If most companies bought five commercial slots during the Super Bowl only to run the same ad five times, it would seem like a waste. When Temu did it this year, it was just a reminder of its business model. The Chinese e-commerce challenger is trying to become a household name among American consumers by focusing on sheer volume rather than quality to increase its market share.
Temu has been a near-constant presence in Americans' social media feeds and even their routine web browsing for more than a year, promoting the lowest-cost options of everything from shower caddies to camera drones. This has led to strong growth for PDD Holdings (PDD -1.73%), Temu's parent company, whose stock price has risen more than 50% in the past year. For consumers focused on the lowest-price marketplace, Temu has become an attractive alternative to Amazon's (AMZN 0.64%) e-commerce offerings.
Is Temu's low-cost platform a threat to Amazon's e-commerce profitability? And will it become a staple of U.S. shopping or fade away after the hype dies down? The answer to these two questions could give a hint as to the long-term investment potential of PDD's stock.
Amazon has a history of Chinese challengers
Temu isn't the first Chinese e-commerce challenger to take on Amazon. But it's worth noting that when Alibaba's (BABA 0.92%) AliExpress service launched in 2010, Amazon's response was to do -- nothing. That's because there is nothing a U.S. company can do to remain competitive with a Chinese counterpart within the People's Republic of China (PRC). The Chinese Communist Party consistently provides governmental aid in the form of subsidies, tax relief, and even outright discouragement of foreign companies once they conflict with a domestic one. Ultimately, this trend led to Amazon shuttering its e-commerce division in the PRC in 2019, and in some ways admitting defeat to Alibaba in China.
However, this did little to damage Amazon at the time, as the company's sales rose 20% in 2019. AliExpress, on the other hand, never achieved real mainstream consumer popularity in the United States. This was partly due to a propensity for scammers, but mainly a lack of successful marketing. Today, AliExpress fills a niche as a popular platform for "dropshippers" facilitating the resale of large quantities of Chinese goods on Amazon for a generous mark-up.
Image source: Getty Images.
Temu specializes in offering the cheapest possible version of every good a consumer can imagine. This business model isn't anything new, especially not to the American customer base. Between AliExpress, Chinese fashion retailer Shein, and domestic e-commerce company Wish, American shoppers know the reality of "you get what you pay for." The introductions of these platforms have all been shrugged off by Amazon's business model of premium services through Amazon Prime and a well-managed e-commerce store. As such, it's unlikely that Temu will steal much revenue from Amazon, as the two companies approach online retail in fundamentally different ways.
Temu does, however, pose a threat to the aforementioned dropshippers, as it essentially cuts them out of the process. Instead of American customers buying a needlessly marked-up Chinese product on Amazon through a reseller, they can now go straight to the source with Temu. With estimates showing nearly 70% of all products sold on Amazon are made in China, Temu could ultimately offer all of those same products for cheaper by subverting Amazon resellers.
Don't worry too much about Amazon, though. The customers who generate the most revenue for Amazon e-commerce are those focused on quality products at competitive prices. And Amazon's focus on Amazon Web Services and cloud computing ensures its trajectory will remain positive. It's clear from Temu's website that it does not currently offer the inventory that would attract such shoppers.
The risks of investing in PDD and Temu
Currently, there exist three major threats to Temu's longevity and relevance in the e-commerce space. The first is tensions between the U.S. government and Chinese companies, particularly ByteDance and its TikTok platform. With the U.S. Senate currently reviewing a bill that would force ByteDance to divest TikTok, the U.S. is signaling a renewed willingness to hamstring Chinese corporations that wish to take advantage of the U.S. market. Temu could one day become another TikTok should U.S. regulators decide to review its data harvesting, tariff evasion, and political connections.
The second risk lies in Temu's unsustainable business model. Currently, it is impossible to determine the amount of money Temu is making or losing, due to PDD Holdings' nebulous reporting of operating profit. However, several analysts postulate the company is losing anywhere between $500 million and $1 billion annually on Temu. This can be attributed to Temu's unprofitable pricing, which is purposely rock-bottom to win over customers in the short term. The company also presently lacks the warehousing infrastructure needed to expand and accelerate sales within the United States.
The third risk is an age-old one in the world of emerging businesses -- reputation. Business owners, customers, and investors all rely on the reputation of a company to determine its value, and Temu's reputation has suffered since entering the mainstream e-commerce space. A C+ rating from the Better Business Bureau and several complaints to the Federal Trade Commission regarding copyright infringement and counterfeit products make the site questionable at best.
Is PDD Holdings worth investing in?
I would unequivocally say no. Though PDD Holdings has shown strong performance over the last couple of years, its long-term potential is dubious at best. For starters, American investors can only purchase American Depository Receipts tied to PDD on the New York Stock Exchange. This means no amount of money spent investing in PDD will ever correlate to public ownership rights. This isn't an issue when investing in reputable foreign companies, but it is especially risky considering the nature of China's business environment. As a command economy under a communist regime, ADRs in China are subject to heavy government interference, should the company step out of line with the party.
Moreover, the company's investor relations page and quarterly earnings reports lack any sort of in-depth information. Neither of the last two earnings reports off information on how the company calculates its revenues and expenses or where they come from. Couple this with the aforementioned institutional risks surrounding PDD Holdings and investing in this company is simply not worth it.
