Xiaomi (1810.HK) is one of the largest smartphone makers in the world – currently number 3 ranked by smartphone shipments and a household name in many markets in the world – Yet the Chinese company was founded a mere 11 years ago and has not yet seen much traction in the west. But Xiaomi is much more than just a smartphone maker – or at least they aim to be. They are building out an Internet of Things and an Internet Services business and command one of the most expansive product portfolios in the world. I recently invested in the company as I believe they are to establish themselves as one of the largest and most successful technology companies in the world – not tomorrow or likely not even in the next couple of years – But I have high conviction in that some day they will.
Xiaomi Corporation has a market cap today in the area of $85 billion and its share price sits at 27.33 HKD which is approximately 3.5 USD. With the company founded in 2010 they only went public in 2018 – The same year the company turned profitable and in what was at the time one of the largest IPOs of all time. Since then, the stock slightly struggled and traded largely sideways until some time in late 2020 were the stock finally saw some traction.
The US ban on Huawei
This spike in stock value can in many ways be attributed to the ban of Huawei, its biggest homeland competitor, when Donald Trump, then president of the United States placed the company on the dreaded Entity List, preventing Huawei from collaborating with US based companies or make use of any American licensed technology. As Huawei were unable to ship phones with Android’s Google Services (including Google Play, the app store) and forced to double down on their own fork of Open Source Android and app store, while at the same time being cut off from having their own Kirin chip designs manufactured by TSMC, their smartphone market share was almost immediately gobbled up by the likes of Samsung, Xiaomi and BBK Electronics (OPPO, Realme, Vivo, OnePlus). There is no reason to fear however, that Xiaomi will end up the same. The most ludicrous element to the entire Huawei saga is the fact that it has nothing to do with their phone business.
Huawei happens to be the world’s absolute biggest wireless infrastructure company and provider of 5G internet connectivity. As mobile connectivity will play an even more important role in our future with technologies like new communications, cloud and autonomous vehicles relying on this, the US had no interest in a Chinese conglomerate being the main provider of internet infrastructure for both their own and allied countries. In Donald Trump’s last days in office as he further limited Huawei’s possibilities (by removing case-specific exceptions to the ban otherwise approved by The Senate) he also went after Xiaomi as he placed the company on an entirely different company blacklist – a list which prevents American companies from investing into these. He did so with claims of Xiaomi being tied to the Chinese military, much like he did with Huawei. Xiaomi immediately sued the US government and won the case already by May 12, removing them from the list. While in any case, the ban would be much less severe than what is currently in place for Huawei, Xiaomi simply does not pose a threat to western infrastructure and will never come under such levels of scrutiny.
Xiaomi strategy and future potential
While the company will likely continue to be a very dominant player in the smartphone space it is not the full story and in fact very far from Xiaomi’s future vision. Currently near 60% of the company’s revenue comes from its smartphone business, but its growing ‘IoT/Lifestyle’ and its ‘Internet Services’ business makes up the rest. And this is where it gets interesting: Xiaomi has built an almost unfathomable portfolio of smart equipped devices: Ranging anywhere from smart home devices like robot vacuum cleaners, smart lights, humidifiers and air-conditioners to TVs and voice-activated speakers, but also lifestyle products like smart weights, sport trackers and electric scooters. Some of these products are designed and produced by Xiaomi subsidies or third party companies which have an exclusive agreement in place with the company. As mentioned the product portfolio is immense and so are the list of brands Xiaomi has a hand in. Some of them you may have heard of, though I guarantee not all. Here is a few you might know: Amazfit, POCO, Redmi & Ninebot/Segway. They also own 30% in a joint venture with Phillips – one of the leaders in smart home lighting. You can see the full list of Xiaomi brands here.
Xiaomi’s vision is to build out an ecosystem centered around the smartphone and support all of these devices through their internet services. While the company is still far from delivering on being the software company they dream of becoming, where they are ahead today and significantly so is in this ecosystem of devices. Xiaomi products exists in every category and most of them connect to their ‘Mi Home’ or ‘Mi fit’ app. And while you may not yet own a Xiaomi smartphone, chances are you or someone you know already own some of these smart devices. Xiaomi has in many ways taken the opposite approach of Apple and Google and created the physical space and demand for it first, before creating the software solutions surrounding them. Where these internet services and IoT/lifestyle businesses make up respectively 10% and 30% of revenues today Xiaomi are aiming for near double that in the future.
In 2018 Xiaomi stated that their hardware business would operate at an overall net profit margin not exceeding 5% per year. This is reflected in their competitive pricing like their recently announced foldable smartphone, the ‘Mi Mix Fold’ which begins at a price of only 9999 CNY or ~ $1600. In contrast Huawei is selling their newest foldable at a price of 18000 CNY or $2800 and Samsung’s Galaxy Z Fold which held a starting price of $2000. Both Xiaomi’s smartphone products and IoT devices are extremely competitively priced – though I am not entirely convinced they live up to their stated goal quite yet in every category, given that their smartphone business is what currently keeps the company profitable. Where these low margins will give the company and edge however is in penetrating the European market. Two years ago the company created their own first party local online stores in a long list of European countries. Here in Denmark the domain is mistore.dk and serves as a base of their operations. They are slowly making their entry in local carrier stores too and recently started actively advertising their current flagship phone, the ‘Mi 11’.
The point I hope you gather from reading all this is that Xiaomi is a company with a vision of expanding into the software industry where margins are much higher than in hardware. But they are currently in the most difficult stage of this where money is being burned expanding their marketshare and for R&D of new devices. They are operating with low margins on the premise of creating this ecosystem that one day will support ad supported or paid software solutions. Xiaomi will face many of the same challenges other Chinese OEMs have faced when expanding into the west, but they are in a prime position by currently offering better value than their competitors in every price range and by having a huge potential customer base in Europe who were previously loyal to Huawei which are now forced to look elsewhere. In the grand picture I believe what Xiaomi is constructing here is a vertically integrated platform with products of any kind available to any kind of customer. Their flagship products like the ‘Mi 11 Ultra’ have reached the highest critical praise from reviewers while their budget offerings like the ‘Poco F3’ is simply impossible to beat in price to performance.
Innovation and leadership
Xiaomi is an innovative company. Their impressive size after only 11 years is proof of that. In late 2020 the company went on a hiring spree to hire more than 5000 new engineers to improve their software, AI and camera technology. As an example of their pace of innovation their ‘Mi Mix Fold’ foldable smartphone is the first to market with a so called ‘liquid lens’ – A new technology that allows the lens itself to move for changing focal length and faster focus. Just imagine the benefits in cost and elegance of having to only optimize software, colors and speed for a single camera lens in contrast to the array of different lenses we see on other smartphones today – yet still achieve the same range of possibilities. Tying into this specific innovation, Xiaomi had to develop their own image processing chip to achieve these capabilities. The chip is called the ‘Surge C1’ and marks the company’s second attempt at building their own chips. Designing in-house chips remains a significant challenge that only three other smartphone makers (Apple, Samsung, Huawei) have even attempted before them. But it marks their entry into the big leagues as rumors are now flowing that Xiaomi is looking to build their own SoCs in partnership with OPPO. I discussed this topic in the last part of my semiconductor overview post.
Xiaomi is also expanding into other exciting industries. In March of this year they announced a $10 billion investment into the electric vehicle sector. Xiaomi is looking to compete with the likes of Nio (NIO), Xpeng (XPEV) (which they also backed with $400 million in 2019) and Li Auto (LI). The Chinese EV market is the fastest growing in the world and is ripe for opportunity and heavily subsidized by the local government. Much like Nio, Xiaomi has a dedicated and loyal following in China and are well known for hosting multi-day product announcement events and giveaways creating spectacular hype. Much of this can be attributed to the company’s CEO and founder Lei Jun. At their latest multi day multi product event in March, it was interesting to see how the company let the founder speak for extended periods of time both in between and after their product announcements. It seems they might aim to build a brand around their CEO as an Elon Musk or Steve Jobs-like figure. All this is of course for now centered entirely around their domestic audience and customer base but is another indication of how the company wants to be perceived. Interestingly Lei Jun is not the only big shot persona leading the company – Other co-founders include Lin Bin, former Vice President of Google China and Zhou Gaungping then Senior Director at Motorola’s Beijing R&D Center – serving as Xiaomi’s President and Vice President respectively.
Xiaomi presents an interesting investment opportunity for those of you looking for a long term investment commitment in the consumer technology space. It is not a company I believe to see explosive growth right here and now, but much like with my investment in Microsoft (MSFT) 6 years ago – It is a company I believe to experience steady growth for many years to come. Not unlike Microsoft, this is fueled by early, strategic and visionary investments into industries that are on the brink of transforming our world. What Satya Nadella did with Cloud, Lei Jun is building with IoT. Xiaomi is turning into a lifestyle brand with an unavoidable internet enabled product catalogue and stand to fill the large gap left behind by Huawei in the smartphone space in Europe and their home base of China. Xiaomi already dominates in India, the largest emerging market of the world and has achieved incredible growth and innovations in only a decade. They are on the hardest part of their journey right now and could easily not even have been profitable yet with this type of long term strategy – Yet they are already.
Their revenue has increased by 29% calculated annually since 2017 and already provide a good return on invested capital of 13,5% in the year 2020. They sit on a net cash pile of $5.6 billion – Very impressive as well. They will face stigma and challenges as they enter new markets as a Chinese vendor and as they experiment in cash intensive industries of the semiconductor and electric vehicle business. But I believe they will ultimately come out on top and I am committing to invest at least a small sum of my own money into their stock every single month for the foreseeable future. Xiaomi makes incredible products which recieve high praise, both on the high end and in the budget category. Over the long term their current $85 billion valuation will seem like nothing. They are already an industry giant but in my opinion a severely undervalued stock.
Disclaimer: I am not a financial advisor, the opinions expressed in this article are entirely my own – always invest at your own risk.
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