On this episode of Industry Focus: Tech, Dylan Lewis is joined by Fool.com contributor Danny Vena to discuss the recent short-term troubles and the long runway ahead for MercadoLibre (NASDAQ:MELI) -- the Amazon, PayPal, eBay, and Square of Latin America.
A full transcript follows the video.
Check out the latest earnings call transcript for MercadoLibre.
This video was recorded on March 1, 2019.
Dylan Lewis: Why don't we talk about MercadoLibre first? Looking at this company, 2018 was kind of a rough year for the business, so a lot of people were happy to see the positive results. Let's do a quick recap on where they were last year.
Danny Vena: Last year, they faced a number of challenges. This is a smaller company, comparatively. I mean, we're not talking Amazon-type numbers. MercadoLibre has a number of businesses in Latin America. Similar to Amazon's, it has an e-commerce platform, it has a logistics business, it has platforms available for sellers similar to eBay, it has a payments solution similar to PayPal. It has merchant solutions, merchant credit. A number of different businesses.
Last year, they ended up hitting several different issues at the same time, which really hit the stock hard. One was, there was a truckers' strike in Brazil, which is their biggest market, so items were not getting delivered, so people held off on making purchases. There was also an unexpected postal rate hike with the national postal service, Correos. Finally, there were some issues with an accounting change, which did not actually change any of the operational numbers, but what it did is it made the growth rate appear much slower than what it was. People were used to seeing 50%, 60%, 70% growth rates, and all of a sudden it looked like the growth had slowed to 20% or 30%. So, all of those things together gave investors pause and they went running for the sidelines.
Lewis: Yeah, I think this is the kind of company where you see the numbers and you almost always have to dig a little bit deeper to understand what's going on. We see the accounting changes more recently, but this is also a company that gets hit really hard with foreign exchange and currency fluctuations. We're going to touch on that in a second.
Let's talk about the results here. Super strong numbers coming in, really great if you're looking in local currencies. Of course, we have to make the adjustment to the dollar because that's how they report their numbers.
Vena: That's true. It's worth noting that this really only happens on paper. They will have occasion to exchange their Brazilian real-denominated currency into dollars, but by and large, it stays in Brazil and it stays in the local currency. It really doesn't have any effect on the operating business. What it does do is, in order to translate those results into a form that the SEC will accept, they have to exchange those foreign currencies into dollars. And when they do that, it looks horrible.
Just to give you an example, MercadoLibre's revenue was $428 million. That was up only 20% year over year, which really doesn't seem that impressive. But, when you look at it in local currencies, their revenue was up 62% year over year.
Lewis: [laughs] Yeah. That's why it's a company that's worth digging into the numbers on. We saw that, looking at the bottom line, they produced a net loss of about $2.3 billion. Again, that was something that was impacted by them denominating back in dollars. In local currency, they actually posted a profit, right?
Vena: That's true. Their foreign exchange losses, which is what happens when you translate from local currencies into dollars, was $3.9 million. If you look at their loss, which was only $2.3 million, they actually had a $1.5 million gain for the quarter.
Lewis: So, it's not like this is an insanely profitable business, but they are not losing money the way that you would think of just looking at the way that they're stating things in dollars.
We talked about the currency swings. That's why it is so important with this company to look at some of the core business metrics. The currency stuff will mask what's going on, but you look at the core business metrics here, and that shows a company that's really firing on a lot of cylinders. The confirmed registered users for them, which is a strength of their overall marketplace, the Amazon-type part of their business, up to 267 million, up 26%.
One thing that might give people reason for pause is a little bit of a slowdown in what we saw in item sold, only up 5% year over year. This is another one where we need to double-click into the numbers and see what's going on, though.
Vena: That exactly right, Dylan. There were a number of things. I spoke briefly earlier about the unexpected postal rate hike. That was pretty severe, particularly on smaller items. The Brazilian National Postal Service raised rates something ridiculous on smaller items, like 30%, which was kind of crazy. MercadoLibre hadn't expected that. So, going into the latter part of the year, they made several adjustments with their customers to address that. They took a number of smaller items off of the website, they limited the number of smaller items that they now carry. Additionally, what they did is institute a flat rate that they charge to members -- I don't remember off the top of my head, I think it's $2.50 or something like that -- for these smaller items to defray the cost.
Now, what happened is, because there are so many fewer items available on the site, and because there's a flat rate shipping, that has discouraged people somewhat from buying these smaller items. That's to be expected. I think what's going to happen is, once we lap that change that we've seen, those numbers are going to go back to their historical averages. For items sold, they've typically been going up between, I want to say 40% and 60% year over year for most quarters.
Lewis: One other way to think about the way that that impacts the overall results is, because they're removing some of the lower-priced items, the average ticket is probably going to be going up on a lot of those orders, but there will be less orders overall. Just a different way to think about the puts and takes that come with some of the decisions that management has made.
The big highlight for me in this report, though, Danny, and the thing that made me frankly pretty giddy as an investor in this company, was what's going on with payment transactions. This payment business is looking mighty fine.
Vena: That's really one of the big stories behind this company. If we go back just a little bit, just to provide investors with some history, when this company started, they were invested in by eBay. eBay mentored them in their early years. One of the things that they did under eBay's guidance was to basically start their own payments system. Similar to PayPal, MercadoLibre started a service that they call Mercado Pago. Mercado Pago is really well-liked and well-used in Latin America.
A little more background, Latin America is not like the United States in that here, everybody has a checking account, everybody has a credit card. That's not the case in Latin America. In Latin America, what you see is a much more cash-based society. They're not using as many credit cards there. Many people don't have checking accounts. But, Mercado Pago came along, and people started adopting this. For instance, in the most recent quarter, those payments transactions went up 72% year over year. The reason for that is because that payments solution has gone off of their platform and is now being used by small businesses, similar to Square. It's being used by retailers, similar to PayPal. It's spreading to other e-commerce websites because it's becoming one of the de facto premiere payment methods in Latin America.
Lewis: The wonder there is, this goes from something that was an elegant solution for them to create e-commerce transactions on their own platform and make that a little bit easier for people that are unbanked to now, the opportunity for the off-platform transactions is even bigger than the on-platform. That's how management talks about it. You look outside of all the activity that happens just on MercadoLibre, it's dwarfed by everything else that happens in the economies there, in terms of financial transactions and exchanges. Big opportunity there.
Total payment volume, $5.3 billion, up from $4.3 billion in the prior year quarter. We're going to see growth both from stuff that happens on MercadoLibre's properties and stuff that happens in people transacting the way they would with Venmo or PayPal here in the States.
Vena: True. MercadoLibre's CEO on the conference call, even said that they expect the off-platform transactions to overtake the on-platform transactions probably sometime in the next year. And then the sky's the limit. As long as they're expanding into more retail stores, they're expanding into small businesses, they're expanding on to other websites, really, the sky's the limit for their payments business. It's going to overtake every other business that they have at some point.
Lewis: Yeah, the market's big. I think one of the reasons you have to love it as an investor, management touched on this in the call, is the opportunity is a little bit different when you look at the margins and the nuts and bolts of how these businesses work. The marketplace for them is positive margin, but it's very low margin. The way management thinks about this is, it's a distribution platform for everything that they do, kind of similar to how Amazon's Marketplace creates this ubiquity that then gives them the ability to offer Prime, offer Prime Video, and kind of become this service that people expect in their lives. Ditto for MercadoLibre. You look over at the payments and financing side, though, far higher margin, especially on the credit side.
Vena: Another thing that they talked about on the call, and part of the reason that this is such an exciting opportunity, is that the company has found that when people use more than one of its services -- if people go onto the website and they make an e-commerce purchase, and then they use their shipping solution, Mercado Envíos, or they use their payments solution, Mercado Pago, or they use the consumer financing or the merchant financing -- anytime they use more than one of those services, the customer satisfaction goes up, the repeat business goes up, the lifetime value of the customer goes up. Then, they start using more services. And then, the more services they use, the happier the customers are, the happier the merchants are. And it becomes a self-fulfilling prophecy. The more they use, the more they like it, the more they use, and it just continues that way.
Lewis: Danny, in the tech world, we would call that a very sticky ecosystem.
Vena: Don't you love it?
Lewis: [laughs] Don't you love it? I want to call out, too, one of my favorite Fools, Brian Feroldi, made this very good point on Twitter. I think it's easy to look at the fact that the stock is up something like 25% after earnings; you look back over the past couple of years and it's been a multi-bagger. It's easy to say, "It's gone on a heck of a run, what can I really expect here? Am I buying in a little bit too late?" Well, his breakdown here -- it's incredible, if you think about it, MercadoLibre is a $20 billion company. PayPal is worth over $110 billion. eBay, worth over $30 billion. Amazon, worth over $800 billion. MercadoLibre is all of them bundled into one. So, even though the stock's gone on a big run, in my opinion, plenty of room for it to continue to run.
Vena: The thing about MercadoLibre, and it's something that we've dealt with over the years, so I'll just throw it out there, is that anytime something happens in Latin America that causes any kind of upheaval -- if you have the truckers' strike in Brazil, if you have the devaluation of currency, the currency exchange rate issues that we already talked about, political upheaval, any of those things -- investors get frightened away and the stock dips. So, people that can look past that -- and David Gardner, The Motley Fool co-founder, likes to say, "dark clouds that I can see through." People that look at the longer term of this business and can just ride out those small dips are being rewarded well for their patience.
Lewis: Yeah. I think this plays on so many great trends that we like as investors. E-commerce, mobile payments, helping out people that are unbanked and making those transactions easier. Yes, there's the looming threat of an Amazon-like player coming in there; but, you think about how much they're doing to build out their own ecosystem, that should insulate them a little bit, especially because it's such a fragmented area. There are so many different countries that they operate in in Latin America.
Vena: They've done a number of things to try to minimize the threat from Amazon. While you can probably never do that, at least not completely, they've taken a number of steps. One of the things that they did was they instituted free shipping for a lot of their merchants. It's not something that even comes out of their pocket. They subsidize it somewhat, but a lot of that is in collaboration with the merchants, so they're not really paying for the entire shipping cost. Again, they're building out a logistics operation. They have a number of warehouses now throughout Latin America and they're building more. These warehouses allow them to do what's called cross-docking operations, which is when a truck will come in from a merchant, it will drop off products; those products will be loaded right onto another truck for delivery to customers. That's part of the logistics operation.
They don't own any of these trucks. They don't own any of the shipping solutions. They do something similar to what Amazon did in the early years, which is, they have agreements with many of the major shippers in the region. Because they provide bulk and because they provide volume, they get better pricing. So, again, that's more of the ecosystem of products and services that they have. That's really going to serve investors well.