Businesses that build sustainable competitive advantages, known as moats, are able to better fend off competition and capture more customers than those without a moat. Although these are hard to precisely measure, there are ways to determine whether a company has them or not. On a Fool Live episode recorded on March 12, Fool contributors Brian Stoffel and Brian Withers talk about the kinds of moats that MercadoLibre (MELI -0.17%) and Sea Limited have and share with viewers which regional e-commerce operator has a superior moat.

10 stocks we like better than MercadoLibre
When investing geniuses David and Tom Gardner have a stock tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor, has tripled the market.*

David and Tom just revealed what they believe are the ten best stocks for investors to buy right now... and MercadoLibre wasn't one of them! That's right -- they think these 10 stocks are even better buys.

See the 10 stocks


*Stock Advisor returns as of February 24, 2021


Brian Withers: Well, I think that's a great transition into sustainable competitive advantages.

Brian Stoffel: There we go.

Withers: Brian, you want to talk about that?

Stoffel: Yes. I'm going to talk about MercadoLibre's. It is one of the only companies that I know that has all four of what I consider to be the major moats that a company can have. Number one is brand value. That's an intangible asset. MercadoLibre is very well-known in their region. People know that if they want to buy something online, that's going to be your first stop. If they want to pay for something, using Mercado Pago is a great way to start. They've got brand value.

But they also have low-cost production, and this goes back to the fact that they have built out their fulfillment network. It's not anything close to what Amazon has in North America, but it is there and they are able to ship something for a lower internal cost. Some people might be saying, "Man, I see their statement. They spend a ton, how can you say it's lower?" Well, here's the thing, if it looks like MercadoLibre is spending a ton to become an e-commerce platform and they have the low-cost production, that should make you even more enthusiastic because it's going to cost even more for a smaller player to do that off of a smaller base of sales to move in. That's an enormous moat, in my opinion.

But then they also have two other moats, and I'm just going to show you real quick what I mean. The first is the network effect. This is not totally up to date -- it's off by a couple of months -- but this is their users. There are up to almost 400 million users. Why is that a big deal? Because if I have something to sell online in Latin America, I'm going to list it on MercadoLibre because it gets me instant access to 400 million users. Me putting my product there incrementally can bring up more users if I've got a good product because they know that they can find it on MercadoLibre. It is very difficult to break into the business of companies that have a network effect like this, but also I believe that there are high switching costs.

You heard me talking earlier about Mercado Pago. This is the total payment volume that Mercado Pago processes. It's basically all the money that changes hands via Mercado Pago. But here's the thing -- this red one right here is people paying for things on MercadoLibre. This yellow one is people paying for things like I said in my example of going to the corner store, buying milk, buying gas, paying for my kids' school fees, whatever. When you have a way of paying for things that's like that, there are high switching costs because trust is a big deal, and ease and convenience is a big deal.

I hate my bank, Brian. I used [laughs] Wells Fargo. I hate it. I hate all of the things that they've done. I hate it, and I'd still go there because it's such a pain in the butt to switch [laughs]. Payment solutions, they benefit from high switching costs, so I believe that MercadoLibre has brand value. They've got low-cost production via their fulfillment. They've got the network effect, and they've got high switching costs. That's powerful.

Withers: Awesome. That's just really impressive. Let me share a little bit about what I see as Sea Limited's sustainable competitive advantages.

Really the first one is, I don't know how well you can see this, but behind the word Garena, this is like a basketball stadium that has been converted into an online gaming tournament. You can see there's big TV at the top and the players here in the middle and all these lights and then all of these people sitting around watching this tournament. Now, the Garena business has been really smart and they fund this e-sports league and fund the e-sports tournaments to just bring attention to their games. Not only is Free Fire the number one downloaded game in the world, things like this get people interested. The more similar network effect to MercadoLibre, the more people are interested, the more of your friends play in the game, the more likely you would go on and join them too. Sea Limited has a tremendous advantage with its online gaming system to be able to have a network effect and then I think it's going to bleed over into their payment system.

Sea Limited isn't as far along as MercadoLibre in the e-commerce business, but they've doubled over in the past year. You don't have double unless you have sellers on their selling goods that people want. You have buyers that are buying things because it's convenient and because you have more buyers on there, that's going to draw more sellers. I think this is just getting going for Sea Limited, and I'm going to continue to watch their growth post-pandemic. I think it's still going to be solid. It isn't going to be triple-digits, but they have captured a huge amount of customers in the past year and it's up to them to convert them to continue to stay. It looks like they're building a network advantage as well with their e-commerce system. Definitely, with that scale and that volume, it's going to allow them to reduce their costs over time and bring more of that stuff in-house, which they are using a lot of partners today.

I'm going to go with, if you ask me to pick one or the other, I'm going to go with Mercado Libre, and this is one where I think experience matters and the fact that you have all four of those sustainable competitive advantages. That's why MercadoLibre has been able to fend off Amazon in their own backyard for so long.

Stoffel: And Walmart, I would say, and I too am going to choose MercadoLibre. The other thing that I will just say, the huge advantage that they have is their payment option is so much more mature and those high switching costs, those are a big deal. The other thing is that MercadoLibre has fended off the competition so far whereas Sea Limited is competing against Lazada. Lazada's backed by this tiny little company might have heard of called Alibaba. Now, Sea limited is backed by Tencent, which is a huge player in China as well. But the fact of the matter is, when I look at the sustainable competitive advantages, I think that MercadoLibre has the wider moat.

Withers: Yeah, I agree.