YY - JOYY: Consider Both Business Outlook And Corporate Actions

2023-05-08 10:15:22 ET

Summary

• JOYY Inc.'s outlook for 2023 is unfavorable, considering expectations of marginal revenue expansion and operating margin compression.
• But corporate actions like sustained shareholder capital return and the completion of YY Live's divestment are potential re-rating catalysts for JOYY.
• I maintain my Hold rating for JOYY, after evaluating both the company's financial outlook and corporate actions-related catalysts.

Elevator Pitch

My rating for JOYY Inc. ( YY ) shares stays as a Hold.

With my earlier initiation article for YY published on February 21, 2023, I discussed the pros and cons associated with JOYY's investment in e-commerce business Shopline. My attention turns to JOYY's business outlook and corporate actions in this latest write-up.

I keep my Hold rating for JOYY unchanged, as I have a neutral view of the stock. On one hand, YY is expected to record modest topline growth and weaker profitability in the current year. On the other hand, there is support for JOYY's shares relating to shareholder capital return initiatives and the potential conclusion of YY Live's divestiture in due course.

JOYY's Negative 2023 Outlook

YY expects the company's topline to contract by -7.3% QoQ and -10.1% YoY to $561 million in Q1 2023 as per the mid-point of its financial guidance outlined in its FY 2022 earnings release . Assuming that JOYY's management is right, Q1 2023 will represent the fifth consecutive quarter of YoY revenue decline for the company. Also, YY's topline contraction on a YoY basis for Q4 2022 and Q1 2022 was relatively narrower at -8.9% and -3.3%, respectively.

For full-year FY 2023, the sell-side analysts forecast that JOYY will achieve a positive revenue growth of +1.9% as per consensus estimates, but this is way below YY's topline CAGR of +44.2% (source: S&P Capital IQ ) for the FY 2015-2019 period prior to the COVID-19 pandemic outbreak.

At its FY 2022 results call , JOYY highlighted that "headwinds" relating to the "global macro environment" could "linger for another one or two quarters" and continue hurting its "users' online entertainment spending." In other words, YY's core live streaming business operations are expected to be negatively impacted by the weak economy. Notably, YY's core live streaming business saw the mean revenue contribution per paying user declining substantially by -21.5% from $320.2 for Q4 2021 to $251.3 in Q4 2022. This explains why YY's Q1 2023 topline guidance and the market's consensus FY 2023 revenue projection, which I deem to be realistic, are poor.

With respect to the profitability outlook for the current year, YY's margin improvement last year is unlikely to be sustainable. JOYY's normalized operating profit margin expanded from 2.8% in FY 2021 to 6.8% for FY 2022, as a result of expense optimization measures initiated to improve the efficiency of the company's operations.

But the sell-side sees YY's non-GAAP adjusted operating margin decreasing by approximately -250 basis points to 4.3% in FY 2023 based on S&P Capital IQ's consensus data. There are two key factors contributing to JOYY's weaker operating profitability this year.

The first factor relates to the investment in Shopline. In my previous late-February article for YY, I had already noted that "the consolidation of Shopline's financial numbers" starting in Q4 2022 will be negative for JOYY's margins considering that "Shopline is loss-making unlike JOYY's existing core business such as Bigo Live."

The second factor is JOYY's approach towards capital investment. YY had stressed at the company's fiscal 2022 results briefing that it wants to achieve a "balance between navigating short-term uncertainties and actively pursue long-term growth." At its most recent quarterly earnings call, JOYY also emphasized that it will allocate capital to "high-potential business that align with our long-term strategy." YY's management commentary makes it clear that the company isn't willing to sacrifice long-run growth opportunities in exchange for near-term profitability preservation, and this points to lower profit margins for JOYY in the short term.

Potential Upside From Corporate Actions For YY

JOYY's share price might find some support from corporate actions, even though the company's business outlook for 2023 isn't very encouraging.

One key corporate action to note is shareholder capital return.

For full-year FY 2022, JOYY spent $138.1 million on share buybacks and distributed $145.9 million of dividends. This implies that YY had returned 143% of the company's earnings for the previous year to shareholders in the form of either dividends or share repurchases.

At its most recent fiscal 2022 earnings briefing, YY mentioned that "enhancing return for our shareholders" remains a key priority for the company, so it is reasonable to assume that JOYY will maintain its dividend payout and continue to buy its own shares. On the point about dividends, YY currently offers an appealing yield of about 6.8% . With regards to buybacks, JOYY has around $800 million remaining from its share repurchase authorization as of end-2022, and its undemanding valuations (forward price-to-sales of 0.83 times and trailing P/B of 0.40 times) imply that buybacks at current price levels should be value-accretive.

The other corporate action that warrants attention is the sale of "JOYY's domestic video streaming business" known as YY Live to Baidu, Inc. ( BIDU ) for a consideration of $3.6 billion.

In the company's most recent 20-F filing issued on April 27, 2023, JOYY revealed that the YY Live divestment transaction has been "substantially completed," but this deal has yet to secure the "necessary regulatory approvals from government authorities." The conclusion of this divestiture in time to come could act as a potential re-rating catalyst for JOYY, as a cash inflow of $3.6 billion will significantly expand the company's financial capacity for further shareholder capital return or new acquisitions.

Concluding Thoughts

JOYY Inc. shares are neither a Buy nor a Sell. JOYY Inc.'s lackluster 2023 prospects don't warrant a Buy rating for the stock, but a Sell rating will be too harsh taking into account potential catalysts for JOYY. As such, I deem JOYY Inc. stock to be worthy of a Hold rating.

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