Is MercadoLibre a Buy?

MercadoLibre's (MELI 2.30%) stock has been on a tear.

Its share price almost doubled in 2019, and it's on the shortlist of consumer goods companies that gained 1,000% in the last decade. But for investors considering opening a new position, the vital question to answer is, has the growth story already played out for this Latin American e-commerce specialist?

Let's examine the business, its opportunities, and its risks, and determine whether this stock is still a buy.

The business is actually six businesses

What many investors may not know is that MercadoLibre is more than just an online seller. It's financial filings describe it as "an ecosystem of six integrated e-commerce services." These services are split into two revenue categories for reporting purposes: enhanced marketplace and non-marketplace.

Note: YTD = year-to-date and refers to the first nine months of 2019. Source: MercadoLibre financial reports. Table by and calculations by author.

All of these businesses complement each other, create a strong ecosystem, and help accelerate MercadoLibre's e-commerce sales. 

Image source: Getty Images.

The opportunity is just getting started

The online shopping trend is only just getting started in Latin America. An eMarketer report published in June estimated that e-commerce would represent only 4.2% of total retail sales in that geographic region in 2019, but also said it expected the volume to grow 21% that year as more of the region's population gets access to smartphones. Today, 57% of Latin America's population has access to the internet and only 31% have purchased something online. Compared with the U.S., where 75% of people have internet access and 72% have participated in an e-commerce transaction, Latin America has a tremendous degree of untapped potential for MercadoLibre's marketplace.

In the non-marketplace segment, the story is primarily about MercadoPago's payments services. The company created the unit in 2003 when it realized that a large share of its potential customers didn't have a way to pay for purchases online. Since then, it has been a huge source of growth, driving both payments revenue and accelerating its marketplace revenues.

Note: YOY = year-over-year. YTD = year to date, and is the first 9 months of 2019. Source: MercadoLibre financial reports. Table by the author.

And there's still a huge degree of opportunity. Take Brazil for example, which accounts for 64% of the company's year-to-date revenue. Only 68% of the country's adults have access to bank accounts and only 28% use a credit card, compared to 94% and 57%, respectively, in the United States. The other countries that MercadoLibre serves have even lower bank access and credit usage numbers. 

What investors should find even more impressive is that its payments from non-marketplace sources have surpassed those on its platform and are growing considerably faster at 190%, more than 4.5 times the rate of marketplace transactions. 

The risks involve three main concerns

Before jumping into any investment opportunity, it's important to understand the risks, and there are three primary concerns here: the nature of the Latin American market; the possibility of competition from Amazon; and the company's lofty valuation.

First, when investing in this region, recognize that the governments are not as stable as the one in North America, and the currencies aren't as stable as the U.S. dollar. MercadoLibre is clear-eyed in acknowledging these risks in its annual report. On the flip side, the company only operates in 18 of the 33 Latin American countries, and 95% of its revenue comes from Brazil, Argentina, and Mexico, which limits its risk.

The threat of Amazon is always present for companies that sell goods online. The e-commerce juggernaut has a footprint in Brazil and is adding another fulfillment center there this year. But MercadoLibre has a 13-year head start operating in the region. With e-commerce purchases still a small and growing percentage of the total in retail, there's definitely room for more than one player.

Lastly, this stock is expensively priced by traditional valuation metrics. It has no earnings, so a price-to-earnings ratio can't be calculated. Its price-to-sales ratio of 16 looks more like that of a Software as a Service (SaaS) company than a retailer. Its price-to-operating-cash-flow ratio -- a metric sometimes used to gauge the valuations of growing businesses that are investing heavily in their expansion -- is a lofty 80.

The bottom line

Weighing everything, is MercadoLibre is a buy? It depends. For me, it is. This is my favorite kind of investment. It's a fast-growing business with a huge untapped market, has multiple growth levers, it's investing heavily in its future, and has proven itself over time to be an excellent operator. It's my largest holding, but I still added to my position in December.

This stock is not for the value-minded or income-focused investor. The valuations are sky high and the company discontinued its dividend in 2018. However, for growth-oriented investors not afraid to buy into businesses that aren't yet profitable, this stock could be for you. Those who open starter positions now, add on the dips, and hold for years, should be rewarded as MercadoLibre continues to be a force in the Latin American retail market.