It has been over a week since Huami Corp (NYSE:HMI) launched its rather disappointing IPO, and the results so far have not improved in the meantime. As China Money Network reported last week, Huami raised $110 million by selling 10 million shares at $11, saw its valuation reach $690 million, and lost its unicorn status. After rising slightly in value, the share value is still at exactly $11 as of the close of trading last Friday.
Huami is a smart wearables company, and some investors are almost certainly scared off by the ghost of Fitbit Inc (NYSE:FIT) hovering over any other smart wearables company. But there are real reasons to believe that Huami can avoid Fitbit’s fate. Huami does face legitimate concerns which should give more conservative investors some pause, but this slow start is hiding a company with real potential.
The Wearable Market
A simple glance at the financial numbers should indicate just how different Fitbit and Huami are. Fitbit’s next quarterly numbers will be released this Tuesday, but its last quarter saw the company report a net loss of $113 million or 48 cents per share compared to investor expectations of 3 cents per share. While Fitbit’s numbers are generally trending the wrong way, Huami’s are looking up. In its SEC report, it reported a revenue increase of 896 million RMB to 1.5 billion RMB ($233 million) from 2015 to 2016, followed by earning $194 million in the first nine months in 2017. This represents a 74 percent increase from 2015 to 2016 and a 37 percent increase from 2016 to 2017. Furthermore, Huami also reported a net income of $3.6 million in 2016 and $14.3 million in 2017, making it the uncommon example of a profitable tech IPO.
Of course, being better than Fitbit does not mean that Huami is actually a good stock. But what is clear is that Huami is a profitable, growing company in a market sector for which there is still plenty of demand. Despite the entry of major corporations such as Samsung (KS:005930) and Apple (NASDAQ:AAPL) into the wearables market, the market is far from saturated.
This is especially so in China, where a higher percentage of citizens use wearables than even the United States. Fitbit has struggled hard to make inroads into the Chinese market, in part because customers turn towards cheaper alternatives like Huami.
Huami and Xiaomi
But while things may appear rosy for Huami, there are real questions surrounding its relationship with the Chinese electronics titan Xiaomi, the largest Chinese smartphone company. Huami has been partnered with Xiaomi to design and manufacture Xiaomi wearables products, from which it derives the majority of its revenue. In Huami’s own words, “For the years ended December 31, 2015 and 2016 and the nine months ended September 30, 2017, revenues from our Xiaomi Wearable Products segment represented 97.1%, 92.1% and 82.4% of our total revenues, respectively.” Huami does have its own brand of wearables called Amazfit, but the company is clearly dependent on Xiaomi.
Huami’s cooperation agreement with Xiaomi is set to expire in October 2020, and the company does admit that if the agreement lapses that it would be in serious trouble. But this is unlikely. Xiaomi, or rather Shunwei High Tech Limited which was founded by Xiaomi CEO Lei Jun, owns 20.4 percent of the company according to Mt4 indicators, and the partnership has been profitable so far. And if that is the case, then surely it is a good thing for Huami to be partnered with such a large and successful company.
However, there are two problems. The first, smaller problem is that Xiaomi is working towards an IPO itself which will likely debut in the second half of 2018. This raises the question of why invest in Huami, which is heavily dependent on Xiaomi, if you can just invest in Xiaomi.
The second problem is that Huami’s excellent numbers may be a mirage created by Xiaomi. Xiaomi absorbs much of Huami’s expenses in regards to marketing and distribution, and it may even be propping up Huami’s revenue and net income to attract investors. If Huami was a standalone company without being partnered with Xiaomi, would it be really be able to compete against Samsung or Apple, or would it end up as another Fitbit?
Risk is Worth the Reward
While I understand how conservative investors may be concerned about Huami’s relationship with Xiaomi, it should not take away from Huami’s success in becoming a major player in wearables. I highly doubt that Xiaomi would bother inflating the numbers of a junior partner, especially as Xiaomi is unlikely to sell its share in Huami. Huami may not be doing well right now, but it very well could go up in value in a few months when Xiaomi goes public and more investors become aware of its influence. This is a good opportunity to get a cheap stock which everyone is ignoring for now.