- E-commerce sales have accelerated amid the pandemic this year with some marketplaces even reporting triple-digit percentage growth relative to 2019.
- In spite of the growth, digital commerce in emerging markets like Latin America and Southeast Asia represent a tiny fraction of total retail.
- For investors looking at the long-term potential, smaller players in the industry like MercadoLibre, Sea Limited, and Farfetch Limited hold a lot of promise.
As the world fights COVID-19 with social distancing and remote work, e-commerce growth has accelerated. Long-time leaders of the movement, Amazon and Alibaba, have been big winners on their respective home turfs in the U.S. and China.
But in the massive global retail space that encompasses more than $23 trillion a year in consumer spending, there is more than enough room for other players to thrive. MercadoLibre (NASDAQ:MELI), Sea Limited (NYSE:SE), and Farfetch Limited (NYSE:FTCH) are each worth some attention after third-quarter 2020 results.
1. MercadoLibre: Latin America still far behind in the digital economy race
E-commerce has had something of a coming of age the last few years in Latin America. Revenue at MercadoLibre, the region's leading online retail marketplace and digital payments provider, has doubled many times over the last decade and topped $3.3 billion over the trailing 12-month stretch.
However, earlier this year, management at StoneCo -- a digital payments leader in Brazil and MercadoLibre peer -- emphasized that e-commerce still only makes up a mid-single-digit percentage of retail sales as a whole in Central and South America. Thus, though MercadoLibre has grown into a juggernaut and currently has a market cap of $70 billion, there's no reason to believe its long-running winning streak is about to end.
That was on grand display during the third quarter. The pandemic has greatly accelerated online shopping trends, and MercadoLibre has been reaping the rewards. Active users grew 92% from a year ago and topped 76 million. Gross merchandise volume sold increased 62% to $5.9 billion, and total payment volume processed by the Mercado Pago subsidiary grew 92% to $14.5 billion. All told, it equated to 85% revenue growth with the top line hitting $1.1 billion.
This is also quickly growing into a very profitable enterprise. Free cash flow (basic profits measured as revenue minus cash-only operating expenses and capital spending) generated through the first nine months of the year was $766 million. That's a dramatic increase from the $272 million generated during the same period in 2019 and good for a free cash flow margin of 29% -- not bad for a company still emphasizing growth in a fast-moving industry.
Shares trade for 21 times trailing 12 month sales and 87 times free cash flow as of this writing, a premium price tag to be sure. But given MercadoLibre's early lead in what is still a nascent digital economy, there is plenty of room for the company to continue growing at a rapid pace for years to come.
2. Sea Limited: Southeast Asia's leader in all things digital sales
Sea is also quickly growing into a digital economy powerhouse dominating Southeast Asia -- and it's making a push into MercadoLibre's turf in Latin America as well. The company got its start with its video game development platform (responsible for the battle royale title Free Fire) as well as its online play service. From there, it has branched out into e-commerce via its subsidiary Shopee and is making serious waves in what amounts to another region where online sales are still a very small minority of the grand total -- low single-digit percentages in some countries like Thailand, Vietnam, and Malaysia.
Sea breaks its results down into two segments, and both have been off to the races this year due to the new consumer behavior dynamics wrought by COVID-19. Specifically in the third quarter, the "digital entertainment" video game division grew 73% year over year to $569 million, and "e-commerce and other services" (which also includes a nascent payment processing business) grew 173% to $619 million. In Indonesia, Shopee's largest market, daily average orders grew 124% from a year ago to roughly 3.4 million, and the Shopee app remained No. 1 in the shopping category in Indonesia and Singapore. Interestingly, despite its geographic footprint, it was the No. 2 downloaded shopping app worldwide, perhaps driven by the company's expansion into new regions like Latin America.
Incredible growth aside, one knock on Sea is its profitability. Gross profit margin on services rendered and product sold was just 29% year to date, compared to MercadoLibre's 46%. However, these are fluid metrics that will improve as Sea reaches a more efficient scale, especially in digital commerce.
Given the situation, Sea's current trailing 12-month price-to-sales ratio of nearly 25 is a steeper price tag than MercadoLibre's. Nevertheless, just like its South American peer, it's growing fast and has access to well over a billion potential consumers between Southeast Asia and Latin America in markets that have a great deal of catching up to do in the digital economy race. After another fantastic report card, Sea remains a buy for long-term focused investors.
3. Farfetch: Luxury sales make a quick pivot to online
2020 hasn't just changed the way consumers buy their basic items -- it's had an effect on the luxury goods market too. Even the sale of the most exclusive designer items are making the migration to the internet, and luxury marketplace Farfetch is emerging as a leading pioneer in this department. Shares are up over 350% year to date as of this writing.
But things haven't always been easy. After a very successful IPO in late 2018, Farfetch languished in 2019 and kicked off 2020 with a couple rounds of convertible debt investment to raise cash -- first raising $125 million each from Chinese tech giant Tencent and San Francisco-based investment firm Dragoneer, and later another $350 million in a more general private placement to institutional investors. It was fortuitous timing. E-commerce has spread to encompass even the traditionally conservative upscale shopping segments, and Farfetch has been booming.
Specifically, third-quarter revenue soared 71% year over year to $438 million, and though the company is still losing money, it's making progress toward breakeven. Adding to the optimism was a lucrative gross profit margin of 47.8% in the latest quarter, up from 45.1% last year as the highly profitable traditional luxury marketplace holds similar promise online. Farfetch ended September with an ample war chest of $757 million in cash and equivalents, offset by $469 million in debt.
There is still a long way to go in getting high-end goods moved to a digital format, but Farfetch thinks a permanent shift is taking shape. Promising news on that front was a joint venture announcement with Alibaba and Swiss luxury goods investment holding company Compagnie Financiere Richemont to establish Farfetch's marketplace in mainland China, the world's largest market for luxury items. Indeed, the future is looking bright for this high-end consumer-discretionary company.
Trading at 10.5 times trailing 12-month sales, this stock could be a real bargain years down the road if its recent momentum can carry over into 2021 and beyond, and the company makes further progress toward narrowing its losses. I'm a buyer at these levels.