We Will Harness AI And Networks To Reshape Home Services

Key Takeaways

• Leveraging AI and efficient operations may boost net margins, while expanding agent networks could improve customer service and retention.
  
• Integrating services and adopting a light asset model might increase revenue potential, stabilize earnings, and enhance returns on equity.
  
• Declines in the real estate market and operational challenges threaten KE Holdings' profitability, with AI integration needing to counteract rising costs.

Catalysts

Through its subsidiaries, engages in operating an integrated online and offline platform for housing transactions and services in the People's Republic of China.

• KE Holdings is focusing on leveraging AI technology to enhance operational efficiency, improve service quality, and reshape the entire residential services process. This could significantly improve operational efficiency and potentially lead to higher net margins over time.
  
• The company's strategy of expanding its agent and store network aims to improve customer service and satisfy diverse client needs, possibly increasing revenue by enhancing the customer acquisition and retention rate.
  
• The firm's focus on integrating its Housing Transaction Services with Renovation Services is expected to drive synergies and push growth in the Home Renovation business, potentially resulting in increased revenue and improvement in net margins through better cross-selling opportunities.
  
• KE Holdings' strategic initiatives in the development of new business models, such as Carefree Rent, indicate growth in service types and operational scaling, which may enhance the company's long-term revenue potential through diversification.
  
• The company’s commitment to scaling back capital-intensive operations in favor of a light asset model could lead to a more efficient capital structure, improving net margins, and leading to enhanced earnings stability and potentially higher returns on equity in the future.

KE Holdings Future Earnings and Revenue Growth

Assumptions

How have these above catalysts been quantified?

• This narrative explores a more pessimistic perspective on KE Holdings compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming KE Holdings's revenue will decrease by 1.3% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from 3.8% today to 6.7% in 3 years time.
• The bearish analysts expect earnings to reach CN¥5.8 billion (and earnings per share of CN¥7.0) by about June 2029, up from CN¥3.4 billion today. However, there is some disagreement amongst the analysts with the more bullish ones expecting earnings as high as CN¥10.8 billion.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 28.5x on those 2029 earnings, down from 34.2x today. This future PE is greater than the current PE for the US Real Estate industry at 25.0x.
• The bearish analysts expect the number of shares outstanding to decline by 2.63% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 9.35%, as per the Simply Wall St company report.

Risks

• The Chinese real estate market faced a significant 18% decline in new home transactions in 2024, impacting KE Holdings' new home transaction revenue.
  
• Fluctuations in the real estate market, including declining prices, increase uncertainty for customers and may negatively affect demand, impacting KE Holdings' revenue and net margins.
  
• The shift towards prioritizing living experience and minimizing risks in home buying means increased resources are required to cater to customer needs, potentially affecting profitability.
  
• KE Holdings acknowledges challenges in operational efficiency within the traditional model, meaning significant changes and investments are necessary, which could impact earnings and net margins.
  
• As AI technology integration is in its early stages, failure to achieve significant efficiency gains could result in increased operational costs without corresponding revenue growth, affecting net income.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The assumed bearish price target for KE Holdings is $18.13, which represents up to two standard deviations below the consensus price target of $22.82. This valuation is based on what can be assumed as the expectations of KE Holdings's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $27.05, and the most bearish reporting a price target of just $18.13.
• In order for you to agree with the more bearish analyst cohort, you'd need to believe that by 2029, revenues will be CN¥86.7 billion, earnings will come to CN¥5.8 billion, and it would be trading on a PE ratio of 28.5x, assuming you use a discount rate of 9.3%.
• Given the current share price of $14.91, the analyst price target of $18.13 is 17.8% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.