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If Its Growth Is So Fabulous, Why Is MercadoLibre Stock Falling?

By Motley Fool Staff - May 22, 2018 at 1:16PM

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The Latin American e-commerce leader faced several significant challenges recently that left investors fearful for the future. Are they right to be?

In this segment from Industry Focus: Tech, analyst Dylan Lewis is joined by contributor Danny Vena to discuss MercadoLibre's (MELI -1.24%) competition, accounting changes, and postal rate increases.

A full transcript follows the video.

This video was recorded on May 18, 2018.

Danny Vena: That gives you a good proxy for growth in a number of different areas, and it strips out the foreign currency effect. And, this company has really done well looking at those operational metrics. When you look at user growth, it's grown its user growth for about 20% going back every quarter for, like, six years. Its items sold has grown 40% year over year on average for, like, the last nine quarters. Payment transactions have exceeded 60% growth year over year every quarter going back to early 2015. So, if you look at the non-financial part of the growth story, this company is growing gangbusters.

Dylan Lewis: Of course, we do have to also look at the financial part of the story, because that's what the market pays attention to, as well. Things have not been particularly rosy for MELI over the past few months. I believe shares are down something like 25% since March, and that really has to do with the top line, bottom line numbers that they have to report.

Vena: Well, there is one other small thing that has affected this stock. If you go back several months, there were reports that is making a meaningful move into Brazil. Now, for the last several years, Amazon has been available. Folks in Brazil could access the website, they could buy books and, I believe, electronics. Now, they're moving to develop a meaningful website in Brazil. Of course, any time Amazon enters the conversation, any other company that's competing in the space really has to ramp up their game in order to compete.

Lewis: Yeah. Just ask Blue Apron about that, right? [laughs]

Vena: Who?

Lewis: Exactly. But, what about some of the tax stuff that's impacting their financials? Sorry, that's what I was teasing at before.

Vena: Sure. Well, one of the things that happened is, the United States changed generally accepted accounting principles. And one of the things that they changed had to do with revenue recognition -- specifically ASC 606, for you accounting buffs. How that affects MercadoLibre is that, in the past, when they gave incentives for people for shipping -- and, to back that up just a little bit, MercadoLibre has been breaking out free shipping in many of its markets for the last couple of years in anticipation of Amazon moving into the market. So, they're working to take market share, and by offering free shipping on many of their orders, they'll be able to compete meaningfully before Amazon even gets there.

What they have done in the past is that, for accounting purposes, the cost was shown under cost of goods sold. That recently changed. In the first quarter of this year, that now has to be a reduction from revenue. Now, that may not sound like it's that big of a deal, but in the most recent quarter, MercadoLibre had revenue of $433 million, and they had given away $112 million in shipping incentives. So, instead of having 60% growth for that quarter, it showed 19% growth under the new standard, even though nothing had changed.

Lewis: Right. It's more of a recognition thing than an actual core business cost issue, right?

Vena: That's right. Because of this, it's going to take a couple of quarters for people to wrap their mind around this. People that follow the company had gotten used to seeing 50-70% growth in a quarter year over year. Now, they're looking at 19% growth. Just from a psychological standpoint, that has an effect.

Lewis: There was a silver lining to all of this, though, wasn't there, Danny?

Vena: There was. The company has been working to institute a program that it calls Fulfillment by MercadoLibre.

Lewis: I wonder where they got that idea. [laughs]

Vena: Does that sound familiar at all? They've taken a page from Amazon's playbook. What they're doing is they're setting up warehouses and fulfillment centers within Latin America. What happens is, some of their merchants will bring in product and set it up in these fulfillment centers to be shipped out directly to customers. That takes out a lot of the middle man.

In the most recent quarter, the national postal service in Brazil raised their rates pretty significantly. In just local and regional shipments, the cost went up by 8% or more. But in national shipments, the cost went up by between 30-50%. So, that took a toll on MercadoLibre's financials during the quarter. They didn't really have a lot of time to react to that.

They did say on their earnings conference call that this was a short-term situation, and because they have been working to move their merchants to Fulfillment by MercadoLibre, the costs associated with shipping going up that significantly was kind of an incentive for those merchants to accelerate that process and start moving over to MercadoLibre's shipping system.

Lewis: So, to sum up the last three months for MercadoLibre, you have the impending entrance of Amazon to one of its core markets, you have this major change in how they state their financials, and that makes their growth rates look a lot less rosy, and you have some costs rising for them. There's a lot of things to be concerned about with this company that maybe people wouldn't have been as worried about, maybe, six months ago.

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