Sea Limited's (SE +0.15%) stock recently pulled back from its all-time high after the Singapore-based gaming and e-commerce company announced a new equity and bond offering worth at least $6.1 billion.
The sale dominated headlines for two reasons. First, Sea's offering represents the largest fund raising ever for a Southeast Asian company. Second, it marks Sea's second capital raise in less than a year. Should investors worry about Sea's rising share count, debt levels, and valuations?
Image source: Sea Limited.
What is Sea selling?
Sea is selling 11 million new ADRs (American Depositary Receipts) at $318 per share. Sea's underwriters will also be given a "greenshoe" option, which will allow them to purchase up to 1.65 million additional shares at the offering price within the first 30 days.
Sea is also selling $2.5 billion in convertible senior unsecured notes with a 0.25% interest rate and a maturity date of Sept. 15, 2026. It will include a greenshoe option for $375 million in additional notes.
If Sea sells the maximum number of shares and notes with both greenshoe options fully exercised, it could raise nearly $6.9 billion. Last December, Sea raised nearly $2.6 billion by selling 13.2 million shares at $195. That sale also included a greenshoe option for 1.95 million additional shares.
Why is Sea raising so much cash?
Sea ended 2020 with $6.17 billion in cash and equivalents. But by the end of the second quarter of 2021, that balance had declined to $4.65 billion.
Sea's cash reserves are dropping because it remains unprofitable. Its revenue surged 152% year over year to $4.04 billion in the first half of 2021, but its net loss widened from $674 million to $856 million.
Sea's digital entertainment (Garena gaming) business generates positive operating profits, thanks to its hit battle royale game Free Fire, but its gains have been consistently offset by Sea's operating losses across its e-commerce (Shopee) and digital financial services (SeaMoney) segments.
Instead of reining in Shopee and SeaMoney's expenses, Sea plans to aggressively expand both platforms. Shopee is already the top e-commerce company in Southeast Asia and Taiwan, and it's gradually expanding into Latin America and Europe.
Sea also gained a digital banking license in Singapore last December, which indicates SeaMoney's 32.7 million quarterly paying users could soon gain access to more banking and fintech services.
During last quarter's conference call, Sea's CEO Forrest Li said: "Even though SeaMoney is still at the early stage of development, the long-term addressable opportunity is highly significant." Li predicted the platform would continue growing as more consumers and businesses do business online.
Sea's balance sheet and valuations
Sea clearly wants to strike while the iron's hot, but its bold plans will inevitably dilute the value of its existing shares while boosting its debt levels. Sea ended the second quarter of 2021 with 523.2 million weighted average shares (537.9 million total shares), compared to its 466.5 million weighted average shares (487.7 million total shares) in the prior-year quarter.
That dilution, which is also driven by its stock-based compensation expenses, will worsen as Sea sells more shares and gradually allows its convertible noteholders to convert their bonds to new shares.
That dilution wouldn't be as worrisome if Sea's losses were narrowing or its shares were cheaply valued. But its losses are consistently widening, and its stock already trades at 20 times this year's sales.
Sea held $1.28 billion in convertible notes and $7.92 billion in total liabilities at the end of the second quarter. That gives it a debt-to-equity ratio of 2.2, and that ratio will rise even higher after its latest share and bond sale. By comparison, Amazon (AMZN 0.41%), which is firmly profitable, ended last quarter with a debt-to-equity ratio of 2.1. However, it isn't surprising for Sea to have a much higher debt-to-equity ratio than Amazon, since it's growing and expanding at a much faster rate.
Investors also shouldn't fret too much over Sea's new convertible notes, since a 0.25% interest rate is low and suggests the market is confident that Sea -- which is expected to generate its fourth straight year of triple-digit percentage sales growth this year -- can easily repay its debts.
The bottom line
Sea's valuation and debt levels will likely remain high for the foreseeable future, but so will its breakneck revenue growth. If you believe Sea will put its fresh cash to good use by expanding Garena's gaming portfolio, launching Shopee in new countries, and continuing SeaMoney's evolution into a full-fledged bank, there's no reason to worry about its sales of new shares and bonds to fulfill those goals.
