LU - Lufax: All Eyes On Guidance And Risks

2023-04-27 09:22:51 ET

Summary

• LU's 2023 guidance points to a mixed outlook, as the company could potentially deliver positive earnings again notwithstanding expectations of lackluster loan growth.
• Lufax's delisting risk has been mitigated by the company's successful dual listing, but LU might still be affected by unfavorable regulatory developments.
• I raise my rating for LU to a Hold, as I see the stock's risk-reward as balanced in consideration of the company's guidance and risk factors.

Elevator Pitch

I have a Hold investment rating assigned to Lufax Holding Ltd's ( LU ) stock.

With my prior November 28, 2022 write-up for LU, I discussed about Lufax's below-expectations Q3 2022 financial results and full-year FY 2022 outlook.

I upgrade my rating for LU from a Sell previously to a Hold now, after assessing the stock's management guidance and key risk factors in the current article. Lufax's financial guidance is mixed taking into account both the profitability and loan growth outlook. Separately, the company still faces regulatory risks even though its recent successful dual listing is a positive development.

LU's 2023 Guidance

At the company's Q4 2022 results briefing last month, Lufax acknowledged that it is "not able to provide detailed guidance for 2023 at the moment due to uncertainty." LU was only willingly to guide for "a return to profitability in Q1 (2023), albeit at a more subdued level" at its most recent quarterly results call. In comparison, LU provided specific loan growth and earnings guidance in quantitative terms for FY 2022 at the company's Q4 2021 results call in the prior year.

There are two key factors which have a significant impact on Lufax's 2023 outlook, specifically China's economic growth and the results of talks with the company's credit insurance partners.

With respect to the economic outlook for China, KraneShares CSI China Internet ETF's ( KWEB ) -14% decline (source: Seeking Alpha price data) in 2023 year-to-date suggests that the market has a bearish view of the Chinese economy.

Even though China's GDP grew by a reasonably good +4.5% in the most recent quarter, there are certain metrics point to a potential moderation in economic growth for China in the quarters ahead. PBOC's (The People's Bank of China) Q1 2023 survey of Chinese bank account holders as cited in an April 4, 2023 South China Morning Post news article highlighted that more than half of respondents were more inclined towards saving as opposed to spending. Separately, a recent April 18, 2023 Fortune article highlighted that "China’s 19.6% youth unemployment rate" for March 2023 comes close to a "record-high."

From the company's perspective, asset quality appears to be a more important priority than loan growth in the near term. Lufax noted at its Q4 2022 earnings call that "our bias at the moment is to go for quality over volume" when it comes to new loans.

As such, it is reasonable to assume that Lufax's loan growth for 2023, which is positively correlated with China's economic growth, might turn out to be weaker than expected.

On the flip side, LU is in a good position to turn around from a net loss of -RMB806 million in the fourth quarter of 2022 to achieve positive net income for Q1 2023 and the remaining quarters for the current year. At the recent quarterly earnings briefing, Lufax noted that the high "CGI (Credit Guarantee Insurance) premiums charged by our insurance partners" were a key factor contributing to the company's net loss for Q4 2022.

Looking ahead, Lufax disclosed at its Q4 2022 results call that 15 of the company's 81 credit insurance partners "have already agreed to the model where our guarantee company provides full provision of credit enhancement." Also, the percentage of LU's loans which were insured by external insurance partners (versus its own financing guarantee subsidiary) decreased from 77.5% for Q3 2022 to 76.5% in Q4 2022. These numbers imply that there should be an improvement in LU's profitability for Q1 2023 and the quarters ahead.

In summary, it will be fair to refer to LU's 2023 guidance as mixed considering both loan growth and profitability expectations.

Lufax's Key Risks

There have been both positive and negative developments for Lufax in recent months that affect the company's risk profile.

On the negative side of things, the "China Banking and Insurance Regulatory Commission" has initiated a new "six-month crackdown on illegal loan intermediaries" in China starting in mid-March this year as per Chinese media Caixin Global's March 10, 2023 article (translated using Google Translate). As per S&P Capital IQ's valuation data, LU's consensus forward next twelve months' price-to-sales multiple has already de-rated from 5.0 times at its historical peak in January 2021 to 0.55 times now, and this is largely attributable to tightening regulatory control over the Chinese fintech and online lending market segments in recent years. As such, the recent news flow on Chinese regulatory authorities targeting "illegal loan intermediaries" suggests that the regulatory headwinds remain an issue for LU and its Chinese fintech peers.

On the positive side of things, Lufax has recently completed the dual primary listing of the company's shares in Hong Kong on April 14, 2023 . Earlier, LU's shares rose by +12% in response to the regulators' approval of its Hong Kong listing as mentioned in an April 11, 2023 Seeking Alpha News article , which indicates that investors have a favorable view of this recent development. As US-China relations continue to be rocky, there are concerns about whether Chinese companies will continue to stay listed in the US. Therefore, Lufax's recent Hong Kong listing offers LU's shareholders the choice to convert their ADRs (American Depositary Receipts) into Hong Kong-listed shares in the worst case scenario that Lufax's shares are delisted in the US.

Closing Thoughts

I deem LU's stock to be deserving of a Hold rating in view of the company's financial outlook for 2023 and the stock's risk profile. There are both positive and negative factors associated with a potential investment in Lufax, so a Hold rating is fair.

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