre-pandemic growth of more than 8%. Residents’ confidence in future income fell to the worst level since late 2022, one of the most intense periods of Covid lockdowns, according to a central bank survey conducted in the second quarter.

Nearly half of residents surveyed said employment is “bleak and difficult,” the highest percentage since late 2022. Nearly two-thirds of respondents said they were willing to save more, hovering around an all-time high set last year.

Lei noted that there has been a fundamental shift in consumer behavior, a move away from the cheap products that have driven sales soaring since its inception.

“Consumers are making more thoughtful decisions to balance quality and value,” he said on the earnings call. “In response, we have worked with high-quality brands and manufacturers to create tailor-made products that meet these diverse demands.”

For some investors, PDD executives were merely trying to rein in runaway expectations. After all, it may be unreasonable to expect the company to continue delivering growth above 50%, as this has happened in all but one quarter. Wall Street was betting that PDD would nearly double sales during the June quarter. Instead, it rose 86%. On Monday, executives said they will make major investments to capitalize on future opportunities.

The result of PDD “implies weak consumption and intense competition. However, management’s comments on declining long-term profitability are too conservative in our view,” wrote Morgan Stanley analysts Eddy Wang and Kathy Zhu.

What Bloomberg Intelligence says

PDD’s August 26 indication of lower profitability as the company ramps up spending to meet increased global competition signals a downside to the second half 2025 earnings consensus, which forecast higher margins in 2025. This, along with PDD’s first revenue loss in ten quarters for the three months ended. It appears that June will dampen growth prospects for the next twelve months.

• Catherine Lim and Trini Tan, analysts

• Click here for the research.

In the long term, much depends on the labor market and the way Beijing manages the economy.

Authorities have tried to ensure there are enough jobs even as the economy slowed, calling on state-owned companies to expand recruitment and job training.

But officials stopped short of offering more direct help to consumers, although many economists have called for a cash subsidy or consumption voucher for at least low-income groups. They have also refrained from taking measures to support wage growth, which is essential to encourage more spending. Regulators’ crackdown on a number of industries, ranging from private tutoring to financing, has also worsened the job market in recent years.

For now, many investors still expect PDD to at least outperform its peers in a turbulent economy.

“We believe PDD is the only Chinese e-commerce player that will outperform the sector’s growth,” Morgan Stanley analysts wrote.

–With help from Yujing Liu, Catherine Ngai and Dong Lyu.

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