BEKE - KE Holdings: Balanced Risk-Reward Following Q3 Earnings

2023-11-10 12:58:30 ET

Summary

• KE Holdings delivered a massive earnings beat in the third quarter, but its Q4 top-line guidance was a disappointment.
• BEKE's diversification efforts associated with growing its home renovation business are encouraging, but it will still derive the majority of its revenue from the brokerage business for the foreseeable future.
• My Hold rating for BEKE stays unchanged, as I view KE Holdings' risk-reward as balanced after its third-quarter results announcement.

Elevator Pitch

KE Holdings Inc. (BEKE) [2423:HK] stock continues to be rated as a Hold. Earlier, my January 23, 2023 update for BEKE was focused on the latest regulatory developments relating to Chinese property brokerages and the prospects for the company's renovation services arm.

In the current article, I assess KE Holdings' recent financial performance for Q3 2023 and its forward-looking fourth-quarter management guidance. BEKE's third-quarter results were better than what the sell side forecasted, but the company's Q4 revenue growth guidance of +2% QoQ wasn't particularly exciting. BEKE is putting in the effort to diversify away from its cyclical brokerage business, but its home renovation arm won't contribute a substantial proportion of the company's top line anytime soon. As such, I view the risk-reward for BEKE post-Q3 results as balanced, which implies that KE Holdings deserves a Hold rating.

Q3 2023 Results Beat

KE Holdings disclosed the company's financial results for the third quarter of the current year on November 8 before the market opened. Both BEKE's Q3 2023 top line and bottom line exceeded analysts' expectations.

The company's actual third-quarter revenue came in +3% better than the sell side's consensus top-line forecast of RMB17,254 million (source: S&P Capital IQ ). BEKE's sales grew from RMB17,597 million for the third quarter of 2022 to RMB17,811 million in the most recent quarter.

The headline net profit attributable to shareholders for KE Holdings jumped by +60% YoY from RMB723 million in Q3 2022 to RMB1,158 million in Q3 2023. As per S&P Capital IQ's consensus data, BEKE's reported earnings for the third quarter were +106% higher than the market's consensus bottom-line projection of RMB563 million.

BEKE attributed the company's above-expectations performance in the third quarter to the fact that Mainland China's "existing home market improved from its June performance, driven by the anticipation of supportive policies" at its Q3 2023 earnings call . KE Holdings also highlighted at the most recent quarterly results briefing that the company's "streamlined cost structure has enabled us to achieve stronger profitability." In other words, a stronger-than-expected recovery in the Chinese secondary housing market and excellent expense management were the key factors contributing to KE Holdings' Q3 2023 revenue and earnings beat.

However, the market didn't seem to react favorably to KE Holdings' Q3 2023 results release. BEKE's share price rose slightly by +1.0% on the day of the earnings announcement (November 8), but the company's stock price declined by -2.2% on the next day (November 9). The lackluster post-results share price performance for KE Holdings might be attributable to the company's guidance as detailed in the next section.

Fourth Quarter Financial Guidance Was Unexciting

While BEKE's Q3 2023 results were good, its forward-looking quarterly guidance was a disappointment for investors.

In specific terms, KE Holdings expected its top-line to grow by a modest +2% QoQ to RMB18,250 million in Q4 2023 based on the mid-point of its guidance. In the company's November 9, 2023 6-K filing , BEKE acknowledged that its fourth-quarter guidance takes into account "the potential impact of the recent real estate related policies and measures, which remain uncertain and may continue to affect the Company's operations."

There appear to be valid reasons for BEKE's cautious view of its Q4 2023 top line performance, as home sales in China were weak in the early part of this month. According to sell-side research firm DBS Research's latest China Property Weekly Digest report issued on November 8, residential sales (measured in Gross Floor Area) in 27 key Chinese cities decreased by -8.8% YoY and -16.3% WoW (Week-on-Week) in the first week of November.

Considering KE Holdings' poor revenue guidance for the fourth quarter, it is understandable why BEKE's shares didn't rise significantly in response to the company's Q3 2023 earnings beat.

Diversification Away From Core Brokerage Business Is A Work-In-Progress

In my prior late-January write-up for BEKE, I shared my view that home renovation could potentially be "an unexpected growth driver for KE Holdings" and help the company diversify beyond its core brokerage business in the long run.

Last month, KE Holdings issued an 8-K filing announcing that it proposed to buy out a company known as "Kongjian Zhihui Decoration (Beijing) Co., Ltd.", a transaction that is expected to be completed in 1H 2024. As indicated in this filing, Kongjian Zhihui is "a leading service provider of one-stop home renovation services through its ikongjian brand whose services cover 14 cities" in Mainland China. It is clear that BEKE is working very hard at diversification, especially with respect to expanding its home renovation business.

Nevertheless, it will take much more time for KE Holdings to achieve meaningful diversification. The company's home renovation arm registered revenue of RMB3.2 billion in Q3 2023, which works out to be an annualized top line of RMB12.8 billion. Kongjian Zhihui's FY 2022 revenue was RMB1.39 billion, based on an October 12, 2023 Daiwa Securities Group report (not publicly available) titled "Beike Plans To Acquire Kongjian Zhihui." In contrast, KE Holdings' consensus FY 2024 revenue is RMB86.6 billion (source: S&P Capital IQ ). This means that the sales of BEKE's current home renovation business and Kongjian Zhihui combined is less than 20% of the company's total top line.

Closing Thoughts

My opinion of KE Holdings as a potential investment candidate is Neutral. On the positive side of things, BEKE achieved a significant Q3 2023 earnings beat, and the company's home renovation business has good growth prospects for the long term. On the negative side of things, KE Holdings' Q4 2023 top-line guidance was a disappointment, and the company's diversification plans are still a work-in-progress considering the potential revenue contribution from its home renovation arm.

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