Mobile entertainment and e-commerce contender Sea Limited (SE 2.03%) has quickly emerged from a regional Southeast Asian player to a major global entity. Business is looking as strong as ever, yet Sea's shares are down about 50% over the past two months. Despite investors' short-term concerns, Sea seems poised to be a great long-term investment for four key reasons.
1. A large, growing market opportunity
Southeast Asia, Sea's core market, is one of the world's fastest-growing regions, with a population rising over 50% faster than the United States's, and GDP increasing more than twice as fast.
An expanding middle class, rising average household incomes, and rapidly spreading cellphone and internet usage are creating more online gamers and shoppers in the seven countries where Sea operates. Sea has shrewdly established the key pillars of its business -- Garena, Shopee, and Sea Money -- to take advantage of all those trends.
Image source: Getty Images.
2. Garena's staying power is a huge advantage for Sea
Sea built its business on Garena, the video gaming and digital entertainment division whose copious cash collection fuels the company's innovation and growth.
Free Fire, Garena's self-developed game, has been the highest grossing mobile app for nine consecutive quarters in Southeast Asia and Latin America, and for four consecutive quarters in India, according to App Annie. Garena designed the game to run flawlessly even on low-end smartphones, ensuring that most people in its markets can enjoy it, and it's tailoring the game to local audiences in each of those countries. That steady innovation helps Free Fire stay popular and relevant -- and lucrative for Garena and Sea -- longer than most games might.
For the first nine months of 2021, as compared to previous year, Garena grew its revenue by 119% year over year to $2.9 billion. Operating income rose even faster, up 164% to $1.64 billion, showing how well Garena can reach new audiences without having to spend a lot more. The division also keeps more users coming back to play more often, with its quarterly active user counts (QAUs) in the recently reported quarter up by 27% year over year to a whopping 729 million.
3. Shopee is positioned well for growth
Sea's e-commerce division, Shopee, grew from a small mobile app in 2015 to the most-visited shopping website in Southeast Asia by 2020. Garena's profits help fund Shopee's expansion, and the data it gathers from Free Fire gives Sea crucial insights to help Shopee launch and grow effectively in various countries. Like Garena, Shopee's succeeded with a mobile-first approach, driving exceptional user engagement with creative strategies such as in-app games, social networking features, and aggressive sales campaigns.
For the first nine months of 2021, Shopee revenue grew by 174% to $3.1 billion, supported by triple-digit growth in number of orders and gross merchandise volume. Shopee also continues to rank as the top shopping app in Southeast Asia by average monthly active users and total time spent in the app, according to data from App Annie.
4. Sea Money is a promising emerging opportunity
Sea Money, the company's relatively new digital financial services arm, offers mobile wallet, payment processing, and "buy now, pay later" services for buyers, and financing solutions for sellers. Sea draws Garena and Shopee users into Sea Money with clever cross-promotions -- for example, offering incentives to use Sea Money's ShopeePay to purchase goods in Free Fire or on Shopee.
As Sea Money works toward providing a broad set of financial services, the company acquired the license to run a full digital bank in Singapore in December 2020, and bought an Indonesian bank in January 2021. It's also developing smart technology to offer customers cheaper, easier insurance -- another potentially huge and profitable market.
A few things to keep in mind
Sea faces strong competition from global giants such as Amazon and powerful regional players such as MercadoLibre, and it will need to execute flawlessly to continue its expansion. Garena's dominance allows Shopee to invest in its future growth. But although Garena and Free Fire are building an enduring franchise, any setback to the popular game will likely slow down Sea's growth.
Like many high-flying tech stocks, Sea's shares have taken a beating over the past couple of months, amid investor concerns over the highly contagious COVID-19 omicron variant and the Federal Reserve's recent plans to slow bond buying and raise interest rates. Additionally, Chinese entertainment giant Tencent, a longtime investor in Sea, recently sold a large chunk of its shares of the company. That's not a big deal in context, since Tencent still owns over 19% of Sea, but it didn't soothe investors' nerves. Sea's shares may remain volatile as long as the market stays skeptical toward high-growth tech stocks.
Finally, Sea is not profitable yet on a GAAP basis, because the company is investing heavily in innovation and expansion. However, in 2020, the company posted $219 million in free cash flow -- how much cash the company has left after paying its crucial bills. Sea has now improved that figure for three consecutive years, and in 2020, the cash it made surged far faster than the capital expenditures it had to pay. If Sea can continue this trend, it'll show that the company can make more and more money off roughly the same basic level of spending.
|
Financial Metric |
2018 |
2019 |
2020 |
|---|---|---|---|
|
Cash from operations (in millions) |
($495.2) |
$69.9 |
$555.9 |
|
Year-over-year growth |
N/A |
14.1% |
695.2% |
|
Capital Expenditure (in millions) |
$177.3 |
$239.8 |
$336.3 |
|
Year-over-year growth |
N/A |
35.2% |
40.2% |
|
Free cash flow (in millions) |
(672.5) |
(169.9) |
$219.6 |
|
Year-over-year growth |
N/A |
74.7% |
229.2% |
Data source: S&P Capital Intelligence.
A great business for the long term
With a thoughtful playbook for international expansion, and three businesses cleverly designed to promote and reinforce each other, Sea Limited is growing its footprint beyond Southeast Asia. Gamers now enjoy Free Fire in over 130 countries, while Shopee has launched in four countries in Latin America, three countries in Europe, India, and China, all in the past two and a half years. Sea's ability to replicate its success in such socioeconomically and culturally diverse regions bodes well for its future.
SE PS Ratio data by YCharts
With the recent pullback, shares are trading at a much more reasonable price-to-sales valuation as of early January 2022. Now may be an excellent opportunity for long-term investors interested in fast-growing tech stocks to take a small position in this promising business.
