#4 May 17 '24: Newborn Town

HK-listed Chinese global app factory, now under 8x P/E with triple-digit EPS growth

Full analysis deck (click image below to view or download on OneDrive):

3-statement financial model (click image below to view or download on OneDrive):

This is just a brief summary, please refer to the PowerPoint deck and Excel spreadsheet above for full details and statistics.

Newborn Town is a HK-listed Chinese app factory developing and operating both social media apps like Sugo, Mico, YoHo, TopTop, HeeSay, Blued and casual games like Alice’s Mergeland and Sudoku.

Unusually, it now trades at under 8x P/E with over 40% CAGR revenue growth over the past 3 years, and over 100% EPS growth over the same time period.

The company has been highly agile, initially developing utility mobile apps, then on to an ad exchange business, before finding success with social media apps (initially Mico) during the pandemic.

The Newborn Town management team is relatively young, highly technically-savvy - and appear to be good capital allocators.

They took private the formerly Nasdaq-listed BlueCity for only 1/10 of its market cap at listing, and turned it around to profitability within one year.

What the market has overlooked

Newborn Town is a tricky business to understand, because of its diversified portfolio of apps and markets served.

In particular, it focuses on Android users, which are underserved by many existing developers that concentrate efforts on the more affluent iOS users.

Moreover, core markets include India, Indonesia, the Philippines, Brazil, Vietnam, etc., which often fly under the radar for even cross-border investors.

We had to spend many hours diving into the apps and comparing them versus competitors, such as Bigo and Yalla, to understand the core dynamics and trade-offs.

Their apps iterate quickly, and even naming can be confusing. For example, Alice’s Mergeland originally stemmed from Mergeland: Alice’s Adventure, with a sibling release in Mergeland: Animal Adventure.

Following its success however, Alice’s Dream: Mergeland was then released. This has surpassed expectations to hit US$ 8Mn revenues in a single month - quite significant when compared against Newborn Town’s market cap of around US$ 600Mn.

Hidden profitability. Net margins were lower than normal due to the acquisition of BlueCity in FY22, which when combined with the poor performance of comparables, resulted in depressed valuations.

Though this was somewhat corrected in FY23, Sugo & the non-Mico social media apps grew substantially throughout the year, meaning their revenue potential has not yet been recognized for a full year.

Asymmetric upside. Our target price in the Excel model is focused on a conservative base case - there is considerable asymmetric upside if any further hit games (or other apps) are released.

While we do expect further apps, these are not calculated explicitly into the model. Meanwhile the current price implies a more than 10% decline in free cashflow per year

Thesis

• Capabilities. Strength in execution and access to cost-effective engineering talent pool, as well as sophisticated GaaS exposure in China, where most games are FTP and mobile-first – transferable to MENA & SEA.

• Catalyst – Android growth. Android appears to be growing well again after losing share to iOS after the pandemic, a potential tailwind for Newborn Town.

• Catalyst - optionality of growth. Alice’s Mergeland approved now for the China market, meaning another potential source of revenues in the world’s largest mobile gaming market, if Newborn Town decides to focus efforts there.

Risks

• Geopolitical & PR. Geopolitical sensitivities, especially around the social media business.

• Rising competition. The social media / short video / live streaming giants may take away further share from smaller players. Meanwhile, larger Chinese developers previously favored core gamers vs casual, but now starting to enter market.

Full disclosure: We hold a long position in Newborn Town - this is not a solicitation to buy or sell. We have no business relationship with the companies mentioned in this note, and are not paid to write this piece (other than paying fellow exponents of the research).

Disclaimer: This should not be construed as investment advice. Please do your own research or consult an independent financial advisor. Alpha Exponent is not a licensed investment advisor; any assertions in these articles are the opinions of the contributors.